cost justifcation article 2010

Investment & Cost Justifications

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Seven Steps to Improved Cost Justification that can be Applied to Any Initiatives Many hours or days can be wasted, because contrary to popular belief using numbers only to tell a story usually fail. Preparing cost justifications can be a daunting task for both the uninitiated and the seasoned veteran when the rules of engagement are not clear. Numbers are only part of the complete story and with either too much or too little information your proposal won’t get across the line. Many a company struggle to get cost and investment projects approved, or go through multiple cycles, taking months or even years, before they have an acceptable ROI analysis and finally have capital funding allocated to the project.

Sometimes, of course, the problem is quite simply that the ROI for the project is poor or not as compelling as other potential company investments that they competing against. However, there are common mistakes that many individuals or teams make within in the cost justification process that actually hinder their chances of getting even projects with solid financials approved. There is a solution to this problem, which is a simple seven step process that can help maximize the opportunity of getting your project approved and funded.

1. What is Your Company’s Investment Analysis Model: I know this sound like common sense but you would be surprised, it is not common practiced. Understand your company’s investment analysis model. It is normal for company’s to have their own approach on how they look at the returns from capital project proposals. This will involve the type of financial calculations used (IRR-Internal Rate of Return, Simple Payback Period Calculation, NPV-Net Present Value, DCF-Discounted Cash Flow, etc.) and also the preferred/ required structure of supporting documents and presentations.






Be sure to ask what the current standards are (they can change, especially when there has been a change, i.e. CEO or CFO position), and ask for example documents for project proposals that were approved, regardless of which area or department generated them.

2. Connect Your Project Funding to Key Corporate

Strategies and Objectives: There are usually many projects competing for limited funding, don’t fall into the trap of just look at your project in isolation. Projects are seldomly approved based purely on ROI. If a project can be clearly linked to the bigger corporate picture, i.e. strategies and objectives and has both a financial and strategic fit, it has a much better chance of being approved. Many managers often fail to see that what is important to them or what may seem like a “no brainer” to them as financial investment just isn’t on the radar or on the executives’ priority list no matter how strong the ROI. You must make the connection to what’s important to them, don’t forget it can make them look good or bad as well!

3. Develop a Strong Summary with Detailed Back Up: Applications for funding often go astray as they don’t have the level of details right. Usually, this is as a result of putting in too much detail for executive presentations. Unfortunately, the assumption that more is better quite often backfires. People will be become bored quickly, as a result of being unable to distinguish the forests from the trees, executives won’t be able to really focus on the numbers from their perspective, or understand what is truly driving the need for the project. The opposite is also a common mistake where sometimes presentations are harmed by not having enough backup detail, just in case some executive decides he or she would like to understand what is really behind a summary savings calculation. You need both, placed appropriately in documents and presentations. Remember you are seen as the expert by the executives and are expected to know all the information.

4. Understand the Benefits, Don’t Leave Any on the Table:

A mistake commonly made in investigating project benefits is not






understanding fully where all the opportunities for savings are located. Looking solely at a project’s impact within the affected area only has and will always sell the potential benefits of the project short. Having a narrow focus of view on the impact of the project will leave money on the table.

Understand the true value and benefit of the project by reviewing “The Value Proposition” for all internal (other departments) and external (suppliers and customers) stakeholders. This will quickly highlight areas of additional savings that are traditionally missed, e.g. transactions, floor space, transport, lead times, etc. as these all are potential savings or lost opportunity costs / revenue.

5. Use the Numbers to Tell a Story: In most cases, the numbers alone are not enough to get a project approved. Every company has multiple investment opportunities, each of which wouldn’t make it very far if the ROI did not appear to be strong. Not all of these projects can or will be funded. It is as important to get the “narrative” or the “pitch” of the project right as it is to show a strong return on investment. After you have crunched the numbers, it is critical to work just as hard on “what is the story” behind the project. Be clear as to why the company should approve this project, and the commitment and enthusiasm of the team to make it happen. You have to believe in the project and show passion that you want it to happen. A good tip is to structure your presentation from the top down, what do you want as an outcome and then structure the presentation to support and build to the obvious outcome.

6. Review Preliminary Justification with Key Stakeholders: No one directly impacted by the numbers should be surprised by the formal ROI presentation. If this happens during the presentation it will put a cloud over the validity of the numbers and the project, so don’t risks a disagreement with the numbers or assumptions; make sure you have the support of all the stakeholders up front. Don’t assume, for example, that if the analysis shows material costs can be reduced by 5% as a side benefit to another project impacting commodity purchases that the Director of Supply will buy into that number






without a long dialog first.

7. Check, Check & Recheck the Numbers and Assumptions: Simple mistakes in just one area can undermine the credibility of the entire financial analysis. If a single number or spreadsheet error is not caught, it can cause reviewers to consciously or unconsciously look at all the other numbers with doubt. An error in an assumption or the basis of the ROI calculations can be disastrous for the creditability for the both the project and the presenter. For example, if the analysis is based on a facility working a given number of shifts and overtime, and it turns out that they operate differently, the basis of the ROI calculations can be in serious question, causing the whole effort to go back to the drawing board.

By remembering these 7 steps, and making sure that you have a “Good Story” and “The Facts” any manager can maximize the chances that a good project with strong financial returns will receive approval for funding and see the project implemented. For Further Assistance or Enquiries: Contact: Paul Mracek JP Tel. +61 3 9532 5476 CPEng,GAICD,FAIM Mobile: +61 (0)418 885 122 Chief Executive Officer Email: [email protected]

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