Portfolio finances

When we are developing something new, we often look into development costs and benefits received from the development. What is often forgotten, is the impact of development initiatives to organizational run costs. If we develop a new automated process with new tools, we might need to hire also new people to maintain the solution, as well as have license costs. And sometimes the growth of the costs is also a very positive topic. Let’s review this aspect for a moment!

Forecasting impact of development – including both benefits and run costs

When we develop something new, we often focus on development costs – how much Opex or Capex investment is, how much internal work related costs. However, development has often significant impacts on future profits and also operating costs.

If you have fore example rolling 5 forecasting or LRP process ongoing, here are the key high level topics to consider:

• Opex impact – When your development project is ending, will there be some new license costs or increased IT capacity costs to be covered? Which department is budgeting these costs, and have the costs been reviewed and agreed with that department to avoid issues with future budgets?
• Headcount impact – When the project ends, do we need to have additional headcount managing the run phase of the solutions? Has the headcount needs been analyzed together with the business case and impacted department agreed on headcount plans?
• Capex impact – If you have Capex plan, is the original capex plan still valid, or has there been any changes in the development schedules or development cost forecast, which might also impact the capex plan?

Typically at the early phases of development, is is really difficult to know the run phase costs, and business case may not be so accurate. However, when the development project is proceeding, it is a good practice to review the business case and also take the future costs into the forecasting processes.

Increasing run costs – what is the total cost of ownership?

Let’s look into Increasing run costs first. When automating something, we typically get plenty of benefits from saving time, and for that part, there is often detailed benefit calculations in place to justify the business case. Even the development phase costs are often analyzed in detail, to enable investment decision making.

However, what is often forgotten is the run costs after the development phase. Here are few topics, which I have been looking into

• What is the licensing model in place for your solution? Is the license costs depending the amount of total users, do you have floating licenses with maximum amount of users at the same time, or do you have yearly or monthly license fee, and you can use the solution as much as you wish. Depending on the licensing model, it is important to evaluate the future usage, when developing the business case.
• What is cost of keep the business running? If you would not do any development, what would be the cost of keeping the solution running after the go-live? Do you have costs related to physical servers or cloud capacity, or within connectivity infrastructure?
• What are the continuous development costs? In addition to keep the business running, there is typically an expectation of continuous development of the newly built solution. Are you budgeting also money or and resources for this important work?

If you have long range planning period starting, check out also the previous blog post: 5 Tips for Smoother Long Range Planning for Development Portfolios – Strategic Portfolio Management!

Let’s cover the headcount impact next, that is relevant too!

Impact on headcount and internal work

I think this is a really tricky topic!

If we develop a new product or service or a new IT solution – there is a need to run and continuously develop the solution further.

• Who will take the ownership of the development outcome? Is there a team, or would you need to build a new team requiring internal headcount or external team members covered via Opex costs?
• Will the new product or solution require support from many different units or team? Can the increased work be managed within the existing resourcing, or will there be headcount needs in multiple teams?
• And perhaps the most difficult part! Do you have the needed capabilities, skills and knowledge in the organization, and would you need to create a plan for hiring new people, and what would be the location for these people?

New revenue streams – creating organic growth of run costs?

Sometimes the growth of the costs is a positive thing!

This is the case when the growth of the digital service volumes is increasing the business revenues and profitability, but on the other hand also increasing organically service run costs, license costs, connectivity or data costs or other service management costs.

It is good to take this into account already when reviewing the business case. Here are few topics to consider:

• What is the best forecast for the service volume increase, and what is the impact on the run costs? Do you have multiple scenarios, such as optimistic, neutral and pessimistic scenario?
• Which unit or organization is budgeting the future increase in run costs?
• Are these costs allocated in your processes to the units receiving also the profits? Do you have processes in place for allocating the costs, or do you need develop your ‘digital supply chain’ practices further?
• How do you govern and follow up these costs?
• How do you optimize the cost structure also in the future to optimize service profitability?

Recommended reading

From Managing Past Costs to Rolling Forecasting – Development Portfolio Finances (part I) – Strategic Portfolio Management

5 Tips for Smoother Long Range Planning for Development Portfolios – Strategic Portfolio Management

Portfolio finances is one of my favorite topics – but also a complex and difficult one! I have had super interesting discussions about financial forecasting with many smart colleagues, and I will share some of my key learnings and practical tips here!

Managing development costs is important, but if we only focus on actuals, we always look into the past – and there is usually very little we can do for the past costs.

One of the good practices I would recommend for any development portfolio is financial forecasting. Forecasts are never 100% accurate, but they are the best understanding from the organization for the future costs (and benefits). There may be changes happening in different programs or projects – some work may progress faster than anticipated, and some may be delayed – this gives an opportunity in the portfolio level to take best use of available funding and for example initiate new prioritized work.

Different time horizons – from next month to long range planning

In the portfolio context, there are different time horizons to look into:

• How are we doing today – is the portfolio progressing according to our forecast? Do we have changes or delays, or an unused budget frame? What are the actuals compared to forecasts – are there significant differences?
• Current year – how is our forecast against our yearly frame? Do we have unused funding enabling a new high priority initiative?
• Planning for the next year – what are the portfolio level development initiatives for next year plans?
• Long range planning – what are the key development initiatives or themes for the next 5 years? Understanding the investment levels needed for future big initiatives is enough – no-one can give accurate forecasts for such a long time period.

Forecasting – different viewpoints

Finance processes in many companies have yearly cycles – whereas development portfolios are continuous by nature – projects start and end in the middle of the year, and some costs land to one year and others to the next year.

From the project viewpoint, the project typically has an approved budget including planned operating costs and capital investments. The cost may be divided into multiple years, but quite often finance process is looking for the annual cycles. If the project has changes or delays, also the cost may be pushed from one Calander year to another. These cases may cause headaches for financial controllers – if funding is reserved for one year, it may not be straightforward to push it to next year.

If the financial forecasting is focusing on current year or rolling five quarters, also some of the project costs may be out of the scope of financial process. However, from the portfolio viewpoint forecast (and business case) are needed for the whole entity and for the whole project duration. Both viewpoints – portfolio management and finance processes are important – it is just good to acknowledge, that sometimes there may be a bit different thinking and needs also for the forecasting.

In addition to projects, forecasting is a good practice also for value streams, continuous development teams, or other agile development teams. The agile way of budgeting may sometimes conflict with the standard finance processes many organizations have, but forecasting is also a good tool for agile teams – as a part of quarterly planning practices, it is good to check the forecast, too. And when updating future roadmaps, it is good to look at what would the impact into the future development forecasts.

Tips for projects and development teams – forecasting becomes easier over time!

• Creating the financial plan or forecast for the first time is usually difficult – especially at the beginning of the project, when scope and vendor contracts have not been defined yet.
• Create the first forecast with the team – this is a good opportunity for you to align together on your plans. Think forecasts from different viewpoints – include different vendor costs, but also consider internal work and other important elements.
• Think forecasts from the different viewpoints – include different vendor costs, but also consider internal work and other important elements, such as lisences.
• Accept also, that your forecast is not perfect, it is your best understanding at the moment!
• Next rounds of forecasting are already easier – previous forecast can be adjusted based on the new increased knowledge.
• Take forecasting into your routines – you could look into the forecast for example once a month in your core team meeting.

Tips for portfolio management and finance controllers – support the teams with forecasting, especially when getting started!

• What is the correct level of detail in forecasting for your organization and doable with your development teams? Too detailed forecasting may be difficult to introduce and manage in a long run.
• What is the correct cadence for your organization? Many organizations have quarterly or monthly cycles.
• Do you first focus on external cost forecasting, or include also internal work? Do you take a financial approach for internal work or plan for future FTEs?
• If development forecasting is new to your organization, accept, that it takes couple of forecasting rounds for organization to learn. Forecast accuracy improves over time, when development teams become familiar with the practice!
• At the beginning, help and support teams – people want to do good work, but they often need advice. If and when challenges are identified during the forecasting, take these as learning opportunity as an organization.
• Forecasts change over time – important to have regular checkpoints (e.g. monthly or quarterly). Regular cadence and friendly reminders to update forecasts help busy development teams to do the forecasting on time. Forecasts will not be useful if they are not updated systematically.
• Forecasting is a great tool for managing project or program finances, but also at portfolio or business unit level – if some projects or programs are delayed there may be opportunity initiate new prioritized projects – to take best use of available funding. Many organizations have quarterly forecasting cycles – quarterly cycles are also a great fit for portfolio level decision making. More about quarterly portfolio reviews here: Time for A Quarterly Portfolio Review?
• Also consolidated view of development portfolio forecasts in enterprise level gives an opportunity to see the big picture and do planning and prioritization across portfolios to ensure best use of capacity and ensure smooth execution for the most important initiatives.
• Portfolio management or financial planning tools provide also great support for managing different time horizons, rolling up via portfolio hierarchies, and managing different versions – but you can also start with simple tools, such as excels or SharePoint.
• Look into consolidated portfolio forecast carefully – typically development teams tend to be optimistic at the beginning of the year on all the development planned for the year and sometimes costs are moving towards the end of the year. If you notice something like this, discuss the teams, are they committed to all of the work with the remaining time, or should the forecast be updated.
• Instead of looking strictly at annual cycles, a rolling forecast typically fits better for development. Would this approach be good for your organization, too?
• This post was focusing on forecasting of development costs, but equally important are also expected benefits and development impact on run costs. This will be covered in the future blog posts!

I hope this helps, and I would love to hear your tips or viewpoints, too!

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