The primary objective of project initiatives is the produce Value. However, many of our models for thinking are based on Cost.
This post explores how Cost and Value are related – and how they are unrelated. This is not about Planned Value, Earned Value, and Actual Cost! It explores both Cost-based and Value-based thinking and when to use each.
What Is Cost-based Thinking?
And even if they are not for sale, they are assigned a ‘value’ based upon their cost.
Supply and Demand have an influence on bringing Cost and Value closer, but that does not make them the same thing.
Cost-based thinking is based mainly on the Supply curve, highlighted green in the graph. The Supply curve is largely driven by Cost.
The problem with this is that Cost does not necessarily equate to Value. In fact, it usually does not. It’s really only when Cost and Value are fairly close – where Supply and Demand intersect – that something comes into our field of vision.
Think about something that costs $5. Hypothetically, the item may consist of:
- 1 part Ingredient A at $1/each = $1.00
- 3 parts Ingredient B at $0.50 each = $1.50
- 2 parts Ingredient C at $0.25 each = $0.50
- Labor at $1.00 = $1.00
- Reasonable margin for Overhead and Profit = $1.00
What is the Value of this product?
Cost-based thinking would tell you that the Value of the product is $5.
However, the Supply curve shows that there are buyers at every point along the curve! The Value does not equal the Cost at only one single point on the curve – but rather at all points along the curve!
What would the Value of the product be based on Value-based thinking?
What Is Value-based Thinking?
Value-based thinking is Demand based, shown by the green highlighted curve in the diagram.
- One person might be able to buy one, and turn around and sell it for $10.
- Someone else might be able to turn around and sell it for $6.
- Yet someone else might not be able to figure out what to do with it!
- Still, someone else might simply consume it.
- And someone else might ‘transform’ it into something that is worth $3 – less than the $5 price!
Clearly, the price of a product or service at a particular time – what it costs to you, the buyer – does not necessarily equate to a single Value.
There are buyers at each and every point along the Demand curve. In fact, there are buyers at virtually every possible price point. Buyers each have different concepts of Value for the product.
Strategic Implications of Cost vs Value Approaches
Here are just a few common strategic approaches.
- Gain more experience, and thus drive the Cost – and price – of the unit down. This will shift the Supply curve downward.
- Produce slightly different versions of the product, at similar Cost. This can provide something desirable for more customers at varying price points.
- Build vastly different versions of the product to serve different groups of buyers. This would create new Supply curves, at the tradeoff of possibly selling a lower volume for each.
- Find an under served buyer and create an innovative product or service. This ‘creates’ Demand.
There are many different ways to optimize by thinking strategically.
The point is that when you are thinking strategically, you can – and should – employ both Cost-based and Value-based thinking. Thinking strategically is all about optimizing the configuration of the business to best serve chosen customers. The above examples are ways to reconfigure Supply and even create Demand as part of optimization.
I recommend these strategy resources (paid link):
Implications for PMs of Cost vs Value Pricing
To help answer the question, I pose the following questions:
- Who computes project Value?
- What exactly is project Value?
- When is project Value determined?
- Where is project Value determined?
- Why is project Value the target measure?
Cost and Value are not necessarily fixed! It can depend entirely on other factors, and the answers will change when those factors change.
So, if the main objective of a project is to create Value, you need to:
- Employ Value-based thinking
- Be aware of your Costs.
Understand the factors that can change the value of your project’s output, regardless of actual costs. Timing, for example – where you need to employ strategic agility – can make the difference between high Value and no Value.
This is especially important when you take a lean innovation approach to your project – where you are trying to discover the Value that the project might target.
I recommend these PM templates (paid link):
Cost, Value, and Agility
This post examined what Cost is, and how it can vary, whether for a product or even a project.
- It looked at Value, which can vary widely, depending upon a number of different factors.
- It looked at how strategic thinking is all about reconfiguring an organization to optimize for Cost and Value produced.
- Finally, it looked at how being more agile can enable you to create the right Value on projects, or to most efficiently discover Value.
The purpose was to stretch your thinking about Cost and Value – and not necessarily to give answers. There is not a single right answer to this. Each situation, project, and stakeholder is different and will se Value differently.
Do you have an interesting situation to share about how you managed issues and opportunities around Cost and Value on a project?