USAA: I.T. Incorporated

USAA rebuilt IT as a for-profit subsidiary, turning IT services into products and IT employees into product managers. The dividends for the business have been great.

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On a Thursday in February, Joe Thomas arrives at his office at in USAA’s San Antonio headquarters for a 7:15 a.m. meeting to review the daily status of operations. At 8 a.m., he’s off to oversee an HR training session on the company’s new attendance policy. He heads across the corporate campus at 9:30 to meet with a consultant regarding performance against business continuity benchmarks. Just before noon, he’s back in his office with back-to-back supplier meetings. At 1:30 p.m., he’s free to reply to e-mail and presumably grab a bite to eat. He goes over February’s financials at 3 p.m. An hour later, he’s reviewing inventory numbers with his customer, followed by a brief update on the status of his business’s latest project. At 5:30, he reviews internal audit results. Just after sunset, he’s heading home on the McDermott Freeway and, buoyed by the best customer satisfaction scores he’s seen in some time, he’s ready to do it all again tomorrow.

"I often joke that I used to be in IT," Thomas says with a giggle.

The punch line, of course, is that he’s still in IT -- specifically ITCO (Information Technology Co.), the wholly owned IT subsidiary that serves financial services company USAA. But as his daily schedule illustrates, he’s not managing technology, he’s managing a business that supplies IT products and services to a single customer, USAA Federal Savings Bank.

Thomas, assistant vice president of bank systems, is one of four ITCO managers responsible for an IT product line associated with a specific USAA business unit. They all report to ITCO President Steve Yates, who in most companies would be called the CIO. But at the $9.2 billion USAA, he’s a chief executive, running IT with a profit and loss statement, a portfolio of 200 products and services and a contract he signs with his customer every year. He’s subject to the same federal regulations as any third-party provider CEO. And his business objective is to provide the most value to USAA as efficiently as possible, something he says he could not accomplish without the transparency and credibility that come from running IT like a business. "If I didn’t have this business model, I’d be deaf, dumb and blind," Yates says.

Of all the companies studied for this special report, USAA stood out for its broad commitment to and success in transforming IT into a business within a business. The evolution began in 1998, and it’s hardly been smooth. Resistance from IT staff, objections by business unit leaders, corporate politics, a lack of business skills in IT -- the fallout from any one of these could have brought the transformation up short.

But Yates and his team, backed by USAA’s CEO, stuck with it, and their labors have yielded remarkable returns. The IT function has reported three straight years of declining costs while supporting double-digit corporate growth. Multimillion-dollar project failures have been replaced by multimillion-dollar project successes. And IT customer satisfaction scores are up 40 percent. (See "Growth Up, Spending Down," opposite page.)

Soul of a New Business Machine

In the 1990s, technology drove the business rather than the other way around, says USAA COO Tim Handren, who spent nine years in IT at the company. "We got to do whatever we wanted," he recalls. "It was a dreamland for technical geeks like me." But there were major problems brewing that could be boiled down to one simple metric: USAA was growing its IT spending faster than it was growing its business. In 1998, USAA’s revenue grew 5 percent while IT costs grew 10 percent. The following year, revenue was up 9 percent; IT expenses jumped 19 percent.

At the same time, two $100 million information technology investments were aborted over the course of a few years. "The budget was going up, and service was going down," Yates says simply. "That was the cause of a lot of consternation."

USAA’s IT structure had a corporate IT shop, plus individual IT departments sitting in two lines of business. In 1998, CIO Brig. Gen. Don Walker centralized IT and dubbed it ITCO. USAA adopted a limited form of chargeback in which business units were automatically assessed a percentage of IT’s total yearly cost based on their relative contribution to yearly corporate revenue. If the property and casualty business accounted for 50 percent of USAA’s revenue, it would be charged 50 percent of information technology costs. The chargeback model gave the businesses no control over how much they were charged, so it did nothing to encourage prudent consumption of IT resources.

In the end, running IT like a business wasn’t for Walker. "He was a very brilliant technical scientist," says Yates. But new CEO Bob Davis, who took the helm in mid-1999, wanted someone with business experience in charge, and hired Yates, who had run three for-profit IT shops, most recently at Rockwell Automation. Walker moved into a position heading up technical research and a large development project, eventually leaving USAA at the end of 1999.

Davis set clear expectations for Yates’s ITCO: "We have a responsibility to USAA members to manage this association effectively and efficiently," Davis says. "Our IT business is no exception."

Yates quickly recruited a senior financial officer for ITCO, Harmon Carswell, who had performed the same role for Yates at Brown & Root. ITCO initiated full chargeback, billing USAA and its business units for their use of all information technology products and services. "No one will take IT expenses seriously unless they see all the charges and have some control over their consumption of these services," says Yates.

And the IT business was up and running.

The First Steps Are the Hardest

Actually, running is probably an overstatement. It was more like learning to walk, perhaps even crawl, as ITCO experienced more than a few slips along the way.

When Yates took over, the economy was still chugging along. USAA’s business units showed no signs of major fiscal crisis. So the company’s 2,700 IT workers didn’t exactly welcome the message that they needed to make major changes. "I felt like John the Baptist preaching in the wilderness," says Yates.

Thomas, whom Yates brought to ITCO in 2000, encountered staff defiance firsthand. "It was very hard to get people here on board. They were saying, ’First of all, who are you and why are you here? And second, why do we need to change?’" remembers Thomas. "The IT staff didn’t like the implication that they were doing a poor job. And technically, they weren’t." But business-oriented skills --knowledge of basic accounting and P&L -- were sorely lacking.

"We started off with a major handicap. We didn’t have many managers who had ever run a business," Yates explains.

Some of them had no interest in learning. "There were a lot of people who liked the title manager, but as a manager here, you have to understand the business side, and that wasn’t what they wanted to do," says ITCO’s Carswell. Some IT managers left USAA. Others were transferred to technical positions.

Yates gave his employees the tools they needed to manage the new IT shop like a business -- for the first time, IT had accounting, forecasting and reporting systems. The $4 million outlay wasn’t hard to justify. "Running IT like a business has to be an investment, not a fly-by-night thing," says Yates.

Yet in 1999, its first year of full chargeback, ITCO lost money. "We missed our rates big time. Nobody understood our cost structure, and we sure didn’t know how to forecast demand," says Yates. The net loss: "many millions" is all Yates will say.

ITCO’s leadership team blamed itself for the poor performance. It hadn’t spent enough time training the IT ranks and getting them invested in the new business model. In 2001, that was remedied by a new ITCO effectiveness training program. To show everyone he meant business, Yates charged his direct reports with delivering the curriculum. "I had to teach financials," says Thomas. "Another general manager had to teach customer service. Another had to explain why we were pursuing the ITCO model. It was a way of showing commitment and building trust." (For a look at the curriculum, see "IT Business 101," Page 82.)

Yates sums up the painful lesson: "You must have a business model written out that’s understood not only by the IT management team but the whole group. In our case, our goal was to be the trusted IT adviser and general contractor to USAA, with a strong relationship to the business. The first time we said that, everyone just nodded." After the ITCO training, they really got it.

In year two, ITCO turned its financial numbers around. The company spent 20 percent less than planned without any major customer complaints. Except one. IT was making a profit.

Can I.T. Make Money? And Is That a Good Thing?

The idea that IT could generate revenue was new and, to some, unsettling. The lines of business were looking at the new IT regime to cut costs. "We cut and cut and cut, and they were very pleased," says Yates. "But we started making money too. And some in the business started to say, ’You should give us that profit back. You’re making money off our backs.’"

CEO Davis stepped in to defend the ITCO model. Yates recalls Davis telling the critics, "If Steve’s running at a better cost structure and more efficiently, he shouldn’t give you back that money. Why should we move it over to your business and make you look good? You didn’t do anything to deserve it."

While Davis silenced those complaints, there are still internal mutterings that intensify when a business unit is having an off year. That’s when the pressure mounts on Yates to explain what he’s doing with the excess revenue, and why he can’t cut the business units some slack by, say, offering a rebate. But ITCO sticks to its model. "It’s an open and honest fair-market system, and it has to be run the same every year," Yates says.

Every July, ITCO managers develop a budget that forecasts IT costs and consumption levels. They set rates to recover those costs and break even. Any profit is a result of increased IT efficiency and controlled consumption. The goal is to come within plus or minus 3 percent of targeted revenue, not to make a windfall by overpricing products. "Making too much profit is as bad as having a loss," Carswell says. In its four profitable years, ITCO’s profit has averaged 5.5 percent of revenue, which is millions of dollars. With input from business units and corporate management, Yates recycles those profits into strategic IT investments across the business.

Eventually, both the internal IT staff and external business customers came to understand and accept the ITCO model. "People may say, ’Well, they’re making money.’ And yeah, they probably are. But that’s OK," says Mark Wright, president and CEO of the USAA Federal Savings Bank business unit. "When all is said and done, with all the work being done at ITCO, it benefits us all on the bottom line."

Finally, ITCO was making progress. "It took us three years to hit our stride," estimates Yates.

The Heart of the Business Model

Hiring an IT financial officer is one of the most effective decisions a company can make to run IT like a business, according to respondents to the CIO survey "How to Run IT Like a Business." (For more on the most effective activities, see "The Best Best Practices," Page 58.) One of Carswell’s biggest contributions in that role at USAA has been the implementation of ITCO’s product platform, the heart of its business model. All IT hardware, software and services have been rolled into ITCO products, 200 in all, each with its own price. And 40 ITCO managers have assumed responsibility for ITCO’s wares.

To price core IT products such as phones and PCs, Carswell’s team rolls up the costs of components associated with these products, such as help desk service, security and software, into a flat rate. Shared infrastructure costs for servers, mainframes and storage are allocated to IT products oriented on business applications, such as credit card application or insurance claim processing. (For details on how ITCO transforms IT services into products that relate to its customers’ business, see "The Productization of IT" at www.cio .com/ritlab.)

With this product-based model, ITCO’s customers can easily see what they’re paying for and how rates track year to year. As COO Handren says, "It’s much easier to understand how much it costs us to be inefficient and ineffective."

USAA’s IT business model also makes budgeting simpler for the customer. If the bank unit plans to double its number of credit card accounts, it can calculate the IT costs to support that expansion. "It’s a simple principle," sums up Carswell. "If I were a customer, I would want to know what my cost is, and some kind of proof through benchmarking that it is a good price."

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