Savvy business leaders will always support wise IT spending. Meanwhile, astute financial management of IT gives CIOs flexibility to respond quickly to corporate actions such as the sale of a business unit or an acquisition.
This makes a properly managed IT budget one of the most important components in a CIO's arsenal. If you are to survive scrutiny by business heads, executive peers or potential acquirers, you must be prepared to properly explain each cost allocated, defend why you spent that money and demonstrate how it benefited the business. In this way, you provide a quantitative view of IT's value.
No doubt you agree, yet many IT budgets miss the mark. As a private equity IT advisor for Cerberus Capital Management, I examined dozens of IT budgets in varying industries. I found many that were so fragmented that the details could not be reconciled with aggregate line-items. In others, centralized costs were allocated equally across lines of business that used IT to different degrees and with varying benefits. Many budgets didn't carry their forecasts beyond one fiscal year. Nothing is more disheartening to a major investor or internal business head than to review a multimillion dollar IT budget that cannot be valued, explained, reconciled and forecasted.
That's no way to create confidence. You need to structure your budget so that your expenditures can be fully explained and so you have enough flexibility to handle various corporate actions and reviews.
Show Where the Money Really Goes
No matter how strategic IT is to your company, from an accounting or investment perspective, it's going to be treated as a cost center. Your annual operating expenditures (OpEx) will be rolled into the selling, general and administrative expenses part of the income statement. IT capital expenditures (CapEx) are capitalized on the balance sheet and amortized over the useful life of the investment.
Your IT budget is probably handled in a similar way. However without the proper detail behind these gross amounts, assessing the quality of operations for your IT organization in a more practical manner will be difficult.
A best practice is to separate both CapEx and OpEx into three categories: strategic, deferred and lights-on. Capital expenditures that create future revenues should be bucketed as strategic. Capital projects that you didn't implement (due to budget cuts or other cost-containment reasons) but which are necessary for growth should be categorized as deferred. Finally, spending as a part of annual refresh projects should be categorized as lights-on. Operational expenditures should be treated the same way: Remember that all capital expenditures result in ongoing expenses.
How you categorize your expenditures can affect your company's valuation. During an acquisition, for example, a significant amount of deferred capital spending may lower the company's overall value from a buyer's perspective. A large amount of deferred CapEx indicates that the company's overall investment in technology has not kept pace with the company's business plan, corporate strategy or comparative industry capability. These technology costs could be assumed by the buyer.
No one is expecting to review an "nth" degree of detail, but you have to choose the amount of detail that will give other business leaders confidence that they know the total cost-benefit of operations at a product or service level.
A sound and detailed budget provides an important lens into the performance of the IT organization. For the CIO, financial management habits and overall acumen may be the tipping point in deciding whether he or she is invited to the party at the executive table or left in the dark.
Albert R. Eng advises companies on IT strategy, offshoring, operations turnaround and post-acquisition activity. Contact him at aeng@cerbadvisory.com.
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