Financial aspects of innovation #2

Be aware of the financial impact of slow project execution, your NPV just melts away

In the first article, a financial approach to R&D project budgeting was discussed. In this second article, I would like to raise awareness on the financial impact of innovating slowly. Of course projects never really go as fast as you would like. Delays caused by technical, partnering and other ‘external’ reasons are often unavoidable. But internal slowness in decision making is avoidable.

As CFO you should violently oppose delaying proposals like: “We will take a decision on this project in next quarter’s MT meeting.” Perhaps 50% of delays are caused by internal slowness in decision making. The CFO should make other directors very aware of the financial (NPV) implications of (unnecessarily) slow decision making.

Please allow me to set the scene. At t=0 you have to make an investment decision. Invest €0.7 million into a new product or do something else useful with the money. The team gives you the following scenario: After 12 months of market and technical research you start investing seriously and keeping up the speed, sales start after some 18 months. Business goes well and after 36 months the new product produces €0.8 million/quarter. After 4.5 years the volume is built down and 6.5 years after your decision the product is withdrawn from the market. If you realize this scenario, the €0.7 million investment will have an NPV of €1.7 million. Not bad.

But if you allow the timeline to slip by just 6 months (10% of the lifetime of your product), your NPV will have declined by 20%. So avoid unnecessary delays, make innovation project decision at the time when they are needed, not a week or month or quarter later. Those decisions are on your future cash flow. When MT members hesitate and ask for more information, be very sure that the information will generate additional insights for decision making. Otherwise, when there is no reason for waiting, don’t. Coach innovation teams in having all information available for decision making.

After the R&D budget for one project and the financial impact of slow innovation, the next article will be on overall innovation budgeting and how a financial portfolio approach can help in monitoring the quality of the innovation portfolio.

Three financial aspects of innovation
  1. Given the forecasted business case of 1 innovation, what R&D budget is still worthwhile?
  2. Be aware of the financial impact of slow project execution, your NPV just melts away
  3. Monitoring an innovation portfolio from a financial perspective

jeroen de kempenaer philips innovation services

Jeroen de Kempenaer
Value propositions, business modeling, business cases, road mapping, portfolio management

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This article was originally published on LinkedIn.