A couple of weeks ago in this space, I posted “ROI Matters – Always!” (click here if you missed it or want to review). In it, I discussed making sure that all cost reduction factors are taken into account when evaluating the ROI for a project. But I missed a big one – and one of my readers, a CEO in the automotive industry (which makes him a pretty credible source in my book) really let me know about it! Here are two excerpts from his comment that I thought were just “spot on”:
“…TODAY GOALS…are cost driven and many times negative…”
“…simple rules are a dominant factor on ROI but having and growing the customer base is the only real asset any manufacturer has, even if it means a lesser ROI.”
Now that really turns the whole concept of ROI on its head! Note that the emphasis is his, not mine…
Stuck in the Past
Cost is the traditional, old-fashioned way of looking at ROI – and we’ve all been doing it this way for years. We can probably trace it all the way back to Ben Franklin when he said, “A penny saved is a penny earned.”
We’ve all heard the old axiom, “You have to spend money to make money.” It’s well understood. And when I’m talking with business people they often tell me, “I’m more than willing to spend the money, if it will make me money in the long run.” But then they immediately start talking about cost savings and I, being the traditional capital equipment purveyor that I am, fall right into the trap with them. But is that really where the money is to be made?
I think this is what PG was talking about when he said, “TODAY GOALS…are cost driven and many times negative…”
Cost is Only Part of the Story
It isn’t that cost isn’t important – of course it is. But what PG is saying here is that the concept of cost reduction is based on what you did yesterday. It is basically a “rear-view mirror” for where you are today. But when you are looking to grow your business, you’re not looking at today, you’re looking at the future.
So let’s think for a minute. How do you define your business?
By number of employees? Maybe.
By square feet of manufacturing space? Perhaps.
By cost structure? Probably never!
Usually, when someone asks you about your business, you define it for them in terms of annual revenue – it’s the de facto standard against which businesses are compared.
If You’re Not Growing…
Yes, we’ve all heard it before, and we probably even agree, but you don’t directly grow your business by reducing cost, do you? Indirectly, maybe. A reduced cost structure allows you to maintain an acceptable margin at a lower sale price and that improves your competitive position in the marketplace – all other factors (features, quality, etc.) being equal. And this leads directly to PG’s second point: “having and growing the customer base is the only real asset any manufacturer has.” It is the only real way to grow your business.
The Real Reason for the Project
So now you have to ask yourself, “What is the real reason that we’re going through the pain of this capital project?” Is it to pick up a few margin points? Or is it to reposition us to keep our existing customers and gain new ones? If it is the latter, then the objective of your capital project is really revenue growth.
When you’re talking about ROI, adding revenue growth into the mix completely changes the calculation. Increased revenue – even with the same cost structure – results in increased profits. And those profit numbers are often much greater than can be achieved through operating cost reduction alone! And profit is the real goal here, isn’t it? Maybe that’s why we call it “The Bottom Line”!
So there is merit to looking at ROI from a number of different perspectives. But don’t “throw out the baby with the bathwater”. Cost containment should be a cornerstone of any business and a foundational metric for any good continuous improvement plan.
But the goal of any business is to increase revenue and to make money – in the most efficient way possible. If you neglect the opportunity to add to your top line, by adding customers, you may also miss the opportunity to greatly add to your bottom line. And if you don’t consider the intended revenue increase when evaluating a capital project, framing ROI in traditional terms, you may end up nixing the project because you calculated the ROI to be in years when, based on revenue generation, it is actually in months.
Perhaps it is time to start thinking of ROI as “Revenue Over Investment” instead of the old-fashioned, cost-based “Return on Investment”.
Consider it when you are evaluating your next capital project…