You have done your homework, read all the analyst reports, talked to your peers, and you are convinced that you need to implement a PDM system in your organization. Now comes the difficult part: talk to senior management and prepare a compelling argument for budget approval. The question you dread the most, likely coming from the CFO. What’s the payback? Indeed, how do you demonstrate the value of an engineering tool like PDM to a CFO using financial terms?
In all likelihood, your CFO expects some sort of return on investment analysis (ROI). If the investment is significant, you might also be dragged into using discounted cash flow (DCF) and compute net present value (NPV) of the investment.
In short, no fun.
Even large companies that require this type of investment analysis for any investment and have the necessary resources may struggle explaining the financial return on these type of investments. So here are some ideas and observations that I use whenever I am asked to help in assessing the return on PLM investment. In fact, you should apply similar principles when assessing any type of investment in enterprise IT.
The benefits of centralized PDM are cited frequently in many articles and selection guides. These typically include benefits such as reduction in searching for information, fewer errors and duplicates, effective collaboration and numerous others that, truth be told, make “intuitive sense” but can be challenging to tie to tangible business results, especially in smaller organizations.
Conceivably, you could build a complex model to calculate the financial gains from improvements in the different facets of product innovation, manufacturing and market activities that are supported and enhanced by PDM. I have attended ROI meetings in large manufacturing organizations that collected detailed baseline data on their product engineering activities and possess a thorough understanding of their operations to the point that they were able to create such detailed models. However, many organizations, especially smaller ones, do not have that level of wherewithal.
Knowing that some proof of hard savings is expected, you’d want to start by identifying low hanging fruits that are easier to baseline and to forecast potential savings. In Take Control of Your ECO Process, I discussed a number of common design mistakes and process inefficiencies that results in unnecessary engineering change orders – a costly and wasteful activity. Depending on the magnitude of the ECO activity in your organization, the savings incurred by reducing the number of ECOs alone may suffice to cover the cost of a PDM system. And you still get to enjoy all the other “soft” benefits of PDM.
Beware of False ROI
One of the more appealing arguments in benefit analysis of productivity enhancement tools, including PDM, is the time savings gained from easier access to centralized data repositories, reduced search time, and reduction of other time wasting activities. The common argument starts by pointing out how much time is wasted searching for information by individual engineers. Next, you calculate the time wasted by all the engineers throughout the organization over a full year, which is going to be staggering. Then, the argument goes, even a modest reduction of 5% appears to represent a large saving opportunity; and who will argue that a 5% improvement is highly feasible?
The fallacy in this kind of argument is that searching activities come at unpredictable rate (i.e. they are not planned in advance) and tend be performed in small chunks, maybe 10 or 15 minutes at a time, possibly less than that. Say the PDM system cuts search time in half every time a search is called for. The user then gets an extra 5 or 10 minutes here and there, which might translate into longer coffee breaks and more satisfied users, but not in significant direct financial gains that show on the company’s bottom line.
PDM and the Product Development Process
Many of the improvements offered by centralized PDM are real, but it’s hard to quantify and isolate the contribution of the software as opposed to the product development process (PDP) itself. For instance, are faster design changes, improved product quality, or shorter time to market a result of a more effective and efficient PDP or are they directly related to some innate property of PDM?
This, in itself, is a very useful observation. Implementing a PDM or PLM system without taking the time to establish the correct product engineering processes is likely to reduce the impact of your investment. Implementing a new PDM software is a great opportunity to improve these processes and establish a baseline to monitor performance improvement and implement a continuous improvement program.
But There is Another Way
Although the desire to demonstrate a credible ROI analysis is obviously prudent, some organizations will find that the numerous complex and interrelated activities of the product development and manufacturing processes make it very difficult to create a reliable financial model. Without a reliable financial model, it’s difficult to articulate PLM’s direct contribution to the bottom line.
A different way to think about investing in PLM and PDM is to consider these tools strategic investments that are needed to establish a foundation to support strategic goals (faster time to market, improved product quality, and overall businesses excellence).
One such model was offered by Robert G. Fichman of Wallace E. Carroll School f Management in Boston College. In 2004, Fichman published Real Options and IT Platform Adoption: Implications for Theory and Practice in which he wrote:
The decision processes surrounding investments in innovative IT platform technologies are complicated by uncertainty about expected payoffs and irreversibilities in the costs of implementation. When uncertainty and irreversibility are high this suggests using concepts from real options to properly structure the evaluation and management of investment opportunities—and thereby capture the value of managerial flexibility.
“Real option” borrows from a financial investment model of the same name. Put very simply, the real options model considers certain IT as a platform to enable new organizational capabilities, and the cost is considered an “investment” in having the ability to exercise future “options”, which are the implementations of processes to carry out strategic initiatives. The initial investment in the platform, which can be significant due to the cost of software, hardware, training and so forth, is the foundation and therefore isn’t subject to the standard corporate justification process. Each follow-on project (“options”) enabled by the platform investment needs to be scrutinized separately, especially on major projects or when comparing competing investment scenarios.
This eBook explains how you, the CAD-using engineer who’s had quite enough of naming conventions and Dropbox, can bring together the elements needed to support an investment decision in a modern, industrial-strength product data management solution.