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Invest in an RFID Options Strategy

To extract greater value from your RFID investment, exercise your options, just as a call or put option is exercised on a stock.
By Michael Witty
May 09, 2005Faced with highly publicized customer mandates, many manufacturing companies were faced with a must-do RFID project but were not able to justify the project using traditional ROI models. As a result, a number of these organizations took a minimalist IT-investment approach and implemented a lowest-cost, nonscalable "slap and ship" RFID solution. This cost-driven decision has limited these companies' future ability to provide a scalable integrated RFID solution, and, as a result, these slap-and-ship solutions will probably need to be replaced within a few years.

Given the number of uncertainties or risk factors that exist with RFID today—trading-partner RFID adoption, tag costs, technology capabilities and evolving standards—this preference for a perceived low-risk approach is understandable. In order to avoid investing in another round (or two) of throwaway solutions, however, companies need to treat their RFID business cases as living documents. To address this issue, my company, Manufacturing Insights, worked with Dr. Robert Fichman, an associate professor in Boston College's Wallace E. Carroll School of Management. We believe that when evaluating RFID technology, manufacturing companies and retailers alike should consider adopting an options IT-investment strategy instead of a traditional ROI strategy.

Managing RFID programs with an options strategy requires an organization to identify the opportunities, or options, beyond the initial project (e.g., adding information to RFID tags to track products' date codes or integrating RFID-collected data into a distribution or warehouse-management system). Then, with an eye to the potential value of the identified options, an organization can make an initial investment (akin to purchasing a call option) in a full RFID project rather than an investment in a throwaway solution that may prove to be more costly in the long term. The options strategy then gives management the flexibility to "exercise their option" on a given project or projects, just as a call or put option is exercised on a stock.

Companies that choose to adopt an options strategy will need to implement three basic processes to successfully manage IT projects with this approach:

Recognize and create options for RFID investment. A needs-focused analysis of business processes, systems architecture and resource capabilities will identify where the opportunities lie within an organization and will allow identification of the investment options available for implementing the RFID strategy. It is also important to identify the risk factors or uncertainties that exist in the current environment and how they should be evaluated before exercising an option.

Value the options. It is essential to place a value on each option that is identified. One of the most commonly used tools for valuing real options is the Black-Scholes model. Formal options-pricing models (OPMs) such as Black-Scholes are becoming more widely accepted, but if the use of one of these models proves to be a barrier, then a more systemic decision-tree approach is a viable process for defining value and oftentimes is more easily accepted by an organization.

Extract value from IT-project options. Clear checkpoints need to be established at specific times throughout the project in order to manage an options approach successfully. At each checkpoint, management reviews the value realized on previous and current options, updates the status of identified risk factors, adjusts the value for future options, and makes decisions on whether to exercise or defer future options. This review also provides management with the option of terminating the project if it is determined that its cost is greater than its value.

Organizations that develop and implement a comprehensive RFID strategy that goes beyond compliance with mandates will be poised to gain a competitive advantage. In addition, those organizations that adopt an options strategy have the flexibility to make decisions with future information, eliminating some of the uncertainty that exists today and providing them with the opportunity to extract greater value from their RFID investment.

Michael Witty is director of demand management strategies at Manufacturing Insights, a market research and technology advisory firm based in Framingham, Mass. To comment on this article, click on the link below.
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