0:01
Okay, let's talk about now how typical investment
proposal goes in many cases at the cooperate level.
What I call the too typical return on investment process at the cooperate level.
Now, I've actually experienced this.
I worked in a large corporation.
I was part of a group of people who presented
0:23
to the people that allocated resource funds.
And so let me give you just a scenario of how things
often work on the corporate level.
So first of all, we've all acknowledged that there has to be a return on
investment above the hurdle rate we talked about earlier.
In which I'll get into more details on later.
If it doesn't clear the hurdle rate, then there'll be no investment made.
So the conversation around this whole ROI topic will vary,
depending upon who you're talking to in the organization.
For example,
if you're doing a Skunk's Work Project, you may be talking to the CFO.
And I don't know if anybody knows what a Skunk's Work Project is,
but it came out of World War II when America was doing
some surreptitious development of some of the war
machines that we were using to fight in World War II.
And they named it the skunk works just to keep it confidential.
And that's what the term now means in a corporation level.
You may be doing this kind of without the knowledge in some cases of
the general corporate finance group.
But the CFO may be supporting you and maybe kind of sponsoring that skunk
works group, one of the reasons strategically or whatever.
Then if you're talking to an angel or a adventure capital investor,
return on equities or return investments will be much different topic because
they're going to require a larger return in this class.
1:58
Or, if you're talking to a business unit manager,
a business unit manager probably is interested only in whatever
you're doing is helping improve what I'm doing as a manager of the business unit.
That's kind of where he or she will take the conversation.
They may not even know what the hurdle rate is,
in fact you may not know what the hurdle rate is.
If you don't, and you're involved in this type of a job at a corporation,
you should find out what are the hurdle rate they are looking for.
Then finally, if you're talking to the Corporate Finance Group or
what I call the Strategic Planning Group which is,
those two terms are generally in my view, loose interchangeable.
2:38
Then they're going to be talking stripped, you're competing for
my limited resources with your project and you're ROI has to generate a return.
First of all, have to generate a return with and it has to beat out
the other projects that are currently being dropped to me for investment.
because they have limited number of to use.
3:04
So you're going to someone and asking for money, and
the funding source asked for four-year return on investment forecast.
So you actually has a really good corporate entrepreneur,
you put together a really well thought out plan.
And you reflect, you show your higher ideas going to grow, and you say okay,
I've developed something which will generate $100 million market opportunity.
The corporate trading source will be looking at this saying,
well this is not a very big opportunity, they are a big company here, so
they'll reject it, because they'll say it's too big.
3:36
I'm sorry, too small.
And so what, they'll take it back and say this market size doesn't work for us.
We're not going to include the process.
So, the corporate entrepreneur then takes that proposal back.
They essentially cook the books.
They basically come back with a number and say, okay,
now it's worth a billion dollars.
The market's now billion dollars.
They resubmitted to the corporate finance.
Corporate finance approved the project, and but
then they'll adjust the market size back down to the original $100
million because they're saying well the the customer must be enthusiastic.
So it's kind of a circular argument that I call a shared fiction.
It's a typical process that shared fiction.
What do I mean by that?
Okay, so let me give you an example.
You're at a cocktail party,
somebody across the room wave at you and you see the person.
And they're waving at somebody behind you, but you don't really know that.
You think they are waving at you, so they wave back, yeah hi how are you.
You don't know who they are, but
you are waving back because they are waving at you.
Then that person sees you waving at them, and
they think that person must know me as well.
So you both wave at each other and you kind of move your way, and
you kind of meet in the middle of the room.
You start talking to one another.
And it takes a while before either one of you has enough guts or
doesn't feel embarrassed so that they'll admit,
I don't really know who you are.
And the other person says, I don't really know who you are either.
And you can say well, you're waving at me and the person will say no,
I was waving at this other person behind you, right?
That's a shared fiction,
both of you thought you knew each other but it's a harmless shared fiction.
You didn't go do any damage, you met somebody new at a cocktail party,
maybe you had a good laugh about the fact that you had this misunderstanding.
5:34
Now, the return on investment of pitching a new project is
what I call a deadly fiction.
And that process I just explained to you, where you submit a really
reasonable proposal to 100 men, they reject it because it's too small.
You go back and you create numbers which don't really have any support but
now shows you have the billion dollar mark up that they're looking for.
That you resubmit it,
they approve it and then they readjust it back down to a million dollars.
That's a deadly fiction.
6:02
Why is that?
Because a lot of these projects get rejected and
they never get the second part.
They never go back and recook the numbers, or reevaluate, recalculate the numbers.
And why is that a problem?
Well I'm going to tell you why it's a problem.
If you look at the data on this chart, the average company life span of the S&P 500
has reduced from over 60 years in 1960 to something around 14 or 15 years today.
If that doesn't scare the heck out of
people who work in the corporate environment, I don't know what will.
So, these projects that you're putting together are hopefully innovative projects
that will help to generate new products, new market opportunities, new everything.
And hopefully will continue to support the existence of your company in the future.
And so, that's why if you get caught up in this silliness
of creating numbers to make somebody's project analysis
look good, can be a serious and deadly fiction.
But we'll talk about that something a little bit more.
We'll then take a different view of return on investment in the next lecture.
Michael R. PrattLecturer of Technology Entrepreneurship
