Once an IT Risk Assessment has investigated and quantified the potential IT risks it is key to assess the IT costs associated with an M&A event with an organisation, ensuring an ‘eye’ remains on the potential risks and associated warranties that may be required should critical risks materialise.
Part 2: IT Cost Analysis
IT costs for a target organisation need to be carefully examined to identify the total true technology budget across the organisation, benchmarked across several categories and dimensions, along with potential legacy technical debt that will be expensive to fix.
How can you quickly establish baseline and target IT budgets for the acquired and/or merged business?
IT Costs are not always what they seem…
Although there will be specific cost centres and budgets for the IT function, to understand what the true current and future IT costs will be, you will need to extract and examine several data sources. The main source areas of IT cost to review and analyse are:
- Core IT Operational Budget: This will be the directly attributed costs to IT in the P&L accounts. The way IT costs are coded and allocated varies from business to business, so you will need to use one of the standardised analytic models discussed in the next section.
- Business IT: Not all true IT costs are to be found in the GL codes for the IT department. Telephony and networking costs can sometimes be treated separately. Sales and marketing departments can own the budgets for digital, app and web expenditure. Business applications (particularly Software as a Service) can sometimes be funded directly by the consuming department (e.g., contact centres, R&D technologies, other departmental systems )
- Business Change and Capital Programmes: Most major business change programmes will require additional or replacement IT to support it. These IT costs would normally be added to the IT budget when the transformation finishes either through OPEX increase or attributed depreciation. Ensure you review the programme portfolio business cases to understand the increase/decrease coming to future IT budgets.
- Supplier Contracts: The IT budget information you get from the accounting system only tells you a part of the total picture of financial commitments, typically historical and current expenditure. To gain a full understanding of true IT costs, particularly future liabilities, you will need to examine the key supplier contracts. These will typically be the top 20% of contracts covering 80% of IT costs.
Top Tip: Several analyst organisations offer a variety of IT benchmarking services to compare IT costs against other companies. Ensure your benchmark cohort contains sufficient peer businesses in the same region and market sector to ensure these comparisons are meaningful.
IT Cost Categorisation and Analytics
The way IT costs are coded and allocated varies from business to business. Therefore, it is best to get as much of the raw cost data as possible and recut into a standardised set of IT cost categories, across several sets of dimensions, such as: People/Process/Technology, Functional Area, or Business Service
A common way to analyse IT costs is to split the allocation between people (staff + overheads), process (managed services) and technology (IT products and services)
- People: High staff numbers can indicate inefficiencies in the IT organisation, so a breakdown of job roles should be undertaken. However low staff count could be due to significant outsourcing of IT functions to third parties, so be sure to check that sufficient knowledge and expertise remains as internal resources to effectively govern the consumed third-party services.
- Process: Many organisations use suppliers to carry out part of their responsibilities, particularly where staff recruitment is difficult or highly expensive. The support and operation of virtually any IT function can be provided by third parties who have economies of scale and deep expertise in specialised IT areas. However, see below on gotchas in managed service supplier contracts.
- Technology: It Is now more common for classic information technology (computers, networking, software) to be leased or paid for by subscription. This means that fewer capital purchases are made (with less depreciation cost) and more monthly/quarterly OPEX costs. However, many larger supplier contracts do not break down the itemised costs for all licences so you will need to push for more detail for a true analysis of IT costs.
Another way to cut the IT budget data is by IT domain or function so you can understand imbalances or overspend across the IT portfolio. A standard split would be:
- Governance: Architecture, Portfolio Management, Service Management
- Application: Business applications, SaaS
- Data management: Databases, data warehouses, marts, lakes, cubes
- Client Devices: Desktops, laptops, tablets, mobile
- Infrastructure: Servers, IaaS, PaaS, Cloud hosting, printing/copying
- Networking: LAN, WAN, data & voice networks
- Integration: Middleware, API Gateways, IoT, EDI
- Security: Confidentiality, Integrity, Authentication, Authorisation and Non-repudiation
As IT only exists to support the business it is possible to allocate all costs against the value the business gets from IT. If there is full business service mapping then the full value chain for the organisation will show the revenue, cost and profit for each business area. This could be by product, service, customer, or market. As part of this value chain, the contribution and cost of IT should be defined and allocated against the benefit, providing a clear justification for the costs incurred.
Top Tip: No single analytical model will provide a total picture of IT cost and value. You should work through as many models as you have time for to give the most accurate IT cost analysis.
So, in summary, uncovering and understanding IT costs requires significant extraction and processing of cost data from multiple sources, followed by extensive analysis across many dimensions. Only with this sophisticated view can you make meaningful benchmarks against peer companies.
In the next article we will highlight areas of opportunity to increase the value of the acquisition by uncovering and unlocking additional value through exploiting the IT assets more smartly. Follow our blog to stay updated!
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