Using scenario modeling for long-term investments

Market shifts and economic volatility make long-term investments into initiatives, products and services a high-stakes game for business leaders. It's no longer enough to rely on traditional benefit forecasting models or the multitude of frameworks regularly used to guide and justify investments. To make truly informed funding decisions, business leaders of today need a new approach: scenario modeling.   

What is scenario modeling?

Scenario modeling allows businesses to explore a range of plausible futures. By considering different assumptions about key variables, leaders can gain a deeper understanding of the potential risks and rewards associated with investment opportunities. This proactive approach lets business leaders make more informed funding decisions by reviewing options and the expected outcome of potential corrective measures should things not go as planned. Here, building a number of scenario models provides a measurable baseline use to track and inform future decisions.

The two sides of the investment equation

Effective investment management requires a balanced approach where assumptions and models support the investment decision. Measures and feedback are then used to track and communicate progress, needed to build trust in the decision and resulting outcomes. This approach is represented in the “double-diamond” diagram below:

1. Identifying and surfacing data for decision-making: This involves gathering relevant data, developing assumptions and then building models to simulate potential outcomes under different scenarios. By leveraging data-driven insights, organizations can make more informed investment choices.

1. Tracking and communicating investment progress: Once a funding decision is made, it's crucial to track progress, measure outcomes and communicate results to stakeholders during the full benefit realisation period. A key part of tracking progress is the validation of actual return over time against set expectations. This fosters transparency, accountability and trust, ensuring alignment and continued buy-in of stakeholders throughout the investment lifecycle.

Making scenario modeling a part of your investment process

Going beyond the shift from a project to a product operating model, a robust and systematic process must form the foundation of product portfolio management and funding of long-term initiatives. Including scenario modeling in this process ensures that investment decisions align with overarching goals, are well-informed, are monitored over time, and result in the expected outcomes with long-term benefits that support the organization's strategic goals.

This process involves identifying and prioritising investment targets, creating assumptions and models to simulate potential impacts and tracking progress to ensure alignment and enable data-driven reevaluation. In this way, accountability and trust is created between decision makers and stakeholders through transparency. 

This five-step process is outlined below:

What follows is a more detailed description of the five process steps:

1. Identify investment targets

• Assessment and prioritisation: Conduct a thorough assessment of current needs and future opportunities to identify and prioritise investment targets based on strategic importance, potential impact, and alignment with overarching goals. For products and services this could equally be called portfolio management.

• Stakeholder engagement: Engage with stakeholders to understand their priorities, concerns, and gather input to build consensus on investment targets.

   

2. Develop assumptions

• Baseline assumptions: Establish a set of baseline assumptions for each investment target based on historical data, industry benchmarks, and expert knowledge.

• Scenario planning: Develop multiple scenarios to capture a range of potential outcomes, varying key variables to test the robustness of assumptions and identify opportunities. Here we must also challenge the assumptions for each scenario with a risk analysis to minimise biases. The human tendency towards optimism can obscure what are, in retrospect, obvious risks that could have been mitigated, or at least should have been monitored closely.

   

3. Build models

• Model development: Create models to simulate different scenarios and support decision-making, ranging from simple cost models in Excel to more complex multivariate simulations.

• Simulation tools: Implement tools that allow stakeholders to easily adjust parameters and simulate the impact of choices as potential outcomes, ensuring flexibility to incorporate new data as it becomes available.

   

4. Track progress

• Measurement and transparency: Establish mechanisms to track the progress of investments and communicate this to stakeholders through regular reporting, updates, dashboards, and visualisations.

• Feedback and course correction: Routinely review data, compare actual outcomes against baseline assumptions, and make course corrections as needed, adjusting models and assumptions to reflect new information. As we progress, learn, and measure, a repeated conversation to have is whether to double down, pivot or stop investing in a particular initiative, and put that money to better use for the company.

   

5. Trust and outcome accountability

• Stakeholder communication: Maintain transparency and build trust with stakeholders through regular updates, clear communication, and active engagement to gather feedback and address concerns.

• Long-term benefits and stability: Monitor key metrics to understand investment impact on areas such as growth, cost efficiency, capability development, etc. and adjusting strategies and investment choices as needed to meet long-term goals.

   

Unified investment framework

Below you will find a unified view of how single-point and long-term funding needs determine the relevant funding-decision approach (not including business as usual and operational costs). Where single-point investments typically rely on a business case with an estimated cost and expectation on ROI, long-term investments will benefit from simulation modelling of several possible scenarios for a more informed decision with the ability to adjust variables as we learn more. Regardless of the investment type, progress, value and costs should always be tracked for possible operational reprioritisation or strategic re-evaluation if necessary.

Conclusion

By embracing a scenario-based approach to long-term investments into initiatives, products and services, business leaders can navigate uncertainty with more confidence and base investment-cases and funding decisions on better data. Ultimately this will drive greater ROI and ensure lasting business success.