For IT Budgets, Less Is More

How companies think they can get more by spending less.

June 14, 2004

10 Min Read
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When it comes to IT budgets, new habits are hard to break.

Throughout the 1990s, companies spent heavily on IT. They built enterprise systems, gave knowledge workers their own PCs, developed Internet platforms, and tackled year 2000 remediation. Companies of all sizes and types mainlined IT into the bloodstreams of their operations. Corporate chieftains felt they had no choice but to spend a disproportionate amount of their capital budget on technology, just to stay competitive. Then the dot-com bust and recession hit at the turn of the millennium, and companies reined in IT investments. Yet, when the economy started to expand, as it is now, corporate spending on IT didn't follow.

Call it the new normalcy. CEOs have put their CIOs on low-carb, high-protein budgeting diets. "IT budgeting has changed, and especially from the venture mind-set of the 1990s, when ideas did not need to be cost justified if they provided differentiation of competitive advantage," says Bill Halnon, VP and CIO at leaf-tobacco merchant Dimon Inc., in an E-mail. "CFOs and CEOs are scrutinizing payback of IT investments much more diligently than in the past."

Companies are heading into a budget-leveling period in which they balance cost reduction with new initiatives, IT consultant Bruce Rogow says.IT's Fiscal Squeeze"), Rogow writes that many companies seem to be heading into a budget-leveling period in which they balance cost reduction with new initiatives (see story, "The Odyssey: Sit-Downs With CIOs Yield Insights").

That's what's happening at the $15.9 billion-a-year pharmaceutical company Wyeth. "The demand and need for IT services and systems exceeds the company's ability for additional funding," says Bruce Fadem, CIO and VP for corporate information services. So, "efficiencies within the current IT investment must be found to support some of the new initiatives." Wyeth is partially funding a new global data-warehouse system through savings made elsewhere in IT. For instance, over the past two years, Wyeth spent 67% less on storage but still experienced a whopping 587% increase in capacity. Similarly, spending on networking and help-desk support has been slashed by 60% and 39%, respectively, while networking capacity rocketed 346% and help-desk calls soared 67%.A study released last week by IT advisers Hackett Group says companies can be more efficient in delivering IT without sacrificing service. The most efficient companies Hackett studied--those that have implemented strict rules to govern IT use and spending--allot $8,686 annually per user on IT versus $10,532 a year for the average company. And these highly efficient companies employ 36% fewer IT workers than the average organizations, Hackett says. Yet they deliver 91% of projects on time versus 68% for the average company. "The IT rationalization efforts of these large world-class organizations are starting to bear fruit," says Allen Frank, senior Hackett Fellow and president of Hackett's parent company, Answerthink Inc. "These companies don't blow up their infrastructure, they simplify it. It's best practices, not rocket science."

IT spending can get out of hand when companies don't maintain management-control processes that recognize the evolution of IT. A not-uncommon problem has been the failure to account for costs beyond the initial development and deployment of IT systems. Companies often fail to allot money for employee training, maintenance, and replacement. "After spending a fortune on the purchase, a lot of companies today face billions in unfunded liabilities," Rogow says.

One company that's clamping down is $2.4 billion-a-year engineering and construction-management company Parsons Corp., which has disciplined its approach to tech governance, in part by outsourcing almost all of its IT functions, including management. After accounting for inflation, CIO Doug Philbin, actually an employee of Perot Systems, estimates the company's IT budget has been reduced by about 20% over the past three years. "There's not a lot of things out there that are pushing us to spend on new initiatives," Philbin says.

As a contractor on major construction projects, Parsons maintains myriad small offices with PCs that must be supported. Using recently deployed IBM software tools to manage individual PCs lets remote support staff analyze and fix problems and provide automated software updates and security patches and fixes. Without the need for regular on-site visits, Philbin says, Parsons has slashed its PC-support costs by 25%.

Many companies are trying to cut IT spending and still provide IT support to allow their companies to grow. Larry Kittelberger, senior VP of administration and CIO at Honeywell Inc., faces the daunting challenge of deploying new IT systems to foster revenue growth without increasing spending on IT. That means as corporate revenue rises, the percentage of revenue earmarked for IT will fall.One way to pay for new technology such as radio-frequency identification tags and wireless infrastructure is to reduce the amount spent on supporting existing infrastructure, Kittelberger says. In 2002, $8.4 billion-a-year Honeywell allotted 68% of its IT budget to infrastructure, compared with 32% to applications that help grow the company's businesses. Today, that has shifted to a 62%-38% ratio. Five years from now, Kittelberger projects, it should be closer to 50%-50%. And all of that will be accomplished by investing only 3% of revenue in IT.

Helping pave the way to lower IT spending was the money the company spent on Web-based development during the dot-com boom years. Using that Web expertise, in late 2001 Honeywell created a three-tier program it calls Digital Works, meant to not only drive IT efficiencies but to identify ways to use new technology to help build its business.

Tier 1 involves simple projects that provide payback on IT investments within three months. Among the 700-plus Tier 1 projects is one to develop common code to be used throughout the company to track customers. Tier 2 focuses on integrating systems, which should result in payback within nine months. These projects, for instance, involve developing components of enterprise systems that can be reused by different divisions of the company. Tier 3 is the invention stage, during which technology is used to develop new products and open new distribution channels.

When Honeywell unveiled Digital Works, it expected to save $150 million the first year. Instead, at the end of 2002, the program had saved more than $300 million. Kittelberger credits the project with $572 million in savings last year alone. "We're years ahead of schedule," Kittelberger says.

What Honeywell is doing is very logical; the company identifies technology and processes that can be reused and reuses them. When Wal-Mart Stores Inc. required that Honeywell use RFID technology on its retail automotive products--Prestone antifreeze, Autolite spark plugs, and Fram filters--Honeywell realized it could use the tags, to track the products internally, which the company is implementing now. Also, the same technology can be redeployed for other company offerings, potentially providing millions of dollars in savings. "We're applying more-advanced technology to the company while at the same time streamlining the processes," Kittelberger says.Some companies find they can do more, and pay less, by employing open-source solutions rather than more costly proprietary ones and adhering to standards throughout their organizations. That's partly how FedEx Corp. cut IT spending as a proportion of revenue to 5% from 7% in the past two years, even as revenue last year rose by 6.7%, to $16.4 billion. FedEx also prioritizes IT spending, placing the most importance on systems that provide safety to the courier-services fleet and employees as well as those that deal with government regulations. Customer-touching systems come next, followed by internal operational and productivity systems. "Any IT organization worth its salt goes through intense prioritization so only the most important things get done," CIO Rob Carter says. "It's very important to vet things to make sure you're focused only on processes that have the highest impact."

Illustration by Marc Rosenthal In the late 1990s, medical-diagnostic-testing kit maker Dade Behring Holdings Inc. wasn't focused on specific business processes that IT could support. Instead, it was in an IT buying frenzy. The $1.4 billion-a-year company was formed from several spin-offs in the mid-1990s, and IT spending was anything but discretionary. "Our IT job was to put a platform in place so the company could conduct business," senior VP and CIO Dave Edelstein says. "Virtually everything we did was mandatory or the company wouldn't operate." Today, IT spending tends to be more discretionary, and like FedEx, Dade Behring has become more focused on ways to shave IT costs. Dade Behring is heavily into lean manufacturing, a concept that closely analyzes the way products are produced and seeks ways to eliminate unnecessary procedures. Edelstein has taken lean-manufacturing methods and applied them to IT. For instance, the Food and Drug Administration regulates the testing and validation of software Dade Behring uses in relation to medical-testing instruments it manufactures, so Edelstein's team looks to cut unneeded steps from the process. The savings from this efficiency process may be small, but repeated often enough, the dollars add up.

Getting a handle on how IT money is being spent is crucial in getting it to work more efficiently for a company. The ability of IT tools to provide managers with detailed budgeting data is helping management consultant Booz Allen Hamilton to budget its IT outlays more effectively. While many companies base their IT budgets around their organizations' structures, such as business units, Booz Allen's spending blueprint focuses on a formula that accounts for the IT that's being used by each unit and office, partner and CIO George Tillman says.

In the not-too-distant past, $2.7 billion-a-year Booz Allen employed a complex allocation formula in which the company charged various units and offices proportionately for corporate IT expenditures, not necessarily based on each unit's actual use. In fact, some units found themselves paying for IT services and wares they didn't want. This wasn't a significant problem when the economy and corporate revenue were growing rapidly.

As the economy faltered, Booz Allen jettisoned that budgeting approach. Using a variety of spreadsheets and business-analysis tools, Booz Allen budgeters today can zero in on each office's specific IT needs, creating a more efficient budgeting model, one that can save the company millions of dollars that can be used where needed. Technology also lets Booz Allen track spending as it occurs. Now, IT spending as a percentage of revenue has decreased marginally. "And we have better control and accountability on what we spend," Tillman says. "I don't see us going back to the old way [of allocating IT funds], even as the economy gets better."To succeed, IT budgeters must show more restraint in picking the solutions to fund. "That discipline and focus is great for the company, great for IT," Dade Behring's Edelstein says. "It may sound trite, but making trade-offs for scarce resources is something you have to do."

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