Calculating Expected ERP ROI for Your Project
The process of calculating ERP ROI will usually start with the goals you set for your ERP project. Your thought leadership team met several times and you have goals from several disciplines – Right? Those goals are the reason for evaluating an ERP using an ROI calculation. What returns do you expect from the goals and what costs will be necessary to achieve those returns?
ERP Costs & Returns
Perhaps you expect to reduce inventory and free up working capital. People from finance and materials will work together on this type of goal and the corresponding ERP ROI calculations. Specifically which parts and how many of each will you reduce from inventory? Will there be any negative effect on deliveries from a reduction in inventory? In this case, an ERP ROI calculation will only be valid if any negatives such as lost sales from the reduction count as a cost against ROI.
You may hope to win more profitable customers with a new-found ability to improve throughput. Look carefully at returns and costs linked to this goal and include all the relevant departments when calculating ERP ROI. Sales experts should detail the SKU that customer might order and the margin on that item. Operations should check the other side to ensure the costs expected are reasonable and that capacity will be available. Operations might also see other gains if throughput improves significantly. Could overtime expense be reduced? Could they eliminate the graveyard shift? These possibilities would yield even more gains than sales predicts. Any additional revenue from those new SKUs is a return that should be credited to the system during an ERP ROI calculation. The cost of that graveyard shift will also be a return worth considering.
Analysis from Your Analysts
Analysts from finance should coordinate all estimates of costs and returns. They already have the necessary skills and centering the analysis within a core group of analysts ensures methods are consistent. All departments will have some bias that can affect the ROI process. Our analysts may have their own bias, but it is their job to ensure these are eliminated during the calculation of ERP ROI.
These financial analysts are also forecasting ROI for other potential investments. While ERP is important, there are other ways to spend money that might earn even more than ERP. Again, by having all the analyses performed in the same manner, by the same team, all those potential investments can be lined up and compared by a common metric.
The Final Decision
When the executive making the final selections looks at the numbers, they will insist on accuracy. Nothing will derail the choice of ERP faster than discovering the ERP ROI assumptions are inconsistent with assumptions made on other project calculations. If there is any uncertainty, overestimate costs and underestimate returns.
Nothing will derail the choice of ERP faster than discovering the ERP ROI assumptions are inconsistent with assumptions made on other project calculations.
ROI is not likely to be the only metric used in the final selection of projects. ROI will be used to eliminate any that show negative or low returns quickly. The choices that pass the ROI test will be looked at in even more details. What is the probability that any change will be as estimated? For example, If we project we will reduce staff by four to six employees, what is the probability that actual staff reductions will fall outside this range? As well as probing forecasts further, timing of costs and returns will also be reviewed during the final project selection phase.
We all want the ERP project to be a winner but we should never overestimate the value of the system. ERP is only one of many possible investments and the business depends on making the best choices.
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