Value and the Bottom Line

The final question of value is at the higher level: Does IT contribute to business value? To optimize its contribution to the bottom line, IT must install processes that ensure two things: that the enterprise is spending the right amount on IT, and that the IT budget is spent on the right things.

What is the right amount to spend on IT? The answer is certainly not found in industry averages of what others are spending (following the lemmings), nor in what was spent in prior years (which may be wrong).

In technical terms, the optimal amount to spend on IT is determined by funding investments (from best to worst) until the marginal internal rate of return drops down to the weighted-average, risk-adjusted cost of capital. In simple terms, the enterprise should fund all the good investments, and no more.

Obviously, "keeping the lights on" is a very good investment. Without it, the enterprise would grind to a halt. Beyond that, services and projects alike should be scrutinized to be sure they pay off.

IT, in isolation, cannot calculate the ROI of its products and services. Only clients can vouch for the value they receive from their IT purchases.

What can IT do? There are two things.

First, IT can ensure that clients are in control of what they buy and are accountable for spending the IT budget wisely. This means implementing a client-driven portfolio-management process.

Note that portfolio management is far more than rank ordering projects on an unrealistically long wish list. Clients must understand how much is in their "checkbook" (a subset of the IT budget), and what IT's products and services cost, in order to know where to draw the line. That is, they must work within the finite checkbook created by the IT budget as well as understand the deliverables that they will (and won't) get. Thus, true portfolio management is predicated on the above steps of defining IT's catalog, costing it, and presenting a budget in terms of the cost of its deliverables. Once all that is done, an effective portfolio-management process can be implemented.

Second, even if clients know the costs of their purchases and are working within the limits of their checkbook, they'll make better purchase decisions if they understand the returns on technology investments. IT can help clients estimate ROI of their proposed purchases. The cost side of the ROI equation was handled by calculating a budget by deliverables and rates. The remaining challenge is to quantify the benefits. Cost-displacement benefits (which include both cost savings and cost avoidance) are easy to measure. The real challenge is measuring the so-called "intangible" strategic benefits.