Innovation Presentation PDF

Innovation Prof. Winifred Ijomah What is Innovation? What is Innovation? innovation n. 1.something newly introduced, such as a new method or device. 2. the act of innovating. The Collins English Dictionary Why Innovation? Research has shown that innovation is associated...

Innovation Prof. Winifred Ijomah What is Innovation? What is Innovation? innovation n. 1.something newly introduced, such as a new method or device. 2. the act of innovating. The Collins English Dictionary Why Innovation? Research has shown that innovation is associated with: Increased market shares Higher growth rates Greater profitability  Innovation Introduction: the case of smartphones Market is highly competitive and constantly changing ➔ only the most innovative companies i.e. able to adapt rapidly market to market transformation can survive and succeed. Example: Mobile phone and early personal digital assistant (PDA). Nokia was once mobile phone world leader while Palm was PDA world leader. Apple combined those two well-established technologies into a single, consumer-oriented easy- to-use device. Innovation Introduction: the case of smartphones What happened next? Palm does not exist anymore. Nokia phones were acquired by Microsoft, branded Windows Phone then were phased out. Apple ruled the market for a while with little competition Then Samsung innovated. Drove market differentiation by focusing on a different segment of consumers that Apple neglected. Innovation Introduction: the case of smartphones What is happening today? Innovation Introduction: the case of movies  Innovation Introduction: innovative companies? Constant business model evolution: e.g. voice assistant (Alexa); “World Without Dyson Constant new products e.g. robotic robotic systems, Waste.”, DVD rental service into an vacuum cleaner in Prime Air drones. Sugar reduction; 98 online streaming platform- no 2005, recipes waiting for DVD delivery Invention vs. Innovation Invention vs. Innovation INVENTION INNOVATION To use - the process by which an To conceive the idea invention or idea is translated into the economy Sir Timothy John Berners-Lee is an English computer scientist, best known as the inventor of the World Wide Web. Invention vs. Innovation Innovation Funnel Innovation: a business perspective “Innovation is the creation and delivery of new customer value in the marketplace with a sustainable value for the enterprise producing it.” Stanford Research Institute Innovation encompasses: Novelty: creation of something new Value: what is created has some value according to the customer Market: invention is transferred to the market to become an innovation Economic Sustainability: innovation should generate sustainable value for the organisation Innovation: a business perspective Repositioning Totally new Novelty for the market Improvement Imitation Novelty for the organisation Types of Innovation Based on what is being innovated: Product: takes established offers in established markets to the next level Process: makes processes for established offers in established markets more efficient or effective Technological: development of a new technology, which creates new business sectors; Management Types of Innovation Based on what is being innovated: Business Model: reframes an established value proposition to the customer or a company’s established role in the value chain or both Application: takes existing technologies into new markets to serve new purposes; Marketing: improves customer touching processes e.g. by marketing communications or consumer transactions; Experiential: makes cosmetic/surface modifications of established products or processes that improve customers’ experience  Product Innovation Developed first foldable screen for technological products New functionalities for the products it is associated with Process Innovation Eliminate animal testing Organisational process change Social responsibility;  Management Innovation Introduced flexible working hours, long before COVID-19 lockdown. Unlimited leave for certain Employees. Work-from-home options to attract talent Aiming to increase productivity Business Model Innovation Product 2: customer pays additional products and services Revenue Generation!!! ORGANISATION CUSTOMER Product 1 (air ticket): customer receives it at low fair Application Innovation Leading film producer in the 90s along with Kodak; Development of digital cameras updated the technology in that sector; 1.5 years of technological auditing to explore potential other application sectors; Today a leader in LCD screens polarizer films building on previous experience; New application sector in the cosmetics industry, taking advantage of knowledge in oxidation and collagen;  Types of Innovation Incremental innovation: Gradual improvements or refinements to existing offerings. e.g. Coca-Cola: core product formula stays constant but bottle design is constantly updated for aesthetic/ sustainability purpose Disruptive innovation: Improves on existing market by exceeding customers’ needs, eventually displacing the old market. e.g. light bulb & cellphone -profound break with previous patterns, bringing about major changes in people's lives. Radical innovation: Destroys the current market and value network & creates new one E.g. Netflix ; Tesla, an entirely new vehicle type with their electric cars Incremental Innovation Most common type of innovation; Also called sustaining or routine innovation; Highly effective; Lower risk; Incremental Innovation New investments in machinery & equipment, and skills development in the labour force are typically required to use state-of-the-art technologies effectively. The quantity and quality of these key factors, and the way in which they are organised, managed and utilised within a firm are what determine productivity performance.  Disruptive Innovation Methods: Take cheaper, low-end disruptive innovation to market Take a new market disruptive innovation to the market Example: Microsoft Xbox/ Sony's PlayStation: Static videogame experience, Nintendo: Players move and use their body as primary way of interacting with the game. Types of Innovation What is innovated? How is it innovated? Incremental Radical Fiat Punto – subsequent improved versions of the Toyota Prius – 1st hybrid car same car model Product Lights – improved efficiency LED lights Telephone – improved Skype landline quality Process Auctions – improved Ebay operations  Innovation is not easy Multiple challenges exist in innovation: Excessive focus on the core business ➔ lack of field of vision to identify potential disruption coming (e.g. Polaroid with film photography); or, you may see it coming but decide not to act (e.g. Swiss Air ignored low cost airlines); You may be operating in a business where you do see a potential disruptive opportunity.... but how do you convince management that you should be moving in this direction?... especially if it could pull the rug out from underneath the entire existing business? When you are a junior member of an organisation, it is not easy to convince a confident,knowledgeable, senior leader that they should invest in something that might eradicate their current business. How will you convince people of your innovation? Innovation is not easy Studies of Product Innovation consistently point to a high level of failure to progress from original idea to successful product in the marketplace. A survey of 14,000 organisations implementing an IT upgrade suggested that 80% are delivered late or over budget, around 40% fail or are abandoned and only 10-20% meet their success criteria Managing something new – no frame of reference; Optimistic project planning; Factors of Uncertainty – Technical, Social, Political, Market; Innovation is not easy... sometimes we have not even fully understood the innovation ourselves... Marconi believed that the radio would serve primarily as an instrument for point-to-point communication in situations where communication by wire was not available. They thought that the computer would be useful only in a few specialised research projects. Western Union (money transfer) refused to buy Bell’s (split up now into AT&T & Verizon) telephone patent when it was available for a mere $100,000. Innovation: Generating Ideas Where do ideas come from? KNOWLEDGE + STIMULI + INSIGHT.. and how can you prepare yourself to successfully convince others that you have a great idea? Innovation: Generating Ideas Knowledge & Stimuli surround us.. Consumer needs Process Competitors Business needs activities strategy Customer Supply chain Business needs needs model Brainpower Technological Global trends Local trends advancement RESEARCH!!! Innovation: Checklist What is required for Innovation? A market orientation Relevance to the organisation’s corporate objectives An effective project selection and evaluation system Effective project management and control A source of creative ideas An organisation receptive to innovation Commitment by individuals Twiss, (1989) Innovation: Conclusions Innovation is a continuous process of discovery, learning and application of new technologies and techniques from many sources. Imagine what impact innovation will have when this new thing or new idea contributes towards growth, revenue, the rapidly expanding market and/or business. Creativity & Innovation Recap Prof. Winifred Ijomah Katharina Johnston-Lynch Innovation Recap What is Innovation? innovation n. 1.something newly introduced, such as a new method or device. 2. the act of innovating. The Collins English Dictionary Innovation over time The Rate of Innovation may decrease when a dominant design is reached (with good market penetrability), but process or technology innovations related to product development, production, or end-of- life processes may take place beyond this Factors encouraging/ affecting Innovation Scientific discoveries Focussed outwardly beyond Market demand Applied knowledge Proliferation of the invention and creative application areas Recognized needs Intellectual capital processes behind it, onto Recognized needs (scientists & market aspects also! Opportunities for engineers) increased profitability, quality, productivity Innovation & Leadership in the Market Opportunities Risks Name recognition Assumes large costs Better market position Need to sustain the lead A chance to define Large initial investment the industry standard Market uncertainty A head start on the Target learning curve Protective barriers High Profit Innovation & business perspectives Repositioning Totally new Novelty for the market Improvement Imitation Novelty for the organisation Imitation and Improvement carry least risks as: More market existing market reaction available for analysis More evidence of opportunity of profitability for investors Reverse research may be conducted Existing products may be improved on Previous Marketing pitfalls may be understood and avoided  Innovation & business perspectives Repositioning Totally new Novelty for the market Improvement Imitation Novelty for the organisation If used appropriately, imitation can be a strong way of innovating for a business, as there is less likelihood of an element of surprise related to an established market, and the success of similar products has been proven However, such (imitation) solutions offer least creative elements Innovation vs. Invention INVENTION To conceive the idea INNOVATION To use - the process by which an invention or idea is translated into the economy How is Creativity related to these concepts? Creativity Overview What is Creativity? Creativity The act of turning new and imaginative ideas into reality It is characterised by the ability to perceive the world in new ways; finding hidden patterns and connections between seemingly unrelated phenomena, to generate solutions What is Creativity? Creativity Be careful: Creativity MUST have VALUE, otherwise it is just something different for the sake of being different! What does Creativity involve? Thinking & Producing If you have ideas but don’t act on them, you are imaginative but not creative. Linda Naiman, Founder of Creativity at Work Creativity Thinking & Skills: Qualities of a Creative Person According to Dr. Todd Siler, (‘Think like a Genius’,1997) Curiosity: Questioning Openness: Flexibility & Respect for new and alternative solutions Risk Tolerance: The courage to leave your comfort zone and make mistakes, and have risk awareness Energy: Passion and eagerness to work/ develop topic Further characteristics: Fluency: Ability to generate and process large amounts of (topical) data with ease Flexibility: Ability to generate different kinds of data Originality: Ability to be different from the rest of the ideas generated Combining: Skills + Expertise + Motivation Creativity: Thinking Involves the ‘right brain’ mostly, but also influenced by the ‘left brain’ Right brain functions Left brain functions uses feeling uses logic "big picture" oriented detail-oriented imagination rules facts rule symbols and images words and language present and future present and past can "get it" (i.e. meaning) reality based believes math and science appreciates comprehension spatial perception acknowledges knows object function order/pattern perception: fantasy based association presents possibilities forms strategies impetuous practical risk taking safe Creativity: Thinking Other research argues that the ‘left brain’ = logical, ‘right brain’ = creativity is a myth Some research suggests the brain is segmented into regions called lobes. Your lobes isolate your brain’s functions to specific areas. Frontal Lobe (front of brain): controls your body movement, personality, problem-solving, concentration, planning, emotional reactions, sense of smell, the meaning of words, and general speech. Parietal lobe (upper middle of the brain): controls your sense of touch and pressure, sense of taste, and bodily awareness. Temporal lobe (middle of the brain): governs your sense of hearing, ability to recognize others, emotions, and long-term memory. Occipital lobe (backside of the brain): controls the important sense of sight. Cerebellum (lower backside of the brain): governs fine motor control, balance, and coordination. Limbic lobe (middle of the brain): controls emotions. Obstacles and Barriers to Creativity Having conflicting goals and objectives Perceptual blocks Self-management: Not allowing yourself Emotional blocks enough time to relax and process Intellectual blocks information Fear of criticism Time-management: Lack of focussed time due to being too busy Lack of confidence Lack of stimulation State of mind/body (negative stress reactions) Lack of resources to translate thinking to producing Over-bounding the problem: Do not assume boundaries that are not there! Stereotyping is sometimes negatively connotated to lack of creativity – but are there benefits of it for creativity, too? Stereotyping: an obstacle? Stereotyping is involved in storing and retrieving items in/from LTM This may be done by context or association and may help with better visualising new composite situations Example: What comes to mind when thinking about a ‘Roman Room’? A creative visualisation? Does stereotyping always stifle creativity = NO It can: Allow people to complete incomplete data & is very important in design Stereotyping should be used cautiously and appropriately! Innovation & Creativity The creating/ Thinking INVENTION Realising the invention using creativity, within a market context INNOVATION To conceive the idea To use - the process by which The skill/ ability to create: channelling imagination into an invention or idea is something concrete translated into the economy CREATIVITY Focus on the realisation (producing) of the invention methodically (not necessarily focussed on its market positioning) Creativity: Thinking to Producing We need to be aware of our pre-programmed ways of thinking & their sources, to be able to step outside this to make UNUSUAL, CREATIVE CONNECTIONS AWARENESS + TOOLS & METHODS NEEDED Awareness of: Tools & Methods: Our experiences from birth The Possibility system: Influences of parents, Hypothesise, speculate, schools, religions etc imagine How the outside world Use Edward de Bono’s directs our attention “Six Thinking Hats” Degree of thinking skills Various frameworks developed e.g., training Thought-showers Self-imposed limits Mind-mapping, etc. Teamwork can enhance creativity beyond individual biases and delimitations! Creativity: Thinking to Producing “If you change the way you look at things, the things you look at change” (Dr Wayne Dyer) Creativity: Producing – Tools & Methods: Further Overview Tools & Methods Examples: Tools & Methods Examples: Lateral thinking 6-3-5 method Thought showers Modelling Reversal De Bono’s 6 thinking hats Word association TRIZ Analogy Random object Creative excursions Break the rules Osborn’s checklist Draw it and give it a title Morphological analysis Tools & Methods: De Bono’s 6 thinking hats Tools & Methods: Frameworks Tools & Methods: Frameworks Tools & Methods: Thought Showers Most effective with groups & allowing for the producing Varied groups are advantageous of a wide range of ideas and solutions Create an open and How to: collaborative environment: Define & state problem & goal Focus on quantity not Your goal should allow the detail Set a time limit problem to be tackled! Welcome unusual Collect ideas around ideas problem Withhold criticism Combine & Recombine ideas Be constructive: Build An iterative process: on one another’s Generate ideas Combine & Recombine Tools & Methods: Thought Swarming Start by placing the goal you want to achieve on the top of the graph. Place the resources that are available to you at the bottom of the graph. Without conferring, place sticky notes and lines on the graph between resources and goals. Tools & Methods: Thought Swarming Top down thinkers will start their thought process from the goal, working their way to the resources. Bottom up thinkers will make use of the resources by adding more and analysing how they can be used. Eventually, ideas and points from the two directions will connect, thereby creating many solutions to the problem. Tools & Methods: Thought Swarming: Example Tools & Methods: Mindmapping A powerful graphic technique Similar to a road map, a Mind Map will Give you an overview of a large subject/area Enable you to plan routes/ make choices and let you know where you are going and where you have been. Gather and hold large amounts of data for you. Key advantages: Encourages problem solving by showing new creative pathways Let you see the whole picture and detail at the same time Tools & Methods: “Mindmap Laws” (Good practices) Use Emphasis Use a central image or distinguish central core problem Use stylistic variations where appropriate and for emphasis Use organised spacing Be Clear Use Association Use only one keyword per line Use arrows when you want to make connections within & Print all words across branch patterns. Print keywords on lines Use colours Make line length equal to word length Use codes Connect the lines to other lines Make the central lines thicker Tools & Methods: Osborn’s checklist Aim: a simple tool in the form of a series of questions about ideas and problems. Process: Questions/ problems need points of focus (e.g., an existing solution or a new proposed concept), & Questions should be considered one at a time Tools & Methods: Morphological analysis A systematic and structured way to create new ideas Aim: to categorise sub-functions or characteristics that can achieve a particular function or goal or solve a particular problem Process: Matrices are used to explore possible permutations Past and present solutions are identified Remaining permutations are new and offer new and perhaps novel solutions to the problem Evaluate the new solutions to find those that are technologically feasible Tools & Methods: Morphological analysis Example: Mouse trap (The function of a product is what the product does without considering any particular solution, so we decompose based on these) Different sub-function solutions could be combined in different ways for finalised combinatory solution Business Model Canvas Professor Winifred Ijomah Overview Insight into how your idea can create, deliver and capture value i.e. how can you can have a successful business, make money from your idea and a have a social impact. Business is NOT about the idea – it is about the execution. The importance of having a business model and the right one to help you do this. Introduce “The Business Model Canvas” to help you evaluate your options for commercialisation and the routes you need to take. Business Model "A business model describes the rationale of how an organisation creates, delivers and captures value” (Osterwalder e Pigneur, 2005) “In mathemathical terms, the business model represents the derivative of the organisation’s strategy” (De Toni et al., 2012) Business Model vs. Business Planning Business model is a blueprint Allows you to test the feasibility of your idea where you can adapt or change Allows you to go through the processes and the thinking behind a business plan, gathering the information that will allow you to construct one. Business Model Canvas A strategic management and lean startup template for developing business models Effective both to map existing business models and to design new business models Visual tool to facilitate communication Business Model Canvas Business Model Canvas Nine (9) building blocks for building the right commercial business model for your idea. These building blocks slot into the 4 main areas of business: Customers The ‘offer’ Infrastructure Financial viability  Getting started… Building your value and beginning commercialising your idea. Right hand side of the canvas Exploring its potential. Main intial triangle of analysis – customer segments, value propositions, revenue streams. Emotion – what you want the customer to feel. Getting started… Left hand side The activities and resources of the canvas that underpin getting of the product and/or service to your customer. Logic and efficiency are the focus Customers Segments The various groups of consumers or businesses that the organisation is willing to reach to offer its products and/or services Key Questions Who are your most important customers? For whom are you creating value or solving a problem for? Is it a mass market with broadly similar needs? Is it a niche market meeting specific requirements? Customers Segments Segmented with two or more groups with slightly different needs (e.g. Banking vs. Cash Loan Companies) Diversified with two or more unrelated groups with different needs and problems (e.g. Amazon and cloud computing). Multi sided – free newspapers need readers and advertisers Customers Segments Cost Leadership Differentiation Overall Focus Segment Customers Segments Cost Leadership Differentiation Overall Focus Segment Customers Segments Demographic Segmentation – based on gender, age, occupation, marital status, income, etc. Geographic Segmentation – based on country, state, or city of residence. Local businesses may even segment by specific towns or counties. Technographic Segmentation – based on preferred technologies, software, and mobile devices. Psychographic Segmentation – based on personal attitudes, values, interests, or personality traits. Behavioral Segmentation – based on actions or inactions, spending/consumption habits, feature use, session frequency, browsing history, average order value, etc. Build a customer profile Customer: Business (B2B) or Consumers (B2C)? Or both? Dig deep – define as much as possible as your customers dictate other parts of your business model including distribution channels, relationships and how much they will pay for your product or service. Think age, gender, location, job and different options for segmentation Value Proposition The image of the products and services offered that generate value for each specific customer segment This is your product and/or service that will create value or solve a problem for the customer segments you have just identified. This is why they will choose you over another competitor Think what value are you delivering. Value Proposition Key Questions: Which value are we transfering to the customer? Which problem of the customer are we contributing to solve? Which needs of the customer are we satisfying? Which products and services are we offering to each customer segment? Value Identifying your value or unique selling point (USP) Disruptive – meeting a need customers did not know they had (e.g. Introduction of mobile phones) Performance (e.g. Cars, technology) Customisation (e.g. Tailor vs. Primark) Design – stand out (e.g. iPad) Brands (e.g. Nike) Price – if low cost, what are the implications for rest of the business model? Value Risk reduction Accessibility – e.g. NetJets Europe (is a fractional ownership program where customers purchase a fraction or share in one specific aircraft type, starting at 50 hours a year. Owners retain financial and legal control over the asset and the share is assigned to a specific serial numbered aircraft.) Convenience – e.g. Spotify, iTunes and Amazon seamless music searching, buying and listening. In 2018 Amazon launched their new food delivery app to make it easy for customers to purchase food – this was seen as a innovative disruptor for the retail industry back then. Channels The way the organisation communicates to each customer segment and reach them to provide them with the offered value Route to the market Communication - how the customers will know about your product and/or service Distribution - how the customers will get your product and/or service Channels Key Questions: Which channels do customers prefer to be reached out through? How are customers currently being reached? How are different channels integrated? Which channels are performing best? Which are the most convenient channels? How do channels relate to the customers’ habits? Channels One of six designs is usually used to design the distribution network (to the end consumers): 1. Manufacturer storage with direct shipping 2. Manufacturer storage with direct shipping and in-transit merge 3. Distributor storage with carrier delivery 4. Distributor storage with last-mile delivery 5. Manufacturer/distributor storage with customer pickup 6. Retail storage with customer pickup Channels Channels Channels are not only about distribution network and delivery, but also about: Awareness about the product (communication, advertisment) Purchase options for the customer (e.g. Online sales only, online and physical sales options, physical sales only); Owned – website, shop, in-house sales Partner channels – other shops, websites After sales services – post purchase support ➔ impact on customer relationships  Customer Relationships The type of relationships the organisation establishes with each customer segment Automated, personal assistance with some human interaction or dedicated assistance. Online communities like Amazon who started with book reviews and GlaxoSmithKline (Pharmaceutical) employee assistance programme (EAP) providers give staff greater access to cognitive behavioural therapy (CBT). Co-creation – Lego, Facebook, Instagram, YouTube Think cost – what if your value is low cost? Customer Relationships Key Questions: Which relationship do each customers’ segment expect we establish? Which relationships have we established? How much do they cost? How are customer relationship related to the rest of the business model? Revenue Streams The revenue streams to be obtained from each customer segment How you are going to make your money? Is it a one time payment (e.g. Unlocked phone) or are there recurring revenues from ongoing support (e.g. Phone linked to a phone company)? Are you selling a physical product, are you offering “usage” like a hotel or “subscription” like a gym or a mix of the above Revenue Streams Key Questions: For which value are our customers willing to pay? What are they currently paying for? How are the customers currently paying? How would they like to pay? How does the revenue streams contribute to the overall revenues? Product or Service? Source: Adapted from Earl W. Sasser, R. P. Olsen, and D. Daryl Wyckoff, Management of Service Operations (Boston: Allyn Bacon, 1978), p.11. Revenue Streams Licensing – your customers can use your protected IP in exchange for a licensing fee (e.g. Microsoft Office software available at Strathclyde, Mickey Mouse image reproduction) Franchising (e.g. McDonald’s, Subway) Fixed price (subway ticket) or dynamic fee (airplane ticket). Moving to the left side of the Business Model Canvas Focus shifts from the customer and the value proposition towards an internal perspective What you logically need to implement and achieve the right hand side of the Business Model Canvas Key resources The most important resources to sustain and deliver the business model This is what you need to make your product or service, offer it, market it, build customer relationships and earn revenues Physical - plant, vehicles, buildings, distribution networks Financial Intellectual – brands, patents, customer databases Human resources Key resources Ownership of resources Lease of resources (e.g. Warehouses, increased flexibility, lower fixed costs) Borrow or barter Obtain them from key partners (buy instead of in-house) Key resources Key Questions: Which are the key resources required to offer our value? Which are the key resources for our distribution channels? Which are the key resources for our customer relationships? Which are the key resources for our revenue streams? Key activities The tasks that the organisation has to perform in order to sustain and deliver the business model Production – design, make and deliver a product Service – keep coming up with new solutions to customer problems – Microsoft vs. Dell; Develop good supply chains – Dell, Amazon, Zara; Reach markets and maintain customer relationships; Maintain platforms and websites – eBay; Key activities Key Questions: Which are the key activities required to offer our value? Which are the key activities for our distribution channels? Which are the key activities for our customer relationships? Which are the key activities for our revenue streams? Key partnerships The network of suppliers and other partners required to sustain and deliver the business model Network of suppliers and partners Alliances - can help you optimise and manage risk or acquire resources Joint ventures (e.g. entrance into new markets) Strategic partnerships with non-competitors (e.g. Google and Luxottica) Key partnerships Key Questions: Who are our key partners? Who are our key suppliers? Which key resources do we obtain through our partners? Which key activities are performed by our partners? Cost Structure All costs required for the organisation to sustain and deliver the business model Some business models are driven more by their cost structure (e.g. Ryanair) Cost driven – minimising costs wherever possible (e.g. Automation with customers, self-service by the customer) Value driven – usually high degree of personalised customer service. Fixed and variable costs Cost Structure Key Questions: Which are the most significant costs in our business model? Which are the most expensive key resources? Which are the most expensive key activities? Conclusions and Next Steps… Customer at the heart of your business model: “There is only one boss; the customer. And he can fire everybody in the company from the chairman on down, simply by spending his money somewhere else” Sam Walton, Walmart What assumptions have you made about your market? How do you test these assumptions? Create as much value information as you can in your business by research and start to construct a plan to deliver. Writing a Business Plan Professor Winifred Ijomah Katharina Johnston-Lynch Overview Business is NOT about the idea – it is about the execution. Moving from the business model to the business planning Development of a Business Plan report Business Plan Business Plan is built on an idea which can be exploited; Business Plan needs to satisfy a need perceived from a sufficient number of customers; Business Plan details a product or service that covers such need; Business Plan It is a written document that describes the business, its objectives, its strategies, the market it is in and its financial forecast. It has many functions – from describing the innovative product offering, funding for business start up to measuring success within your business proposition. Business Plan The aim of the business plan is to evaluate the feasibility of a business Audience Entrepreneurs and their partners; External funders; Development of a Business Plan A business plan should be well-structured, well- researched, and have realistic goals for the business to follow. It should be: - Complete & Concise, tackling all essential areas - Understandable to non-experts - Realistic, based on well-defined assumptions - Well-structured A business plan is a document that a business should be able to use regularly to try to build and grow the business within a chosen market Business Plan as a source of Information Readers of a business plan should be able to answer the following questions (and potentially more): 1. What is going to be produced? 2. How many quantities are going to be produced? 3. Where is it going to be produced? 4. Who is going to be the customer of the product? 5. How is the product going to be offered to customers? *(Essentially those areas the Business Model Canvas also touched upon) Preparation of a Business Plan Keep it concise The two main reasons for this centre around its usefulness: - If a business plan is hundreds of pages, where not required, not many people will read the plan, this may affect engagement - You (the business) should be able to use the plan as a guideline on how the business is financed and run/ operated. It is impractical for this to be too long.  Preparation of a Business Plan: Plan Outline Example Business Model Canvas Business Model Canvas Synergies Synergies Activities, Resources, Partnerships… Considering Understanding your customer the market in (the user of more detail and your product/ competitors service) and their needs i.e., to strengthen i.e., Customer understanding segments & of Customer Value segment & how Propositions your value in more detail proposition may set you apart Revenue streams affirmations & Cost Structures Revenue streams identification Channels (Customer Relationship & Distribution) Week 3: Financial Plan Professor Winifred Ijomah Overview Fixed and variable costs Profit and loss statement Time value of money Cashflow Reporting financial information Payback period Net present value Fixed and Variable Costs Which is better ‘value’ for the consumer? 300ml 500ml Selling price- £1.80 Selling price - £2.20 1.80/3 = 2.20/5 = 60p per 100ml 44p per 100ml The large variant is better value for the consumer  Fixed and Variable Costs Which is more profitable for the company? 300ml 500ml Cost to produce - £1.60 Cost to produce - £1.62 Sales price - £1.80 Sales Price- £2.20 Profit per cup = 20p Profit per cup = 58p The large variant is more profitable for the company Fixed and Variable Costs VC: changes with quantity of the good/services produced FC: constant irrespective of quantity/ sunk costs  Fixed and Variable Costs Variable costs (VC) A fraction more coffee A little more hot water A little more packaging Fixed costs(FC) Wages Rent Equipment Total Cost (TC)= Fixed Cost (FC)+Variable Cost (VC) Utilities etc. Terminology Profit and Loss (P&L) Statement: Financial statement summarizing revenues, costs, and expenses incurred during a specified period e.g. a fiscal quarter or year. Identify whether profit /loss making, improvement areas Revenue vs. Profit Revenue (sales): total income from the sale of goods or services related to the company's primary operations. Does not deduct any costs or expenses associated with operating the business Profit, (net profit/bottom line): amount of income remaining after deducting all expenses, debts, additional income streams, and operating costs. A company generate revenue but have a net loss. Profit and Loss Structure A profit and loss structure Period 1 is not static, but it evolves over time Period 2 ……………. Time Period N..  Profit and Loss Structure Fixed Sales Fixed Income Cost Variable + Price x x Cost + Fixed costs, are Fixed income refers to any type business expenses that arenot of investment under which the Income Expenditure dependent on the level of goods borrower/issuer is obliged to or services produced by the make payments of a fixed amount business. They tend to be time- on a fixed schedule: for example, related, such as salaries orrents the borrower hasto pay interest at being paid per month, and are Profit or Loss a fixed rate once a year, and to often referred to as overhead repay the principal amount on costs. This is in contrast maturity. to variable costs, which are volume-related Innovation Finance The management of money, banking, investments, and credit to Time facilitate the successful exploitation of new ideas is critical when investing in new ideas (i.e. Funding their implementation) Money Risk Innovation Finance: Petrol Station Example An independent petrol station has been approached by a multi- national company to supply the diesel for the back-up generators and fire water pumps, which run constantly. Demand is 500 litres per day. The garage can buy the diesel at 80p per litre The multinational is willing to pay 85p per litre The multinational has a 90 day settlement period for its accounts Is this a good account to takeon? Innovation Finance: Petrol Station Example A first approach may state it is a profitable account… 500 litres*0.05£ = £25 per day (on £425 income) This equals to a £9,125 profit per year Are there any disadvantages to this opportunity? Innovation Finance: Petrol Station Example The multi-national has a 90 days settlement period so the garage must l 90 days before getting paying for the service received on day 1 How much money will have flowed out the small independentbusiness before even 1 penny is received from the multi-national company? £0.80 * 500 litres/day * 90days = £36,000 So, the garage is financing the multinational company Where do you get the £36,000 to finance the business in these 90 days? Innovation Finance: Petrol Station Example Assume the garage has £10,000 in the bank at the beginning of operations: Innovation Finance: Petrol Station Example A dangerous precedent to avoid… Innovation Finance What is the most important thing that ALL businesses aspire to create? CASH Cash is the lifeblood of any business (Goldratt) Lack of cash is the most common reason for the failure of any new business A business can have valuable profitable ideas, a healthy order book and talented staff and can still go out of business if it runs out of cash… Understanding Risks and Rewards Someone offers you £100,000 with two options: 1.Take it today or 2. Take it in one year from now Q1: Which option do you prefer? Understanding Risks and Rewards Q2: What would you do if it was your own money? 1. You can put £100,000 in a bank for 5 years at a rate of 10% interest or 2. You can invest £100,000 in an low risk idea which will be worth £150,000 in 5 years time. Understanding Risks and Rewards Q2: What would you do if it was your own money? The right answer, in this case is option 1, that is to put £100,000 in a bank for 5 years at a rate of 10% interest. Why? Because of the time value of money Future Value of Money In order to capture the future value of money, each year, the previous year’s interest is factored into the following equation: Future value = present value * (1 + rate of interest) number of years FV = PV*(1+r)N  Future Value Future value = present value * (1 + rate of interest) number of years After 1 year £100,000 at 10% interest will make £10,000 After 2 years, £100,000 at 10% interest will make £21,000: Year 1: £100,000 * 1.10 = £110,000 Year 2: £100,000 * 1.10 * 1.10 = £110,000 * 1.10 = £121,000 Therefore, after 5 years, the money in the bank should be: £100,000 * 1.10 5 = £161,051 Vice versa, the investment idea would return only £150,000 after 5 years, therefore it is a better idea to put your money in the bank Scenario Analysis Future value = present value * (1 + rate of interest) number of years 1. What if the bank offers a 7% interest rate instead of the original 10% interest rate? OptionA: put £100,000 in a bank for 5 years at a rate of 7% interest: £100,000 * 1.075 = £140,255 Option B: you can invest £100,000 in an low risk idea which will be worth £150,000 in 5 yearstime. Invest in the low-risk idea 2. What if you can put £100,000 in a bank for 4 years at a rate of 10% interest (Option A: £100,000 * 1.104 = £146,410) or you can invest £100,000 in an low risk idea which will be worth £150,000 in 4 years time (Option B)? Invest in the low-risk idea Net Present Value (NPV) Calculates today’s value of a future stream of payments. Net present value = Net cash flow/(1 + discount rate) number of years NPV = CF/(1+r)N £100,000 in one year’s time, assuming a 10% discount rate: how much are they worth today? ((100,000£/(1+0.1)) = 90,910£ Net Present Value (NPV) Calculates today’s value of a future stream of payments. KEY TAKEAWAYS Used in capital budgeting to compare whether an investment today will generate positive cash flow in the future. If NPV of a project/investment is positive, the discounted present value of all future cash flows related to that project will be positive, and therefore attractive. To calculate NPV, you estimate future cash flows for each period and determine the correct discount rate. NPV is useful in identifying profitable projects, though it falls short when comparing projects of different sizes. Time Value of Money £100,000 received today is not the same as £100,000 received in 1 year’s time, because money received today can be invested to earn interest over the following year. Assuming a 10% interest/discount rate (10% = 0.1): £100,000 received today = £110,000 in a year’s time ((100,000 * (1+0.1)) = 110,000) Equally, £100,000 in a year’s time = £90,910 today ((100,000/(1+0.1)) = 90,910) Time Value of Money DISCOUNTING: Converting future cash to a value at the present time Now Discounting Future COMPOUNDING: Opposite of discounting. Identifies what the money you have now will be worth at a future time Now Compounding Future Time Value of Money Businesses have to ensure that returns on investments will: Cover the initial investment Provide sufficient returns in excess of the acceptable minimum (min profit) Required Return % Return Risk Free Rate Risk → So, if the risk-free rate (≈deposit in bank/government bonds) becomes lower, how is the investor willingness for alternative investments affected? Risk Free Rate The risk free rate is the interest rate an investor can expect to earn on an investment that carries zero risk. This is where the amount to be repaid is dependent on the time period for which it is invested. Therefore, the risk free rate is synonymous with the time valueof money How do investors choose which investments to pursue? Financial Information How quickly will my money be paid back (based on cash Payback Period in the bank in the business) How much will my investment be worth, in today’s Net Present Value terms, in X years time? Other metrics also exist: Internal Rate of Return, Profitability Index … Payback Period Most common method of analysing investments Answers to the question: “When will the business have recovered the initial investment? Unit of measurement is time calculated by dividing the amount of the investment by the annual cash flow Used by account and fund managers to decide on going through investment By examining cash flows, payback period is a statement of the period of time it takes for there to be cash into the business to recover the initial investment Payback Period Examples of calculation of payback period calculation: 1. Initial investment: £100 Year 1: +£50 cash in bank Year 2: +£50 cash in bank Year 3: +£50 cash in bank Payback period is 2 years (50+50=£100); 2. Initial investment:£75 Year 1: +£50 cash in bank Year 2: +£50 cash in bank Year 3: +£50 cash in bank Payback period is 1.5 years (50+50/2=£75) Payback Period Summary Pros Cons Easy to apply and to Ignores time value of understand even by non- money (interest rate not experts considered) Strong focus on time Can suggest to go (when investment will be ahead with projects that repaid) actually lose money over time Does not take into account what happens after the payback period Net Present Value (NPV) The most robust mechanism Determines whether or not an investment will yield a return in excess of the minimum acceptable level Converts all sums into a PRESENT VALUE; It then totals the sums to work out the NET result; Investment is good if (NPV greater than 0) If NPV > 0) the the investment is an acceptable opportunity  Net Present Value (NPV) Net Present Value is calculated by working out the DISCOUNTED cash flows for each year and subtracting the initial investment. Example: a firm has the opportunity of investing £1,000 in a project with a life span of 3 years. The estimated cash inflowsare as follows: Year 1 = £300 Year 2 = £1,000 Year 3 = £400 Is this an acceptable investment opportunity, assuming a 10% interest rate?  Net Present Value (NPV) Initial investment = £1000 Year 1 cash value = £300 Year 1 discounted cash value = 300/(1+0.1)1 = £273 Year 2 cash value = £1000 Year 2 discounted cash value = 1000/(1+0.1)2 = £826 Year 3 cash value = £400 Year 3 discounted cash value = 400/(1+0.1)3 = £300 ∑ Discounted Cash Flows = £273 + £826 + £300 = £1,399 Net Present Value = ∑ Discounted Cash Flows – Initial Investment = £1,399 - £1,000 = £399 If you spend £1000 today and leave it for 3 years, you will be £399 better off IN TODAY’STERMS Net Present Value (NPV) A positive net present value indicates that on a financial basis the investment meets the minimum requirements The value returned also indicates the discounted return to investors – in the previous example, the investors would be £399 better off in today’s terms by making the investment Investors’ Decision-Making There are multiple ways to report financial information about the same business, which one do investors look for? 1. Payback Period? 2. Net Present Value? 3. Others? In reality, it is a combination of financial measures that are normally expected from investors. Preparing payback period and NPV will make you ready to face investors’ questions about the future value of your business idea! Investors’ Decision-Making Payback Period Net Present Value Vs. Focus on time: Focus on the value of payback period shows money in time: how quickly the initial NPV shows the “big investment can be picture”, highlighting how recovered and the significant the profits will business can start to be in the investments’ make profits lifetime Presenting Financial Information It is important to base financial calculations on reasonable data: background (quantitative) research and detailed assumptions; It is important to consider not only the economic outlook of a business, but also the cash flows Cash Flow - Out When calculating cash going out, account for: Premises Equipment Material Salary Marketing Travel Sub Contract/ Service VAT Interest Tax And more.... Cash Flow - In When calculating cash coming in,account for: Customer sales Investors cash Loans / overdrafts Government aid Cash Flow: The Bathtub Analogy Cash = liquid = water in bath; You need investment to top up your Sales, Investments funds to get you off the ground; & Loans Controlling cash draining out the business is as important as obtaining sources of money to feed into the business; If you run dry, business is bankrupt! CASH FLOW tracks the movement of cash through the business Expenditure 4 0 Summary Key learning outcomes: Understand the importance of cash flow on the financial viability of any business; Distinguish between fixed and variable costs and understand their impact on pricing and profitability; Understand that value of money is linked to the time dimension; Calculate the future value of money and actualise the future cash flows to calculate their net present value; Evaluate and report business ideas based on the payback period and the net present value. k 5 Financial Projections Winifred Ijomah Overview Financial Projections Expenditures plan Sales projections Cashflow o Balance of cash leaving and entering the business at a specific point in time Presenting Financial Information Important practices: Base financial calculations on sound data and information background research to obtain Quantitative data measurable numbers e.g. revenue, expenses, profit margins taxes. Reasonable assumptions. e.g. inventory decreases due to sale increase, forecasted sales volumes; cost of sales, administration expenses sales Consider both the economic outlook and the cash flows Why do Financial Projections Uncertainty and complexity of the future Simplified assumptions and calculations of potential future scenarios can help planning. Imperfect but provide an approximate guide on future scenario All models are wrong; some are useful Types of Financial Projections Sales projection; estimating customer interest in our product Expenditure plan; Understanding related costs An Excel template is available from MyPlace to help you to develop your financial projections  Financial Projections The spread sheet has 3 areas you must complete to support the direction of your product and organisation: Expenditure Income Cash balance The financial analysis is guided by colour coding to facilitate data input  Bill of Materials (BOM) Comprehensive list of parts, items, assemblies, and other materials required to create a product. Example: Manufacturer wants to build 1,000 bicycles BOM = All the individual parts needed to build the bicycle.  Bill of Materials (BOM) BOM information content about: Product hierarchical structure (parent-child relationships) Quantities of child material in each parent product Production level of each material/sub-assembly BOM stops at the material and sub-assemblies that are sourced by external suppliers Bill of Materials (BOM) Example Bill of Materials (BOM) Financial Projections 1. Expenditure Plan: Estimate Cost of the Product variable costs e.g. material costs, component costs Estimate Non-Product Costs 2. Sales Projections: Estimate Product Price Estimate Size of the Market 3. Review Cash Balance Expenditure Plan: Estimate Cost of the Product Product’s costs are the variable costs e.g. material costs, component costs, … Use websites to gather and/or estimates product osts e.g. Google, eBay, Screwfix, RS Components ,etc Cost each element of your bill of materials Expenditure Plan: Estimate Cost of the Product Look up components (actual or approximate) of your BOM Calculate the total product cost using the data collected from your research; E.g. using (http://uk.rs-online.com/web/home.html) Bill of Materials (BOM) Expenditure Plan: Estimate Cost of the Product Expenditure Plan: Estimate Cost of the Product Financial Projections 1. Expenditure Plan: Estimate Cost of the Product Estimate Non-Product Costs 2. Sales Projections: Estimate Product Price Estimate Size of the Market 3. Review Cash Balance Expenditure Plan: Estimate Non-Product Costs Non-product costs are typically fixed costs E.g. premises, salaries, marketing expenditure Estimate one-off costs through internet search, databases, reports, … Expenditure Plan: Estimate Non-Product Costs Expenditure Plan: Estimate Non-Product Costs Financial Projections Expenditure Plan Estimate Cost of the Product Estimate Non-Product Costs Sales Projections: Estimate Product Price Estimate Size of the Market Review Cash Balance Sales Projections: Estimating product Price Pricing strategy: Allocative effect on the demand Typically price increase, quantity sold decrease e.g. Ferari & Ford car Rare cases price increase with quantity e.g. healthcare Demand influences fixed costs Quantity increase & Fixed cost/unit decrease Multiple drivers influencing the price Internal and external drivers Sales Projections: Estimating product Price Drivers on pricing decisions include: General economy status; strong/weak economy Positioning vs. competitors; Value proposition, branding e.g. Ryan air, Rolls-Royce Cost structure; Soak up unexpected costs to maintain price? Raise prices to and maintain profits? Product life-cycle Sales Projections: Estimating Product Price Premium Pricing Penetration Pricing Differentiation strategy Low-cost strategy Vs. Customers won by product’s Customers won by perceived higher quality product’s low price High prices throughout Low prices are the key to product lifecycle due to penetrate the market and investments in the brand generate demand name and intangible assets E.g. Primark V M&S e.g Apple;: BA Sales Projections: Estimate Product Price Cost-driven Pricing Value-driven Pricing Vs. Cost-plus approach Price is based value customer places on Price calculated by adding the product/service an X% (profit increment) and fluctuate product’s cost accordingly (e.g. airline tickets in peak/ non-peak season) Sales Projections: Estimate Product Price Financial Projections 1. Expenditure Plan: Estimate Cost of the Product Estimate Non-Product Costs 2. Sales Projections: Estimate Product Price Estimate Size of the Market 3. Review Cash Balance  Sales Projections: Estimating Market Size Calculate target market size: 1st step: geographical spread Easier to have high level of local than national/global market Local market (e.g. within Glasgow) – figure out number of customers in 10%, 5% and 2% of the market National market (e.g. within UK) – figure out number of customers in 5%, 2% and 1% of the market Global market – figure out number of customers in 1%, 0.1% and 0.01% of the market Sales Projections: Estimating market size Answering to the question “How big is the market we are aiming for?” E.g. Finding market for over 65 people in the UK Data for local, national and EU easy to get but Global more difficult o Sales Projections: Estimating market size Sales Projections: Estimating market size Other Income Additional income different from sales may exist; Fixed income (e.g. fixed amount on a fixed schedule); Independent from the volume of sales; Other Income Financial Projections Variable costs (estimate Period 1 cost of products) and fixed costs (non-product costs) determine the total Period 2 expenditure; Variable income (sales ……………. Time projections) and fixed income determine the total income; Period N.. Profit or Loss  Financial Projections 1. Expenditure Plan: Estimate Cost of the Product Estimate Non-Product Costs 2. Sales Projections: Estimate Product Price Estimate Size of the Market 3. Review Cash Balance Cash Flow - Out When calculating cash going out, account for: Premises Equipment Material Salary Marketing Travel Sub Contract/ Service VAT Interest Tax And more.... Cash Flow - In When calculating cash coming in,account for: Customer sales Investors cash Loans / overdrafts Government aid Cash Flow: The Bathtub Analogy Cash = liquid = water in bath; You need investment to top up your Sales, Investments funds to get you off the ground; & Loans Controlling cash draining out the business is as important as obtaining sources of money to feed into the business; If you run dry, business is bankrupt! CASH FLOW tracks the movement of cash through the business Expenditure 3 7 Review Cash Balance Answers the question “do you have enough cash or do you need to borrow more cash?” Data fed automatically into the cash balance tab from the income and the expenditure tabs; Time duration set to 36 months (can be extended) Review Cash Balance Payback Period and NPV The payback period and the net present value (NPV) must be reported Results should be discussed in the report Net Present Value of equipment etc. should be calculate You may use the embedded Excel function Be careful how you use it You may need to make assumptions (e.g. interest rate) –keep them logical