Three Reasons Why Investors Should Care About Software Delivery Speed
What is the value of software delivery speed? Could a two-week delay in delivery cycles snowball into losses of $4 million in costs, $6 million in revenue, and $162 million in enterprise value (EV) for a tech team of 100 people?
Software delivery speed not only provides insights into operational cost efficiency but also impacts a company’s ability to grow and, ultimately, its whole enterprise value.
We have seen how investors consistently gain valuable insights from speed of delivery through our work in Software Due Diligence around the globe, from Nasdaq listings to mergers and acquisitions (M&A), private equity, and venture capital deals.
“If it takes you longer to deliver to your customers or to take your product to market, you stand to lose customers, revenue, and market positioning. […] To identify the causes of software delivery delays and to find the right solutions, it takes a thorough tech due diligence that covers the technology, processes, and people in depth. Every company has issues, so the key to maximizing an investment’s chances of success is knowing what the issues are and what needs to be done to fix them beforehand.” – Mauricio Bento, Avalia Business Director
Many companies face challenges to efficiency and productivity, which will be reflected in software delivery speed.
Identifying the root causes of delivery delays relies on having a data-driven assessment of the technology, processes, and people dynamics. Without it, the opportunities to address critical risks early on will be lost, software delivery speed will continue to suffer, and by the time an investor exits the investment, returns will be lower.
How Can Software Delivery Speed Impact The Business?
To illustrate the profound impact software delivery speed can have on three key business areas of costs, revenue, and enterprise value, we take the case of a company that plans to invest in software research and development (R&D) to drive revenue growth through product innovation, but encounters challenges that slow down their delivery speed and experiences the impact.
Innovation Driving Revenue Growth
The company sets out to drive growth through the launch of three important product innovations every year.
Specifically, the plan involves launching an innovation every four months with each one adding an average of $1 million in monthly recurring revenue (MRR). Within year one, the first innovation adds $12 million in annual revenue, the second $8 million, and the third $4 million – totalling $24 million in annual revenue growth for three launches spaced four months apart that year.
In the years thereafter, these three product innovations are expected to contribute $36 million in annual recurring revenue ($12 million in ARR each) on top of the $24 million in annual revenue growth that subsequent launches will add, resulting in a plan to achieve revenues worth $24 million in year one, $60 million in year two, $96 million in year three, and so on from the innovations planned.
To achieve this growth, the company needs to maintain a schedule of one product innovation launch every four months, every year.
The R&D Team Delivering The Innovation
The company has put together an R&D team of 100 developers, divided into 10 squads of 10 people each, to deliver the product innovations. At an average cost of $10K per person per month, the R&D costs for the team total $12 million for the year – an R&D investment from which they will generate the revenue growth planned.
Speed of Delivery Impacts Costs
However, things don’t go to plan.
A squad that usually delivers work in four weeks is being held up and can only deliver their work in six weeks. The two-week delay results in cost inefficiencies to the company – because the budget will still be spent, even though some of the jobs that need to be delivered for the launches will not be done. If the cause of the delay goes undiagnosed and continues to disrupt delivery speed, $400K of R&D investments will be wasted every year.
And with internal dependencies, the situation worsens.
As three more squads depend on the delayed squad’s delivery for their own work, they too are impacted and their delivery speed drops from four to six weeks. At this point, the slower software delivery speed is wasting 13% of the R&D budget – $1.6 million every year.
Eventually, the root causes of one squad’s slower delivery speed snowball and impact the entire development team. The two-week delays for the entire R&D organisation translate into a loss of one third of the R&D budget, or $4 million per year.
Speed of Delivery Impacts Revenue
With a squad delivering work in four-week cycles, one product innovation will be launched every four months – allowing for three launches in the year.
But, due to as yet unknown causes, the organisation has slowed to deliver in six-week cycles, extending the time to launch to six months. This derails the company’s plan to add $24 million in revenue in the first year; because now only two product innovations will be launched, adding $18 million in revenue growth instead.
The slower speed of delivery lowers the number of possible launches from three to two, reducing the company’s growth rate from the 30% planned to 18% year-on-year.
A two-week delay has caused the company to waste $4 million in R&D costs and forfeit $6 million in additional revenue. Ultimately, this has a tremendous negative impact on enterprise value.
Speed of Delivery Impacts Enterprise Value
The value of the company, in this case, is calculated using the Discounted Cash Flow method (DCF) – in other words, by bringing their expected future cash flows to present value.
Considering the following parameters: a weighted average cost of capital (WACC) of 9.74%, a Corporate Tax Rate of 35%, a Perpetual Growth Rate of 1.5%, a Net Contribution Margin of 13% (depreciation, amortization, and inflation are not considered), when only two products are launched per year, half of the value created by the R&D team is destroyed due to the lost cash flow.
Slower delivery speed means fewer product innovations launched, lower cost efficiencies, and less revenue. The company pays less taxes, but instead of adding $500 million to the value of the enterprise, the company’s investments in product innovation add a smaller $338 million in value.
Speed of delivery is critical to defining enterprise value. In this case, a two-week delay hindered one squad of ten people in an R&D organisation with a staff of 100 and snowballed into the destruction of $162 million in enterprise value. This serves to illustrate why software delivery speed deserves every tech investor’s attention.
Where To From Here?
When investors are presented with a plan that relies on software development, be it launching new products and features, or adjusting existing products to serve new markets, to deliver growth, it’s crucial to ensure that the plan is grounded in reality.
With a data-driven Software Due Diligence, investors will have the answers they need to help their portfolio companies achieve their objectives by answering questions such as:
Can the business plan be delivered in the current scenario?
What metrics are needed for effective tech governance?
What needs to be prioritised in the 100-day plan?
When investors use Software Due Diligence to understand and close the gap between a business plan and reality, their money becomes smarter. They can be more assertive about cost efficiency, growth projections, and ultimately the company’s enterprise value.
Assessing speed of development is a key element of Software Due Diligence, and the insights our experts discover are essential for any deal where technology innovation is the driving force for growth.
Find out more about Avalia’s business-centric Software Due Diligence: book a call.