Why IT Costs Must Come Out of the Black Box--Now

Full IT cost transparency is not a "nice to have" anymore, says a new Forrester Research report. It's a required competency that organizations will need to avoid two big business pitfalls and remain competitive.

For decades, the innerworkings of IT departments everywhere have been referred to as a Black Box, since non-tech executives typically had little insight into or appreciation for IT's dark arts.

The Black Box moniker correlated mostly to IT "stuff"—coding, networking, servers, storage and such. But IT's accounting and budgeting processes have also been a mystery at many companies—which, in turn, led to unyielding questions of IT's value over the years.

A new Forrester Research report, From Black Box to Glass Box: Case Studies in IT Financial Transparency, urges CIOs and IT shops to shift from being technology asset managers to internal service providers—who can demonstrate that value.

"IT organizations that successfully make the transition from being technology asset managers to being internal service providers do so by translating assets into business services, exposing these services through a service catalog and delivering their customers a bill of IT," writes Forrester principal analyst Craig Symons.

Non-IT execs' fiscal frustration starts with the IT budget: In 2009, Symons notes, average IT spending as a percent of revenue ranged from 1 percent for wholesale trade firms to as much as 7 percent for financial services firms. However, he adds, usually there is "little to no visibility into how this spending is linked to strategy and value."

[ See The New New CIO Role: Big Changes Ahead for more on the pressures facing today's IT leaders ]

IT spending is most often "categorized by broad categories or asset classes, which often reflect how the assets are acquired and paid for but almost never how they are eventually used," Symons writes. So while IT may purchase servers, storage arrays, software licenses and network bandwidth, he adds, the users consume services such as e-mail, desktop support, Internet access, Web hosting and so forth.

In the case of when an IT shop charges back its costs, "it is often through some form of allocation based on a prorata share of the total IT budget," Symons notes. "While this may help IT recover its costs, it does little to nothing for the business manager trying to figure out how to link the cost of IT with any value, not to mention that it is difficult if not impossible to predict or control the amount. In such cases, IT is a black box."

And that box, he contends, is a "competitive disabler."

The Importance of Being Transparent

CIOs who don't accurately allocate IT costs back to the business can create two problems for the company, according to the report:

1. Financial Statements Are Distorted. When all IT costs are accounted for as general and administrative (G&A) expense, it overstates this account and understates cost of goods sold (COGS). This may lead to false assumptions about the overall dynamics of the business. It doesn't change the bottom line, but it can make an organization look like it has too much overhead (high G&A as a percent of revenues) or that its products are more profitable (lower COGS) than they really are.

2. Executives' Decision-Making Is Compromised. The end result from the distorted financial statements is that executives may make the wrong decisions. Without an understanding of a product's true COGS, they may allocate investments to a product, believing it is more profitable than it really is. It can also rob execs of the opportunity to understand where IT can be better leveraged.

Full IT cost transparency is not a "nice to have," Symons contends, but a "required competency if organizations are going to remain competitive."

The report offers two in-depth case studies of this monumental IT change in action: The experiences of McKesson and Nationwide Mutual Insurance, Symons writes, offer best practices and lessons learned during "their journey to bridge the gap between IT and the business by linking IT costs to business value."

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To start your IT cost-transparency journey, Symons lists three starting points: Start by building IT credibility, don't underestimate the magnitude of the effort, and do as much of the heavy lifting upfront as possible.

The overall effort will require "a different type of IT organization with new roles, skills, and focus," he writes. "It's not good anymore just to be technically competent. IT must also become customer-focused and adept at designing, delivering and operating business services."

Thomas Wailgum covers Enterprise Software, Data Management and Personal Productivity Apps for CIO.com. Follow Tom on Twitter @twailgum. Follow everything from CIO.com on Twitter @CIOonline. Email Tom at twailgum@cio.com.

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