Proof Positive

Dec. 21, 2004
The best way to get support for a significant IT investment -- and manage the project downstream -- is with a sound, tangible business case of return on that investment.

The key is that most significant IT investments are simply facilitators of a reengineered business process or new corporate strategy, not an IT project for ITs sake (Y2K being the exception). The onus, then, falls on business management to support spending on IT as a business strategy, just as it would for new plant and equipment, staffing increase, or product development. The business case allows an IT request to compete on equal footing with these other investment opportunities in a competitive resource-allocation environment. In addition it offers many planning and downstream benefits including building consensus, establishing priorities, managing project scope, and establishing metrics and measurement tools to drive the responsibility for results down to where it belongs -- at the business level. For example, Toledo, Ohio-based Owens Cornings Advantage 2000 project is a complete reengineering of the business to transform the company into an integrated, diversified building-products manufacturer. "To do that, we wanted to have a common set of core business activities, [and] a common technology, leverage our scale, and roll it out globally so that customers could do business with one Owens Corning anywhere in the world," says Michael Radcliff, vice president of worldwide services and CIO when the project originally was conceived in 1995. "Then we said, Wow! Thats going to cost a lot of money and require a visit to the board of directors. We had made it this far on common sense, strategic insight, collaboration, intuition, and vision, but eventually we had to get down to dollars and cents." Thats where the business case comes in. Just as all business units collaborated to design the new Owens Corning, all collaborated in generating the business case to support the investment. At the time, Owens Corning was a $3.8 billion company, and the system cost was pegged at $62 million plus a $10 million investment in people and training. During the course of the project, Owens Corning has made 17 acquisitions and is now a $5.4 billion company, driving the system cost to $100 million and the people/training cost to $40 million. Included in the $140 million project is an enterprise-wide client/server implementation of SAP R/3 to replace 200-plus fragmented legacy systems that, in addition to being costly to maintain, are not capable of supporting the strategies and business processes required to reach Advantage 2000 goals. "To get the project [cost] justified, we intentionally focused on the tangible items the board would understand and that we could clearly articulate and make commitments to deliver," says Radcliff. These included:

  • A one-percentage-point improvement in the cost of raw-material acquisition resulting from global aggregate purchasing power.
  • A one-percentage-point improvement in logistics resulting from fewer warehouses and lower freight costs.
  • Reduced plant-maintenance costs resulting from reliability-oriented maintenance processes and the information tools to support it.
  • A lower total cost of system ownership resulting from standard client/server architecture, Internet protocols, and off-the-shelf software that need only be configured.
All told the benefits goals add up to a 1%-of-sales increase in pretax earnings, or more than $50 million annually once the system is fully deployed. "It is an attractive ROI and was certainly competitive with anything else we were looking at in terms of investments," says Radcliff. Though not included in the cost justification, Owens Corning also will realize a $30 million to $40 million cost avoidance from not having to "fix" a Y2K problem, because the R/3 system is Year 2000-compliant. "In addition, I was spending $35 million to maintain my old legacy system that wasnt supporting any of my strategic initiatives or helping my productivity," says Radcliff. Currently, operations representing about $3 billion are up and running on the new system with total deployment on schedule for mid-1999. "As we speak, we are generating the 1% [of sales] improvement in pretax earnings in the businesses that have been deployed, and in some areas we can see the opportunity to go beyond that." As the Owens Corning example demonstrates, building a business case for a significant reengineering project involving IT is an ongoing task, and it should not be prepared as a one-time shot just to get initial approval from senior management. "What you really want to do is have an order-of-magnitude business case that justifies starting the project, then build your detailed case once you have created the conceptual vision," says Robert Dalton, global director-reengineering, Deloitte & Touche Consulting Group, Chicago. "You want to refresh the business case at certain milestones as more details of what you are going to do fall into place." This strategy was applied specifically at Chevron Corp., San Francisco, where a five-year $100 million business-system reengineering project is in the final stages of implementation. "Our existing environment was 200 subsystems that were costly to maintain and that from a business perspective could not do certain things such as provide profitability by business unit the way people wanted it," says Jim Zell, ex-CIO at Chevron who recently has become director of SAP advisory services at Benchmarking Partners. "We wanted common systems for some processes including procurement through accounts payable, project management, and delivery of financial services." The original target of the new system, including rollout of SAP enterprise-wide, was to reduce costs by $25 million per year from a systems and people standpoint. The initial business case was built on both tangible and strategic benefits in the five largest Chevron business units, including benchmarking of important business processes and a gap analysis to quantify potential benefit ranges. Although senior management gave the green light to proceed, "as we developed a rollout strategy, we couldnt get the individual businesses to hold themselves accountable for the benefits," says Zell. "We said this is your share of the $25 million and got pushed back." The solution was to divide the effort into 10 subprojects, one for each division/subsidiary, and redo the business case at each phase of the design implementation as SAP was rolled out through 1997. This had a number of important results. First, the benefits identified for the new business process were much higher and now are expected to reach $50 million annually. Additional savings were realized in labor costs, reduced project overruns, and $15 million in lower material costs, which could not be quantified until benefits were examined at the individual business level. Surprisingly, Chevron is not experiencing the IT system cost savings predicted, originally forecast at $10 million but running at $5 million because the ongoing SAP system costs were underestimated, according to Zell. Also, as the business case was more clearly defined, the system costs rose from an original $80 million to the current $100 million. At this stage, Chevron has achieved nearly 80% of the forecast benefits, including the savings derived from a shared service center made possible by having the company operate on the common platform. The center handles non-value-added financial-transaction processing including accounts payable, travel and entertainment, and general ledger. As the Chevron project illustrates, driving accountability for benefits to individual businesses can be a challenge, even when the businesses themselves benefit from the process reengineering. "A danger here is that the business case becomes shelfware," says Deloitte & Touches Dalton. "The company builds the business case, makes a decision, puts it on the shelf, implements the project, but never goes back to consciously capture results to find out what happened and measure against targets. Those benefits of reduced inventory, improved production efficiency, and faster closing have to be baked right into plans and budgets." Becton Dickinson & Co. (BD), Franklin Lakes, N.J., a $3 billion medical-device company, serves as a good example. Its $160 million system-reengineering effort -- including ERP software -- is designed to build a collaborative company expected to double the business in the next five years. Thirty-two vice presidents and directors from around the world worked full time for four months to create a business case to support the investment, which is targeted to return 53 cents to 61 cents earnings per share to the bottom line annually. All told BD expects a return of $1.2 billion in the first seven years of implementation starting in March this year, including approximately $200 million in revenue increases tied to the new processes and $1 billion in cost savings. In addition it anticipates a one-time $111 million inventory reduction upfront. "These are solid, documented benefits that will go into the budgets and forecasts of the business units," says Art Levin, BD CIO. To help make it happen, BD has assigned a full-time controller to measure baseline costs, track benefits, and work with individual businesses to build in the targeted benefits at unit, outlying location, and individual plant levels. "By being sure the business case is understood by the various businesses and the benefits are drilled down to their level, we ensure the kind of enthusiasm needed to achieve them." To help establish the business case, BD applied Value Print, a case-building methodology from Deloitte & Touche Consulting Groups New York office. Working with an outside partner has several advantages. For instance, companies know intuitively that efficiencies are available to them via information technology, but they may not know how to quantify the impact of reduced inventory or the cutback in spending from supporting a legacy system compared with an integrated client/server architecture. "Some companies may have business-case expertise, but have never done anything near the magnitude of a full ERP implementation," says Brian Miller, director of business development in SAP America Inc.s Foster City, Calif., office. "These companies may want a third party to provide a more objective opinion, feeling their own is too parochial. Consultants also can accelerate the business-case cycle, which could be important from a competitive standpoint." The Value Print approach applied at BD is rooted in the concept that a manufacturing organization is really a series of 12 core processes, including such things as "develop and improve products and services," "manufacture products," and "manage accounting and control data." These core processes are further divided into 90 subprocesses complete with flow diagrams for each process in the Value Print methodology. "It is here that we start to look for opportunities to mine out benefits with information technology," says Deloitte & Touches Dalton. Templates help calculate benefits based on past cases, and a repository of best practices linked to benchmarking data help quantify potential gains. The justification model applied to IT investments at Hershey Foods Corp., Hershey, Pa., considers the projects a combination of direct application-specific components plus infrastructure. If the project cannot pass ROI muster based on total expenditure, it is reevaluated based on direct application-specific spending with the idea that infrastructure will be necessary eventually or will be applied to other business-specific applications. "Lets say we are going through an upgrade or new application of PeopleSoft HR software," says Rick Bentz, vice president of information technology. "To evaluate the application before we implement it, we need a test environment. The HR project should not bear the full brunt of the infrastructure required to create a test environment that not only this application but other applications can be evaluated on before they go live. So the cost of the infrastructure -- a server or an additional processor -- should not be considered to lower the return of the PeopleSoft HR project. If the tangible returns on the direct investment exceed our hurdle rate, we are very likely to proceed with the project, even if when we add in the indirect investment on the infrastructure that may pull it down below our hurdle rate." Not all companies justify significant IT expenditure with a hard financial case, but that doesnt mean they arent successful. For instance, Cisco Systems Inc., San Jose, suppliers of Internet routers and switches, justifies IT projects on their strategic merits first, but then circles back some time after implementation to understand the benefits in payback terms. "Generally we do not do conventional return-on-investment analysis prior to making the investment and launching an IT program," says John Morgridge, chairman. "We study return after the investment and use that as a guide in terms of direction and the amount of future investment in IT." The Cisco online sales and service capability is a case in point. Fifty-seven percent of Ciscos business now comes in over the Internet, 70% of all service inquiries are handled online, and 90% of all software fixes are done on the Internet. "Originally, we did not think of this capability in dollar terms," says Morgridge. "We thought it was a necessity to provide quality service, and that is what drove the program." In fact, Cisco estimates savings of $360 million over the five-year lifetime of its online and e-commerce initiatives, as a result of reduced head-count and lower marketing and printed-material costs. Another example of follow-up returns on Ciscos IT initiatives include an intranet-based expense-reporting system, now pegged at 200% ROI, and maintenance, repair, and operations (MRO) purchasing over the Internet, currently yielding a 120% ROI. "Companies that justify IT projects upfront based on ROI are probably not using it strategically," says Cisco CIO Peter Solvik. "We use measurable goals, but they are not based on dollars -- things like customer satisfaction, reduction in time to close books, getting reports to management faster, or committing to a customer shipment faster." The Cisco approach is to make small IT investments, less than $100,000 for a new Internet initiative, for example, and determine the return on an informal basis after 30 to 90 days. Did it improve customer satisfaction, improve competitiveness, reduce time, improve decision-making capability, or improve quality? If so, Cisco increases the investment. "Success in this information age and Internet economy requires accommodation of approaches to justify IT investment, including responding to the competition, improving customer satisfaction, strategic competitive benefits in your market, as well as occasionally a standard ROI measurement," says Solvik. "The trick is to balance your investments and the various justifications for your investments to get the maximum result for your business."

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