Strategic Cost Accounting

Information technology costs form the basis for many strategic decisions. Most large companies have a reasonable understanding of their overall IT costs; they track the cost of people, hardware, software and other items in the annual budgeting wars. But you need good cost accounting to be able to slice and dice your IT costs the way decisions are actually made: by service and activity.

Accurate cost accounting is crucial to making good business trade-offs. It clarifies whether a function is managed efficiently and helps you make the right choice when facing multiple investment alternatives.

Specifically, cost accounting can help you in these seven areas:

  1. Evaluating outsourcing. Few organizations want to outsource if it will result in higher costs. But unless you have an accurate understanding of your current costs, your outsourcing efforts may result in a nasty surprise. Cost-accounting data provides the foundation for determining the price at which it's advantageous to outsource a particular function.
  2. Spending wisely. One CIO found his desktop budget increasing dramatically, even though workstation requests were equal to the prior year's. Cost accounting revealed the cause: The total cost of ownership (TCO) of a notebook was 30% higher than that of a desktop -- including acquisition, configuration, installation and support. Virtually every new workstation request had been for a notebook (which was perceived as a status symbol). Based on this analysis, all future requests were filled by desktop PCs unless notebooks were justified.
  3. Weighing trade-offs. Every organization faces trade-offs as it allocates finite funds. Such trade-offs include:

    Cost cutting. Everyone is trying to cut costs. But how can you decide to eliminate something for financial reasons if you don't know exactly how much it costs? If division presidents want to lower their IT costs, they need accurate TCO values for each IT service or application used. These costs need to be described in a useful and understandable way (e.g., cost per invoice, not cost per gigabyte) so that each division can make conscious trade-offs regarding which IT services to limit, cut or continue.

    New development. Every IT organization has a long list of projects it would like to undertake but can't fund. Cost accounting provides accurate data about the aggregate costs of IT resources (such as database administrators, servers, architects and licenses) that must be included for accurate planning. This allows proposed projects to be more accurately evaluated and prioritized.
  4. Improving forecasting. Multiyear forecasts of IT costs can be built in two steps. First, categorize your spending into major activities such as development, enhancement, maintenance and production. Then compare various combinations of these activities to industry norms, such as the ratio of development cost to production, or the sum of maintenance and enhancement divided by production. These ratios will improve your ability to forecast your IT budget more accurately over multiple years. (See "Development Drop-Down Budgeting," QuickLink 49668.)
  5. Assessing the financial impact of project cancellations. The impact of stopping a project or activity is often dismissed by saying something like, "These costs will just go away." If a project is eliminated, however, not all of the costs will actually disappear. For example, canceling an outsourced project will eliminate payments to the outsourcer. But the cost of shared resources (such as test servers, development tools, telecommunications, architects and database administrators) can't usually be eliminated.
  6. Evaluating IT efficiency. Today's IT organization has to be efficient. Calculate unit costs (e.g., the cost of a help desk call or the per-month cost of a laptop) and compare them to industry norms. Efficient unit costs help you justify IT resources. If your costs are more than the norm, follow the money to locate the inefficiencies and fix the problems.
  7. Enabling chargeback. Some organizations use chargeback as a way to limit consumption of IT resources, charging departments for the IT products and services they consume. Chargeback isn't appropriate for every company. But if you plan to institute a chargeback system, you need a detailed and accurate accounting of the cost of each IT product or service. Without good cost accounting, a chargeback system will allocate charges unfairly, creating dissatisfaction and political grumbling.

Cost-accounting data provides the critical foundation for important strategic decisions. These decisions are too crucial to base on educated guesses. Your information needs to be good enough to bet the company, because you're often doing just that. Cost accounting leverages your financial data to make informed and effective business decisions. Get enough data to be sure.

Bart Perkins is managing partner at Leverage Partners Inc. in Louisville, Ky., which helps CIOs manage their IT suppliers. He was previously CIO at Tricon Global Restaurants Inc. and Dole Food Co. Contact him at BartPerkins@LeveragePartners.com.

Copyright © 2005 IDG Communications, Inc.

  
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