Old buying habits die hard

Most CIOs rationalize their IT spending by comparing it to broad industry averages. A new report from Forrester Research tells you why this formula may not be right for your company.

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The boss expects it. You've been doing it for years. Come budget time, you calculate your technology spending as a percentage of company revenue and compare that figure to the industry average.

A new report from Forrester Research Inc. found that rationalizing your IT spending by measuring it against broad industry averages is meaningless, unless understood in the context of how your company does business. For "The Economics of IT," Forrester interviewed the CIOs of Eli Lilly and Co., Intel Corp. and United Parcel Service of America Inc., among others.

"It is amazing how many CIOs actually admitted that the percentage of revenue measure doesn't make any sense. But what is more surprising is how institutionalized it has become," said analyst Laurie Orlov, lead author of the report.

CIOs feel compelled to use the industry standard when reporting to their bosses, Orlov said. In the absence of any other guidance, bosses pressure their CIOs to lower the percentage, leaving IT with two options. The CIO can cut costs or hope the company increases its revenue.

The reason industry benchmarks don't make sense is that two companies in the same industry sector can have very different "spending contexts," Orlov said.

To put IT spending in proper perspective, companies need to understand the forces that drive technology spending. Orlov identifies these forces as: the role technology plays in a company's business, the volatility of a company, its organizational structure, competitive pressure and geographic scope. She provides a worksheet for CIOs to score their companies in each of the five categories on a scale of 1 to 5.

For example, at NCR Corp., an ATM maker and computer services company, technology is a cost to be driven down each year, not a competitive differentiator, said CIO Sam Coursen. Its score for "the role technology plays in the company" will be lower than Microsoft's, where IT is mission-critical.

Generally speaking, the more volatile, decentralized, competitive and geographically dispersed a company is, the more a company will spend on IT relative to its peers. A company that acquires and divests companies, such as Verizon, will score higher on the volatility scale than a Dell. Companies that need to consolidate IT to centralized systems will score higher than a firm, such as Eli Lilly that has already consolidated its IT infrastructure. Firms battling for market share will make bigger investments in IT than firms like John Deere, with few or slow-to-change competitors, the report said. The global operations of Intel, for example, will drive more IT spending than the single-country territory of the IRS.

While Forrester's IT spending context will "add depth, color and substance" to budget discussions, according to Orlov, the IT department's ability to execute and communicate its value will help it secure the funds. Assessing this ability, called the Maturity Index by Forrester, is a complicated process depending on variables, such as the alignment of IT to the business's strategy, the range of IT's responsibilities and the degree to which IT communicates with its stakeholders.

One scary fact: the amount a company needs to spend on IT is shaped largely by outside forces. "Not one of those forces is under IT's control," said Orlov. Whether the CIO can secure the necessary funds depends on how effectively IT has delivered in the past.

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