CAD Manager--Justifying CAD Expenditures with ROI Metrics31 Mar, 2006 By: Robert Green
Learn how to spend money wisely.
Every year we spend money on upgrades, supplies, training, hardware and so forth. How do we know if we're spending our money wisely? This question is one our management teams want answered and one we should all be asking ourselves. To know whether we're spending our money well, we need a measuring stick—a set of metrics by which we can evaluate our spending.
ROI (return on investment) metrics allow you to evaluate and prioritize which spending items in your annual budget are delivering the goods and which ones you could do without. Interested? The good news is you don't need a business degree or accounting certificate to understand and use ROI metrics. In this issue, I'll cover the basics and point you toward additional resources if you want to learn more.
Return on investment is exactly what the name implies: A returned value that arises from investing in a certain way. Put in lay terms, think of purchasing a new software program and wanting to know how well that investment is paying back. In almost all CAD management scenarios, the ROI will be in savings. Therefore, anything you spend money on should generate a savings amount that justifies the spending.
So stick with me while I set out some basic terms and concepts that are crucial to understanding ROI metrics. Pay particular attention to the concept of different ROI values in different years because it's crucial for CAD managers.
ROI. The savings an investment can produce divided by the outlay that the investment requires, expressed in percentage form. If putting a new plotter in place can save you $1,000 per year but requires an outlay of $5,000 to purchase and implement, for example, the ROI would be (1000/5000) × 100%, or 20%.
Realized savings. The amount of money you can save by purchasing a new product or service. An example might be reduced paper and toner costs realized by purchasing a newer plotter or reducing labor by applying custom CAD programming.
Initial outlay. The initial amount of money you spend for a given item or service. An example is the purchase price of a plotter, computer or consultant.
Recurring outlay. The ongoing amount of money it takes to keep a given item in service. Examples are the annual service contract for hardware, software subscriptions and consulting retainer contracts.
Labor outlay. Amount of time it will take for you or your staff to implement new items or services. Examples are staff time to set up a new plotter or computer or attend training classes.
Year 1 ROI. Amount of savings in the first year of the investment divided by the total outlay in the first year. This number is typically low for new hardware and software because of the large initial outlays in the first year.
Year 2 ROI. Amount of savings in the second year of the investment divided by the total outlay in the second year. This number typically is much higher than Year 1's because the large initial and labor outlays fall in the first year.
Year N ROI. Amount of savings in the last year of the investment divided by the total outlay in that year. The N number generally is the number of useful years of service for the investment. For hardware, N can be anywhere from three to five years, and software generally has a useful life of two years.
Aggregate ROI. Average of Year 1 through Year N ROI values. This aggregate number gives a true measure of how well the investment performs throughout its entire life. Admittedly, forecasting an investment years into the future involves some uncertainty, but the aggregate ROI value is better than just guessing.
Payback period. Number of years or months required for the savings from an investment to equal its outlays. A utility program that generates $2,000 per year in savings but costs $4,000 in outlays during two years has a payback period of exactly two years.
Let's say you've studied your AutoCAD personnel and determined that they are wasting an inordinate amount of time looking for standard blocks, title frames, xref attachments and graphics files. The waste is so obvious that you decide to create a standardized set of tool palettes that they all could use to perform tasks quickly. Sounds good so far, right? But how do you get the approval to spend the time and resources you need to make it happen? Let's work up this idea in an ROI format and see how compelling a case can be from a financial standpoint.
To do the ROI math, determine the realized savings and outlays needed to get the tool palettes created and implemented. Here are some values I've observed in the real world that I can use for my example.
Realized savings. If you can save each CAD user one hour per week and the CAD user makes $20 per hour, the average annual savings would be $960 based on a 48-week work year. If you have ten AutoCAD users, you could obtain an annual savings of $9,600.
Initial outlay. The initial outlay for this example is $0, because the AutoCAD software is owned and no additional software is required to create tool palettes.
Labor outlay. The amount of time it will take you to gather all the blocks and graphics, organize them into tool palettes, deploy the palettes to users' desktops and provide some basic training on the functionality of your tool palettes will have to be considered in two portions, as follows: Your time to create, deploy and train, assuming 28 hours of labor at $40 per hour, equals $1,120 dollars. One hour of training per CAD user at $20 per hour equals $200 for the entire department. The total labor outlay, therefore, is $1,320.
Recurring outlay. Each time you upgrade AutoCAD, you'll need to move all the blocks, graphics and palettes to the new version to assure proper functionality. You shouldn't have to retrain users, so the outlay will be your labor alone. Assuming a generous ten hours at your $40-per-hour rate, the recurring outlay to maintain the palettes is $400 annually.
Now we can move to an ROI computation for Year 1 by dividing the $9,600 savings per year by the Year 1 outlays of $1,320 and converting to percentages. Some quick calculator work shows the ROI to be a staggering 727% for the first year. Think that's good? Consider the Year 2 analysis, in which the same $9,600 is saved but only $400 is spent to achieve the savings, thus yielding an ROI of 2400%. An aggregate ROI for the first two years of this example is simply an average of the Year 1 and 2 values, or 1564% if you do the math.
The payback period for this example is very short because the project generates more savings in Year 1 than it costs. In fact, if you divide the $1,320 in Year 1 outlays by $9,600 in Year 1 savings, you'll see that payback occurs in 0.14 years, or seven weeks! Think you can get management's attention with these calculations and supporting data? You bet.
I'll now draw some conclusions from my example and extend the logic to make some additional recommendations you can use in your day-to-day CAD management tasks.
Big savings from small investments. This example saved a lot of money with a very small investment of time and no software expenditure. Your management will love these types of efficiency improvements precisely because they generate big ROI values with no out-of-pocket expenses (you're already on the payroll).
Achieving savings is what ROI is all about. As you look at some sample cases, you'll start to think about how you can save money more than how you can spend it. This psychological shift is profound and one that your management will appreciate very much.
ROI shows the big picture. As you become more aware of ROI methods, you'll think more about how you work and how to make your workplace more efficient with minimal spending.
The formula always works. No matter what you're buying, programming or training, the formula of savings divided by outlays always covers the bases. Just make sure you capture all the outlays and you'll arrive at ROI values quickly and easily.
When you think about your job from an ROI perspective, you can't help being more business minded and value focused. When you combine your new-found ROI expertise with the technical skills you already have, you will be a true CAD management double threat.
Now that you know how to quantify the performance of an investment, you may want to go back to your budget and think about each item from an ROI standpoint. Reevaluating your budget to project some ROI values will take some time on your part, but the exercise will help you set your budget priorities. You'll also find that when you submit your budget backed up with some ROI computations, you'll get a tremendous amount of management respect and a smoother budget approval process.
I hope I've inspired you to start looking at your budgets and expenditures from an ROI perspective. If you'd like some extra practice, I invite you to visit my web site at www.cad-manager.com/roi.htm to work through some more complex examples. Until next time.
Robert Green performs CAD programming and consulting throughout the United States and Canada. Reach him at email@example.com.