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The Financial Management
impact on this decision cannot be underestimated. If a company does not understand its
core service cost components and
variable cost dynamics, it will typically have a difficult time making logical and fact-based decisions regarding
outsourcing models, and an equally difficult time asking the right questions of providers.
Service provisioning cost analysis is the activity of statistically ranking the various forms of provisioning (and often providers) to determine the most beneficial model. A simplified example of a comparative service provisioning cost analysis that accounts for the way provisioning models could impact the cost of a service is provided. Table 5.1 is a simplified example of service cost components for the Service Deskfunction and how they come into play within the analysis of various provisioning models.
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In this example, the scoring mechanism is normalized to a five-point scale where the lowest score is preferred. Notice that the company has ranked itself lower in some service components relative to the service quality and cost it has determined to be available in the market from alternative providers. If only the simplified overall scores for each provider are assessed, the off-shore shared services provider appears to offer the lowest cost and highest quality for the entire portfolio of services. On closer inspection, however, the same provider offers the same tiered support service quality as the company’s existing Type I provider in all areas except Tier 3 support, estimated to be inferior to the provider.
Given that existing internal Tier 1 support has been ranked among the bottom of all alternatives, and existing Tier 3 internal support is actually superior, this provider may not offer the correct combination of cost and quality. Similar deficiencies and strengths are evident throughout the provisioning scoring example above. What conclusions can you draw from the scoring? What are some possible causes for the scoring in the presented sections? What optimized provisioning model would you conclude to be the most applicable for this company to adopt, given its current strengths and weaknesses?
5.1.3.3 Funding model alternatives
Funding addresses the financial impacts from changes to current and future demand for IT services and the way in which IT will retain the funds to continue operations. This section offers a high-level discussion of various traditional models for the funding of IT Services. Since each model assumes a different perspective, yet rests on the same financial data, an increased ability to generate the requisite information translates to increased visibility into service costs and perceived value. The model chosen should always take into account and be appropriate for the current business culture and expectations.
Rolling Plan Funding – In a rolling plan, as one cycle completes another cycle of funding is added. This plan encourages a constant cycle of funding. However, it only addresses timing and does not necessarily increase accuracy. This type of model for funding would work well with a Service Lifecycle treatment where a commitment to fund a service is made at the beginning of the lifecycle and rolls until changes are made or the lifecycle has ended.
Trigger-Based Plans – Trigger-based funding occurs when identified critical triggers occur and set off planning for a particular event. For example, the Change Management process would be a trigger to the planning process for all approved changes that have financial impacts. Another trigger might be Capacity Planning where insight into capacityvariances would affect the financial translation of IT Services. This type of planning alleviates timing issues with accounting for past events, since the process requires future planning at the time of the change. It would be a good plan to use with portfolio service management since it deals with services on a lifecycle basis.
Zero-Based Funding – This funding refers to how funding of IT occurs. Funding is only enough to bring the balance of the IT financial centre back to zero or to bring the balance of the funding of a service back to zero until another funding cycle. This equates to funding only the actual costs to deliver the IT Services.
5.1.3.4 Business Impact Analysis (BIA)
A BIA seeks to identify a company’s most critical business services through analysis of outage severity translated into a financial value, coupled with operationalrisk. This information can help shape and enhance operational performance by enabling better decision making regarding prioritization of incident handling, problem management focus, change and release management operations, projectpriority, and so on. It is a beneficial tool for identifying the cost of service outage to a company, and the relative worth of a service. These two concepts are not identical.
The cost of service outage is a financial value placed on a specific service, and is meant to reflect the value of lost productivity and revenue over a specific period of time. The worth of a service relative to other services in a portfolio may not result exclusively from financial characteristics. Service Value, as discussed earlier, is derived from characteristics that may go beyond Financial Management, and represent aspects such as the ability to complete work or communicate with clients that may not be directly related to revenue generation. Both of these elements can be identified to a very adequate degree by the use of a BIA. While this section will discuss and illustrate the output of, and approach to creating a BIA, the reader should realize that the examples of BIA format and output represented here are not the only options, and alternative formats are visible throughout industry.
A number of steps need to be completed while generating a BIA. Some of the high-level activities are as follows:
1. Arrange resources from the business and IT that will work together on the analysis
2. Identify all of the top candidate services for designation as critical, secondary and tertiary (you do not need to designate them at this point)
3. Identify the core analysis points for use in assessing risk and impact, such as:
Lost sales revenue
Fines
Failure risk
Lost productivity
Lost opportunity
Number of users impacted
Visibility to shareholders, management etc.
Risk of service obsolescence
Harm to reputation among customers, shareholders and regulatory authorities
4. With the business, weight the identified elements of risk and impact
5. Score the candidate services against the weighted elements of risk and impact, and total their individual risk scores (you can utilize an FMEA for additional input here)
6. Generate a list of services in order of risk profile
7. Decide on a universal time period with which to standardize the translation of service outage to financial cost (1 minute, 1 hour, 1 day, etc.)
8. Calculate the financial impact of each service being analysed within the BIA using agreed methods, formulas and assumptions
9. Generate a list of services in order of financial impact
10. Utilize the risk and financial impact data generated to create charts that illustrate the company’s highest risk applications that also carry the greatest financial impact. A sample output from this analysis is shown in Figure 5.5.
Figure 5.5 Business Impact Analysis
Figure 5.5 displays services on a comparative scale using financial impact and riskpriority (in this case the probability, detectability and impact of failure) as points of analysis. For those companies that are inclined and capable, the use of Six Sigma methodologies can bring additional rigour to a BIA exercise, such as the example above, by enabling a structured approach to assessing Failure Modes and Effects (FMEA).
5.1.4 Key decisions for Financial Management
A number of concepts within the realm of Financial Management can have great impact on the development of service strategies. This section attempts to highlight some of those concepts so that the reader can determine how best to incorporate preferred alternatives into a formative strategy.
5.1.4.1 Cost recovery, value centre or accounting centre?
Whereas traditional accounting terminology refers to IT as a cost or profit centre, the real decision is not in the term used but in how funding will be replenished. Clarity around the operating model greatly contributes to understanding the requisite visibility of service provisioning costs, and funding is a good test of the business’s confidence and perception of IT. Important questions should be answered when determining the premise under which the IT organization will replenish its funding for operations. The IT financial cycle starts with funding applied to resources that create output. That output is identified as value by the customer, and this in turn induces the funding cycle to begin again (Figure 5.6).
Figure 5.6 The funding lifecycle
IT is typically referred to as a cost centre, with funding based only on replenishing actual costs expended to deliver service. Compare this to the value centre or profit centre model where IT funding rests on the actual costs plus a perceived value-added amount. The capture of this additional value above actual cost is not confined to external providers, as Type I providers also have a need to continually expand their offerings and fund the analysis of provisioning alternatives and service quality enhancements.
Corporate culture plays a large role in determining the operating model. Homogeneity of business products can impact corporate culture and how each organization prefers to see IT financial models. If all product lines are similar and use IT systems similarly and equitably, then the operating model may not require the complexities of a business with very diverse product lines where each line consumes IT Services differently from one another. Similarly, the complexities of business structure (i.e. a global conglomerate versus a single operating entity), and the geographic dispersion of an organization can also greatly effect business expectations.
Replenishment of funds requires a decision about when to fund. Will funding be done on an annual basis (based on a corporate cycle) or on a constant cycle of replenishment (rolling plan model, zero-based model, trigger-based)? If the decision is made for IT to self-fund, then a higher level of perceived value will be added to the cost of services, and funding will most likely occur on a constant cycle. A constant cycle of replenishment, like in a rolling plan, is based on mutually agreed services, and removes the constraints inflicted by an annual budget since any changes to funding are agreed first by both the consumer and the provider.
5.1.4.2 Chargeback: to charge or not to charge
A ‘chargeback’ model for IT can provide accountability and transparency. However, if the operating model currently provides for a more simplistic annual replenishment of funds, then charging is often not necessary to provide accountability or transparency. In this instance the desired visibility would instead come from the activities and outputs of planning, demand modelling, and Service Valuation. If IT is a self-funding organization, suggesting more complexity and maturity in financial mechanisms, then some form of charging would provide added accountability and visibility.
Visibility is brought about through identification of Service Portfolios and catalogues, valuing those IT services, and application of those values to demand or consumption models. Accountability refers to IT’s ability to deliver expected services as agreed with the business, and the business’s fulfilment of its obligations in funding those services. However, with no common ground as to what service or value the business is receiving, accountability just becomes a constant struggle to explain why perceived value varies from the funding. Therefore, charging, without taking into account the operating model, typically does not deliver desired levels of accountability and visibility.
Charging should be done to encourage behavioural changes related to steering demand for IT Services. Charging must add value to the business and be in business terms, and it should have a degree of simplicity appropriate to the business culture. The most difficult and critical requirement of the model is its perceived fairness, which can be imparted if the model provides a level of predictability that the business typically desires, coupled with the mutual identification of services and service values.
Chargeback models vary based on the simplicity of the calculations and the ability for the business to understand them. Some sample chargeback models and components include:
Notional charging – these chargeback alternatives address whether a journal entry will be made to the corporate financial systems. One option, the ‘two-book’ method, records costs into corporate financial systems in one fashion (for example, with IT as a cost centre), while a second book is kept but not recorded. This second book provides the same information but reflects what would have happened if the alternative method of recording had been used. This can be a good transitional model if chargeback practices are moving from one methodology to another.
Tiered subscription – involves varying levels of warranty and/or utility offered for a service or service bundle, all of which have been priced, with the appropriate chargeback models applied. Most commonly referred to as gold, silver and bronze levels of service, the weakness of tiered subscriptions is that there is no non-repudiation and it does not encourage different behaviour with regard to usage.
Metered usage – involves a more mature financial environment and operationalcapability, where demand modelling is incorporated with utility computing capabilities to provide confidence in the capture of real-time usage. This consumption information is then translated into customer charging based on various service increments that have been agreed, such as hours, days or weeks.
Direct Plus – this is a more simplistic model where those costs that can be attributed directly to a service are charged accordingly with some percentage of indirect costs shared amongst all.