IT spending at midsized companies: How much does size matter? |
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By Tom Pisello
27 Sep 2005 | SearchCIO.com |
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It's a long-held theory that larger companies have an advantage over smaller ones in IT spending, largely because of their ability to tap economies of scale. They can spend less and extract more value from investments. Recent research supports the notion that size does matter but that companies investing the most in IT are not always the winners.
In fact, on average, the most successful small and midsized (SMBs) companies are more frugal than the average large company when it comes to spending as a percentage of revenue.
To understand the differences between large and small companies, Alinean turned to its PeerComparison ™ database of 8,000 companies worldwide, which includes detailed IT spending and financial performance data. To judge if size really matters, the IT spending and performance ratios of public U.S. companies were compared between large companies with revenues greater than $2 billion, midsized companies with annual revenues between $50 million and $2 billion, and small companies with less than $50 million in revenues.
Our analysis shows that small and midsized companies often outspend larger companies. The average small company spends 6.9% of revenue on IT, midmarket firms spend 4.1% and large companies bring up the rear at 3.2% of revenue.
On a per-employee basis, small companies are also bigger spenders, at $15,810 per employee, while midsized companies spend less at $13,100 per employee, and larger companies spend $11,580 per employee.
For small businesses, these higher spending rates are the norm across all industries. In midsized businesses, the differences are more apparent in industries where IT spending is more critical to success -- particularly in financial services, IT and telecommunications, and consumer discretionary. In industries where IT is less strategic -- energy, consumer staples, legal and insurance, materials and transportation -- there is little or no difference in IT spending per employee between companies of any size.
The most successful small and midmarket IT spending programs map far more closely to those found in the SearchCIO 200, which identifies the highest-performing large companies. These top-flight small and midsized firms spend less than the average company -- almost 50% less, and only 2.8% of revenue on IT.
We can conclude that the most successful companies are more efficient and effective with their investments. Interviews with several top SMB performers reveal that most are extremely conservative in their approach to IT; they avoid large projects and demand quick payback from investments. Investments are well aligned with the business needs of supporting market advantage, growth and profitability, and with the strategies of basic business blocking and tackling, driving increased productivity, controlling overhead, improving business processes and streamlining operations. At the same time, keeping pace with product lifecycle management and replenishing aging products with new ones remains a challenge. This reality suggests that market conditions have an impact on companies' ability to make the most of IT investments.
While no single spending practice can determine a company's success, the following characteristics are common among the top performers:
- For smaller companies, IT spending must be closely managed because projects can get out of control quickly, threatening execution and profitability. The key investment decisions center on whether the initiative helps the company enter a new market or business, provide better time to market, support continued innovation or enable growth.
- Standardization and consolidation initiatives are extremely important for smaller companies and help to hold the line on IT infrastructure costs. The more centralized the IT group, the more easily assets can be standardized, which in turn requires fewer resources to manage the environment. With roughly 60% of direct IT costs dedicated to support resources, these savings can be substantial. Most top performers have programs in place to drive best practices in standardization and consolidation.
- Being fiscally disciplined is important, but it shouldn't be the ultimate goal. For most SMBs, IT "innovation" often represents less than 15% of total IT spending. The most successful companies are interested not only in cutting costs but also in reducing basic operating costs so that precious funds can be reallocated to more innovative, business-enabling initiatives.
- Wholesale outsourcing is not an influencing factor for leading companies, and smaller companies tap outsourcing strategies far less often than larger companies. Instead, outsourcing is done selectively, helping to supplement the core IT team with specialty resources for specific projects and initiatives. As with larger companies, SMBs that align IT with the most important business initiatives realize the greatest success. These companies optimize IT investments to reinforce positions in current niche markets, help maintain a strong pace of innovation, utilize precious resources more effectively, grow more efficiently, improve productivity, change key business processes, transform business information, or change or reinforce competitive and innovative cultures.
As with large companies, SMB leaders run the risk of becoming complacent, milking "cash cows" and failing to invest enough in the future. These companies face the ever-present risk of not innovating enough. The companies with good current performance must maximize strategic and innovative investments while minimizing ongoing costs for IT migrations, upgrades, management, maintenance and support.
For performance laggards, the decisions are tougher: Is current performance hampered by high overhead costs or a lack of revenue or growth? As with the top performers, lower-performing companies should make IT investments to reduce the cost of ongoing IT operations, and they should shift investments to improve the business.
The bottom line is that while SMBs often outspend their larger counterparts on IT as a percentage of revenue, the best performers are those deriving maximum value from technology investments that are well managed, innovative and aligned with the true needs of the business.
Tom Pisello is the CEO of Orlando, Fla.-based Alinean, an ROI consultancy. He can be reached at tpisello@alinean.com.
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