The language of business is accounting. Accounting involves documenting, summarizing, and evaluating the financial transactions of a business. Traditional financial accounting is gradually wearing out. The future of accounting is innovation accounting.
Traditional financial accounting looks backward and tabulates the effect of previous actions. Innovation accounting looks forward and forecasts the value of events that have yet to occur or may never occur. This article discusses innovation accounting in detail, and how it shapes the future of businesses.
What Is Innovation Accounting?
One of the five essential concepts of the lean startup approach to a company is innovation accounting. Lean startup is a business and product development process that tries to reduce product development cycles.
Lean startup is a method (also known as Build-Measure-Learn). It assists entrepreneurs in making the most effective use of their existing resources to control startup risks. And simultaneously looking for a repeatable and scalable business model.
Innovation accounting lean startup incorporates the ‘measure’ and ‘learn’ aspects of the build-measure-learn cycle. This allows business owners and engineers to establish valuable metrics. These metrics provide insight into user engagement, product-market fit, and scalability.
Innovation accounting on the other hand is a method of calculating an investment’s unpredictability. Innovation accounting was created to address the reality that a company has no meaningful data history. It entails selecting essential indicators that allow you to track and quantify user interaction. It also allows tracking hypothesis testing and current product value.
Three Levels of Innovation Accounting
The three levels of innovation accounting that can be applied in business are discussed below.
Innovation accounting level one is customer-focused. This initial level is all about recognizing (and addressing) user demands. Understanding (and fulfilling) the demands of consumers is fundamental to the lean startup methodology.
The goal is to keep the development process tightly linked with customer requirements and feedback. These types of metrics are used to gauge the degree to which people are involved in the development of your product.
Level two involves making ‘Leap of Faith Assumptions. The lean startup strategy implicitly admits that it’s hard to start developing something new without making at least a couple of assumptions. You also need to monitor the accuracy of those assumptions as part of the second level of innovation accounting metrics.
Level two relies on having a well-thought-out business strategy with testable assumptions on what will happen. Later-stage factors such as recurrent purchases, poor retention, and margin are included. It depicts a customer’s whole engagement with them.
Level 3 involves converting the knowledge gathered from the previous two levels of innovation accounting into cash. This is done by rerunning the original business case with each new set of data collected at levels one and two. The goal of level three is to move the attention to the financial performance of the product.
Level three involves the use of Net Present Value (NPV). The traditional NPV calculations involve assumptions such as market size, market share, product cost, and so on. The innovation accounting NPV is based on the long-term drivers of your product’s future performance (and value), such as:
- The number of visits to the website,
- The proportion of visitors who become users,
- The percentage of users that pay for the product, and
- Each user’s average price paid.
The Process Involved in implementing Innovation Accounting
The following is a description of how businesses can use innovation accounting in product development.
- Choose metrics: The idea is to make metrics straightforward to utilize. You can generate ideas by posing these questions to yourself. Also refining your replies into metrics for which data is available: Questions like, “Did we follow through on our promises?” should be considered.
- Monitor data: Apply the measurements you’ve chosen to the three levels of innovation accounting, collect the data, and track your progress.
- Follow up with the project team: Take action based on the information you have. Ask questions, such as “Is the project team following the schedule?”; What progress has been made?; and “In what direction has it been made?” Also, questions like, “Is product development still focused on addressing recognized consumer needs?”
Benefits of Innovation Accounting to Business
Innovation accounting is shaping the future of business by providing the following benefits.
It Helps Develop Suitable Products
It leads to the development of a product that is better suited to its market and a single point of emphasis for the whole project team. This helps the development team stay focused on the key things, such as the project’s success criteria: a product that suits the market and will continue to do so in the future.
It Promotes Teamwork
It serves as a focusing mechanism for teams, allowing them to focus on the most critical assumptions they’ve made about their project.
It Improves Research and Development
Research and Development (R&D) is an important instrument for expanding and enhancing your company. R&D is the study of your market and your customers’ needs in order to develop new and better products and services to fulfill those needs.
Innovation accounting establishes a rare relationship between R&D and commercial performance. It enables long-term growth and R&D to be tied together in a system that follows a defined approach for funding innovation and can be audited for its capacity to create value.
It Allows to Compare Products and Measure Performance
It allows businesses to compare products side by side. It also allows for comparisons between two or more startups to determine which is the most deserving of continued investment. This allows a startup or innovation project to be viewed as a formal financial instrument with a precise value and a range of future costs and financial outcomes.
It also measures user engagement, product market readiness, and financial or market performance.
It Helps Forecast Success
It offers a system of linked leading indications, each of which forecasts business success. Each link in the chain is vital, and when it breaks, it needs rapid care.
Innovation accounting helps calculate the unknown impact of investments in specific initiatives, strategies, and capabilities. Innovation accounting provides many benefits as discussed in this article.
One of the major impacts on business is that Innovation accounting aids businesses in determining whether or not certain actions will be beneficial in the future. This helps the business make accurate decisions, therefore revolutionizing business operations.