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5/15/2005

Is IT worth the investment?

Every business leader knows information technology (IT) is essential, but what is the return on investment for any given IT project?  A Rice expert in performance measures has designed a "contribution model" to help IT executives identify and measure the specific financial and non-financial returns on their IT investments.

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Few organizations deny that information technology is critical to their performance, but even fewer have the know-how to identify and specifically measure its payoffs. In the U.S. alone, IT systems represent nearly 50 percent of corporations' new capital investments every year, yet trillions of dollars are wasted in unfulfilled expectations about the benefits of such systems.

" In today's highly competitive environment, business and IT are inseparable," says Marc Epstein, the Distinguished Research Professor of Management at Rice's Jesse H. Jones Graduate School of Management. "Yet too many organizations acquire the best and most recent technologies only to waste billions in corporate assets."

Epstein believes that many CEOs and CFOs lack objective data to make well-informed decisions on the payoffs of IT investments. To remedy this problem, he and Adriana Rejc, an assistant professor of economics at the University of Ljubljana, designed an "IT Contribution Model," outlining the key factors decision makers need to consider as they assess the feasibility and the potential profitability of their IT initiatives.

Published in the Strategic Management Series by Canada's Certified Management Accountants and the American Institute of Certified Public Accountants, the contribution model can be applied to large and small, for-profit and not-for-profit organizations. Unlike other models which tend to only describe the payoffs from IT investments, the contribution model presents a set of general objectives and performance measures that can be used by IT executives as well as managers of other internal functions, such as human resources and research and development, as they monitor the costs and the benefits of their operations.

The model shows, for example, how a company's IT resources can be evaluated using a number of financial and non-financial metrics, such as the total IT cost per employee or the average years of IT experience. To evaluate a company's IT leadership, the authors suggest such measurements as the percentage of senior executives' time dedicated to information technology or the percentage of senior management's bonus linked to IT profitability. To assess a company's capacity for developing and implementing appropriate IT systems, they recommend measures that might include the number of IT professionals per employee and the dollars invested in IT skills and knowledge.

In the same way, Epstein and his colleague suggest specific measurements to gauge if managers have been successful in attaining their objectives. Increased productivity, for example, might be measured by percentage increases in production outputs for each employee or percentage increases in customer orders processed. A goal of direct cost savings could be documented through reductions in operating or marketing costs or dollars saved on increased IT security systems, which reduce IT downtime.

The researchers' model also includes specific examples of how monetary values can be assigned to non-financial benefits such as improvement in quality and increased employee production, how CIOs can calculate costs that arise from implementing new IT systems, and how CFOs can calculate a return on investment from an IT initiative.

The benefits to companies who properly implement such a model are numerous, according to Epstein. Besides being able to demonstrate that the IT function does create value for the company, he believes that information derived from this model will improve resource allocations and organizations' decisions about where and what sorts of IT systems are needed. Epstein believes it also can result in valuable feedback for IT staff.

Epstein has designed a number of measurements for evaluating both financial and non-financial corporate performance, including the first set of metrics for evaluating corporate board performance. Published as a Harvard Business School case, it has since been applied at First Commonwealth Financial in Pennsylvania.

A graduate of the University of Oregon, where he earned his master's and Ph.D. degrees, Epstein was appointed Harvard's first Hansjoerg Wyss Visiting Scholar in Social Enterprise last fall.

Prior to joining Rice's Jones School in 1999, Epstein was a member of the faculty at Stanford Business School, Harvard Business School and the European Institute of Business Administration. The author of a dozen books which have won top academic, professional and business awards, Epstein lectures to senior managerial audiences throughout the world.

To learn more about this research, contact Epstein at epstein@rice.edu, or Debra Thomas in the Jones School at dthomas@rice.edu.

Research @Rice 2005