Investing in digital: Why strategy and governance matters more than ever
Digitisation is on everyone’s mind. Companies are investing heavily in digital – the world of business is transforming. Disruptive technologies are drastically changing the fundamentals for how companies can reengineer their business processes and rethink their offerings. But in some companies this alarmingly seems to have replaced strategic thinking, analytical rigor and solid investment screening. The hype of digital has led to an investment bias to all things digital. Digital has become a strategy. But digital is not a strategy, it is rather a means for strategic execution and an enabler of new business models. Digital creates a lot of opportunities, and these opportunities need a strategic governance and an investment screening process.
Old words of wisdom tell us that things which are important are not necessarily strategic. Consequently, even though digital is extremely important, it might not always be strategic. Digital has quickly risen as a key priority for companies and the message to executives is simple: innovate or die, disrupt yourself or someone else will. Companies rush heedlessly into the digital field in hope of finding gold, but as with all gold-digging, most seekers find nothing and give up in disappointment.
In efforts to compete, digital investments are today’s de facto answer to create competitive advantage. But there is no inherent value in ‘doing digital’ without a strategy, and there is no value in a stand-alone digital strategy if it is not crafted as an integrated part of the business strategy. Strategy matters more than ever. Digital is an enabler of new fantastic opportunities with transformative impact. The key lies not in building a gold mine on a random location, but in using an explorative approach and being ready to seize opportunities and scale fast. In the HBR article To Lead a Digital Transformation, CEOs Must Prioritize the author notes that “it is important to encourage local ownership of ideas and projects, [but] turning them into game-changers requires clear, sometimes ruthless direction from the centre around which projects to scale and in what order”. Many companies lack the necessary approaches, practices and governance mechanisms to take a strategic approach to digital investments. Legacy approaches based on up-front certainty cannot be used for steering digital transformation.
The digital pitfalls: insurgency, chaos or long-rage planning moves focus from customer value to internal bureaucracy
Drawing on Sofigate’s recent experience, the lack of a coherent and consistent approach in combination with disjoint strategic thinking typically take organisations down a path of destructive and stressful digital transformation. In Sofigate’s experience, three archetypes of failure can be seen:
Companies that start out with a digital insurgency or in a digital chaos tend to become digital planners. The planning itself becomes the security blanket they need. There are of course cases where any one of these approaches can lead to something great, but more than often they do not. The three archetypes often become yet another failed and expensive gold-digging venture.
- The digital insurgency
The digital insurgency is characterised by internal fighting. Digital is usually not on the management agenda and digital rebels within the organisation drive initiatives under the radar. In this stage, companies often use a copy-cat approach looking at replicating other companies’ successes within their existing business model. The output from this phase are typically small-scale and isolated stand-alone solutions as well as frustration, loss of talent and digital stress. Existing structures, governance and funding models typically work effectively to supress the digital insurgency.
- The digital chaos
The digital chaos is characterised by a lack of control with multiple and often conflicting initiatives, the absence of a strategic direction, and no agreed mechanisms for prioritisation. Somewhere along the line, management probably allocated a substantial amount to digital transformation – but failed to articulate any direction or objectives. Funding is often distributed and delegated to functions or business units, each with their own agenda. Everyone is digitalising everything. Friction arises as organisational politics, over-laps, functional duplication and disjoint initiatives fight. The customer experience becomes fragmented, product and service offerings are incoherent and internal efficiency suffer. The digital chaos can be a strong incubator for great ideas, but companies often fail to reap the benefits as too much energy is diverted into managing the chaos, fighting for resources and trying to maintain coherence within the business.
- The digital plan
The digital plan organisation is characterised by a focus on ‘the master plan’. The telling signs of an organisation in this category is the use of long-term plans, often in the range of three to five years, outlining a detailed journey for legacy system replacements, new investments, organisational changes and culture programmes. It is non-explorative, based on as-is and a compromise between the most powerful stakeholders in the organisation. The plan creates a sense of comfort and serves to maintain status quo. It puts business as usual in a digital context by rationalising current activities as ‘must do’s’ before digital transformation can occur. The digital plan often ends up being subject to massive overhead, a focus on project and programme management, status reporting and progress tracking – but like the other pitfalls often fail to deliver any real impact.
A strategic approach to digital investments: revisiting fund allocation, budgeting and investment decisions
Investing in digital requires an exploratory approach towards generating ideas to either meet the most prioritized digital threats or to seize the most promising opportunities, combined with strong governance regarding what to scale and how.
Digital investments broadly fall into one of four categories: sustaining, improving, enhancing or transforming. A key reason behind the digital pitfalls is that most companies are set up to manage sustaining and improving investments. Investment frameworks are geared towards certainty – primarily using business case rigour but also due to legacy budgeting and funding mechanisms. Digital insurgencies are often a response to an overly bureaucratic, business case-driven project investment process. Simply because these processes value forecast certainty. Digital chaos often arises following distributed budget control and the lack of a common vision. The digital plan is either a follow-up to the digital chaos to retake central control or a result of the combination of a digital vision and a bureaucratic investment framework.
To succeed with digital transformation, companies need a different approach. Enhancing and transformative investments are uncertain from a time, cost and effect perspective. This does not mean that rigour should not apply, but the process for initial fund allocation and monitoring needs to be adapted to fit an exploratory approach. Or to continue the analogy: gold-digging expeditions must be financed and steered in a specific direction. The direction of the exploration needs to be set from the start by focusing in on the most prioritised areas, whether they are threats or opportunities. Investment decisions need to be strategic, and they need to be governed.
- Sustaining investments are ‘required to play’, either because of industry development or compliance. These include functionality that customers have come to expect as baseline for the industry, such as a sufficient level of self-service for example (2). They also include efforts to stay compliant (1) with new rules and regulations. Digital investments in this category are often characterised by a low level of uncertainty and their business cases are seldom financially attractive in themselves as they are ‘required to play’.
- Improvement investments improves attractiveness, efficiency or effectiveness in the delivery processes for, or the customer experience of, current services or products. These investments typically target things like digitisation of high-labour activities (3) or revamping existing digital channels (4). They typically have limited transformative effect and can, when scoped, become well-defined.
- Enhancing investments are investments that significantly change ways of working or the customer experience. These are investments that have significant impact through for example the automation of processes (5) or by opening up a new complementary revenue stream from existing services and products (6) such as offering a subscription-based service concept as complement to an existing product.
- Transformative investments are business-critical investments that form the basis for future success by transforming the value chain or the company’s offerings. They are investments that have profound impact on the company’s business model as they significantly impact both internal operations and customer experiences. These are investments that redefine the company at its core.
In Sofigate’s experience, most digital initiatives are focused on sustaining and improving current operations. Many organisations are investing heavily in replacing legacy systems and renovating the core. By taking a portfolio view of ongoing and planned initiatives a company can gain valuable insight into the ambition of its digital transformation programme. Most digital transformation programmes are not transformative; they are merely applying technology to sustain or improve current business. A key reason for this is how companies approach investment decisions – any idea brought forward should have a solid cost or revenue case, be aligned with target operating and IT architecture and be executable within current resource/competence constraints. Most companies incorporate all these three criteria in early stage toll gate decisions.
A portfolio of digital initiatives tends to resemble the portfolio in figure 1 – a program geared towards continuous improvement and compliance. Most digital transformation project portfolios are primarily geared towards sustaining current operations.
Investment framework for digital explorations: applying adaptive rigour and providing strategic prioritization
Volatility, uncertainty, complexity and ambiguity cannot be approached with either one-off activities or pre-planned programmes. In a recent 3gamma Insight, we introduced the concept directional strategy. The directional strategy is fundamentally designed for explorative management of VUCA conditions, as this requires companies to adapt an exploratory approach set in the context of a structured framework for assessment, prioritization, funding and delivery. For enhancing and transformative digital investments, a corresponding investment framework is needed.
Certain critical components are required to enable transformative investments: increased flexibility in budgeting, new early stage funding mechanisms, a revised approach to investment screening and a supplemental governance process.
- Create a cost-out culture: Break the self-fulfilling prophecy of budget spend and adopt for example zero-based budgeting to drive a strong cost-out culture and free up funds for transformation. Ensure there is a clear present need for current cost base, reduce budget inflation, identify and eliminate waste and delegate authority to create a sense of ownership in the organisation. Companies need to efficiently transform current operations, not build digital stand-alone solutions on the side.
- Allocate exploration funding: For early stage funding, move from yearly up-front project allocation of funds to ‘exploration allocation’ and ‘scaling funds’ which can be allocated to initiatives in the project portfolio flexibly based on potential and progress. It will also force lean thinking and a start-up mind-set in the organisation. Late stage financing can still follow legacy funding mechanisms. Exploration allocation follows a zero-based budgeting approach allowing the organisation to aggressively pursue strategic opportunities without up-front yearly determinism.
- Adopt adaptive screening: For investment screening, move from a formal business-case driven process focused on uncertainty-reduction to a portfolio-based view focused on balancing sustaining, improvement, enhancing and transformative investments. Balance the allocation of exploration funds in the portfolio in line with strategic ambition. Reduce scrutiny for high potential/high uncertainty investments, but use a stringent fund allocation model aligned with a start small/scale fast mindset to emphasise lean and aggressive time to value realisation.
- Establish iterative executive board reviews: Iterative senior executive board reviews and learnings for all early stage and scaling stage initiatives from a financial, solution, potential and change perspective, preferably with a tangible demo or proof of concept. Establish a structure with more strategic governance with empowered, hands-on senior decision-making in close relation to the initiatives. Avoid low-frequency disconnected governance.
Depending on industry context, ambition, digital maturity and company size, the organisational setting for digital transformation needs to be carefully considered. In many organisations, especially for companies wishing to propel the digitisation, a CDO should be tasked with overseeing the exploration funds, managing the digital portfolio and chairing the senior executive review board. This will drastically improve the focus and return of a digital transformation programme as it would clarify the boundaries and interface to the CIO and other CxO roles.