How long does it take your finance team to perform financial evaluations for new products? Have you thought about why it takes as long as it does and what might be causing delays in the process? Have you considered the benefits of this process happening faster?
This month’s metric, the cycle time in days to perform a financial evaluation of new products, calculates the number of calendar days it takes to assess an investment. Whether the organization is evaluating profitability, determining cash flow, or using an equivalent method of analysis of new products, this is a great way for finance to add strategic value to the business. This measure is part of a group of cycle-time measures that help companies effectively evaluate and manage financial performance.
Data from APQC’s Planning and Management Accounting assessment shows that top-performing organizations (those in the 75th percentile) have a significant edge in their ability to perform financial evaluation within nine days or less. (See chart, below.) Top performers are more than twice as fast as the median, and nearly three times faster than bottom-performing organizations (25th percentile). Faster cycle times leave more time for finance to direct the business, and leaves the business more time to react to the results of the evaluation as it continues to work on additional iterations to improve the new product or service design.
Companies should have a good sense of their cycle time for this metric and the factors that contribute to it. Sometimes, there are good reasons for longer cycle times. The more complex the product under consideration, the longer it will take to perform a financial evaluation.
More fundamentally, financial due diligence needs to come before speed. The old saying “measure twice and cut once” is certainly relevant when companies are potentially investing millions of dollars in a new product. It’s in every company’s interest to produce a well-formed financial model for strategic decisions that help drive better results and outcomes.
At the same time, cycle times could be high for all the wrong reasons. Some bottom-performing organizations may take 25 days or longer for financial evaluation because finance teams aren’t getting relevant data in a timely way or the data collection processes are haphazard. If finance has to manually acquire data from multiple systems, for example, it will take it a lot longer to return with a financial evaluation, with additional potential delays for quality errors.
Ensuring that finance teams have access to data throughout the design process is key to faster-moving and more forward-looking financial evaluations for new products or services. Many organizations bring finance into the process much too late, often after the design work is already completed. Instead, finance talent should be directly embedded in the business as part of the development team so they can provide insight and guidance in an ongoing way throughout the design process.
By using target costing, finance provides evaluations that help balance the cost and related performance tradeoffs to achieve the highest value possible for the customer. For example, consider the development of electric cars. The initial design process includes a target selling price and a related target cost to ensure the new product is profitable. The cost of a new electric car once it hits the market will certainly play a role in whether customers decide to buy it.
But a low-cost electric car with a terrible battery range isn’t going to sell well either. The battery range can be extended with a larger battery or additional batteries, but these will add weight that makes the car travel more slowly and not perform as well. There are numerous factors weighing against each other in the design process, and finance can help design teams ensure the business is optimizing these trade-offs against each other as the design team takes the product through different iterations.
With the advent of big data and the diminishing costs of analytics, thanks to automation and other technologies, finance now has access to more data than ever. This not only includes financial data related to cost, but also data like customer sentiment and customer attributes that can help a company understand how customers will react to a new product. Finance can use this data to build much more complete algorithms about cost and quality trade-offs, but this will only be helpful if finance is involved earlier in the design process.
Another key to improving cycle times for this measure is developing a methodology for financial evaluation that is applied consistently to each product or service. The methodology will differ from one company to the next. If your business is highly cash-flow dependent, a payback or cash flow analysis is going to be more important than overall ROI.
If the product carries more risk, an analysis will need to include how quickly the business will get its money back. The particular metrics and methods you might use will depend on your business; the important thing is ensuring there is a consistent methodology that everyone understands and that is applied in a uniform way to any new product.
Once a financial evaluation is complete and the product or service is on the market, it’s also important to conduct an after-action review to test the strength of the analysis. The point isn’t necessarily to see if finance was right or wrong, but to practice good knowledge management by extracting and documenting any lessons learned from the process as part of a cycle of continuous improvement.
Regardless of how long the financial evaluation process takes for your company, ensure that finance is on the scene early with a consistent framework in place that is applied in a uniform way in the evaluation of any new product or service. Doing so will help ensure that finance plays a forward-looking role by leveraging its unique expertise in making sense of financial and non-financial data to balance cost, value, and other relevant considerations. Once this is in place, then you can work on getting faster.
Perry D. Wiggins, CPA, is CFO, secretary, and treasurer for APQC, a nonprofit benchmarking and best practices research organization based in Houston, Texas.