How to optimize your portfolio
[Originally published by Bionic]
The new realities of life in the pandemic have turned previously held assumptions about customers, value creation, and business models on their head. For organizations that are investing in and managing a portfolio of new growth initiatives, these past months should prompt leaders to ask these pertinent questions:
Am I still investing in the right growth opportunities?
Should I allocate resources differently?
How can I maximize the limited resources I have available to focus on the critical priorities in this collective new normal?
Whether you are investing in hundreds of innovation projects across the organization or managing a focused sub-group of projects with strategic importance, what leaders need now is more time spent focusing on existing initiatives and greater transparency into these initiatives, along with the right metrics to organize, evaluate, and fund (or de-fund) projects.
How should enterprise leaders ensure that their portfolios are optimized in a time of great uncertainty?
#1: Spend more time conducting due diligence on investment decisions
In a time where businesses are struggling to keep up with sudden changes — increased demands, decreased demand, regulatory safeguards, and more — focusing on innovation can seem like an aside. However, after wading through an exhaustive amount of research on angel and venture investing, we’ve honed in on two key factors that are positively correlated with higher rate of portfolio returns: prior experience as an investor and time spent in due diligence.
The average portfolio returns for an investor with no prior experience is just 2.4X, while the average portfolio returns for an investor with 10 or more years of investor experience jumps to 7.4X. Data also suggests that experience as an entrepreneur is correlated to higher returns. Nearly 60% of investors at Top Tier VC firms were either former entrepreneurs or former executives at entrepreneurial firms, as compared to 27% to other VC firms. Unfortunately, only 5% of CEOs globally have entrepreneurial experience.
So, how should enterprise leaders make up for the lack of experience? The answer is simple: time.
This research also found that when investors spend a median of 20 hours on due diligence per deal, they see returns of about 1.1X. Those who spent 20–40 had much higher returns (5.9X), and those spending 40+ hours per deal had even higher returns (7.1X).
Why is more time critical? It’s an opportunity to double down on the investments that are performing well and kill investments that are underperforming or no longer commercially relevant or viable.
Consider a large industrial company we partnered with to evaluate their expansive portfolio of new concept solutions. Historical data showed that only 5% of projects worked on were invalidated or found to be commercially unviable. For comparison, our benchmarking data points to an invalidation rate of closer to 50% for similar early-stage concepts. And, as enterprise leaders know, allocating significant funding to launch a new solution that turns out to be unsuccessful in the best case is a huge financial burden, and in the worst case, can be career-ending. To unlock and redistribute resources from their underperforming portfolio, we needed to kill their Zombies — unproductive projects that weren’t commercially viable, thus wasting both capital and human resources.
We were able to do this by systematically reviewing their projects and assessing what we refer to as “commercial readiness.” This involves a detailed analysis of key components of a project, including the team composition, critical business assumptions, metrics/KPIs, financial modeling, resources, operational plans and a review of the product/service MVP or Pilot. In doing this work, we identified opportunities to double-down on promising investment opportunities and kill (discontinue) continued investment in unproductive investment opportunities — returning 30% of the annual budget, while discovering and capturing growth for the core.
#2: Be efficient with how new opportunities are explored and de-risked
When we dug into other aspects of this company’s portfolio, we learned that the median cycle time from concept to first customer quote was 750 days (some teams were up to 1,100 days!). That cycle time indicates that if a five person team with an average salary of $200,000 per person is testing the concept, the company is spending upwards of $3 million just on human resources to get to a point where they would be comfortable presenting the solution to a customer to sell. This is simply too much capital to spend in this early stage. To compare, startups on average raise $75,000 in the earliest stages and only after over three years do they secure on average $2 million in seed funding. We knew that creating efficiencies in how they de-risked new solution concepts would be critical to the long term success of their innovation efforts and portfolio.
We started by working with the company’s growth leaders to implement a Growth Board, a decision-making body within the organization that leverages venture principles to allocate funding. Next, we coached their growth teams to articulate key assumptions, and then rapidly and inexpensively validated (or invalidated) those assumptions. Through this process, we were able to help this company decrease the median time from concept to first customer quote from 750 days to 200 days (with a maximum of 400 days, down from 1,100 days). We estimated that this efficiency alone saved the organization about two million dollars in human resources cost per project. Additionally, the organization had budgeted about 13 million dollars to spend across 100 decision points as the growth teams built and tested the desirability, feasibility, and viability of the new solutions. Through our partnership, the company was able to execute 82 funding decisions for just two million dollars. Additionally, the “kill rate” (stopped projects before significant investment) rose from 5% to 45%, which means we were able to surface Zombies more quickly and prevent further unproductive capital outlay by reallocating resources to more commercially viable opportunities. The teams also qualitatively reported feelings of empowerment, as they were able to stop projects as key assumptions were invalidated and significant dollars invested.
The concept of what we refer to as Zombie Killing is paramount for growth portfolios ordinarily, but especially during a major disruption like COVID-19 when things are changing even faster than before.
#3: Rethink the key decision-making metrics
A report published by KPMG found that almost 26% of enterprises do not track the financial impact of their innovation work. Those that do use financial metrics often make the mistake of using the same metrics for evaluating their innovation portfolio as they use to evaluate their mature core business units. The problem with this approach is that metrics like NPV (Net Present Value) and IRR (Internal Rate of Return) require assumptions about inputs that are usually unknowable in the earliest stages of a new business. In fact, when new customer groups, their needs, and possible solutions to those needs are weighed, this is even more pronounced. In the best case, under the right expertise, using these core metrics can result in false but directionally useful predictors of an initiative’s future performance. However, when not used correctly, these core metrics distract from asking the right questions and getting the right answers, and in doing so, focus investments and resources in the wrong direction.
In order to find actionable, concrete insights about the health and performance of a growth portfolio to maximize cost efficiencies in the short-term and ensure top-line growth in the long-term, we counsel our partners’ growth leaders to analyze and weigh five key indicators. If done well, this process helps leaders uncover zombies, identify levers to increase speed to market, and discover opportunities to double-down. This process clarifies the likelihood of achieving their growth goals during a given time frame. Leaders will be able to see the gaps and make informed decisions about reallocation of funding and resources to ensure their future growth goals are met.
These are the key indicators to watch:
Size of portfolio: How big is your new growth portfolio overall? Just as venture investors understand they need to make many bets to see a few big wins, enterprises need to have a healthy number of active initiatives at any given time if they expect to see returns on their growth portfolio. In fact, for the best performing funds, less than 20% of their deals generate 90% of the returns. However, while a larger portfolio is more likely to yield returns than a small one, a well managed and targeted small portfolio is more effective than a poorly managed large portfolio. Recently at Bionic, we were working with a global food company and we challenged the size of their growth portfolio when their revenue expectations tripled and their growth portfolio remained unchanged. We guided them to factor in success rates and speed-to-market in order to identify the right number of ideas they should be working on to realistically hit their growth target. Ensuring that the portfolio is being regularly refilled is paramount to continued portfolio returns.
Alignment to strategic interests: The number of bets your enterprise has is irrelevant if those bets are not aligned to the growth strategy of the organization, or do not reflect external forces. Every initiative has factors to consider for determining the overall time-to-market, technical readiness, and degree of disruptiveness. In the face of stagnant growth, long-term bets must be made in net-new spaces. If your time horizon is short, disruptive bets may not be realistic. Understanding such factors and their implications is critical, so that leaders only fund projects directly aligned with specific growth goals. We’ve seen that a clear and aligned growth strategy enables learning velocity at the project level because it allows for more clear, fast, and empowered decision-making.
Quality of individual initiatives: Assuming you have a large portfolio of initiatives, and each is aligned to the strategic interests of the organization, how strong is each individual initiative? We look for customer evidence and signals specific to the growth stage of each initiative. Key factors to measure and understand the quality of each initiative are strength of the team, efficacy and adoption of the solution, size and maturity of the market, and defensibility. We believe it is necessary to revalidate previously understood truths in order to move forward.
Velocity of initiatives: How quickly are the initiatives in your growth portfolio progressing? By monitoring the speed-to-commercialization and developing benchmarks to understand performance relative to the stage, business model, and industry, we help partners identify friction in their systems and work with them to augment their organizational capabilities to enable a faster rate of learning. While working with and assessing the growth portfolio of a global CPG company, we quickly identified that 85% of the growth teams were approximately 40% slower than external teams in analogous growth stages. We posited that if the teams continue at this rate, they would miss their growth target by $10–15 million. We dug in deeper to understand the key causes for the slow down. We learned that teams were struggling because they did not have the right expertise on the team. We also found that there was very little accountability between the teams and growth leaders, which led to slow decision-making and a lack of clarity around goals. Overall, we discovered that the organization lacked key systems for validating and incubating ideas directly with customers. We were able to work closely with their growth leaders and teams to identify specific solutions to implement across their portfolio and unlock the speed needed to hit their growth goals.
Burn rate: By measuring the burn rate — the rate at which a project spends money in excess of income — we enable our partners to understand, compare, and forecast on-going operational costs for growth efforts at both individual and aggregate levels. This visibility allows a team to make informed funding decisions to reach their growth goals across the whole portfolio. We counsel growth leaders to encourage teams to explore non-traditional ways of assessing opportunities that are more aligned to early-stage concept development. It is tempting for organizations to leverage expensive, quantitative testing ahead of key funding decisions, but we’ve seen that the use of these tools in very early stages of concept development does not allow for the qualitative rigor and texture that other tests and tools afford.
Size, alignment, quality, velocity, burn rate — if these five factors are strong, it is a good indicator that the portfolio overall is healthy. If some or all factors are weak, your growth portfolio is likely to have problems and may not be on track to meet growth goals.
A successful portfolio is where bad ideas die and good ideas grow, and the only way to arrive at both outcomes is by focusing on commercial truth (validated customer evidence). By spending more time, creating more transparency and developing and watching specific metrics around these factors, leaders can organize innovation efforts across their organization, measure performance, and allocate resources at a portfolio level, in order to ultimately arrive at their growth goals, even in a highly variable climate.
By: Godfrey Bakuli, Viv Goldstein, Stephanie Schott, and John Geraci