How is this different when an organization’s IT services are free to internal departments? The substantial growth in IT over the past decade has moved IT from being a back-office support function to a critical and strategic function. User demand for faster response times, more information and sophisticated equipment are driving IT spending upward at an ever-increasing rate; IT now ranks among the top category of expenditures for many organizations. If IT does not internally “charge back” its expenses or provide “show back” to its users for its services, then expenses grow out of control.
Creating an Internal Service Provider and User Marketplace
I recently interviewed Chris Dedera, president of CRD Business Consulting, who is recognized by the IT Financial Management Association as one of the top educators in the field of IT financial management. Dedera observed, “The last 10 years of the 20th century saw an uncontrolled increase in IT spending. In fact, IT spending in some industries has reached 10 percent of revenue. After Y2K, the increase in IT spending forced more organizations to focus on cost management and performance improvement efforts in their IT groups. Many of the techniques used in commercial manufacturing and the service industries are now being applied specifically to the IT function. Activity-based cost management and IT capacity usage reporting systems are being used to develop cost information that is used in both cost management and performance improvement efforts. The use of ABC/M and capacity usage information support multidimensional cost analysis, performance measurement and monitoring, creation of internal IT markets, user-customer cost visibility, driver-based planning and capacity management … Clearly IT spending can no longer be managed on the back of an envelope.”
Dedera’s observation of an “internal IT market” is important. When internal, shared service providers and their users interact with an understanding of their mutual relationship, using fact-based data, then everyone benefits: IT, the user and the entire organization. Line-item IT chargeback invoices not only create a service provider-user market for pricing, but the cost calculations also provide the basis for service level agreements, including service-level rates.
The Need for IT Cost Visibility
With increasing spending and investment in IT comes increased scrutiny; CIOs have to demonstrate greater maturity and expertise in IT performance and financial management to show how IT money is being spent, the returns their organization is getting for their spending and investments, and how IT is contributing to overall enterprise performance.
IT users who care about their organization’s financial health are demanding greater IT cost transparency, visibility and financial analysis, so that everyone can understand the true costs of IT. CIOs often have difficulty responding to these demands, and they struggle to easily and clearly communicate the cost of services provided and demonstrate the substantial value that IT brings to their organization. To complicate matters for CIOs, CFOs are becoming increasingly influential and vigilant in monitoring, and even approving, IT budgets and purchases.
Some IT organizations are demonstrating reasonable maturity in getting purchases of new technology approved - and they have to. It’s estimated that 70 percent of annual IT spending is on equipment and software technologies, with the remainder spent on employee salaries and their support supplies and services. Since assets become sunk costs the instant they are purchased, the only improvement levers are to boost the analysis of the capacity requirement for new assets before their purchase and then fully utilize the assets’ capacity after purchase. IT asset acquisition needs to be more thoughtfully evaluated. Hardware and software capacity is immediately committed, lump sum, to “supply” services. The users then “consume” the capacity. By perpetually postponing IT asset purchases until their capacity almost fully reached before purchasing more, the benefit is perpetual future cost avoidance. Vendors of SaaS as a “rental” business are exploiting this reality.
Dedera said, “With the dawn of the 21st century, the landscape of IT management has changed. In the 1990s, there were never enough resources, and organizations could not add them fast enough. The needs for IT seemed insatiable. Then, shortly after the turn of the century, a dramatic shift occurred and the hungry demand for IT services began to be challenged. Suddenly, organizations seemingly had too many IT resources, and they began questioning the value of the money spent in the 1990s. The IT model of the 1990s, ‘spend first, ask questions later’ is gone and is being replaced by ‘ask questions first, spend later’.”
Additionally, it is difficult for CIOs to attempt to track and measure the benefits of the technology after implementation. They often lack the insight and information needed to understand the implications of investments, accurately forecast demand and costs, and ensure that any investment provides maximum benefit to the business.
The consequences of failing to implement IT business performance management methods, like ABC/M and KPI scorecard metrics, are often hidden, yet ultimately substantial. Without performance management methods, IT is stumbling in the dark. IT struggles to control its budget, cannot maximize its ROI, suffers from increased complexity and cost, and is unable to make sustainable cost reductions. Consequently, organizations make decisions to implement infrastructure or outsource capabilities with inadequate service cost information that doesn’t support, or may even negatively impact, strategic goals. Outsourcers prey on IT organization that do not know their costs and especially those that do not understand the fixed and variable nature of costs.