For more on selecting the right information management project, IT portfolio strategies and IT project management take a look at Riding the Tiger by Davidson, Gellman and Chung, Jist Publictions 1999 (HarperCollins Canada as well). It is designed for the non-technical reader and is a useful tool for CIOs attempting to influence and educate general managers. For reviews and comments on the book see Riding the Tiger Reviews

One of the obvious effects of the dot-com capital investments is that today, we have more choice in information management approaches than ever before. Not only are there typically more choices of technology and supplier, the increased breadth of computer usage challenges the ability of all companies to afford all the expertise necessary to run their businesses without help. When you can automate anything, it becomes important to prioritize what you are automating and the value creating activities that are critical to your business.

The thrust of this column is that narrow financial evaluation models do for information management projects what they do for all aspects of business - they push companies towards investing in easy-to-assess cost-saving projects. More modern and strategic approaches, in contrast, will help organizations build capabilities and new sources of shareholder value - an important issue in a world, where many companies find that the majority of their value comes from innovation.

Traditional approaches to evaluating information management typically fail because they are too narrow. These classic approaches such as IRR, NPV and DCF have to a large extent been tried and found wanting. The problem with these approaches can be summarized as follows:

IRR or internal rates of return are relatively easy to manipulate by changing your assumptions and have a mathematical flaw - if you have a project with an IRR of say 64%, the mathematical technique assumes that all the cash spun out of the project is invested at 64%. If you are going to use an IRR technique as a crude hurdle rate, the MIRR or modified internal rate of return which allows you to specify the borrowing cost and investment yields is considered more appropriate.

The Net Present Value of a project based upon the discounted cash flow, like the IRR/MIRR technique is focused primarily upon the time value of money. Paying money later is better than paying the same money sooner. The driver of the tradeoff is the cost of your capital. There are however, two important problems with this approach. First, different divisions in a company might well be thought of as having different costs of capital (consider GE Financial vs. GE Lightbulbs), but perhaps more importantly, NPV techniques tend to cause a systematic bias towards under-investing in a business.

What happens with both of these techniques is that the focus of resource allocation becomes the financial outcome independent of market realities. What is not generally understood is that when you consider an investment decision, you are implicitly comparing two scenarios - a future in which you make the investment decision and competition responds to your investment decision, and an alternative future in which competitors make different investment decisions based upon you not making the investment decision.

So for example, in a downturn, Microsoft's $38.5B cash position can be invested in businesses and the act of investing will deter others from competing. And in many industries, early investment can preempt others' later investment. Do you really want to be the fifth broadband wireless network in a market?

So, if you are going to use a relatively simplistic cash flow model that translates into a discounted cash flow or net present value, you need to consider the competitive consequences of not investing. As a famous Harvard Business Review article, Managing As If Tomorrow Mattered (Hayes and Gavin) pointed out (on the 25th anniversary of the introduction of the technique of discounted cash flows) if you postpone an investment decision on the assumption that will still be able to make the investment later, you are assuming that market shares are relatively static and that you will be able to invest later. This assumption is frequently wrong.

Another problem with simple financial hurdle approaches is that they often fail to distinguish between three radically different types of information management projects.

In the early days of the Internet, experiments with web sites probably were hard to justify, but learning about the Internet had its own intrinsic value, one that was difficult to analyze in advance. And there are many information management projects like the early days of the Internet. Using a technique like IRR or NPV for evaluating new technologies is rarely worthwhile.

Technology platform decisions are also very difficult to evaluate. While well known firms such as Gartner may argue that this platform is more or less expensive than another platform, the reality is that the hardest decision ever made by a CIO or CTO is the platform decision. A good platform decision continues to pay off for years; bad platform decision haunt companies for years and can destroy businesses.

Platforms are particularly hard to evaluate because (1) the switch to a new platform may not actually produce any direct benefit, (2) the benefit may actually come from applications that run on top of the platform.

Some will argue that the answer is to evaluate the combination of platform and return producing applications that run on the platform. This is certainly not a bad approach in the selection of a platform, when issues such as Total Cost of Ownership (TCO) or Total Value of Opportunity (TVO) need to be factored in.

But the larger the organization, the more difficult it is to analyze the combination of platform and applications built upon the platform. To illustrate this point, consider MS-Excel, probably the most popular programming language in the world at this point. Very few firms can even begin to quantify the number of Excel applications in use in their organization let alone the usage costs and benefits.

In recent years, Gartner Group and IBM have promoted the idea of Total Value of Opportunity. In its most simplistic view, TVO builds upon Total Cost of Ownership (TCO) by adding the risk adjusted revenue opportunity or positive cash flow streams enabled by a project. In the more sophisticated view, it values the impact of the increase in cash flow upon shareholder value.

When done badly, TVO is no different than a Net Present Value model with revenues/cash flows added in. But the more difficult problem is that increasingly it is very hard to separate what I might call a Business Initiative from its supporting IT infrastructure.

So if you have a new product you wish to launch, and it requires new supporting IT, modifications to existing IT, enterprise integration and e-commerce functionality, plus employee sales training, a product launch budget and so on, narrowing the evaluative framework to Total Value of Opportunity is inadequate. Evaluating frameworks run into the problem that you are fundamentally evaluating business and infrastructure scenarios and their consequences.

The more modern financial theories deal with risk and optionality. In this view of investment theory, an investment decision can buy the option to make further investments to create shareholder value. Some firms actually uses options models such as Black-Scholes to evaluate such opportunities.

And CIOs know this intuitively. They will often send a subordinate to a conference in order to be able to assess a new trend or technology, or pick up a sense of which vendors have momentum. These types of projects are not typically subject to the capital budgeting process, but the concept is similar.

When my co-authors and I wrote Riding the Tiger (Davidson, Gellman and Chung, JIST Publications, 1999), a book on best practices in information management in the late 90s, one of the pieces of information that emerged from out interviews with CIOs was the existence of projects where no evaluation framework is ever employed. These are compulsory projects where a company has no choice. Examples of these projects include Y2K or compliance projects where a regulator demands a change.

Any evaluative framework for projects needs to be able to handle such projects. While there may be choices in how to meet the regulatory requirement, there is no basic disagreement over the need to implement the project, so the analysis required can be quite simple.

Perhaps the most significant piece of work on evaluating business projects published in the past fifty years has been The Balanced Scorecard (Kaplan, Robert, and Norton, David, The Balanced Scorecard: Translating Strategy into Action, HBS Press, 1996). The basic approach is an attempt to synthesize the financial view of the corporation with the reality that financial management does not measure important performance such as marketing, process quality, people quality and knowledge.

All performance measures must ultimately translate to financial outcomes, but financial outcomes are produced by non-financial behavior and outcomes.

Managing a business or a portion of a business is always about trading off marketing performance with process performance with people/skills/knowledge performance. If you overemphasize financial performance you damage non-financial performance. If you please customers too much, you may hurt your process efficiency. If you please your employees too much, you may end up with low customer satisfaction and poor processes.

Business is a process of experimentation. So when you put your stake in the ground and identify key performance measures that you wish to improve, you are essentially declaring a hypothesis that needs to be tested, that says increasing this mix of performance measures will translate to an improved financial performance, which ultimately is reflected in shareholder value.

In our book, Riding the Tiger, my co-authors and I express the idea that no information management project should ever be selected without attempting to develop a baseline for performance measures and a plan to seek improvement.

Other writers have argued that measuring performance has a hidden effect of freezing an organization. If you are paid based on performance, and performance is measured consistently, then you will be punished if you experiment and fail. Great organizations with huge success in performance improvement (e.g. Japanese car companies, Chapparal Steel) provide mechanisms for experiment that have no downside for the individual or group pursuing improvement.

A final piece of research brings the need for performance measures even more into perspective. PriceWaterhouseCoopers authors, Eccles, Herz, Keegan and Phillips (Eccles, Robert; Herz, Robert; Keegan, Mary; and Phillips, David: The Value Reporting Revolution.Moving Beyond the Earnings Games, Wiley, 2000) demonstrate that being able to report the key strategic drivers of your business reduces the uncertainty about your business and future profits (rather like an anti-Enron effect). Publicly reporting your strategic drivers will, as a result, increase your shareholder value, lower your cost of capital and enable you to pursue more projects.

Firms that pursue this type of approach will spend a great deal of time looking at relationship profitability and the value of multi-period relationship with customers. Typically, they find that performance improvement (of which information management is often a critical component) requires understanding which customer relationships are profitable (in financial services for example, 20% of the customers might account for 130% of profitability), and how customer relationship profitability varies over the length of the relationship.

This type of analysis is dynamic and is the opposite of the kinds of static cost savings oriented analysis that are typically encouraged by simpler discounted cash flow approaches. This approach is often based upon an activity based modeling (ABM) tchnique.

Alistair Davidson is the managing partner of Eclicktick Corporation, which provides strategic, sales, marketing and technology consulting services to a wide variety of firms. He is the author of three books on technology and numerous white papers and articles. His latest book, Turn Around! A brief guide to starting, growing and turning around your software or Internet business is available as a free e-book at www.eclicktick.com . Alistair has founded three companies, turned around companies and software development processes, co-developed the first ever strategic expert system with 3,000 rules about business strategy, and has developed simulation tools and business intelligence products.