Savi chapter7

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CHAPTER 7, DECISION CRITERIA and SCOPING THE OPTIONS

From the problem solving model, figure 7.1, we have moved the highlight to “criteria and alternatives”.

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Figure 7.1, the problem solving model.

CRITERIACRITERIA

NON-FINANCIAL ANALYSISNON-FINANCIAL ANALYSIS FINANCIAL ANALYSISFINANCIAL ANALYSIS

PROBLEM STATEMENTPROBLEM STATEMENT

ALTERNATIVESALTERNATIVES

MAKE A CHOICEMAKE A CHOICE

IMPLEMENTATION PLAN & FOLLOW UP

IMPLEMENTATION PLAN & FOLLOW UP

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ESTABLISHING DECISION CRITERIA

• A decision criterion is a “driver” for choosing between alternative courses of action to solve a problem or take

advantage of an opportunity.

• The five Total Impact accounts represent the broad

framework for a set of decision criteria

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Financial Efficiency and Effectiveness

• This criteria documents the "cash-flow" impacts on the organization and stakeholder groups resulting from project alternatives

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Figure 7.2, the Financial Criteria• Sub Criteria • Measurement Concept

Financial returns to stockholders

• Return on Equity, Return on Assets, Profit margin etc. These are aggregate, or high level measures of financial success.

Operating cost savings• Productivity improvements such as reduced processing costs,

(materials and labour) sickness injury and absence, maintenance costs and support/overhead costs.

Salvage value of equipment• The sale of existing assets. (buildings, land). These benefits

flow at the end of the life cycle of the project.

Reduced acquisition costs of assets, goods or

services

• Lower costs of acquiring capacity through asset purchases. These benefit refer to being able to improve capacity through the purchase of more efficient capital assets that cost less to buy relative to the capacity achieved.

Asset value savings

• Workspace savings, (reduced office space) increased equipment utilization, (more capacity from existing machines) and asset life extensions, (prolonging the service life of producing assets.

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Social and Stakeholder Criteria.

• The remaining criteria have financial impacts that are not internal to the organization. The financial impacts are felt by stakeholder groups

– If two alternatives are identical in terms of financial costs and benefits, then the alternative that best suits the social system should be chosen out of a sense of social responsibility.

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Sustainability of the Economic Environment

– Organizations are recognizing that the economic system is a network of partnerships, … it is necessary for all organizations to prosper in order for the economic system to flourish.

– Organizations create jobs that stimulate the economy, and they create spin off businesses that support the organization. These benefits can be measured as follows:

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Figure 7.3, the Sustainability Criteria

Sub Criteria Measurement Concept

NEW EMPLOYMENT BENEFITS

• The primary quantified measure for economic development is the number of person-years of employment that is created and its duration.

• Provide estimates of the number or percentage of currently unemployed persons who will find employment as a result of the project, particularly regionally.

• Indicate what types of employment will be created, for example high versus low skill.

ECONOMIC ACTIVITY BENEFITS

• Identify the new business created by your initiative, specifically business that did not exist in the region before our project was in place. The primary benefit of stimulated business is the increase in in the flow of funds in the economic system.

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Stewardship of the Natural Environment

– The environmental criteria documents a wide range of potential impacts that project alternatives could have on the natural environment.

– The end result of effective environmental management is to cause an improvement in:• Wildlife health• Aquatic health• Vegetation health

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Figure 7.4 The environmental Criteria


Air emissions • Parts per million of airborne contaminants

Water emissions • Parts per million of waterborne contaminants

Contaminated soil • Parts per million of solid contaminants

Recycled materials• Quantity and proportion of recycled

materials to other forms of waste

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Safety of Employees and the Public (Social Impacts)

• The “Safe Keeping” of the quality of our lives therefore means that projects must be analyzed in terms of their impact on a broad range of social safety issues.

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Figure 7.5, The Social Impact Criteria


• Aesthetics• Areas of cultural,

historical or archaeological significance

• Quality of life• Equitable treatment of the

public

• Usually measured with a public opinion survey that captures the perception of stakeholders regarding the value they place on having the issues present in their social environment.

• Most frequently the measures centre around crime reduction, access to community services like schools and hospitals, the quality of the transportation system, access to day care and seniors homes.

• While it is the job of government to manage these things, it is the job of organizations in the system to support and finance these things.

• Recreation

• Count the change in the number of users of recreation facilities and other services. The assumption is that increased recreation improves health which reduces health care costs. Among youth, increased recreation reduces youth crime and the related victim costs.

• Public and worker safety • Accident rates both on the job and in the community at large

• The organization being a progressive employer

• Employee turnover, absenteeism, and other morale and employment equity measures.

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Customer Service Impacts

• The ultimate measure of customer satisfaction can be found on the income statement. If they are not satisfied, they will not buy from you!

• Who is the customer? The customer is the one who transfers cash from their account to yours.

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Figure 7.6, the Customer Service Criteria

• Sub Criteria • Measurement Concept

• Quality of products or services

• Customer satisfaction survey• Number of repeat customers• % Market share

• Cash-flow implications• Either positive or negative cash-flow implications on

customers in the form of prices and costs that are incurred through their usage of your products or services

• Market or one-time impacts to customers' land or property

• Cost or benefit impacts on real estate values or other assets owned by the customer

• Changes to the quality of non-core service

• Measures of attitude, friendliness, responsiveness, and professionalism as collected in a customer opinion survey

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Risk, often the most powerful criteria

• Risk is loosely defined as ‘the likelihood that a consequence that you don’t want, will happen to you.’

• A comprehensive analysis of the risks in a project will improve the decision process, and increase the likelihood that the optimal solution will be realized.

• First we will deal with the risks of assumptions made in analyzing alternatives.

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Dealing with risks in the analysis phase

• Some of the risks that should be considered are:

– timing of the project/cash flow sequence,

– project completion risk,

– assumption error,

– estimate error,

– obsolescence,

– risks related to operational efficiency, maintenance frequency and system reliability.

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Dealing with risks in the analysis phase

• Analyzing alternatives should address issues such as these:

• What are the risks and where is the major uncertainty in the project?

• How sensitive is the expected benefit/cost ratio or net present value to a change in assumption for important variables such as in‑service date, projected benefits or costs?

• How much of the project cost would be lost if something major went wrong?

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Dealing with risks from a total project view

• The procedure for a risk analysis is to take every single event and assumption in the project and ask the following questions:

• What could go wrong?

• What could go more right than expected? (too much success is risky)

• What is the likelihood of this event occurring?

• How will the effect be felt?

• What can be done to mitigate the effect?

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Dealing with risks from a total project view

• What system will I use to tell me when the risk event has occurred?

• What is the earliest possible time I can notice that things are not going as planned?

• What corrective action needs to be taken after the event has occurred?

• What risks are associated with staying with the status quo or the do nothing alternative?

• Am I comfortable enough with the probability and cost of risk to allow the project to proceed?

– There are two views of risk analysis, a micro view that deals with project specific risk and a macro view that deals with risks coming from the environment.

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The Micro View of Risks

• Project specific risks are those risks associated with project events such as:

• technical fit with existing systems

• projected costs and benefits

• supplier delivery and quality control

• meeting the installation timeline

– Project specific risks are generally regarded as predictable and controllable by managers.

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The Macro View of Risks

• The macro view deals with environmental risks that are outside of the project scope.

• technical obsolescence

• economic forces, (recession and inflation)

• legislative changes in areas such as environmental compliance and human rights

• population growth and preferences

– These risks might be predictable but are largely uncontrollable by the manager.

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The Macro View of Risks

• While these events are largely uncontrollable, a manager can still mitigate the effect of the risk by developing a system that enables early recognition of the event and having an action plan in place to deal with the consequences.

– Builders insurance, performance bonds etc

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Using Criteria to Rank Alternatives

• At this point you should have several criteria to use to assist in the selection of the best solution to a problem. The criteria define the dimensions of the analysis that alternatives will be subjected to.

• You will also find that criteria need to be weighted as to their relative significance in the decision process

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Using Criteria to Rank Alternatives

• The same logic holds in business decisions. Before you go shopping for alternative solutions to a problem, rank your criteria in descending order of importance, and put values on how the criteria will be measured, either in financial or non-financial terms.

– The “show stopper” is a single criteria that if un-met, will cause all alternatives to fail.

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IDENTIFYING ALTERNATIVES

• Identifying alternative courses of action involves the following steps:

• Use the problem statement

• Use the decision criteria

• Search for a limited number of alternatives.

• Put a boundary on the scope

• Don’t be afraid to challenge or shift existing rules,

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• All problem situations have a variety of alternative approaches:

• (Abandonment) Eliminate the problem by abandoning the process that is the cause.

• (Redevelop) Eliminate the problem by employing a new process or changing an old process.

• (Rehabilitate) Eliminate the problem by replacing the process with a similar process.

• (Do nothing) Stay with the status quo.

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• In general, a well scoped list of options will facilitate a logical and well balanced analysis of the possible solutions to a problem.

• Once we are satisfied that the complete set of logical solutions has been found it’s time to match the alternatives to the criteria and put the alternatives in order of attractiveness.

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Chapter summary

• This chapter was about building a framework for making a decision.

• The foundation of the framework is the set of decision criteria which will be applied to a set of reasonable alternatives which might solve the problem/opportunity.

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Chapter Summary

– There are two critical learning’s from this chapter.

• care must be taken to ensure that the set of criteria are complete and that the criteria have measures so that alternatives can be ranked.

• The scoping of alternatives must be broad enough to contain the best possible solution.

– Problem solving can be easy if you do it wrong, but you won’t be finding the best solution!

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Closing remarks

• We are almost ready to make a choice, except for one major element. Financial evaluation.

• The financial evaluation is often the most complex part of decision analysis. That’s why it is deserving of a chapter of its own.

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Savi chapter7