Why project management matters so much

This article discusses how projects add value to businesses, in fact I would argue that projects are probably the sole source of creating 'new' value given how future expectations tend to get priced into valuations. Project management is too important a task to be left to organizational 'b' players.
INTRODUCTION
Corporations perform economic activities that create value for their stakeholders, which in nearly all market driven economies mean its shareholders. The main job of the management of any firm is to enhancing shareholder value by increasing the value of the enterprise. Managing projects well is the only way for management to generate and capture value for its shareholders.

Classical finance theory tells us that the value of the firm is nothing but the discounted cash flows expected over the life of the business.

MEASURING VALUE
The value of the firm comprises two elements: the value of its “steady state” business, and the present value of future opportunities to grow the business or run it more efficiently. The steady state business represents business as usual, i.e. the current set of operations that support a steady cash stream that is growing at the rate that mature businesses do (often close to the rate of growth of nominal GDP). This is the part of the business that is the ‘cash cow’, and purely from a financial perspective is really an annuity that can be discounted to the present using an appropriate discount rate reflecting the riskiness of the cash flows. For example, for a company selling hair dryers, the cash flows from its core business that are predictable and continuing in nature will be a part of the steady state cash flows.

The present value of growth opportunities represents the expected cash flows the company will generate in the future from new initiatives. These are nothing but the changes to value that the market perceives will happen as the management seizes the opportunities available to it. Good project management capabilities help management extract value from such initiatives.

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VALUE VERSUS GROWTH
A portion of a firm’s value is always the discounted value of its steady state cash flows, and the rest reflects the present value of growth opportunities. The mix between the two elements differs between companies, and this relative proportion of value contributed by the two elements defines whether the company is considered a ‘value’ or a ‘growth’ company. Early stage companies usually have low or no value from the ‘steady state’, while mature businesses have little value from growth opportunities. In fact, these two components of value are recognized by investors who distinguish between growth and value stocks – value stocks are stocks of companies that have a relatively lower proportion of their firm value accruing from present value of growth opportunities, while growth stocks are those where most of the value is attributable to growth opportunities.

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HOW PROJECTS CREATE VALUE
Value from new initiatives or projects create value in two ways: by enhancing current operations by increasing productivity, improved resource utilization, plugging cash leakages from waste; and by opening up newer sources of revenue, e.g. the launch of new products.

WHY WELL MANAGED PROJECTS INCREASE MARKET CAPITALIZATION?
According to the efficient markets theory all known information about a company is priced into its stock valuation. This includes the market’s valuation of all future growth opportunities. Since all news, regardless of whether it relates to current steady state or new cash generating opportunities, gets included in the firm valuation immediately, the only means for management to create additional value is by continuing to identifying new opportunities that add to shareholder value over and above what is already known. In other words, all value from the current state of operations and the market’s current assessment of management’s execution capabilities for future opportunities is already included in the share price. New positive expectations about the business that increase capitalization and firm value are created by doing things above and beyond business as usual, i.e. by executing new positive net present value projects. This can be done in two ways:
• Identifying new opportunities to enhance operational efficiency and extend the value of its existing franchise
• Putting in place strong project management capabilities to be able to execute on growth opportunities

This is where the value additive aspects of projects come in. All day to day stuff, or business as usual, is already covered by operations. The way to create additional value is to identify opportunities and execute on them using projects. Projects may relate to any opportunity, and could include initiatives as diverse as launching a new marketing plan, or a new product, or a cost reduction initiative.

SUMMARY
If value is to be generated and retained within the organization, projects must be executed successfully. Poor execution of projects would mean management losing credibility in the eyes of the investors, implying a lower valuation on otherwise profitable ideas as investors do not perceive the management to be capable of good execution.

In addition to directly increasing value by positive value resulting from projects, strong project management capabilities reduce project risks so that the expected value from a project becomes less variable or volatile, contributing to reducing the overall risk of the firm’s earnings, further adding to value.



References: Brealey Myers, Principles of Corporate Finance