Demonstrating IT Value, Illustrated
January 29th, 2013 By: Industry Perspectives
Hani Elbeyali is a data center strategist for Dell. He has 18 years of IT experience and is the author of Business Demand Design methodology, which details how to align your business drivers with your IT strategy. His previous post was How to Measure IT Value is the Real Issue.HANI ELBEYALI
The value IT creates for the organization is proportional to the benefits gained by the business minus the total cost of ownership, divided by the total cost of ownership, by this I mean:
IT Value = (Expected Return – Total Cost of Ownership) / Total Cost of Ownership
The organization only cares about the bottom line, and as such, organizations only want to spend money on projects with positive ROI. The ROI must be higher than the organization’s internal rate of return (IRR), therefore the enterprise only cares about the left side of this equation the “IT value” or “Benefits.” The problem is — most IT organizations only focus on the cost side of the equation. Unfortunately, reducing cost alone will not increase value. Here is why:
- Expected Return is the benefits gained from the IT organization, such as: increased sales due to better IT infrastructure, higher customer satisfaction, customer retention, and reduction of customer turn over etc. Simply, all benefits tangible and intangible gained from IT, quantified in monetary value.1
- Total Cost of Ownership is the sum of capital and operating spend for IT projects over their sustainable life.
- Net IT value is the value IT created subtracting all other associated expenses2 at year end
Using the equation above, Table-1 below shows two organizations. The top organization was successfully able to lower its OpEx spend from $100M to $60M, but kept its expected return constant at $1,100M, the result at year four is $58M of net IT value. The bottom organization did the same thing, in addition, increased its expected return by 2 percent year over year, the result is whopping $135M in net IT value at the end of year four.
Benefits of Lowering Cost and Increasing Return, Illustrated – Table-1
Plotting the data result in a graph (figure-1) shows the incremental delta difference in IT value overtime between the two organizations (A and B), the difference in year three is $56M, and year four is $77M. Organization B had better results because they lowered cost while increasing expected returns or “Benefits.”
So What Does This Mean?
It’s been said that the definition of insanity is “doing the same thing over and over again and expecting different results.” IT organizations tried that same classical bottom-up approaches with emphasis only on TCO for two decades, and as a result, they can’t get a head of the usual “keeping the lights on” problem.
This vicious cycle causes business people to say, “IT failed us, and we are not sure why IT budget is close to eight percent of total company gross revenue?”3 Essentially reducing cost alone year over year will cause IT to lose most of its budget over the years, and may get outsourced.
What I’m promoting is a new approach called “Business Demand Design” because IT value corresponds directly to both Total Cost of Ownership and the Expected Return, and increasing the value of IT requires balancing both ER and TCO. Reducing TCO alone is not enough and will result in lowering the expected return to the IT end-users, and by virtue, reduce IT value. IT has become the single face of the company to its customers, staying in today’s competitive market requires increasing IT value, not decreasing it.
Business Demand Design is a new practical approach, striking the balance between:
Expected Return (Demand) by aligning the firm’s business drivers with IT strategy, i.e. profiling each line of business demands into distinct workloads, run the workloads over fit for purpose and real time infrastructure. This will effectively squeeze out the wasted resources.
Total Cost of Ownership (Supply) by spending a little more on planning, and designing, the IT organization can break free from the vicious cycle of keeping the lights-on syndrome, IT could stop living in the consequences of the past poor planning decisions. This has a positive impact on fixed and variable IT spend, and will transform the organization into real time enterprise running fit for purpose design, or what we call “Business Demand Design.”
Business Demand Design
Business Demand Design (BDD) is an all-encompassing framework. It provides a guide to striking the balance between TCO (supply) and the ER (demand). Business Demand Design has two principles:
1) Business demands are unique in each organization. IT provides the supply for those unique demands. In some cases having one-hundred percent match between business and IT drivers are not possible, so you should design for maximum efficiency and effectiveness as possible, this can be done by profiling and aligning the business drivers to the IT drivers for the organization.
2) Designing the infrastructure should be top-down and bottom-up. This means taking a radical slant at minimizing classical IT cost cutting approaches, avoiding one-platform-fits-all solutions and the supply-driven IT market, and spending a little more on planning and designing to drive higher IT value for the organization.
Fundamental Steps in Achieving Business Demand Design
The first few preliminary steps in achieving Business Demand Design are;
- Understand the organization business drivers. List those drivers based on their priority level and how they are measured by the business, later these drivers will be used in creating the business profile.
- Understand the supporting IT drivers for each of the business drivers, list them down according to their Key Performance Indicators (KPIs) and how the related to benefits the business, this will be important in creating the tangible and intangible expected return.
- It’s essentially important to understand the IRR (internal rate of return) for the organization, the cost of money, and how you’re going to quantify and measure the success of each IT project over its sustainable life against its total cost of ownership.
1Assuming ER of 10%, no. Time value of money and other financial factors are not discussed at this high-level assumption.
2To simplify, I have omitted depreciation, inflation and taxation.
3Dr. Rubin, Rubin World Wide (http://www.rubinworldwide.com/)
Please note the opinions expressed here are those of the author and do not reflect those of his employer.
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