Agree the ROI Measures
The internationally recognized ROI measures are NPV (Net Present Value), IRR (Internal Rate of Return) and Payback. Some companies will take decisions on only one of, or combinations of, NPV, IRR or Payback. Find out in advance which ROI measures the Prospects want but if in doubt, give them all three. For more information, consult: http://www.sharkfinesse.com/whitepapers/#all
NPV & IRR
These measures both need to be positive to ensure project sign-off. The agreed benefits should be enough to cover the investment, otherwise there may not be an economic justification for the proposed spend.
If either NPV or IRR appear unrealistically high (as a guide, NPV usually ranges from double to twice the size of the initial costs and IRR should be greater than the Prospect’s minimum return or discount rate) there are a number of potential solutions for adjusting the values:
- Review the benefits - ensure they are justifiable and modify them if necessary
- Sell more (thus increasing the total solution costs)
- Reduce the period of the review (thus reducing the total benefits)
If NPV is negative or IRR appears low (at the Prospect’s minimum return rate or below):
- Find more benefits
- Re-consider costs
- Increase the period of review
Payback
The Prospect may insist on an unachievable ‘fast Payback’ as their key ROI measure. This could be because cash is tight within the business and/or the Prospect is not familiar with the other two ROI measures. You can use NPV and IRR to emphasise the true value of your proposal and reduce the emphasis on Payback.
If the final Business Case has low initial costs, as is often seen with SaaS solutions or financed deals, some ROI measures can be misleading, e.g. instant Payback or excessive IRR > 1,000%. In these cases remove IRR and/or Payback from the Business Case.
Auditing the Result
Including the Discounted Cash Flow (DCF) in the Long Form report allows the Prospect’s evaluation committee or CFO to check the validity of the ROI and Business Case.