How to make sure the numbers add up

You’ve got the network and telecoms infrastructure on which you're running business-critical applications. So how do you...

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You’ve got the network and telecoms infrastructure on which you're running business-critical applications. So how do you calculate the total cost of ownership to the business? Sally Whittle reports on how you can you quantify the cost of ICT.

 

 

 

For such an innocuous piece of kit, the humble PC can generate much controversy when it comes to figuring out how much they cost. Ask the finance department, and they might check the purchase order to find a list price. Ask the head of IT, and he or she might add a few hundred pounds to account for technical support and administration. Ask you, the user, and you may point out the time you waste trying to get your PC to do stuff. But here’s the scary part: the only thing your firm really knows for sure is the price of technology keeps going up.

 

Although the downturn in IT has driven down prices, the cost of integration and support continues to rise. That’s a problem for companies like yours – they don’t usually have the resources to cope with complex technology products internally, says Mick Hegarty, general manager ICT BT Retail/BT Business. “Because prices have fallen, SMEs now have access to more complex products than ever before,” he says. “But they often need to pay more to integrate and support those products, and they may not have the expertise to make them as efficient as they can be.”

 

The problem is that very few companies like yours actually know what your systems really cost. This is because IT has been viewed traditionally as a product that can be plumbed in and forgotten about, believes Andy Kellet, a senior research analyst with Butler Group.

 

“That worked fine on basic software packages, but not if you’re rolling out customer relationship management (CRM) software or a business intelligence application,” he says. “Those more complex products bring about a range of ongoing and ancillary costs and benefits that need to be addressed.”

 

Pinning down the total cost of ownership (TCO) of technology to your company is difficult, but it is essential that it is done. Knowing exactly what a system costs to buy and run is the first step on the road to reducing those costs. A few hours of number-crunching might reveal that it would be cheaper to switch your accounting system to a simpler application requiring less support, for example. In addition, balancing the TCO of new systems against projected benefits helps you make smarter spending choices.

 

There are a number of tools and methods for calculating TCO, with the most widely known being Gartner Group’s TCO methodology. Put simply, this is a formula for calculating the cost of owning and operating any type of technology. Although that figure might start with the price tag, it can include items such as support, upgrades, maintenance, and help desk.

 

Gartner’s TCO formula groups all the costs incurred by a technology system under four headings: capital costs, administrative costs, technical support and end-user operations. The headings are an umbrella for virtually every cost involved in using a technology product, from buying to installing, maintainacne and support.

 

Common sense

There are consultants who can conduct a comprehensive TCO analysis of your business for upwards of £10,000, but it’s perfectly possible for you to do the work yourself. “TCO is something everyone struggles with, but it’s down to common sense,” says Hegarty. “It shouldn’t be complicated for a smaller business because there are a limited number of costs involved.”

 

To conduct your own TCO analysis, you should begin by creating a project team that should include staff from the IT department and the business units affected by the technology roll-out. The role of this team is to provide a comprehensive view of the impact a technology will have on the business, says Kellet. “Business people can help judge what costs will be incurred in deploying the software in their department, who will need training, and what it will mean for existing processes,” Kellet says.

 

Using the four basic cost categories of the Gartner TCO model as a base, your project team can calculate the likely costs of the technology in question. Other analysts offer their own versions of the TCO metric, and tools are widely available on the Internet, or from technology suppliers themselves. In recent years there have also been a number of software packages released that use industry average figures to partially automate the TCO process.

 

It’s important not to forget how the changing nature of your business will impact on costs. “Consider where this strategy will take the business, and whether your support costs will increase as you widen the project, or whether licence costs will increase when you take on more staff,” says Kellet. “It’s about the endgame, not year one.”

 

TCO isn’t an end itself and shouldn’t be the only thing that guides your IT purchasing decisions. The metric doesn’t take account of risk in technology projects, and also overlooks many of the benefits technology delivers. “Basing your investment decisions solely on TCO will often lead to poor decisions,” says Stacey Quandt, an analyst with Giga Information Group. “What’s really important is not always what you spend, but what you get in return.”

 

Return on investment (ROI) can often provide a better tool for justifying technology investments than a TCO metric alone. ROI balances the costs of implementation against projected benefits. Again, there are a number of ROI methodologies, but a simple analysis can be done internally.

 

An ROI project should begin with a calculation of your costs, as in the TCO metric. However, the project team should also create a mission statement that looks at what the business wants to achieve, and how the proposed technology will help you achieve this. “You’re essentially saying what you want to achieve as a business, and whether the technology will save money or create more money,” says Hegarty. “And if you aren’t going to achieve one of those things, you have to ask why you’re doing in the first place.”

 

Measuring success

Once you have identified the business strategy and the related objective for the technology, ask how you will know whether your technology investment is delivering. This could be as simple as monitoring the number of customers you are able to process each day, or increasing the average spend per customer. The aim is to create a set of metrics that can be measured before and after the implementation to show any positive or negative effects.

 

It’s vital you remember only to include benefits you can measure, says Quandt. Recent research by Giga on the benefits of CRM software, for example, showed 60% of companies thought they had seen a return on investment, but three-quarters of those companies didn’t know for sure because they couldn’t measure the benefits. 

 

Giga recommends you base technology investments on a crystallised version of the TCO and ROI analysis. Try to boil down your number-crunching into a single sentence: “We will be doing x to make x better, as measured by x, which is worth x.” When discussing the technology, refer to this sentence to reinforce the project – and its value to your company.

  

Case study

 

Cosalt is a manufacturer and retailer based in Grimsby, selling products and services to the maritime industry. The market is fiercely competitive, and Cosalt’s customers, including sailors and cruise operators, can buy their safety equipment from suppliers all over the world.

 

To meet the challenge, Cosalt recently completed the rollout of a £750,000 customer relationship management suite from IFS. The software provides sales staff with information on when customers need to replace items such as protective lifejackets, allowing Cosalt to offer proactively replacements, explains Jason Belcher, Cosalt’s IT manager. “We hoped the software would increase revenues and improve customer retention,” Belcher says.

 

An internal TCO project before implementation showed the total upfront investment would be £750,000. However, by automating the purchase order process, thereby reducing the number of administration staff needed, the software would save £100,000 annually. However, a return on investment (ROI) analysis suggested that improved customer retention would lower customer acquisition costs, increase revenues and allow the company to move into new markets.

 

Factoring these benefits into the equation is difficult, but Cosalt decided the investment was worthwhile. However, Cosalt wanted to be able to monitor whether the software was delivering on the stated business goals and so invested in a balanced scorecard module from IFS. This software can track exactly what products are sold to which customers, and how effective staff are at meeting customer retention and sales targets.

 

“Previously we relied on gut instinct or hearsay, but a balanced scorecard gives us a way to measure results and set targets,” says Belcher. “It’s been a revelation to the managing director.”

 

Justifying IT investment

 

The fundamental question underlying any IT investment decision should be: is it worth it? A good investment is basically one where the total costs involved are lower than the measurable benefits. As a rough guide, follow these steps:

 

1 It’s a CON: any argument for investing in new technology should be based on a Challenge (c), Opportunity (o) and Need (N).

 

2 Map out how the technology will be implemented. Who will be affected? What will be the operational impact? Are there alternative, better plans?

 

3 What are the capital costs of your hardware or software, including initial purchase price and future upgrades, over a three- or five-year lifecycle?

 

4 What are the costs involved in ongoing maintenance and operations, including IT staff and services, for deployment, plus the cost of supporting and training your users over the lifecycle?

 

5 What are the total administrative costs involved in buying and managing the technology for your IT department?

 

6 What impact will the technology have on operational processes? Will it impact the cost of relationships with your customers or suppliers?

 

7 What impact will the technology have on your bottom line profitability? Look for impact on user productivity, in terms of a measured increase in your ability to produce goods or fulfil orders

 

8 How will the technology allow your company to cut back resources or administrative functions?

 

9 Will the technology enable your business to enter new markets or increase market share through improved quality?

 

10 Can the expected benefits to your business be expressed in SMART terms (Specific, Measurable, Achievable, Realistic and Timely)?

 

Source: Giga Information Group, Ernst & Young

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