How to Establish a Budget and Buy New Information Technology

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The traditional approach to purchasing technology may be stated as follows (with minor variations):

1. Create a budget

2. Create a requirements list

3. Review technology demonstrations

4. Get proposals from the technology providers

5. Buy from the lowest bidder if they meet the basic requirements

What’s wrong with this picture? Let’s drill deeper beginning with “Create a budget.”

Typically the budget is predicated on what the organization thinks they want to spend on their new technology. This is precisely the wrong starting place. The enterprise ought first to determine what strategic and tactical benefits they want their new techology purchase to deliver. They should determine, in advance, how they expect their new investment in technology will help them increase throughput, reduce inventories and other investment demands, and hold the line or cut operating expenses. These goals should be quantified and they should be rational. For example, the organization might say:

INCREASING THROUGHPUT – Investment in CRM will help us segment our market in ways that will allow us to make more targeted win-win offers to our existing customer base while simultaneously giving us opportunity to make offers to new customers that will grow our market share. Combined, we expect these two effects to add $4 million in revenues over two years and an estimated $260,000 to net profits before taxes (NPBT).

REDUCING INVENTORIES/INVESTMENT DEMANDS – Investment in improved warehouse, inventory management, and inventory replenishment (supply chain) technologies will allow us to reduce overall inventories by an estimated $2.5 million over two years. By reducing inventories, this will relieve pressure on demands for new warehouse and production floor space. Thus, demands for new capital investments are also attenuated. The forecase $2.5 million reduction in inventories should save the enterprise an estimated $72,000 in carrying costs in year one and $136,000 in carrying costs in year two after go-live.

HOLDING THE LINE ON OPERATING EXPENSES – The improved accuracy and enterprise-wide data visibility provided by the new ERP (enterprise resource planning) system should reduce the requirements to add personnel as revenues increase. Our expected benefit would be 4.2 FTEs (full-time equivalents) over the coming two years at an average FTE cost of $78,000 per year for a total estimated benefit of $3.28 million over two years.

Summary of Net Estimated Benefits Over Two Years:

INCREASED THROUGHPUT $ 260,000

REDUCED INVENTORIES/INVESTMENTS $ 208,000

REDUCED OPERATING EXPENSES $3,280,000

TOTAL ESTIMATED BENEFIT (2 YEARS) $3,748,000

Having completed this kind of analysis, the organization has now quantified what it hopes to gain from its investment in the new techologies. More than that, the management team is in a far better position to determine “requirements.” The requirements list will no longer be the 300 or more mostly meaningless items garnered from current users that do little more than reiterated things like “Must be able to print a check.” Instead, the team is ready to focus on that relatively small handful of things that a technology provider might show them that will really help them achieve the enterprise’s goals for meaningful improvement. Equally important, the management team is now prepared to set a meaningful budget based on realistic expectations and forecasts of return on investment (ROI).

SUMMARY

Business owners, executives, and managers that assume that buying information technology is best done by setting a budget, considering the options, and then buying from the lowest bidder are likely to be disappointed. This is especially true if their budget amounts to nothing more than a guess-timate of what they think their “new system” should cost. If they have not set strategic goals for their investment in new technologies, then their purchasing process will lack focus and it is all too likely that their acquired technology will not be fully integrated with their corporate strategies. Furthermore, using the traditional approach will mean that it is less likely — not more likely — that the new technology will not deliver the return on investment (ROI) that stakeholders wanted.

(c) 2008 – Richard D. Cushing

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Source by Richard Cushing