Among the many responsibilities entrusted to a CFO, perhaps the most critical is making decisions for deploying the company’s capital. To support profitable growth, CFOs have many options: they can return capital to shareholders via dividends and buybacks or – to support profitable growth – make an acquisition, build a war chest, or invest in R&D. In my last article, I shared insight into my process for deciding when to build, buy, or partner. Here, I’ll focus on one aspect of organic growth: the build option.
Balance your capital allocation strategy
Decisions about how to allocate capital are complex, and depend upon many interrelated factors. The role of innovation is a key consideration. It influences how much of your available capital you’re going to invest in R&D and over what period of time you will look for your payback. It influences the amount of risk you’re willing to take and how you will seek to balance the long- and short-term interest of your shareholders.
Investment decisions are not considered in isolation, but need to be judged in light of the strategy you’ve applied across the business. A decision to try to build new products needs to be assessed in relation to your broader capital deployment strategy to ensure a balanced risk and reward profile for your shareholder base.
For example, at SAP, we made some large, high-profile acquisitions over the last few years. But we’ve balanced that “inorganic” strategy with an investment in organic growth, particularly related to the SAP HANA platform and SAP Business Suite 4 SAP HANA (SAP S/4HANA), SAP’s next-generation business suite. While the payoff was less immediate, that organic investment positions us to capture market share and accelerate growth through an upgrade cycle among our customers.
Evaluate the decision as you would an acquisition
R&D investment decisions should be approached with as much objectivity and diligence as other capital deployment strategies. They should be assessed on their own merits, and relative to other potential uses for the resources and capital. This means preparing a business case that addresses many of the considerations you would include when vetting an acquisition, such as:
- Understand the market and the risks. Has your company identified the risks associated with developing a new product internally and evaluated the impact on your business if you’re not successful? What are the barriers to entry? Will they increase over time? Will you lose traction in the market if you do not build? Do you have other options? Is there a fallback plan if the effort is unsuccessful? These are fundamental questions that may quickly influence your decision.
- Evaluate your core competencies. Pursuing growth in markets you fully understand increases your likelihood of success. Does your company have the required expertise or do you have to hire? Has your company built similar products? What’s the success rate? Can you use the same sales force to sell the product if successfully developed? Your people can be your greatest asset if their skills and expertise align with the business opportunity – or if lacking the right proficiencies, add to the risk.
- Assess the time it’s going to take to be successful. The digitization of business has accelerated time to market. The time frame in which opportunities are won and lost is shortening. In some cases, you may be able to complete an acquisition and get to market in the time it took you to figure out whether or not internal development is even a viable option.
- Define metrics that enable you to objectively evaluate success. If the goal is to build a successful product, how do you know if you’ve succeeded? Part of the process is to establish key performance indicators (KPIs) to monitor progress and results. That means defining product development milestones and release deadlines. It means setting budget constraints. It means defining how you will know if the product meets customer expectations to ensure that you’re on the right path.
Know when to cut your losses and move on
In general, building is better than buying. The cost of buying a company will always be significantly higher than what it would cost to build a product. But even if you determine that you can bear the risk and have the resources to pursue organic growth, be realistic about your time to market and ability to succeed based on the KPIs you established. And be willing to revisit the plan when required.
Case in point: For several years SAP was working on a business travel and expense product. We built a business case and defined metrics to measure our success. The development teams made great strides, but when we evaluated our progress against our objectives, we realized that the window of opportunity was slipping away. It made more sense for us to stop the build and pursue an acquisition instead. This process led us to the decision to acquire Concur Technologies, which we completed in December 2014.
In that scenario, it was in our best interest to change strategies. We made that decision with confidence by being disciplined in our thinking and our approach.
To learn more about how finance executives can empower themselves with the right tools and play a vital role in business innovation and value chain, review the SAP finance content hub, which offers additional research and valuable insights.