21. Value Offsets Risk
,How much risk should we be willing to take on a given project? Whatever answer you come up with has to account for the potential value the project could deliver. No workable philosophy of risk-taking can ignore value. When the stakes are high, it’s worth running even serious risks. When the stakes are low, almost no risk should be tolerable.
If that paragraph seemed reasonable to you, you are in the minority. The IT industry seems to subscribe to an almost opposite philosophy: Take lots of risks when the benefit is negligible. How else can we possibly get costs down enough to justify this loser of a project?
This thinking has been the genesis of one of the most common but infamous working styles in our industry. . . .
Death-March Projects
On a death march, unflinching sacrifice from each and every project member is absolutely required. The project demands abandonment of personal life, tons of overtime, Saturdays and Sundays in the office, estrangement from family, and so on. Nothing less than total dedication to the project can be accepted.
Justification for the death march always takes the form of project importance: This effort is so essential that it requires the utmost of project personnel. But there is a bit of a conundrum built into that statement. If the project is so essential, why can’t the company spend the time and money required to do it properly?
In our experience, the one common characteristic among death-march projects is low expected value. They are projects aimed at putting out products of monumental insignificance. The only real justification for the death march is that with value so minuscule, doing the project at normal cost would clearly result in costs that are greater than benefits. Only with heroic effort can one hope to make the pig fly.
A second characteristic of death-march projects is that people are gulled into robbing their personal lives for the company’s benefit, believing that doing so will alone be sufficient to bring home a minuscule-value endeavor at so low a price that it all makes sense.
The third characteristic of death-march projects is that they almost always end up as total fiascoes with little or nothing delivered (usually at above-average cost) and with everyone feeling stupid and angry. There has to be a better way.
Take Risks Justified by Value
The better way is to let expected value guide you in deciding how much risk to run. In retrospect, the main reason we haven’t done this before is that we lacked the discipline to force value quantification. Particularly on low-value projects, we stood by a firm refusal to quantify value—it was the only way to keep the whole matter looking respectable. In the absence of declared value expectations, it was possible to make the case based on reduced development cost alone. The justification was essentially, “We’ll get the costs down so low that they’ll certainly be less than whatever value is reaped.”
Real project justification (you always knew this in your heart) requires balancing risk against value, as shown in this figure:
There is a mechanical problem here: how to decide whether the value shown on the left side does indeed offset the risk on the right. Since both value and risk are uncertain, to some degree, you would expect the trade-off to have some uncertainty about it, too. Recourse to hairy mathematics would provide us with an uncertainty diagram showing the combined effect of uncertain value versus uncertain risk. However, without using calculus, the best we can do is a RISKOLOGY simulation that shows the net benefit for a series of one hundred simulated projects. It produces a bar graph approaching the smooth figure shown here:
This simulation suggests that about one project in ten will have costs that exceed the value received. Nine times out of ten, though, the project should be expected to have at least some net benefit, with a net present value of $1.5 million, representing the approximate fifty-fifty expectation. Putting a few million dollars at risk for a fifty-fifty expectation of $1.5 million in net gains is a pretty respectable undertaking. Of course, if there is another project with a better net benefit profile, you’ll want to do that one instead. You have only a limited amount of risk capital to play with; the net benefit uncertainty diagrams guide you in deciding where to put it.