Tag Archives: risk_management

Revenue Risk: Why Managing It Beats Crushing It

In 2011, the New England Patriots offered Aaron Hernandez, a promising young tight end who played just two seasons, a contract extension worth $40 million.

Hernandez was arrested on a murder charge two years later, in June, 2013. His employer released him the same day. The Patriots, “a team long considered a model of fiscal prudence and solid character, were the unlikely conduit for one of the most ill-advised contract offers in NFL history,” The Wall Street Journal reported (How the Patriots Lost Their Way, July 12, 2013).

“Interviews with NFL executives, agents and former players suggest the Hernandez contract was the result of a decision the Patriots made to embrace more risk . . . they also suggest the NFL’s current economic climate played a role in encouraging that decision, and that all teams may be more inclined to make serious commitments to a riskier pool of players.”

Whether you’re selling sports entertainment, IT services, or industrial pumps, risks swirl around like poltergeists. In business development, we give a tacit nod to their presence when we talk about funnels, pipelines, and forecasts. But as we know from the Patriots, executives who ignore risks or downplay their significance often pay a large penalty. The dangers are especially acute when marketers assign attributes like surefire and guaranteed to business development strategies and tactics. If only such claims were true.

Mostly, risks are misunderstood. If you set aside the negative connotations for a moment, risk simply means uncertainty toward reaching a goal. Not every prospect will buy from us – a hard fact we must deal with, or find another job. Dictator, maybe. Or warlord. Though lately, even these occupations face a risk or two.

The right question isn’t “how do we avoid risks?” but “how should we manage them?” And that requires identifying them, then assessing their likelihood and impact. Regarding Hernandez, had the Patriots performed even a perfunctory analysis, his coaches would have discovered before he first signed that a scouting report gave him a one out of a possible ten in “social maturity,” and it stated that “he enjoys living on the edge of acceptable behavior.” I can hear the discussion in the Patriots front office now. “Downside? There isn’t one!”

Schadenfreude, for those of us who aren’t Patriots fans. But I can’t get smug. After all, I live in Washington DC, home to a football team whose name is so reviled, I won’t even use it. And their record . . . well, let’s just move on.

Risks can smack anyone in the head, even when you’re aware of them. For business developers, here are some different strategies for coping with risk:

  • Add risk. New market development, new product launches, expansion of market boundaries. All of these diminish some risk, but introduce plenty of new risk at the same time. As Bob Thompson wrote on CustomerThink, “Unfortunately, many companies look at risk as something to be avoided. Which means they limit future opportunities as well.”
  • Accept risk. Not every prospective customer will buy. It’s surprising how few companies adequately plan for this ubiquitous risk. But it’s table stakes for any company that intends to compete in a market.
  • Reduce risk. Shorten sales cycles! Increase lead flow! Improve selling skills! Make the right sales hiring decisions! Monitor, measure and reward! There are many ways to reduce selling risks—or at least to create the perception they are being reduced.
  • Eliminate risk. Some business risks, such as ethical impropriety or felonious behavior, can be so catastrophic that they must be eliminated.
  • Transfer risk. Outsourced IT development. Outsourced sales. Consignment retailing. Third-party receivables collection. Many companies have been created for the purpose of absorbing risks others don’t want or can’t handle.
  • Share risk. The idea that sustains product co-development between supply chain partners, and channel sales strategies.

Which risk management strategies are best for your sales organization? Likely, a combination of these. The ones you use depend in part on your company’s capacity to carry risk, or RBC (Risk Bearing Capacity)—a strategic differentiator that can’t be seen, felt, or touched. The reason that some companies can develop technologies to launch commercial rockets, engineer driverless cars, and compete for long-term government contracts, when others can’t.

While RBC is calculated in different ways, the common basis for the calculation is “how much risk the organization can bear before [it becomes] insolvent,” according to Carol Fox, the director of the strategic and enterprise risk practice at the Risk Management Society. Most companies don’t want to test that limit, preferring to keep it theoretical.

Whether the NFL can control the increasingly risky environment in which their teams operate has been the subject of much debate. But the Aaron Hernandez saga painfully demonstrates what happens when risks aren’t well understood and aren’t properly managed.

Watch Out! The Sunshine Pump Will Swamp Your Company With Toxic Levels of Enthusiasm!

Thanks to good old human optimism, the gambling and wedding industries rack up billions of dollars in annual revenues. It’s reassuring to know that a positive outlook can create so much ka-ching.

But unfortunately, within organizations, unrestrained optimism creates planning nightmares that can drive executives bonkers. Fittingly, we’ve assigned a cheery-sounding name for this phenomenon, The Sunshine Pump.

Sunshine Pump optimism starts its organizational meander benignly, often snaking its way from Sales through Human Resources, over to Operations Planning, gurgling into the C-Suite, then back out, flowing through other departments until finally reaching its terminus, Shareholder Relations. When the pump completes its cycle, the effluent oozes out, making a barely audible noise. It’s hard to duplicate the sound, but here’s my best impression: “earnings were below analyst expectations.”

Let’s trace the Sunshine Pump’s circuitous path from one of its many origins, the District Sales Manager’s opening remarks at the annual sales kickoff: “The Regional Sales VP will be visiting our office this week, and we really want to show her how we’re going to blow out our number. We’ll need to provide her a spreadsheet of the hottest opportunities we’re working on, and you’ll need to book some sales calls so she can accompany you.” The requested spreadsheet has many populated rows, but the booked calls are few. That is the Sunshine Pump—primed, plugged in, and ready to work!

The Regional Sales VP excitedly reviews aggregated numbers on the spreadsheet, while the District Sales Manager rationalizes the paucity of appointments. “A lot of people are still catching up after the winter break.” It’s January 15th. “Thanks,” she says without looking up. “I’ll let Corporate know what you’re working on. Should we go with these numbers for cash planning and procurement?” “Sure!” says the District Sales Manager, “I feel really good about our pipeline.” You probably know the rest of the story.

Along with Sales, other departments operate their own Sunshine Pumps. Product Development’s Quarterly Product Release Roadmap, Marketing’s Market Share Forecast, and the CEO’s Revenue and Profit Projections, to name just a few.

Sunshine Pumps use social networks and personal biases within their machinery. Daniel Kahneman wrote about the first five in his book, Thinking Fast and Slow:

1. Confirmation Bias: I see what I already believe.
2. Anchoring and Adjustment Heuristic: I am influenced by the first piece of information I receive.
3. Ambiguity Effect: I avoid options with unknown probabilities.
4. Bandwagon Effect: I follow the crowd.
5. Availability Heuristic: The story I remember overrides other information I have.
6. Cheerleading bias: I want this outcome. Therefore, I will forecast it.
7. False surety. A roll-up of all of these. “Mike just clicked on the link I sent him, and we had a good conversation. This lead is solid.”

Not every management forecast suffers from being bloated with sunshine. Some people just forecast better than others. In Nate Silver’s new book, The Signal and the Noise, forecasters are divided into two archetypes, Foxes and Hedgehogs. Foxes are “tolerant of complexity,” he writes, able to “see the universe as complicated, perhaps to the point of many fundamental problems being irresolvable or inherently unpredictable. They express their predictions in probabilistic terms and qualify their opinions.” Hedgehogs, on the other hand, are “order seeking,” and “expect that the world will be found to abide by relatively simple governing relationships once the signal is identified through the noise . . . They take a prejudicial view toward the evidence, seeing what they want to see and not what is really there.”

Most Sunshine Pumpers are Hedgehogs. They search for articles containing the words “the answer is simple . . .” Ironically, it’s the Foxes who are often called out for not being “team players.” “Don’t tell me what you might sell, I want to know what you will sell!” Go figure.

“Wherever there is human judgment there is the potential for bias,” according to Silver. “The way to become more objective is to recognize the influence that our assumptions play in our forecasts and to question ourselves about them . . . You will need to update your forecast as facts and circumstances change. You will need to recognize that there is wisdom in seeing the world from a different viewpoint. The more you are willing to do these things, the more capable you will be of evaluating a wide variety of information without abusing it.”

Every company can benefit from pumping a steady trickle of sunshine. It’s essential for morale. But watch out. When you’re pumping sunshine, a trickle of optimism can quickly become a torrent.

Revenue Risk Management – Part 1: How Menacing Is Your RAR?

Imagine for just a moment that your business risks vanished into thin air. Economic uncertainty, competition, government regulation, product obsolescence, customer churn. Gone! You’re 100% risk-free! Produce whatever you want, whenever you want, and sell what you want, all for a tidy profit! No worries. Ahhhhh, bliss! Before letting go of the fantasy, think of the costly operational fat and unneeded projects you can now jettison.

Lead generation, sales training, trade shows, promotions, price discounting, customer relationship management systems, advertising, public relations, loyalty programs, social media campaigns, content development, webinars, brand management, predictive analytics, market research, marketing automation, search engine optimization, buyer persona development, use-case analysis, supply-chain logistics. –Heave ho!

As utopian as this sounds, there’s a downside. Without risk, almost everyone reading this blog would not have a job. Revenue guaranteed into perpetuity obviates any need for CMO’s, CCO’s, CSO’s, or anyone else tasked with business development. No need for concern, though. As much as we dislike uncertainty, we all operate under the same permanent cloud, namely, there might not be sufficient demand for what our companies plan to profitably produce. This situation, which I call RAR, or Revenue at Risk, sustains the careers of millions of knowledge workers, not just in sales.

Revenue at Risk gives sales funnels their taper, lead pipelines their multipliers, and sales forecasts their probabilities. Yet, the concept baffles nearly everyone. According to a recent CSO Insights survey, executives responded that the win rate for forecast deals was 46.5%. As Jim Dickie, the company’s managing partner observed, people have better chances of winning at roulette.

The low win-rate could be improved with better risk management. Unfortunately, for many executives, risk just looks like one big amorphous blob onto which they spray project money, hoping problems will shrivel to a less-intimidating size. The Sales VP says there are too few leads in the pipeline? Stoke up the lead-gen campaigns! Revenue didn’t make plan last quarter? Increase the pipeline multiplier! Such tactics can reduce risk, but don’t often tackle the ones that create the greatest impact.

Taming RAR requires examining its four components:

Revenue At Risk = (unpaid or underpaid revenue) + (future revenue lost due to customer churn) + (pipeline leakage) + (revenue from unrecognized opportunities).

• Unpaid or underpaid revenue. Not all revenue that’s invoiced gets paid. Some companies manage this through requiring prepayment for products and services. Amounts that are uncollected are tracked through a budgeted allowance account in the General Ledger.

• Future revenue lost due to customer churn. Many companies recognize that a percentage of accounts will not remain customers. The amount of Revenue at Risk can be estimated based on the expected attrition rate times the expected revenue per customer.

• Pipeline leakage. Everything that spills out of the traditional sales funnel. Unqualified, uninterested, undesirable, unmotivated, unknowledgeable, lost to competitors. The list goes on. Where most companies concentrate time and effort.

• Revenue from unrecognized opportunities. Revenue from prospects who would be perfectly happy buying from you, if only they knew you existed. Or put another way, revenue from prospects who would be perfectly happy buying from you if only you knew they existed. Quite hard to measure.

Which risks should be managed, and how much attention must be devoted? The answer depends on who judges the risk. According to Paul Slovic, a psychology professor at the University of Oregon, and a leading expert in risk perception,

‘Risk’ does not exist ‘out there,’ independent of our minds and culture, waiting to be measured. Human beings have invented the concept of ‘risk’ to help them understand and cope with the dangers and uncertainties of life. Although these dangers are real, there is no such thing as ‘real risk’ or ‘objective risk.’

Still, if you’re like me, and appreciate guidelines and topographic maps, Part 2 in this series, How to Perform a Revenue Risk Audit Without Even Crying, will offer a checklist for uncovering how risky your revenue forecasts are. Part 3, Risk. What Happens When You Aren’t Getting Enough?, will address how companies use risk capacity for competitive advantage. And Part 4, Do You Know What Your Revenue Risks are Costing You? will discuss the how efficiently your business development expenses are addressing your revenue risks.

How menacing is your RAR? Add up the numbers – before you send them to procurement, product planning, and finance.

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