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New research suggests that zero-based budgeting and thorough scenario planning are keys to an optimal IT budget.
David McCann, CFO.com | US
December 14, 2009
During the economic downturn, companies have trimmed their information-technology spending by holding off on purchases and retooling existing systems to squeeze out extra efficiency. But an additional chunk of savings could be realized merely by revamping the IT-budgeting process.
How much could be saved by better budgeting? In some cases, more than 10% of the pie, according to the CIO Executive Board, a networking and research group run by the Corporate Executive Board.
The CIO Executive Board created a model of best budgeting practices, based on a survey of 200 of its member IT executives about their budget planning for this year. It then compared the model with practices employed by companies at the other end of the efficiency spectrum to determine potential savings.
The group estimated that some companies wasted 5% to 9% of their 2009 IT spending in missed cost-cutting opportunities, largely by revising the previous year's budget rather than starting from scratch with a zero-based budget. Freshly scrutinizing every line item tends to unearth significant savings, says Andrew Horne, senior research director for the CIO Executive Board.
Just taking the previous year's budget and marking it up or down by a certain percentage involves making assumptions about how this year will be different from last. Assumptions about how many software licenses will be needed, for example, often prove fairly accurate, Horne notes. But if a company spins off a division or, as happened at many companies this year, lays off employees, the number of licenses needed may be radically different. The many IT projects that were slowed down, put on hold, or canceled in 2009 also curtailed licensing needs.
Of course, it's impossible to fully predict change, the CIO Executive Board noted in its research report. But budgeting should be made more flexible through the use of scenario planning so that IT spending can quickly adapt to new business circumstances.
But zero-based budgeting isn't a magic bullet. It takes considerable staff resources to generate an entirely new budget every year, and companies that have been doing it for a few years report diminishing returns, Horne says. As a result, an emerging best practice is to use a rolling cycle. For example, a company may divide its budgeting process into 12 parts and tackle one each quarter, so that every part gets a thorough review once every three years. "It's less work than doing the whole thing annually, but the principle still applies that on a routine basis, albeit every two or three years, you're going back to basics and asking whether your costs make sense," says Horne.
The figure of 5% to 9% savings potential from spotting cost-cutting opportunities took into account the extra staff time needed for zero-based budgeting. However, the research identified wasted time spent on budget construction that cost companies the equivalent of up to 0.5% of their IT spending. Indeed, a majority of the CIO Executive Board members went through three to five budget iterations this year, notes Horne. "As soon as they were done, they were told to make more changes," he says. The most efficient companies trimmed the budgeting process to a few weeks rather than the more typical several months, and avoided revising the budget multiple times.
A further potential savings involved delayed or reworked projects. To be sure, the reasons why projects are altered — because they were poorly conceived or managed, for example — go beyond the budgeting process. But the research identified waste amounting to a potential 0.4% of the spending pie attributable directly to budgeting errors, such as not adequately planning for possible changes in projects.
Finally, a 1.4% possible variance from an optimal budget came in the form of an opportunity cost resulting from IT projects not being aligned with business needs. Examples of misalignment might be rolling out a capability for a business unit that soon thereafter is divested or closed, or deploying a system for the sales force just as the company is changing from a product model to a service model.
Here too, much of the fault has nothing to do with budgeting — but some of it does. "You could envisage tight budgets helping to determine where money will be spent, which could lead to misalignment," says Horne.
Overall, after doing the survey and interviewing the respondents, the CIO Executive Board concluded that some companies may be trying too hard to improve their budgeting process.
"If you try to make the process stronger — more elaborate and sophisticated — you're likely to waste more effort," says Horne. "The best customer-specific examples we found all pointed in the direction of being faster and more flexible, and thus able to respond to change faster, rather than trying to do more and more to predict change."