Calculating IT spending as a percentage of overall revenue is easy, popular . . . and misleading. There's gotta be a better way. In fact, there are several.
- Why calculating IT spending as a percentage of overall revenue doesn't distinguish between strategic and nonstrategic spending
- Where the wild variables live
- The pros and cons of popular IT spending metrics
Joe Drouin caught a lucky break when he became VP and CIO of TRW Automotive in 2002 - or so he thought at the time. A consultancy brought in to benchmark all of TRW's internal functions - everything from IT to legal to sales - found that the company was spending less on IT as a percentage of overall revenue than the industry average, which was about 1.5 to 2 percent.
Not one to look a gift horse in the mouth, Drouin played the metric for everything it was worth, highlighting it in every PowerPoint presentation he could during his first year as CIO. "I used it to say, we are managing IT effectively, and here's the confirmation from this outside firm," recalls Drouin. "It made me one of the good guys in the eyes of the CEO and COO." At one point, the CEO, who believed that inexpensive IT was good IT, joked that he expected to see Drouin and his staff outfitted with T-shirts that had the percentage stamped across their chests in big, block numbers.
But as that first year wore on, Drouin felt less and less like wearing that T-shirt. "I was guilty of using the number not because it demonstrated the value of IT but because it showed a positive trend," he admits.
The shallowness of the benchmark became clear as Drouin prepared his first budget presentation. The CEO asked him to break out IT spending as a percentage of revenue for TRW Automotive's 12 individual business units, each of which had its own legacy infrastructure and independent IT spending patterns. As it turned out, costs ranged significantly across the units. In fact, some units were spending two to three times more than others on a percentage of sales basis.
Suddenly, Drouin didn't look like one of the good guys any more.
He looked like a manager whose costs were out of control.
Much to Drouin's chagrin, the CEO initially tried to use the percentages to reduce the budgets of the higher-spending units. But it quickly became clear that the spending had no correlation to business success. Some of the units spending less on IT as a percentage of revenue were not doing as well as units spending more. Worse, if TRW Automotive's overall revenue fell (which was a distinct possibility given the auto industry's struggles), Drouin's IT spending as a percentage of revenue was going to rise even if he didn't spend an extra dime on IT.
"It's disappointing to be measured on one simple metric, only half of which I have any real control over," a sadder but wiser Drouin says now.
Caught in the Metrics Trap
Using percentage of revenue as a foundational metric to measure IT tends to cast IT in the role of a cost to be controlled. "When CEOs focus on spending as a percentage of revenue, it's because they've already decided to cut IT spending and they use the data as a justification," warns Barbara Gomolski, research vice president for Gartner. "It's hard to use this metric to show that you are doing the right thing." In this zero sum game, success is defined simply as lowering the percentage over time. "It's not clear how low it should go," says Drouin. "Joking with the CEO, I said: 'In your mind it should be zero.' We had a good laugh, but at what point do we decide it's at the right level and you don't drive it down further?"
Drouin wanted to burn those old PowerPoint slides. "I used the metric to my advantage, and it turned around and bit me," he laments.
It was too late to put the cat back in the bag. Nor was it an option to complain about how unfair the metric was. Rather, Drouin knew he needed to educate the CEO and COO about what constituted constructive cost-cutting in IT versus that which would rob IT of its ability to provide strategic differentiation. "I still mention the metric," says Drouin, "but I don't dwell on it." Instead, he emphasizes benchmarks that are more specifically targeted - such as the per-user cost of ERP systems in the different business units - to show that he's lowering costs in a way that will help the business rather than paralyze it.
But it's hard to get away from such a deceptively simple measurement - IT spending as a percentage of revenue - which remains "far and away the most popular metric for benchmarking IT spending", says Gartner's Gomolski, who's not at all happy about it.
"Top business executives don't want a dozen different metrics," Drouin explains. "The COO said to me: 'Come up with another metric, and I will leave this one alone.' I consulted the consultants and the analysts, and they couldn't come up with one."
The reason Drouin's consultants couldn't offer him a magic metric is because one doesn't exist.
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