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As ROI comes back in vogue, finance executives are reemerginig as technology decision-makers; also, contract management software is booming.
Scott Leibs and Alix Stuart, CFO Magazine
April 1, 2002
When Jeff Stewart, CFO at Clarkston, an IT consulting firm in Durham, N.C., went shopping for a big-ticket software package last year, he had no intention of being swayed by technological gimcrackery. His focus was on payback. "Times are tough," he says. "These days our board won't even entertain an offer for a large project unless the return on investment [ROI] looks absolutely solid."
Many CFOs know the feeling. In a recent survey, Forrester Research found that the CFO is once again playing a very active role in technology acquisition, largely because few companies are willing to cut checks for new systems unless they feel confident that they'll earn back that money in a hurry. Technology vendors have been quick to respond to this call for more-rigorous ROI, if only because such analysis creates a drag on sales cycles. They now offer everything from "Top 10" lists of ways in which their products pay off to independent seals-of-approval from consulting groups. Some of those efforts are useful, but few companies accept them at face value. Taking the charitable view, Stewart says that "technology vendors can't see far enough into an organization to get the full picture. That's where corporate finance comes in."
It's not an unfamiliar role for the CFO, but at most firms the Y2K crisis and subsequent rush to E-business nipped a previous push for more-stringent ROI analyses in the bud. Now the CFO has (re)emerged as a front-line player, one whose analytical skills and focus on the bottom line don't simply augment decisions, but determine them. "Do the math" is now the battle cry, says Meta Group analyst John Van Decker. Perry Keating, a senior vice president at KPMG Consulting, agrees, saying, "People are not investing in technology in pursuit of top-line growth, but they are scrutinizing everything that might impact the bottom-line savings."
"We now deal with F&A [finance and administration] people at almost every prospective client we approach," says Kimber Lewis, president of Cramer Systems Inc., which makes software for the telecom industry. To make its ROI message more compelling, in fact, the company hired F&A employees from several telcos as consultants, in order to get an inside look at the financial ramifications of telcos' software purchases and craft a compelling message. "We can now go to a prospective client and talk about eight different EBITDA [earnings before interest, taxes, depreciation, and amortization] drivers," Lewis says, "which in turn allows us to talk about which of nearly 200 metrics matter most to their particular market."
Technology vendors have almost universally embraced ROI as the central tenet of their marketing campaigns, which has, predictably, led to some eyebrow-raising claims. "We've heard of some companies claiming 1,000 percent ROI in just a year," says Carl Frappaolo, executive vice president and co-founder of consulting firm Delphi Group. "Our own analysis at client companies has never turned up anything better than 700 percent over three years."
Clarkston CFO Stewart says: "When we were shopping for professional services automation software, most of the ROI analyses we saw weren't pie-in-the-sky; they were decent."
But, he says, no customer should regard them uncritically. He suggests instead that a vendor's version of ROI be used as one data point among many in a prospective customer's own analysis. His firm, for example, extended the ROI of eventual winner Changepoint Corp. by factoring in a range of internal costs, including reengineering several business processes to take full advantage of the software. "Our goal," he says, "was to see if we could achieve a 1 percent increase in the number of hours our professionals bill each year. We felt that if we could be confident we'd achieve that [goal], the software investment was worthwhile."
The company won't know for certain until it reviews its progress at the six-month mark, this coming August. Clarkston also plans a review at the one-year mark, a step that many analysts recommend to companies but that few actually do.
In fact, the current mania for ROI almost never extends to what companies have already spent. "The only time most companies look back," says Frappaolo, "is when they're doing a phased approach and are trying to decide whether to push on to the next milestone." As for conducting ROI on systems that have been long in place, Frappaolo says it never happens.
Seal of Approval
If CFOs at client companies find themselves leading the charge on conducting ROI analyses, CFOs at vendor companies often play an active role in making sure their companies' claims of adequate ROI don't get laughed out of the conference room. Ben Nye, CFO of Precise Software Solutions, decided that outside help was needed. He chose IT research firm Hurwitz Group to quantify the benefits the company's customers had realized from its software. Precise Software uses that analysis to develop guidelines for ROI, enabling the company to guarantee a 12-month payback (or it will "work with you" until such payback is achieved).
Nye says the guarantee program is one way in which Precise can distance itself from the hordes of other companies that now tout ROI as the centerpiece of their own sales pitches. And he says his company's ROI pledge carries more weight because of the independent verification. "We don't count soft benefits like user satisfaction or customer retention," he says. "And when we look at something like greater productivity, we don't inflate the salaries of the workers in question."
Analysts say those are just some of the things that can lead to greatly exaggerated ROI claims. Other pitfalls include leaving out a wide range of costs, from the costs of training and implementation to those of maintaining old systems. "Many vendor claims assume that the new system replaces the old," says Tom Mangan, leader of Andersen's CIO Advisory Services. "But often parts of the old system have to be kept, or the new system has to be modified to do everything the old system did. That can add up."
Meta Group's Van Decker says CFOs should "dig into these claims and assume worst-case scenarios. For example, a vendor may claim that better customer service will increase sales by X percent, boosting the top line. Cut that in half, and if you still like the way the numbers come out, maybe you're on to something."
Other analysts say that prospective customers should be careful about claims of spectacular ROI on the part of a vendor company's reference clients. Often those clients have paid little or nothing for the technology, or have achieved the results in a low-cost pilot, but will see the return drop off as soon as they roll the technology out to a broad base of employees.
Many Happy Returns
Companies that don't want to go it alone can tap ROI analysis services from the Big Five accounting firms and a spate of smaller firms. IT consulting groups have rushed in as well, providing third-party verification to vendor clients or simply consulting with corporate clients to see whether investments will pay off.
While analysts say that a careful ROI analysis can delay technology purchases by two weeks to two months, they also say that the effort pays off in several ways. Not only can companies buy with more confidence, but the discipline that ROI requires also forces companies to specify exactly what they need and determine how to roll it out most effectively.
Mangan believes that this renewed focus on ROI will bolster the CFO-CIO relationship. Frappaolo goes one step further, and says that a tighter rein on IT spending has triggered more communication between CFOs and CEOs. But will it last? "Right now, everything is getting cost-justified," says Frappaolo. "But when the economy improves, I think we'll see some return to the 'old days,' in which certain technologies are viewed as the price of doing business, so you spend the money and don't ask too many questions."
Right now, CFOs are asking plenty.
Most CFOs know only too well how arduous it can be to negotiate contracts. But far fewer may realize that the pain doesn't end once the ink has dried on the dotted line. Common features of contracts, such as contingent discounts, rebates, and tiered-pricing agreements, require continuous--and costly--monitoring. In a 2001 report, Goldman Sachs estimated that companies spend nearly 50 basis points of revenue to track agreements post-deal, while a joint study by PricewaterhouseCoopers and Provato Inc. says that in contract-intensive industries, such as high-tech manufacturing and consumer packaged goods, an average of 12 percent of a company's total annual costs may be devoted to such tasks.
To the rescue comes an expanding array of contract management software. I-many Inc., diCarta Inc., and enterprise-oriented vendors like Oracle are trying to wrangle contracts into a central digital workspace where common clauses can be reused, new contracts can be automatically routed for approval, and old contracts can be tracked for compliance and analyzed for profitability.
Sticking With It
Industries that rely heavily on contingency-laden customer contracts, like pharmaceuticals and food services, have been using the technology for years. The $5.7 billion dairy giant Land O'Lakes, for example, pays grocery stores to market their products via credits to the stores' invoices. With 92,000 deductions churning through its systems each year, though, determining which credits are justified and which aren't is daunting. Since 1989, the company has been using a deduction management system developed by ChiCor Information Management Inc. (which was acquired by I-many in November 2000) that tracks the actual deductions a customer takes against agreed-upon credits, and flags any "mystery" deductions for manual intervention. John Kieffer, credit business systems manager at Land O'Lakes, says the company has been able to reduce head count because the software automates much of the process, and that the company believes it might be possible to use the system in other situations. "Anything where you need to do follow-up or send reminder letters could be filtered into it" with minimal effort, he says.
Because there are so many different kinds of contracts, vendors tend to specialize. Accruent Inc., for example, has spent seven years installing software that analyzes clients' variable real-estate expenses against their agreements, which Accruent maintains in a digital "warehouse." CEO Mark Friedman says customers typically see a 2 to 3 percent reduction of overall spend when they first sign on.
"It's more about cost-avoidance than cost-savings," says Cheryl Howard, who oversees 1,800 leased properties nationwide as vice president of real estate for Wells Fargo & Co.'s home-mortgage division. For example, the software can sound an alert about lease expirations, enabling the company to negotiate new leases without having to pay holdover fees.
With almost 80 percent of business-to-business sales codified in contracts, according to the Goldman Sachs report, vendors see a huge potential market--up to $5 billion within five years, according to Credit Suisse First Boston. By the end of this summer, both I-many and Oracle say they will roll out products that will make collaboration easier, include more sophisticated analytical tools, and offer more in the way of procurement contracts management. DiCarta, originally known for its ability to track contract fulfillment for, among other things, revenue-recognition purposes, has also released a new version of its product that promises all of the above.
Deciding whether all those bells and whistles are truly worthwhile will be critical, according to analysts. "Companies implement something like this to make sure they're not getting ripped off, so the analytics around compliance and the visibility you get by having all your contracts in one place are really valuable," says Jupiter Media Metrix Inc. senior analyst Jean-Gabriel Bankier. He's more skeptical about the other pieces, though. "Both the upfront workflow and the back-end analysis are valuable, but they're likely to cost a lot of money, and the question is, is it worth it?"
Persistence Software Inc. CFO Christine Russell agrees. She signed on with diCarta two years ago and hasn't upgraded since, primarily because of budget constraints. "We find the software incredibly valuable as a customer database, because it allows us to see what projects a customer has used our software for and when the license is due to expire," she says. But as for document creation, revenue recognition, and other functions, "automated systems cannot possibly capture every situation." Vendors agree that the software will never achieve the ultimate--eliminating the need for CFOs, attorneys, and others to scrutinize the details of every deal. But they vow to eliminate as much of the repetition and tedium of tracking the deal after the ink has dried as they possibly can. -- Alix Nyberg