Companies that design and develop products are driven by two goals; one, to solve a consumer problem and two, be profitable doing it. Many companies assume that shortening the development cycle time equals profitability, but is that always true? What if rapid development came at the expense of other business objectives like product performance or unit cost? The problem with many companies I have seen is that they are not aware of or do not fully understand the key objectives of product development and how each one impacts profitability.
The Four Key Objectives
The first step is knowing which objectives or parameters to quantify. Once the objectives are known, we can create models to determine how each objective affects the other and how the changes impact profitability of the project. The models aren’t complicated. They are simply rough estimates that can be used as a guideline to make the best decisions during trade-off’s to maximize profitability.
The four key objectives that work the best and cover 99% of all development trade-off decisions are shown in the image below.
Managing new product development effectively depends on balancing the effort we put towards the 4 objectives. You’ll notice that there are six trade-offs in the image above. This is because any project has multiple objectives that must be blanced against each other. There are a number of other criteria, but most fall under one of the 4 key objectives shown above.
Product Introduction Date
The first objective or parameter is Product Introduction Date. This is measured as the date when the final product is first available for sale to customers.
Trade-off Example: an early Product Introduction Date might not be useful if the market conditions to make money on the product don’t exist yet.
Product Unit Cost
The second key objective is the unit cost of the product. This is the repeatable price at which the product will be sold once it hits the market. This measurement is usually the sum of the manufactured cost plus any variable costs that would factor into the gross margin.
Trade-off Example: In order to get a lower Unit Cost, the vendor has a higher Minimum Order Quantity which increases the lead-time for manufacturing, thereby affecting the Product Introduction Date. Going with high MOQ’s for a low unit cost also increases the company’s exposure to high repair and rework costs should the product quality be suspect.
Performance of Product
The third objective, Product Performance, is one of the most useful measurables. This is the total revenue stream of the product over its lifecycle. In my last post, I had talked about Cost of Delay, a measurement that quantifies the cost of a delayed introduction date in terms of product performance. By plugging in different objectives like Unit Cost, or a product introduction date, you can see the effect they have on the lifecycle revenue very quickly.
Trade-off Example: The company wants to delay the introduction date of a product by 3 months, so they can add additional features. By plugging in the new delayed launch date, a manager can see what the effect will be on lifecycle revenue versus the originally planned date. The change is typically not a linear relationship.
If the planned launch date is 3 months late, depending on the ramp up speed, you might lose more than 30% of the sales for that year and a large chunk of the next year. Depending on the market situation, you may lose sales every year for the remaining life of the product. Additionally, later release dates require additional development costs.
Cost of Development
The fourth and last objective is the costs associated with development. This measurable usually includes the one-time costs associated with the development of the product and includes costs from Engineering, Manufacturing and Marketing.
Am I missing a little something called Quality?
Product Quality is important, yes. But it doesn’t need to be broken out separately as it is a part of each of the four objectives. Product quality has a financial impact on all four objectives above.
For example, quality issues with engineering work during the development phase leads to rework, which increased development cost and impacts product introduction date through delays.
If manufacturers aren’t thorough during the quoting phase, they may miscalculate raw material yields and eventually have to raise prices which affects the unit costs. In addition, they may not do a thorough Process FMEA which results in first production quality issues leading to additional repair, rework (COPQ). The poor quality in turn affects both product introduction and product performance.
So, in conclusion, product quality is an important objective, but is already baked into the 4 key objectives of product development.
Making Trade-offs and Decisions
By creating a baseline profit model, managers can change values depending on different scenarios like delayed introductions, higher unit costs, increased development costs and see the effect of those changes on the lifecycle profitability. Even if this is calculated roughly, it is still better than having no data at all. It provides a great framework for strategic decision making and making trade-offs. Most importantly, it puts data in your lap and makes meetings like gate and design reviews much quicker and less prone to subjective opinions.
The baseline model and the created variations help us create rules around decision making and converts all 4 product development objectives into the common metric of lifecycle profitability. If you attempt creating a model for yourself, my advice is to keep it simple and spend a few exra hours making it as accurate as possible.
I’m going to be uploading a downloadable Excel template of the baseline model to my website soon. Check back on this post in a couple of days for a link.
References: Citations: [1] Smith, G Preston and Reinertson, Don. Developing Products in Half the Time, John Wiley & Sons, Inc, 1998