How to finance next year's IT programme

Feature

How to finance next year's IT programme

Finance and insurance firms are beginning to tailor products and services specifically targeted at CIOs and IT procurement teams.

On the finance side the recession has seen IT budgets slashed.

businessman dragging a computer wrapped up in chains

Following the economic meltdown, there was reduced sentiment from organisations to invest in IT.

Companies spent money, but the IT budget was used for remedial maintenance rather than wholesale replacement of systems.

Now, with an improving economic climate, there is a lack of confidence among banks to lend. Arguably, having a tight rein on spending makes business sense, given that the economic climate is still tricky and chief financial officers (CFOs) are being cautious.

The growing need for cyber insurance

With the economy booming and companies looking to invest once again in IT, now may be the time to consider cyber insurance.

Five years ago, when the banks went into meltdown, cyber security may have been considered a nice-to-have policy for all but the largest organisations. But the cyber threat is greater today, so even smaller firms need to consider the effect on their organisations of an IT outage, whether it is caused by human error, an act of God or criminal activity.

Nigel Pearson, global head of head of fidelity at insurer Allianz, says cyber insurance is a developed market in the UK, but smaller than in the US which has been driven by legislation where organisations that lose people’s data are held liable.

Such regulation is very much on the horizon in the UK, however, and is expected to be introduced around 2018.

A cyber policy will generally cover third-party liability, either an internal error or cyber attack. “You may attract liability for loss of personal or corporate data,” says Pearson,

The second aspect of cyber security is network security liability. “If your network is breached and you unwittingly passed on malware, this may affect a third-party,” he says.

The third party is covered for legal defence costs. Reputational damage is also covered by such policies.

For Allianz’s policies, companies need to take a risk assessment. “We talk to the IT department. We’re trying to figure out the IT maturity of organisations,” says Pearson.

But from an IT perspective, the downside of not investing is that organisations tend to run legacy systems. These systems may have been adequate when business was slow, but inefficiencies will become apparent as the business starts growing.

Syscap CEO Philip White says organisations realise they need to reinvest in their IT: “After the slowdown we are now seeing people starting to invest.”

On the software side, he warns that deferring software upgrades can be a false economy. If a company puts off upgrading a software product, the IT department is unable to skip versions and so must pay for the versions it missed anyway.

“It is almost a false economy not to invest in software because organisations have to buy previous releases if they skip a release. The cost of change is significant,” says White.

Doing nothing is not an option, as software may become outdated or unsupported. Systems that saw companies though the recession may be inadequate as business picks up, more staff are hired and the customer base increases.

Growing demand for IT finance

As a company specialising in providing finance, White says Syscap is seeing increasing demand, with people looking to maximise budgets.

For a company where IT costs a certain amount per month to support a certain number of users, if you employ more users the cost will go up in a predictable way. Buying upfront may be hard to justify, but without IT investment the company may not be able to grow as quickly and take advantage of opportunities arising in the new economic climate. Funding should augment your IT strategy.

By expensing or amortising a purchase over the product’s economic working life, the CIO can support the business without the need to fight with the CFO for a big upfront IT investment. So the cost of a typical desktop, for example, can be split over its three-year life. This provides predictability on expenditure and allows organisations to invest in the technology they need rather than what they can afford.

White says financing enables companies to align the return on investment (ROI) decision process to the cost: “If your ROI is two years, why pay upfront?”

Choosing the right method of funding

Companies ranging from small to medium-sized enterprises (SMEs) to large corporates and local government and large organisations are accustomed to paying a fixed cost for computing. Smaller firms are more likely to look at loans to fund IT as part of their growth plans.

Smaller firms are more likely to look at loans to fund IT as part of
their growth plans

But there is a lack of liquidity and funding in the market. The banks are being tight, says Quocirca research director Clive Longbottom. Banks have little interest in the reason for a loan being taken out. “The main focus for them is ensuring that any risks are minimised, and they will therefore have little interest in you as an organisation,” he says. Wherever possible, Quocirca recommends that bank loans are avoided for IT purchasing.

A better approach is to look at how a purchase agreement can be put in place with a focused provider. BNP Paribas Leasing, for instance, will provide money for an organisation to spend against its IT needs, where the collateral remains just the IT equipment. Such an approach enables an organisation to aggregate its own IT spend over a longer period – say, three years – but have access to the total funds up front.

Longbottom says this allows for better management of an IT estate and for investment in bigger IT projects than would be possible where the budget would only be available as smaller amounts on an annualised basis.

Asset value requires careful calculation

In the Gartner paper Avoid the risks and high cost penalties of misaligned leased assets with Gartner’s financing framework, analyst Rob Schafer warns that if an organisation tends to refresh PC assets every four years, a financing term (lease or depreciation) of three to four years is recommended.

In a purchase scenario, depreciating such assets over a conservative three years minimises the risk of a book value loss should the company’s requirements change and dictate a refresh after three years, according to Schafer. He says that where the original projected four-year useful life is later reduced to three years, a four-year depreciation term would leave a full year (25%) of asset value on the books. “This 25% book value would contrast with a likely fair market value of little more than 10% – the salvage value at the end of the asset’s economic life – after 36 months. The delta (25% to 10%) would then represent a book value loss,” he says.

In the report, Schafer notes that accounting risk – of book value loss or lease term commitment – can lead to decisions that extend the useful life of equipment well beyond what makes good business sense.


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This was first published in November 2013

 

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