This page has been moved.
If you are not redirected, click here.
Please update your bookmarks.
Showing posts with label portfolio management. Show all posts
Showing posts with label portfolio management. Show all posts
Resource allocation: in series or in parallel?
I remember being taught in undergrad finance that the enterprise "can always find enough resource to pursue all opportunities whose return exceeds the risk adjusted cost of capital" (or words to that effect). A fine theory. But every organisation I've ever worked in always seemed to be short of resources somewhere.
So, scarce resources need to be allocated.
Should you fully resource you highest priority project, then the next, then the next (i.e. in series)? Or should you spread your resource amongst all of the projects (i.e. in parallel)?
This can be visualised as shown below. In the top half of the diagram we see resources allocated in series - only once Priority 1 has all of the resources it needs, do resources overflow into priority 2. In this case, priority 4 gets nothing. In the bottom half of the diagram we see resources allocated in parallel based on the weighting, or relative importance of each of the projects. (In practice, of course, the buckets would also be of different sizes.)
Most organisations I have encountered have a tendency to resource projects in parralel. Everyone gets a little resource to appease their demands. It's a political thing as much as anything else.
So, scarce resources need to be allocated.
Should you fully resource you highest priority project, then the next, then the next (i.e. in series)? Or should you spread your resource amongst all of the projects (i.e. in parallel)?
This can be visualised as shown below. In the top half of the diagram we see resources allocated in series - only once Priority 1 has all of the resources it needs, do resources overflow into priority 2. In this case, priority 4 gets nothing. In the bottom half of the diagram we see resources allocated in parallel based on the weighting, or relative importance of each of the projects. (In practice, of course, the buckets would also be of different sizes.)
Most organisations I have encountered have a tendency to resource projects in parralel. Everyone gets a little resource to appease their demands. It's a political thing as much as anything else.
But there are three good reasons why it's better to allocate resources to projects in series:
For example, not all resources are created equal, and those not suitable to project A might be usefully applied to project B before project A completes. (Consider for example a Marketing intensive project A with few IT implications and an IT intensive project B with few marketing implications.)
So, in practice, whilst there will always be some parallelism in projects, serial resource allocation should be you starting point.
- From a practical perspective, it makes sense to allocate resources in series. It's better to have one project properly resourced and with a chance of success, than it is to have two projects inadequately resourced and with less chance of success.
- In a pure financial sense, it also makes more sense to resource projects in series. Consider these respective NPV calculations (discounted at 15%) where project A and project B both cost £200 and have a payoff of £300.
- It's better for morale - when the first prject finishes, it will give people a morale boost which will carry forward to the later project.
| In series | NPV | Year 1 | Year 2 | Year 3 | Year 4 | Year 5 |
| Project A | 34.68 | -100 | -100 | 300 | 0 | 0 |
| Project B | 26.23 | 0 | 0 | -100 | -100 | 300 |
| TOTAL | 60.91 |
| In parallel | NPV | Year 1 | Year 2 | Year 3 | Year 4 | Year 5 |
| Project A | 6.40 | -50 | -50 | -50 | -50 | 300 |
| Project B | 6.40 | -50 | -50 | -50 | -50 | 300 |
| TOTAL | 12.80 |
The NPV from funding the projects in series is clearly higher. Not to mention the additional option value of being able to decide not to start Project B at all at the later date.
That's not to say you'll never run projects in paralel, just that you should apply all of the resources project A can usefully use before you look at what is available for project B.
For example, not all resources are created equal, and those not suitable to project A might be usefully applied to project B before project A completes. (Consider for example a Marketing intensive project A with few IT implications and an IT intensive project B with few marketing implications.)
So, in practice, whilst there will always be some parallelism in projects, serial resource allocation should be you starting point.
Diversification works - most of the time
Portfolio theory has taken quite a beating over the last year. I've heard a number of people comment that the 4th quarter of 2008 demonstrated that different asset classes are no longer not correlated and so the diversification effects underpinning portfolio theory no longer hold.
Of course, that is not true. Correlation is a statistical concept - probabilistic, but not definite. As such, we don't talk about asset classes being correlated or uncorrelated - rather we talking about them being more or less (positively or negatively) correlated.
Portfolio theory is based on the fact that different assets and asset classes are not perfectly correlated. However, it does not assume that they are perfectly uncorrelated.
In practical terms that means that, whilst most of the time assets and asset classes won't move in the same direction together, sometimes they will.
And that is what happened last year - they moved together en masse in a spectacular fashion with disasterous consequences.
However, whilst this may be considered to be an extremely rare occurence, it is entirely consistent with the statistical theory. And it demonstrated Nassim Nicholas Taleb's Black Swan
hypothesis - that the world is more shaped by rare and unforeseen events than by the more frequently encountered
hypothesis - that the world is more shaped by rare and unforeseen events than by the more frequently encounteredSo, I believe it is business as usual for portfolio theory, albeit after a painful reminder of what happens if you ignore the full scope of the theory on which you rely.
NewCo / OldCo
I blogged recently on the 4 Horizons approach to corporate project portfolio management. One of the questions that frequently arises with Horizon 3 and Horizon 4 projects is whether you should try and launch these within the existing business, or within a separate start-up management structure.
The attractions for doing it within a separate management structure are reasonably obvious:
1. You can bring in fresh people with fresh ideas (rather than the existing problem who may be seen as part of the problem rather than part of the solution),
2. Who can start with a blank slate, and
3. Are not encumbered by the daily grind of problems in the old world which take up the valuable time they should be spending on developing the new proposition.
However, the disadvantages are also significant:
1. The staff working in the existing business will become alienated by (and potentially obstructive towards) the new idea,
2. It will be hard to motivate them to work on what will undoubtedly be perceived as a less exciting proposition, which will not get the investment they want to fix the problems they face every day, and
3. Ultimately (and possibly more importantly) this lack of enthusiasm in the existing business will spill over into its clients, who may start to look more actively at competing propositions. (The result being that by the time the new proposition is ready to launch you have lost the advantage of your existing client base!)
Branding the new offering becomes a complex decision. Do you retain links with your existing brand (and hence customer-base) and live with the juxtaposition of the new and the old under a single heading, or do you go for an entirely new brand with all of the investment that that requires.
At some point, if you try to separate your new and existing propositions too much, you are effectively funding a start-up from the profits generated by your existing business. At this stage the shareholders might legitimately ask why you did not return the excess funds to them so that they could decide for themselves if they wanted to invest in the risk inherent in a start-up venture. (In most cases, it would probably be inappropriate for them to do so as the risk profiles of the existing and new businesses would be so far apart.)
However, there is a win-win situation where the "new" proposition can be positioned as breathing new life into the "old" proposition. This is particularly the case where the new proposition is:
1. A product line extension, especially where the new product complements and enhances the existing product, or
2. A vertical extension, forwards or backwards into the value chain, where the new proposition represents an improved component supplied into the old proposition, or a revolutionary way of packaging and selling the old proposition.
(The launch of Egg by Prudential is a well-known example which attempted to achieve both a product line and vertical extension in a single new startup business.)
Whichever way you go, Horizon 3 and Horizon 4 projects require particularly strong leadership to inject new life into a business without alienating the those staff and customers who are heavily invested in the existing business. The aim being to bring your existing staff and customers along through a journey, rather than to canibalise them and risk destroying whatever value you have already created.
The attractions for doing it within a separate management structure are reasonably obvious:
1. You can bring in fresh people with fresh ideas (rather than the existing problem who may be seen as part of the problem rather than part of the solution),
2. Who can start with a blank slate, and
3. Are not encumbered by the daily grind of problems in the old world which take up the valuable time they should be spending on developing the new proposition.
However, the disadvantages are also significant:
1. The staff working in the existing business will become alienated by (and potentially obstructive towards) the new idea,
2. It will be hard to motivate them to work on what will undoubtedly be perceived as a less exciting proposition, which will not get the investment they want to fix the problems they face every day, and
3. Ultimately (and possibly more importantly) this lack of enthusiasm in the existing business will spill over into its clients, who may start to look more actively at competing propositions. (The result being that by the time the new proposition is ready to launch you have lost the advantage of your existing client base!)
Branding the new offering becomes a complex decision. Do you retain links with your existing brand (and hence customer-base) and live with the juxtaposition of the new and the old under a single heading, or do you go for an entirely new brand with all of the investment that that requires.
At some point, if you try to separate your new and existing propositions too much, you are effectively funding a start-up from the profits generated by your existing business. At this stage the shareholders might legitimately ask why you did not return the excess funds to them so that they could decide for themselves if they wanted to invest in the risk inherent in a start-up venture. (In most cases, it would probably be inappropriate for them to do so as the risk profiles of the existing and new businesses would be so far apart.)
However, there is a win-win situation where the "new" proposition can be positioned as breathing new life into the "old" proposition. This is particularly the case where the new proposition is:
1. A product line extension, especially where the new product complements and enhances the existing product, or
2. A vertical extension, forwards or backwards into the value chain, where the new proposition represents an improved component supplied into the old proposition, or a revolutionary way of packaging and selling the old proposition.
(The launch of Egg by Prudential is a well-known example which attempted to achieve both a product line and vertical extension in a single new startup business.)
Whichever way you go, Horizon 3 and Horizon 4 projects require particularly strong leadership to inject new life into a business without alienating the those staff and customers who are heavily invested in the existing business. The aim being to bring your existing staff and customers along through a journey, rather than to canibalise them and risk destroying whatever value you have already created.
Subscribe to:
Posts (Atom)