Trying to save money? Skip the headcount limits; they actually drive costs up.

The chief operating officer and chief financial officer of a Fortune 1000 company faced a challenge: Revenues were growing, but profits weren't. They had to get a handle on costs, especially corporate overhead (G&A).

One really visible part of corporate overhead was IT. The IT budget was growing even faster than was total overhead, and it was a big number. The COO and CFO weren't clear on the benefits they were getting from their investments in IT, so they decided to put a stop to its budget expansion.

However, they didn't want to target IT's vendor costs. These were less controllable because they were negotiated deals (like infrastructure licences and the offshore applications development relationship), and they already had their "strategic sourcing" procurement staff helping with vendor negotiations. Plus, they didn't want to discourage outsourcing, which they believed saved them money.

Thus, they issued the following edict: No growth in IT headcount (employees).

Why Caps Backfire

The CIO and her leadership team respected the cap, and only hired staff to fill existing open positions. But IT costs didn't come down.

Why? Clients in the various business units understood the return on IT investments far better than the COO and CFO, whom they privately considered out of touch in the ivory tower of corporate headquarters. These business leaders knew they needed to buy more IT to stay competitive and grow.

When the corporate IT budget wasn't sufficient, the business units transferred incremental money to IT to get what they needed. IT used this money to hire contractors to get the job done. Of course, the contractors were more expensive than employees. So the net result of the cap was an increase in IT costs, not a decrease!

When the CFO saw what was occurring, he was very upset. But he couldn't tell the CIO to refuse client projects they were willing to pay for - at least not directly. To do so would be counter to the corporate-wide customer-focus program. So he modified the edict: No growth in IT headcount, including contractors.

And then he added another edict, just to be sure: No growth in the IT budget (total spending).

The business units still needed more IT. But no edict can magically make IT more productive (the old "do more with less" delusion). When the corporate IT department couldn't satisfy the business units' demands, clients did the obvious. They hired their own IT staff (many of whom were hidden under other titles), and they went directly to outsourcing vendors. In other words, the cap didn't reduce IT spending. All it did was cap the "market share" of the corporate IT department.