The Science of Kanban – Economics

This is the fourth part of a write-up of a talk I gave at a number of conferences last year. The previous post was about the science of process

Having a good understanding of how creative people can have an efficient process still isn’t enough however. As Russell Ackoff is often quoted as saying, “It’s better to do the right thing wrong, than the wrong thing right”. An understanding of economics is needed to avoid “doing the wrong thing right”, by focussing on the “right thing”, whether that involves financial return, risk management or information discovery, all of which are of value. One financial model that I picked up from Chris Matts is that features should increase future revenue, protect existing revenue, reduce existing costs, or avoid future costs.

Life Cycle Profits

A basic understanding of investment over time helps explain why smaller batches and smaller increments are preferable from an economic perspective. In Software by Numbers, Denne and Cleland-Huang show the investment, payback and profit periods. A smaller cash injection, over a shorter investment period, can enable a product to become self-funding and break-even sooner, such that the profit can be invested back into the product for continued development.

scotland_karl_10

Cost of Delay

The Cost of Delay concept, as popularised by David Anderson, further informs scheduling decisions based on cost over time. The four most common archetypes used (but limited to) are:

  • Expedite – the cost of delay is high and immediate. These items are genuinely urgent and should be prioritised above everything else.
  • Standard – the cost of delay rises linearly. Examples are items with an opportunity cost, where the later the delivery, the more opportunity for gain is lost.
  • Fixed Date – the cost of delay rises sharply at a specific date. Examples are regulatory dates at which fines may be imposed, or seasonal dates such as Christmas or trade-shows.
  • Intangible – the cost of delay is likely to happen in future, but the exact nature is unpredictable. Examples are technical debt or infrastructure work

scotland_karl_11

Information Theory

Value does not have to be purely financial. In particular there is often value in information generated, as suggested by information theory.

scotland_karl_12

Information Theory says that for experiments with pass/fail results, a 50% failure rate is optimal. Always failing suggests that nothing is known, and subsequently nothing is being learned. Always succeeding suggests that everything is already known, and thus nothing is being learned.

The Lean Startup approach is essentially based on information theory, with the goal being to loop through the Build, Measure and Learn cycle as quickly as possible.

scotland_karl_13

This can be thought of as buying information, and asymmetric payoff curves help explain the benefits of this approach. Given some notional performance target, an asymmetric payoff curve is one where being below target results in a loss, being above target results in a gain, and hitting the target results in breaking even. Buying information enables the shape of the curve to be changed such that losses below target are minimised, and gains above target are maximised.

scotland_karl_14

Scheduling

Having a good understanding of the economics enables better decision making when designing and scheduling the work. Usually selection of what work should be pulled next relates to cost and value. Higher value for lower cost generally trumps lower value for highest cost.

scotland_karl_15

An example is risk reduction. There is value in risk reduction, where the higher the risk, the greater the value there is in reducing it, and there is also a cost associated with reducing the risk. Having an understanding of the relative values and costs of risk reduction activities informs the sequencing of high value, low cost items earlier and low value, high cost items later.

scotland_karl_16

Similarly Set Based Concurrent Engineering can be informed by economics. SBCE involves working on multiple parallel initiatives in order to reduce risk. Multiple initiatives should only be run while the total cost of the initiatives is less than the value of the risk reduction. Each additional initiative adds less value exponentially, while the total cost rises linearly. Multiple experiments are like buying insurance; when the cost of the insurance is greater than the economic benefit, it’s not worth paying for.

scotland_karl_17

In the final part, I’ll draw together some conclusions.

VN:F [1.9.22_1171]
Rating: 4.8/5 (8 votes cast)

Defining the Last Responsible Moment

I was involved in a recent twitter discussion with Chris Matts about Lean’s “Last Responsible Moment”, and he set a challenge to come up with a usable definition. Chris’s opinion is that there isn’t one, compared to the Real Options equivalent. This then, is my response to that challenge.

I will define the Last Responsible Moment (LRM) in terms of Cost of Delay, as used by Don Reinertsen, and Benefit of Delay, a related term that came up in an email conversation with Julian Everett. In short, the Last Responsible Moment is just before the Cost of Delay outweighs the Benefit of Delay. Its not necessary to be able to quantify the costs and benefits very accurately because any evaluation is going to be better than none!

In his challenge, Chris used the example of knowing the Last Responsible moment to submit a session for Agile2010. I’ll use that example to explain my definition.

Firstly, the Cost of Delay for submitting to Agile2010 goes up at the submission deadline, because when you can no longer submit, can can no longer get accepted, and thus can no longer receive speaker benefits including conference registration, complimentary hotel nights. However, that does not make the submission deadline the LRM, because there is no benefit in delaying submission due to the open commenting and review process. Thus the LRM is actually as soon as the submission system opens. From then on, submitters are losing the opportunity to improve their submission.

What would happen if the Agile2010 submission process wasn’t as open or iterative? In that case, then there would be benefit in delaying, because it would allow more time to refine a submission before entering it. The Benefit of Delay would drop off just before the deadline, however, so the LRM would be then.

A third scenario, as suggested by Chris, is that a speaker might have something so important and valuable to say, that the Benefit of Delay doesn’t actually drop off at the submission deadline. There may be a Benefit right up to the conference itself because a speaker can turn up with a Soap Box, or propose a session for Open Space. The Cost of Delay remains the same, due to the loss of speaker compensation, but the Benefit might always outweighs the Cost.

Finally, in this scenario, a speaker might choose to register for the conference early anyway to take advantage of any early bird deals, and book flights and hotels early to get good prices. This would reduce the Cost of Delay, and thus potentially reduce the Benefit needed to make it worthwhile not requiring an official speaking slot on the program.

To summarise, understanding both the Cost of Delay and Benefit of Delay can be a practical way of defining the Last Responsible Moment. Real Options thinking provides ways of influencing the Costs and Benefits of Delays to gain some flexibility.

VN:F [1.9.22_1171]
Rating: 4.0/5 (2 votes cast)