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Portfolio Management Principles (Four-Region Framework)

Most business strategies involve a series of investments over time. R&D programs and market-entry strategies, for example, are usually run in stages; initial investments are limited commitments that include the option to fully commit later on, and later investments are contingent on the performance of earlier ones. The key to creating value for customers is to make the right decisions–to exercise the investment (ramp up), abandon it, or maintain your options–at the right time.

When you’re facing high uncertainty, four factors are particularly relevant:

  1. The expected net present value of a full commitment strategy (the expected value of exercising the option)
  2. The degree of uncertainty over this NPV estimate
  3. The threat of competitive preemption and loss of opportunity involved with not exercising the option
  4. Other direct costs involved in maintaining the option, such as ongoing operating losses

The accompanying chart presents a framework for updating your strategy portfolio over time based on these four factors. The framework is divided into four “regions,” each with a different prescription for exercising, abandoning, or maintaining an option.

To get the most out of this framework, track the expected NPVs and degrees of uncertainty of potential investments. Opportunities may change regions over time as new information becomes available and uncertainties are resolved.