Wednesday, November 13, 2019

What Is the Real Cost of Delay of Your Project?

What Is the Real Cost of Delay of Your Project?
One challenge that every organization faces is deciding which project should be prioritized. Would it be in a company’s best interest to embark on a $1 million project that would take three months to finish or a two-year project that would cost $30 million?

And if you want to do both, which one should be done first? Or is parallel the best option? Does it makes sense to speed up or slow down an existing project?

All these questions center around the economic impact of the project's delivery time on it's business value.

Starting what date can we expect value to be delivered? And what happens when we don't deliver on that date?

Cost of delay (CoD) is a key metric that represents the economic impact of a delay in project delivery. It is a way of communicating the impact of time on the outcomes we hope to achieve. More formally, it is the partial derivative of the total expected value with respect to time.

Although the word "delay" implies this only applies to ongoing projects, exactly the same metric can be used for projects that have not started yet.

CoD combines urgency and value — two things that humans are not very good at distinguishing between. To make good decisions, we need to understand not just how valuable something is, but also how urgent it is.

Unfortunately, many organizations don’t use CoD in their decision-making process — mostly because they do not know why it's important and how to do it. This can be a very expensive missed opportunity as delays may cost millions depending on the scale your organization operates on.

In my opinion, every organization needs to understand what CoD is, how to calculate it, and how to optimize your project portfolio to reduce CoD.

Estimating cost of delay

As stated before, CoD is the economic impact of a delay in project delivery. Before we start with estimating this economic impact, here are some examples of possible CoD:

Product development – the amount of money you will lose if the launch of your new product will be two months later.

Software development – the amount of money you will lose if the release of an essential feature causes a big client to move to a competitor.

Solution implementation – the amount of money you will lose if you fail to replace the existing ERP system by the end of this year.

IT operations – the fines you have to pay if your systems do not comply with new regulations on time (GDPR, FATCA, etc.).

To estimate these potential costs of delay for your project, start with estimating the benefits that you will receive per week after you deliver anything to the market or to your organization.

These benefits typically take the form of:

1) Increased Revenue
2) Protected Revenue
3) Reduced Costs
4) Avoided Costs
5) Positive Impacts

See my article “What Are the Real Benefits of Your Technology Project?” for details on estimating your project's benefits.

For example, if you are selling a software-as-a-service (SaaS) product and you plan to deliver a new add-on feature that you anticipate will bring you $20,000 per week, every week that you postpone the release will cost your company this sum in missed revenue.

After you've estimated the benefits per week you can estimate the costs of the project per week. After all, when you are not starting a project the costs are zero, but when you do start the project you will have costs.

See my article “What Are the Real Costs of Your Technology Project?” for details on estimating your project's costs.

In order to estimate the real cost of delay per week you have to subtract these costs from the benefits. Not doing this is unfortunately a mistake many organizations make when using CoD.

Always remember that CoD is the partial derivative of the total expected value with respect to time.

Value = Benefits - Costs

When your project has a duration longer than six months you can estimate the benefits and costs per month instead of per week.

Types of cost of delay

Before you start estimating the CoD of your project it's important to understand that there are different types of CoD. Remember CoD combines value and urgency. Where value is depending on your project and your business, urgency takes usually one of four forms. These can be described with so called urgency profiles. Each of these profiles will lead to a different type of CoD.

In order to understand the urgency of projects, we need to understand the life cycle of benefits, and the effect of being late. The effect of delay can be different depending on what the type of benefits are, and whether there is any influence from the wider market.

The two main variables to consider are a) the length of the lifecycle of the benefits (how quickly the benefits ramp up and down) and b) whether the peak is affected by delay or not.

Profile 1: Short life-cycle; peak affected by delay

In some cases the life cycle of benefits is relatively short. Benefits ramp up to a peak and quickly decline again. Sometimes this is because the value-add quickly becomes standard for customers.

This is for example common for mobile phones. What is hip and differentiating today will be bargain-basement stuff in months rather than years. In other examples, the market is always creating new alternatives, moving on quickly to the new “new thing.”

The fashion industry is also a good example of this, which is why Zara competes by having very short lead-time from spotting the new look on the catwalk, to selling it on the hangers in the store.

With these types of benefits, if you are late, the peak benefits are affected, as shown below.
What Is the Real Cost of Delay of Your Project?
Profile 2: Long life-cycle; peak affected by delay

Another urgency profile is where there is a first-mover advantage, making it difficult for latecomers to recover position. This can be due to barriers to entry or the advantage that scale can bring.

A good example of this is cloud computing services. Offering something similar to Google Cloud Platform, Amazon Web Services, or Microsoft Azure can only be done with huge investments, and even then your chances are slim. This urgency profile is typical for services for which the market consolidates down to two or three major players. These products benefit from some form of preferential attachment mechanism or “network effect.”
What Is the Real Cost of Delay of Your Project?
Profile 3: Long life-cycle; peak unaffected by delay

A third urgency profile is where the lifecycle benefits are long-lived. Benefits ramp up to a peak and are sustained over a long period. In most established organizations this is the most common urgency profile you will find.

A typical example is where we are automating a process or improving efficiency, reducing time or cost. The ramp-up and peak of benefits is effectively the same whether the solution is late or not. This is also the easiest urgency profile for which to calculate the cost of delay, as it approximates nicely with a simple parallelogram.
What Is the Real Cost of Delay of Your Project?
Profile 4: Impact of an external deadline

Where requirements have a specific deadline the urgency profile is slightly different. The benefits profile itself can look like any of the above three, but the benefits only ramp up around a certain date.

As a result, the cost of delay is zero until the point where you need to start development — to avoid incurring any delay cost. To calculate the point at which the CoD kicks in, we need to consider the likely lead time, ensuring that the solution is delivered just-in-time, rather than too early or too late.

Let’s take for example a new regulation that will be effective from the 1st of January 2021. As of that date, front-office staff will need to prepare extra documentation in order to meet this regulation. The requirement is to automate the new documentation process so that the front-office employees can produce the documentation automatically.

The requirement will avoid the additional manual processing resource, which is estimated to cost about 10 full-time equivalents (FTEs) at $52K per FTE. The benefit type is categorized as “Avoided Cost.”

10 FTEs x $52K = $520,000 per year = $10,000 per week

Let’s say it is the 1st of March 2020 right now, which means we have 10 months to do something about this requirement. It’s going to take about 20 weeks to deliver this new feature. If we start developing the solution now it will be delivered in August 2020, but we don’t need it until December 31.

We deal with this by calculating when we need to start developing the solution by subtracting the duration from the external deadline. In this case we need to start development by the 1st of August at the latest (20 weeks before the external deadline of January 1st).

Before the 1st of August: cost of delay is $0 per week.

After the 1st of August: cost of delay is $10,000 per week.

In a nutshell: It’s vital for companies to understand what cost of delay (CoD) is and how to calculate it. Knowing the impact CoD will have on a business will give management greater insight on the projects in the pipeline and help them determine which ones should be prioritized.

You can buy my eBook The Project Valuation Model ™ by clicking here or on the image.

Posted on Wednesday, November 13, 2019 by Henrico Dolfing