Assessing Project Feasibility
Assessing Project Feasibility
Most information systems projects have budgets and deadlines. Assessing project feasibility is a required task that can be a large undertaking because it requires you, as a systems analyst, to evaluate a wide range of factors. Although the specifics of a given project will dictate which factors are most important, most feasibility factors fall into the following six categories:
- Legal and contractual
The analysis of these six factors forms the business case that justifies the expenditure of resources on the project. In the remainder of this section, we examine various feasibility studies, beginning with economic feasibility. To help you better understand the feasibility assessment process, we examine a project at Pine Valley Furniture. Jackie Judson, Pine Valley Furniture’s (PVF) vice president of marketing, prepares a system service request (SSR), illustrated in Figure 4-6, to develop a customer tracking system. Jackie feels that this system would allow PVF’s marketing group to better track customer purchase activity and sales trends. She also feels that, if implemented, the Customer Tracking System (CTS) would help improve revenue, a tangible benefit, and improve employee morale, an intangible benefit. PVF’s Systems Priority Board selected this project for an initiation and planning study. The board assigned senior systems
analyst Jim Woo to work with Jackie to initiate and plan the project. At this point in the project, all project initiation activities have been completed: Jackie prepared an SSR, the selection board reviewed the SSR, and Jim Woo was assigned to work on the project. Jackie and Jim can now focus on project planning activities, which will lead to the baseline project plan.
Assessing Economic Feasibility
A study of economic feasibility is required for the baseline project plan. The purpose for assessing economic feasibility is to identify the financial benefits and costs associated with the development project. Economic feasibility is often referred to as cost-benefit analysis. During project initiation and planning, it will be impossible for you to define precisely all benefits and costs related to a particular project. Yet, it is important that you identify and quantify benefits and costs, or it will be impossible for you to conduct a sound economic analysis and determine whether one project is more feasible than another. Next, we review worksheets you can use to record costs and benefits, and techniques for making cost-benefit calculations. These worksheets and techniques are used after each SDLC phase to decide whether to continue, redirect, or kill a project.
Determining Project Benefits
An information system can provide many benefits to an organization. For example, a new or renovated IS can automate monotonous jobs, reduce errors, provide innovative services to customers and suppliers, and improve organizational efficiency, speed, flexibility, and morale. These benefits are both tangible and intangible. A tangible benefit is an item that can be measured in dollars and with certainty. Examples of tangible benefits include reduced personnel expenses, lower transaction costs, or higher profit margins. It is important to note that not all tangible benefits can be easily quantified. For example, a tangible benefit that allows a company to perform a task 50 percent of the time may be difficult to quantify in terms of hard dollar savings. Most tangible benefits fit in one or more of the following categories:
- Cost reduction and avoidance
- Error reduction
- Increased flexibility
- Increased speed of activity
- Improvement of management planning and control
- Opening new markets and increasing sales opportunities
Jim and Jackie identified several tangible benefits of the Customer Tracking System at PVF and summarized them in a worksheet, shown in Figure 4-7. Jackie and Jim collected information from users of the current customer tracking system in order to create the worksheet. They first interviewed the person responsible for collecting, entering, and analyzing the correctness of the current customer tracking data. This person estimated that he spent 10 percent of his
FIGURE 4-7 Tangible benefits worksheet for the Customer Tracking System at Pine Valley Furniture.
time correcting data-entry errors. This person’s salary is $25,000, so Jackie and Jim estimated an error reduction benefit of $2,500 (10 percent of $25,000). Jackie and Jim also interviewed managers who used the current customer tracking reports to estimate other tangible benefits. They learned that cost reduction or avoidance benefits could be gained with better inventory management. Also, increased flexibility would likely occur from a reduction in the time normally taken to reorganize data manually for different purposes. Further, improvements in management planning or control should result from a broader range of analyses in the new system. This analysis forecasts that benefits from the system would be approximately $50,000 per year. Jim and Jackie also identified several intangible benefits of the system. Although they could not quantify these benefits, they will still be described in the final BPP. Intangible benefits refer to items that cannot be easily measured in dollars or with certainty. Intangible benefits may have direct organizational benefits, such as the improvement of employee morale, or they may have broader societal implications, such as the reduction of waste creation or resource consumption. Potential tangible benefits may have to be considered intangible during project initiation and planning because you may not be able to quantify them in dollars or with certainty at this stage in the life cycle. During later stages, such intangibles can become tangible benefits as you better understand the ramifications of the system you are designing. Intangible benefits include:
- Competitive necessity
- Increased organizational flexibility
- Increased employee morale
- Promotion of organizational learning and understanding
- More timely information
After determining project benefits, project costs must be identified.
Determining Project Costs An information system can have both tangible and intangible costs. A tangible cost refers to an item that you can easily measure in dollars and with certainty. From a systems development perspective, tangible costs include items such as hardware costs, labor costs, and operational costs from employee training and building renovations. Alternatively, an intangible cost refers to an item that you cannot easily measure in terms of dollars or with certainty. Intangible costs can include loss of customer goodwill, employee morale, or operational inefficiency. Besides tangible and intangible costs, you can distinguish system-related development costs as either one-time or recurring. A one-time cost refers to a cost associated with project initiation and development and the start-up of the system. These costs typically encompass the following activities:
- System development
- New hardware and software purchases
- User training
- Site preparation
- Data or system conversion
When conducting an economic cost-benefit analysis, you should create a worksheet for capturing these expenses. This worksheet can be a two-column document or a multicolumn spreadsheet. For large projects, one-time costs may be staged over one or more years. In these cases, a separate one-time cost worksheet should be created for each year. This separation would make it easier to perform present-value calculations (see the following section “Time Value of Money”). A recurring cost refers to a cost resulting from the ongoing evolution and use of the system. Examples of these costs typically include:
- Application software maintenance
- Incremental data storage expense
- Incremental communications
- New software and hardware leases
- Consumable supplies and other expenses (e.g., paper, forms, datacenter personnel)
Both one-time and recurring costs can consist of items that are fixed or variable in nature. Fixed costs refer to costs that are billed or incurred at a regular interval and usually at a fixed rate. A facility lease payment is an example of a fixed cost. Variable costs refer to items that vary in relation to usage. Longdistance phone charges are variable costs. Jim and Jackie identified both one-time and recurring costs for the Customer Tracking System project. Figure 4-8 shows that this project will incur a one-time cost of $42,500. Figure 4-9 shows a recurring cost of $28,500 per year. One-time costs were established by discussing the system with Jim’s boss, who felt that the system would require approximately four months to develop (at $5,000 per month). To run the new system effectively, the marketing department would need to upgrade at least five of its current workstations (at $3,000 each). Additionally, software licenses for each workstation (at $1,000 each) and modest user training fees (10 users at $250 each) would be necessary. As you can see from Figure 4-9, Jim and Jackie estimate that the proposed system will require, on average, five months of annual maintenance, primarily for enhancements that users will request from the IS department. Other ongoing expenses such as increased data storage, communications equipment, and supplies should also be expected. You should now have an understanding of the types of benefit and cost categories associated with an information systems project. In the next section, we address the relationship between time and money.
The Time Value of Money Most techniques used to determine economic feasibility encompass the concept of the (time value of money (TVM ). TVM refers to comparing present cash outlays to future expected returns. As we’ve seen, the development of an information system has both one-time and recurring costs. Furthermore, benefits from systems development will likely occur sometime in the future. Because many projects may be competing for the
FIGURE 4-8 One-time costs worksheet for the Customer Tracking System at Pine Valley Furniture
FIGURE 4-9 Recurring costs worksheet for the Customer Tracking System at Pine Valley Furniture.
same investment dollars and may have different useful life expectancies, all costs and benefits must be viewed in relation to their present, rather than future value when comparing investment options. A simple example will help you understand the concept of TVM. Suppose you want to buy a used car from an acquaintance, and she asks that you make three payments of $1,500 for three years, beginning next year, for a total of $4,500. If she would agree to a single lump-sum payment at the time of sale (and if you had the money!), what amount do you think she would agree to? Should the single payment be $4,500? Should it be more or less? To answer this question, we must consider the time value of money. Most of us would gladly accept $4,500 today rather than three payments of $1,500, because a dollar today (or $4,500 for that matter) is worth more than a dollar tomorrow or next year, because money can be invested. The interest rate at which money can be borrowed or invested, the cost of capital, is called the discount rate for TVM calculations. Let’s suppose that the seller could put the money received for the sale of the car in the bank and receive a 10 percent return on her investment. A simple formula can be used when figuring out the present value of the three $1,500 payments:
where PV1, PV2, and PV3 reflect the present value of each $1,500 payment in year 1, 2, and 3, respectively. To calculate the net present value (NPV) of the three $1,500 payments, simply add the present values calculated (NPV = PV1 + PV2 + PV3 = 1,363.65 + 1,239.60 + 1,126.95 = $3,730.20). In other words, the seller could accept a lump sum payment of $3,730.20 as equivalent to the three payments of $1,500, given a discount rate of 10 percent.
Now that we know the relationship between time and money, the next step in performing the economic analysis is to create a summary worksheet that reflects the present values of all benefits and costs. PVF’s Systems Priority Board feels that the useful life of many information systems may not exceed five years. Therefore, all cost-benefit analysis calculations will be made using a five-year time horizon as the upper boundary on all time-related analyses. In addition, the management of PVF has set its cost of capital to be 12 percent (i.e., PVF’s discount rate). The worksheet constructed by Jim is shown in Figure 4-10. Cell H11 of the worksheet displayed in Figure 4-10 summarizes the NPV of the total tangible benefits from the project over five years ($180,239). Cell H19 summarizes the NPV of the total costs from the project. The NPV for the project, indicated in cell H22 ($35,003), shows that benefits from the project exceed costs. The overall return on investment (ROI) for the project is also shown on the worksheet in cell H25 (0.24). Because alternative projects will likely have different benefit and cost values and, possibly, different life expectancies, the overall ROI value is useful for making project comparisons on an economic basis. Of course, this example shows ROI for the overall project over five years. An ROI analysis could be calculated for each year of the project. The last analysis shown in Figure 4-10, on line 34, is a break-even analysis. The objective of the break-even analysis is to discover at what point (if ever) cumulative benefits equal costs (i.e., when break-even occurs). To conduct this analysis, the NPV of the yearly cash flows is determined. Here, the yearly cash flows are calculated by subtracting both the one-time cost and the present values of the recurring costs from the present value of the yearly benefits. The overall NPV of the cash flows reflect the total cash flows for all preceding
FIGURE 4-10 Worksheet reflecting the present value calculations of all benefits and costs for the Customer Tracking System at Pine Valley Furniture. This worksheet indicates that benefits from the project over five years exceed its costs by $35,003.
years. If you examine line 30 of the worksheet, you’ll see that break-even occurs between years two and three. Because year three is the first year in which the overall NPV cash flows figure is non-negative, identifying the point when breakeven occurs can be derived as follows:
Project break-even occurs at approximately 2.4 years. A graphical representation of this analysis is shown in Figure 4-11. Using the information from the economic analysis, PVF’s Systems Priority Board will be in a much better position to understand the potential economic impact of the Customer Tracking System. Without this information, it would be virtually impossible to know the cost-benefits of a proposed system and would be impossible to make an informed decision on approving or rejecting the service request. You can use many techniques to compute a project’s economic feasibility. Because most information systems have a useful life of more than one year and will provide benefits and incur expenses for more than one year, most techniques for analyzing economic feasibility employ the concept of the time value of money, TVM. Table 4-5 describes three commonly used techniques for conducting economic feasibility analysis. (For a more detailed discussion of TVM or cost-benefit analysis techniques in general, the interested reader is encouraged to review an introductory finance or managerial accounting textbook.) To be approved for continuation, a systems project may not have to achieve break-even or have an ROI greater than estimated during project initiation and planning. Because you may not be able to quantify many benefits or costs at this point in a project, such financial hurdles for a project may be unattainable. In this case, simply doing as thorough an economic analysis as possible, including producing a long list of intangibles, may be sufficient for the project to progress. One other option is to run the type of economic analysis shown in Figure 4-10 using pessimistic, optimistic, and expected benefit and cost estimates during project initiation and planning. This range of possible outcomes, along with the list of intangible benefits and the support of the requesting business unit, will often be enough to allow the project to continue to the analysis-phase. You must, however, be as precise as you can with the economic analysis, especially when investment capital is scarce. In this case, it may be necessary to conduct some typical analysis-phase activities during project initiation and planning in order to clearly identify inefficiencies and shortcomings with the existing system and to explain how a new system will overcome these problems.
FIGURE 4-11 Break-even analysis for the Customer Tracking System at Pine Valley Furniture.
TABLE 4-5: Commonly Used Economic Cost-Benefit Analysis Techniques: Net Present Value, Return on Investment, and Break-Even Analysis
Assessing Other Feasibility Concerns
You may need to consider other feasibility studies when formulating the business case for a system during project planning. Operational feasibility is the process of examining the likelihood that the project will attain its desired objectives. The goal of this study is to understand the degree to which the proposed system will likely solve the business problems or take advantage of the opportunities outlined in the system service request or project identification study. In other words, assessing operational feasibility requires that you gain a clear understanding of how an IS will fit into the current day-to-day operations of the organization. The goal of technical feasibility is to understand the development organization’s ability to construct the proposed system. This analysis should include an assessment of the development group’s understanding of the possible target hardware, software, and operating environments to be used, as well as, system size, complexity, and the group’s experience with similar systems. Schedule feasibility considers the likelihood that all potential time frames and completiondate schedules can be met and that meeting these dates will be sufficient for dealing with the needs of the organization. For example, a system may have to be operational by a government-imposed deadline by a particular point in the business cycle (such as the beginning of the season when new products are introduced), or at least by the time a competitor is expected to introduce a similar system.
Assessing legal and contractual feasibility requires that you gain an understanding of any potential legal and contractual ramifications due to the construction of the system. Considerations might include copyright or nondisclosure infringements, labor laws, antitrust legislation (which might limit the creation of systems to share data with other organizations), foreign trade regulations (e.g., some countries limit access to employee data by foreign corporations), and financial reporting standards as well as current or pending contractual obligations. Typically, legal and contractual feasibility is a greater consideration if your organization has historically used an outside organization for specific systems or services that you now are considering handling yourself. Assessing political feasibility involves understanding how key stakeholders within the organization view the proposed system. Because an information system may affect the distribution of information within the organization, and thus the distribution of power, the construction of an IS can have political ramifications. Those stakeholders not supporting the project may take steps to block, disrupt, or change the project’s intended focus.