- The founder /VC approach, where the founder serves as the first provider of funding
- The “new project within a large company” approach
- They are a “hurdle rate” above which the investment needs to perform
- They summarize the opportunity cost of investing in that particular project/new product, as the investor or company sponsor could be invested in any other product/project/investment
- They quantify the “cost of time” which everyone faces, when working on the project.
To understand control’s real role, you need to distinguish between two drastically different projects. Project A will cost around $1 mln, and earn $1.1 mln. Project B will cost around $1 mln, and earn around $60 mln. What’s immediately apparent is that while control matters a lot on Project A, but almost not at all for Project B. This leads us to the odd conclusion that control matters a lot on relatively useless projects, and much less on useful projects.Great software projects generate massive payoffs. You are better off looking at how your project will generate incremental revenue, than pinching pennies, because the software industry is still very young. Projects like Demarco’s Project A are sometimes necessary, particularly when looking within existing companies. They do work- if you are sure the project will be steady enough to generate stable cash flows. In this case, you are taking a “value investing” Warren Buffet approach, where you want to pay as little as possible for a very stable, slowly increasing, stream of cash flows. Buffet supposedly doesn’t even look at companies that don’t have a 10 year track record of stable and increasing cash flows, and where the current price of the business implies a certain “margin of safety” (hint: it’s really cheap). SOMETIMES this is relevant for new products in software businesses, or mature businesses using a lot of software. Nonetheless, you are making a rather dangerous set of assumptions about your environment, your competition, and typically a product that doesn’t even exist yet, much less have a track record. Often these assumptions go many years into the future. What works for investing in Coca-Cola or Heinz (both owned by Buffet’s Berkshire Hathaway), may not apply to an IT initiative. If you are so risk averse, that you only look at actual cash flows from the last ten years, you don’t take into account that most of the big players change every 10 years in IT. You also need to have a really clear business rationale for sticking to 10 year old technology, if you compete with other software companies.