There can be a lot of good reasons for reducing an IT budget, including new developments in the market, business reprioritizations, preparations for a sale or a general optimization of the cost base.
Four things you should know before you get started
1: The purpose for the budget cuts should always be taken into consideration. Doing this ensures that you do not end up making adjustments that incur unnecessary expenses for the business later or unnecessary limitations in relation to future growth.
2: There are four general areas where IT expenses can be reduced. Each area has different significance as far as the risk that the business can accept in the pursuit of savings.
- General housekeeping in which IT costs are trimmed wherever possible on an ongoing basis.
- Reduction of the cost base to reallocate resources for digital business development.
- IT expenses exceed what the business can support.
- The business is undergoing a crisis and costs must be cut in order to survive.
3: To the extent possible, try to strike a balance between any short-term gains from cost reductions versus the long-term effect in relation to the business’s strategy, needs and prospects. One example of an imbalance: We can save 100,000 dollars by cutting costs, but it will cost 300,000 dollars at a later point in time when we need to compensate for the budget cuts. At the same time, the short-term savings inhibits the business’s growth potential.
4: Start with simple changes that can result in big savings. To start with, focus on points one and two listed in the figure below. If the complexity is high and the potential savings is great (point three) then make sure to allocate sufficient time and resources in order to mitigate risks that can be hard to weigh up at this stage.
Prioritize efforts in the optimization of the IT budget
At IT ADVISORY, when we analyze IT expenses, they are generally categorized within the following five areas: (1) Operations, (2) Maintenance, (3) Technical R&D, (4) Enhancements and (5) Business Projects.
A big part of the IT budget is defined in advance by the fixed IT expenses (1+2+3), while another big part depends on the business’s needs, priorities and desires (4+5).
Understanding these five areas is important because it creates a complete overview as to where to potentially concentrate your efforts. At the same time, having an overview can help to change discussions that are less substantial and based on feelings (“I think that we are spending too much money on IT.”) to discussions based on facts and the substantive balancing of investments versus value generation.
Operations cover all fixed and known expenses for operations, service providers, cloud, licenses, support, and so on. In general, we expect that operations expenses drop year by year due to falling prices for technology and the ongoing optimization of the IT apparatus. This part of the budget is prioritized by IT.
Maintenance is the continuous maintenance of both software and hardware. The size of the budget is largely defined by the scope and volume of the IT operations. This part of the budget is prioritized by IT.
3. Technical R&D
Technical R&D cover analyses, tests and proof of concept of new technologies, software and so on. Many IT organizations do not budget for this, which we think is a serious mistake. Budgeting for new technologies is essential since these experiments potentially bring streamlining and increase value for the business. This part of the budget is prioritized by IT.
Enhancements are the part of the budget allocated for smaller tasks and improvements that ensure immediate value for the business. This includes improvements like version upgrades, fine-tuning of business applications, new integrations of business systems and compliance measures. This part of the budget is prioritized jointly by IT and the business.
5. Business Projects
Business projects have to do with project budgets that are laid down by the business and allocated on a case by case basis. This could be larger IT investments and business projects, such as development projects, comprehensive upgrades, consolidations, outsourcing and the replacement of software or hardware.
All IT budgets can be cut – here’s how
An IT budget can always be reduced. If you are a CIO and have been tasked with making cutbacks, the starting point is never if there is room for savings, but more like a discussion along these lines
- Which risks is the business willing to take when the fixed IT costs are reduced? (Points 1+2+3)
- To what extent is the business willing to reduce developmental activities as a result of the business’s strategy, situation and vision? (Points 4+5)
In our IT budget model below, we summarize some of the tactics we use in connection with the analysis and optimization of the IT budget.
Reduction of IT costs (1+2+3)
When the IT expenses have to be reduced, the tactics that fall under Operations, Maintenance and Technical R&D are applied during internal discussions in IT and again later when in dialogue with the business management.
We could, for example, point out that the level of support (Operations) could be reduced if the business accepts that the waiting time at the help desk increases and support outside opening hours is eliminated. IT can present the scenarios and options, but it is always the business management that determines whether or not to accept the associated risk.
It is important that it is not the CIO, but the business management that determines the risk appetite of the organization. It is the CIO and the IT management that will convert the company’s appetite for risk into specific suggestions for savings. The experienced CIO Mads Madsbjerg Hansen tells about his positive results from the following approaches:
- All leaders in IT are charged with the task of preparing a catalogue with potential savings that start from a specific goal.
- The catalogue lists potential cost reduction measures, both big and small. It shows how much can be saved, what it would cost to implement the savings (a one-time expense), the significance of the savings year by year, and the risk associated with implementing the cutbacks. The different categories can be marked green, yellow and red.
- The CIO consolidates the input from each IT manager and adjusts the risk evaluation, so that it is consistent across departments. As a CIO it is important to clearly communicate your intention to make adjustments when you receive different input, so that the managers do not feel as if they are being treated unfairly or disregarded.
At the end of this process, the CIO has a long list of potential cost saving measures that can be presented to the business
Reduction of costs for development (4+5)
When it comes to the tactics for cost reduction in the categories of Enhancements and Business Projects, the business management has to be involved. The business has to have internal discussions and argue for which projects are essential and which ones should be cancelled, scaled down or postponed.
Although the potential savings in this area are determined mainly by the priorities of the business leadership, it is the task of IT to facilitate a priority-setting workshop that provides leadership with specific architectural input concerning the technical benefits and risks associated with individual projects.
Five tips from Mads Madsbjerg Hansen
We hope that this article has given you some insight and perspective when it comes to cost reduction in the IT budget. To wind things up, Mads Madsbjerg Hansen leaves us with five good tips:
- Many large software providers have lock-ins in their contracts, which makes it difficult to reduce costs. Do not expect flexibility in this area unless you can offer something in return.
- Be aware that you will not save anything by shutting down projects that are carried out by people at the organization itself, unless doing so leads to a reduction of staff at the same time.
- Even with a high degree of transparency in the IT cost reduction process, it is best to act as quickly as possible. Cost-cutting and budget reductions make employees worry about their future and job security.
- Organizations and businesses pay for a lot of things that no one uses or will ever miss. Computers stored in closets, licenses that are never used, telephone subscriptions for employees who have left the company, and so on. Getting organized and eliminating waste is the easiest way to create savings.
- There are always servers and systems that nobody knows the purpose of, but which no one is brave enough to shut down. Do it anyhow and see if anyone complains. If they do, it can always be started up again.
About the authors
Kristian Sørensen is CEO & Sr. Principal at IT ADVISORY. As a trusted management advisor and IT strategy expert, Kristian helps organizations set structure and direction for strategic initiatives and projects. Reach out to him at firstname.lastname@example.org.
Claus Paulsen is Ass. Partner at IT ADVISORY. Claus advises companies and organizations in IT and digital strategic development and implementation. In addition, Claus has expertise in due diligence assessments of IT as well as mergers and acquisitions. Reach out to him at email@example.com.