CAUSE97 Pre-Conference Seminar December 2, 1997 Understanding, Modeling and Managing the Cost of Information Technology: The Activity-Based Costing Approach Laurie G. Antolovic

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CAUSE97Pre-Conference SeminarDecember 2,
1997Understanding, Modeling and Managing the
Cost of Information Technology The
Activity-Based Costing ApproachLaurie G.
AntolovicChief Financial OfficerOffice of the
Vice President for Information TechnologyIndiana
UniversityE-mail lantolov_at_indiana.edu
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Points to Cover

• What is Activity-Based Costing?
• Why should you implement Activity-Based Costing?
• What are the benefits of using Activity-Based
  Costing
• How do you implement Activity-Based Costing?
• Sharing the Indiana University Experience

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What is ABC? ABM? 1

• ABC Focus on accurate information about the
  true cost of products, services, processes,
  activities, distribution channels, customer
  segments, contracts and projects
• ABM makes ABC information useful by providing
  value analysis, cost drivers and performance
  measures to initiate, drive, or support
  improvement efforts and to improve
  decision-making.

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Why ABC/M?

• Rising cost of information technology (IT)
• Constrained resources
• Rising demand for IT services
• Demand for greater accountability
• Ramifications of distributed computing
• External Requirements compliance with the
  federal governments Cost Accounting Standards
  (CAS)
• The total cost of ownership (TOC) concept

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What benefits did Indiana University gain?

• Enhanced understanding of IT costs (by the IT
  organization, the customers and university
  administration
• Proof of accountability (benchmarks,
  measurements, customer satisfaction, business
  value)
• Understanding the value chain (process
  improvement, new service and funding models,
  partnerships and collaborations)
• Begin assessing the impact of IT on the
  universitys core business

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What are the uses of ABC? 2

• to determine product/service cost
• to improve performance of processes and
  activities
• to benchmark
• to support improvement initiatives
• evaluate outsourcing of activities
• to focus improvement efforts by identifying the
  biggest bang for the buck..

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What are the uses of ABC? (continued)

• to drive a cultural change toward accountability
  and responsibility for the activities and
  processes of the business
• to effect strategy deployment
• to improve performance measurement system
• to determine value-added/non-value-added activity
  costs and ratios

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What are the uses of ABC?(continued)

• to cut cost/downsize
• to budget
• to determine and optimize activity capacity
• to isolate/eliminate cost drivers
• to charge intercompany cost for support services
  performed
• to kick start dead total quality initiatives

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What are the uses of ABC?(continued)

• to set target costs
• to quantify the result of improvement initiatives
• to estimate/bid on customer work
• to manage projects and contracts
• to consolidate operations
• to evaluate acquisition candidates

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How do you implement ABC?A. Design Guidelines 3

• 1. Simplicity is the key. Far better an
  approximate answer to the right question, which
  is often vague, than the exact answer to the
  wrong question, which can always be made
  precise. (John Tukey, Princeton University.)

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How do you implement ABC?A. Design Guidelines
(continued)

• 2. Remember that every organization is
  different. The nature of costs varies widely
  from organization to organization. As such, cost
  drivers should be different.

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How do you implement ABC?A. Design Guidelines
(continued)

• 3. Understand the objectives you want your cost
  system to support

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Implementation at Indiana University - IT UnitA.
The Impetus

• July, 1995 - A new CIO position (full Vice
  Presidency) was just created. Indiana University
  wanted an analysis of existing IT budget and
  projection of future funding requirements.

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B. Environmental Scan

• IT Budget has been flat for 10 years
• Demand for IT services has skyrocketed
• Distributed computing Why do we a need a
  central IT unit?
• Constrained resources What do we get out of
  our tax assessments for IT?

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B. Environmental Scan (cont.)

• IUs Strategic Directions Charter circulating
  in draft mode but contained a goal of increasing
  accountability through implementation of ABC
• Responsibility Center Management
• IT unit was organized around service delivery

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B. Environmental Scan (cont.)

• IT budget authority was distributed thus various
  activity centers already had their direct costs
  identified (e.g. Help Desk- Walk In Help Desk-
  Phone-in Help Desk - E-mail Help Desk -
  KnowledgeBase)
• Annual User Surveys

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C. The Process

• Senior IT staff met with University Budget
  Director to clarify the charge and the goals
• Senior IT staff decided on new approach to
  presenting IT costs
• IT CFO designed implementation plan
• IT CFO served as project leader
• Involved all staff who have budget authority

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D. The Implementation

• IT CFO conducted series of meetings with budget
  managers to articulate the goals, outline the
  steps, outline the finished product, and set
  completion date
• Decision made to report costs based on services
  to IT customers
• Decision made to initially use measures or
  activity levels already being captured

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D. The Implementation (continued)

• Project calendar, budgets, templates and
  instructions distributed to budget managers
• CFO and staff coached and assisted managers every
  inch of the way
• ABC project completed in 10 weeks
• Report submitted to IU administration included
  ABC report and 5-year projection of additional
  funding required

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Notes1 Miller, John A. Implementing
Activity-Based Management in Daily Operations,
New York Wiley, 1996. 2 Miller, John A.
Implementing Activity-Based Management in Daily
Operations, New York Wiley, 1996.3 OGuin,
Michael C. The Complete Guide to Activity-Based
Costing, New Jersey Prentice-Hall, 1991.
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Fast Track ABCFrom the Experience of Indiana
University - BloomingtonInformation Technology
Unit
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Fast Track ABC Where do you start? 1. Decide
on the information you want.

• Think of your customers they dont really care
  about your activities but they do care about
  your output (the services they receive).
• Your activities and associated costs are
  important to your organization for internal
  review, process improvement, etc.

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Fast Track ABC 2. Identify your business
processes -Use information that is already
available

• University Information Technology Unit
• Applications Services (write/select, test,
  modify, run software)
• Data Center (test, select and operate systems)
• Networks (Data, Voice, Video) (test, select,
  operate systems)

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FastTrack ABC 2. Identify your business
processes (cont.)

• Customer Support (answer help desk phone lines,
  walk-in consultations, advise on
  hardware/software acquisition, etc.)
• Administrative/Sustaining (Accounting, Payroll,
  Human Resources, Building Services)

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Fast Track ABC 3. Identify the
activities/services

• Example Support Customers

• Maintain KnowledgeBase
• Answer help desk phone lines
• Provide walk-in consulting

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Fast Track ABC How do you gather information?

• Use historical records and documents (budget
  document, general ledger, org charts)
• Interview senior and line managers
• Interview staff
• Review time sheets or logs
• Brainstorming session with managers

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Fast Track ABC 4. List ALL your
services/activities and distribute to ALL
involved in the analysis.

• Also provide complete financial information,
  templates, clear instructions and insure
  assistance from finance office staff

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Fast Track ABC 5. Identify costs of business
processes or areas. Use your budget to obtain
the following breakdown

• Personnel
• Hardware and Software
• Maintenance
• Data Lines
• Inventory for Resale
• Administrative/Sustaining

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Fast Track ABC 6. Allocate the cost of every
business process or operational unit to
services/activities.7. Aggregate your cost of
services/activities by process unit, operational
unit, funding source, and entire organization)
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Fast Track ABC 8. Share your results with
managers and senior staff. Ask for their
reactions. If they question the results, ask
them to work with you in reviewing and validating
the analysis.(This exercise emphasizes the
operational units ownership of a
service/activity.)
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Fast Track ABC 9. Incorporate output or
activity levels that are already being captured
for various purposes. Calculate unit costs. Ask
managers to react. Solicit their input on more
appropriate measurements. Ask them to help you
capture those measurements.
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Fast Track ABC 10. Incorporate customer
satisfaction ratings from your survey. Modify
your survey if necessary to assure alignment with
the services identified.
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Fast Track ABC

• 11. Make your results available to the
  university community. Analyze the impact of your
  IT investments.12. Use your analysis in your
  budget process. At the end of the fiscal period,
  validate your costs and measurements.

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The Indiana ExperienceLessons Learned

• Because many university IT services are not
  directly billed, it is difficult to come up with
  a list of services or relevant activities
  (rule where the rubber meets the road)
• Combined bottom up and top down approaches are
  effective. (If you want a group of managers to
  come up with your list of services, give them a
  preliminary list to work from)

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The Indiana ExperienceLessons Learned

• Breaking the rule sometimes pays off Do not
  blindly follow the textbook rule on cost drivers.
  IT organizations have large non-personnel costs
  that cannot simply be allocated based on
  percentage of personnel activity!

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The Indiana ExperienceLessons Learned

• The results of this exercise are quite
  eye-opening! List your services in descending
  order according to cost. Graph your results.
  What services consume the biggest chunk of your
  IT dollars? See what your customer tells you
  about those services.

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The Indiana ExperienceLessons Learned

• Begin to look at assessing the impact of IT on
  your organization. Start by looking at how much
  of your IT dollars go to computerizing overhead
  operations (e.g. accounting) versus those that
  have economic value added to your customers (e.g.
  student computing)