CIOs are challenged to prove the value of IT to the organization, and to measure their IT performance. Although more than 80% have implemented measurement systems for IT spending and investment performance, fewer than 15% feel that the current measurements highlight the true value of IT to the organization.

With fifteen years of experience on industry standard benchmark databases and tools for IT performance measurement and assessment, the Alinean team sought to create a single representative metric to highlight IT performance and compare companies. The Alinean team refined prior metrics, such as Total Cost of Ownership (TCO), before and during its tenure at Gartner, to make them the industry standard metrics for IT efficiency measurement. But efficiency only measures the comparative cost of IT to competitors and best-of-breed companies, ignoring the value side of the IT equation - IT effectiveness.

To provide a meaningful measure of the overall value of IT that reflects both spending efficiency and value effectiveness, Alinean has developed the Return on IT (ROIT™) metric, comparing the ratio of the overall financial performance of a company, EVA®, to IT spending. Similar to the Return on Investment (ROI) measure of project success (the ratio of net benefits to project costs), the ROIT metric translates ROI to a corporate metric level. Given IT's far-reaching impact in most organizations, net benefits of IT are expressed in terms of overall profitability and the costs of IT, expressed as total IT spending.

How ROIT is determined

ROIT™ = EVA® / IT Spending

To measure profit, Alinean uses the Stern Stewart Economic Value Add (EVA®) metric. EVA is the financial performance measure that best captures the true economic profit of an enterprise. EVA is also the performance measure most directly linked to the creation of shareholder wealth over time.

EVA is defined as Net Operating Profit After Taxes (NOPAT) minus the product of cost of capital and capital employed. Put most simply, EVA is net operating profit minus an appropriate charge for the opportunity cost of all capital invested in an enterprise. Thus, EVA is an estimate of true "economic" profit, or the amount by which earnings exceed or fall short of the required minimum rate of return shareholders and lenders could get by investing in other securities of comparable risk.

Using the ROIT formula, companies with higher financial performance and lower IT spending will rank higher than companies with lower financial performance and higher spending levels.

> Superior business models and competitive advantage
> Better IT to business alignment
> Prudent IT investment management
> Superior project management
> IT governance capability and maturity

Recent measures of ROIT performance show that the Top 10 percent performing U.S. companies with more than $1 billion in revenue (noted as "Great" in Figure 1) have a 95% correlation between IT spending and EVA, with an average ROIT that is more than three times the average profitable company's (noted as "Good" in Figure 1). In other words, these top performers produce three times more shareholder value per IT dollar spent.

ROIT™ Rank		Selection Criteria		Average ROIT™ Score (EVA/IT Spending)		Degrees of Correlation between EVA and Total IT Spending
Great		Top 10%		522%		0.95
Good		Significant ROIT™		159%		0.70
U.S. Database		All Companies		- 3%		0.48
Poor Performers		Negative ROIT™		- 233%		- 0.33

Figure 1: Leading companies are achieving significantly greater correlation and value from IT spending

The ROIT™ Measurement Metrics

The Alinean ROIT™ ranking is based on Alinean's PeerComparison database, a software analytics tool and database with three years of publicly reported and proprietary information from more than 15,000 U.S. public companies and 5,000 non-U.S. public companies in 100 countries.

Corporate financial performance information is provided by Mergent Inc. FIS (originally Moody's publications) Economic Value Add (EVA®) data is based on Stern Stewart & Co. coverage for more than 3,000 U.S. public companies. For companies that Stern Stewart research does not cover, EVA® economic profit calculations are estimated by Alinean based on this formula:

Net Operating Profit After Taxes - weighted average cost of capital * (assets - liabilities).

In this formula, the Equity Investment Reporting Method is utilized. This measures shareholder economic return and treats debt at the firm level rather than including it in Total Invested Capital. Under this method, Net Operating Profit After Tax (NOPAT) includes interest expense and Total Invested Capital is measured by equity only (no debt). The financial metrics are based on annual reports, as reported and available from Mergent on February 28, 2005.

As IT spending metrics are rarely reported in corporate financials, Alinean estimates total IT spending based on a set of research performed by Alinean and Framingham, Mass.-based IDC, of actual IT spending of 400 companies in more than 36 different industries. Based on the research, Alinean has developed a proprietary statistical regression algorithm:

IT Spending = ((A * B* Number of Employees) + (C * D * Operating Expenses))* E * F * G

Coefficients A-F represent proprietary coefficients that are used to derive total IT spending from known financial reports and metrics, and are defined as follows:

> A = Contribution of per employee TCO to IT spending
> B = Per employee TCO
> C = Contribution of IT spending as a percentage of operating expenses to IT spending
> D = The unit cost IT spending as a percentage of operating expenses
> E = The industry factor in IT expenditures
> F = The geographic factor in IT expenditures
> G = Company size factor in IT expenditures

For the majority of companies, these estimates are +/- 15 percent of actual IT spending. To get a complete picture of the total IT investments, total IT spending is comprised of formal IT spending (allocated and controlled by the CIO and IT group), business unit IT spending (the IT budget controlled by business units and leaders), and shadow (indirect) IT spending (the hidden expenditures of business units and users).

Criteria for Consideration in SearchCIO 200

> In Alinean PeerComparison - Enterprise v2.0 database (data feed 5/12/2005)
> Public U.S. companies only with revenue greater than $1 billion
> Employee count greater than 1,000
> IT spending per employee of less than $100,000
> Companies with reporting date prior to 1/1/2004 and those without reported beta were excluded

The results

The research conducted in 2005, which used IT spending data for 2004, indicates that ROIT leaders have begun to invest in IT at more than double the spending levels of 2003. Preliminary research shows this trend is continuing and expanding in 2005.

Today's agile leaders are expanding investments more than others, which is contrary to the cutbacks during 2001 through 2003, where superior performers cut spending more than their peers. This is a result of growing business opportunities and the need to proactively invest to catch the next wave of economic success.

Those who expand current performance measurement systems for IT to better measure and manage IT spending effectiveness - rather than just efficiency - will enjoy similar benefits. Those who remain focused on antiquated metrics will lag behind competitors in two ways: the amount of money invested in IT and the leaders' commitment to "doing the right things right." CIOs must measure the bottom-line business value IT has for the entire organization, to ensure competitive advantage.

As companies' budget priorities and accounting has become more scrutinized, IT executives' mandates have shifted. Companies are in the middle of a wholesale shift from a cost-based to a value-based approach, requiring new thinking and measurement metrics. Those quickest to adapt will be the quickest to profit, and laggards risk the competition surpassing them.

Tom Pisello is the CEO of Orlando-based Alinean, the ROI consultancy helping CIOs, consultants and vendors assess and articulate the business value of IT investments. He can be reached at tpisello@alinean.com.

Additional information about Alinean and IT Value optimization resources can be found at http://www.alinean.com.