Imagine running a business where all you know are the costs of your raw materials and nothing about how much of each go into your products.

You would have difficulty estimating what price to charge, how many you had to make to satisfy your customers and when you would need to order more raw materials.

You would not know whether what you paid for those raw materials is less than the cost to buy the product from off the shelf.

This is precisely the way that most IT organizations operate.

Understanding the difference between the costs to run the business and the costs to grow or change the business is crucial to effective technology investment budgeting.

The way these costs are allocated or charged to business units has a dramatic impact on IT demand, resource allocation, and ultimately the value delivered.

IT organizations need to think about their IT budgets in the context of a business technology strategy.

Here are three basis steps, to help you do this:

Step 1: Translate IT resources into services
Like any business, IT must define what it does in terms of the products and services that it provides its customers and build the bill of materials for each one.

This requires IT to map its resources to the products and services that they support and produce a service catalogue.

The types of products and services IT supplies is a function of the firm's industry and business strategy, which determine the role that IT plays. The resources (raw materials) may be sourced internally or externally.

A service catalogue is an essential vehicle for communication and coordination between IT and its customers.

It plays a key role in IT cost transparency.

A well-implemented service catalogue:

 - Helps to determe the right portfolio of service offerings
 - Negotiate service-level options with the business
 - Track IT budgets and consumption
 - Manage the fulfillment of requests for services

The service catalogue aids business decision-making, because it gives executives a view into the portfolio of IT services in business-relevant terms.

Step 2: Developing cost models
Closely coupled to the service catalogue is a cost model for each service.

Use the cost model to ultimately determine what users will pay, providing the organization with complete cost transparency.

Developing cost models requires data from many sources. In many cases, costs will be explicit and easily linked to services.

In other cases, they will have to be estimated and allocated in some way.

Building a cost model for a service involves collecting the costs for each of the service components, based on their category to develop the unit cost.

For example: The cost of an email service includes hardware, software, facilities, labour, and possibly external services. Some of these are direct costs while others are indirect.

Once the total cost of providing email has been determined, it can be divided by the cost driver, in this case number of users, to come up with the unit cost for email. This framework is illustrated below (see Figure 1).

Step 3: Invoicing customers
The final step in cost transparency is invoicing customers for their consumption of IT resources.

This enables IT customers to link their IT consumption directly to business value and make intelligent decisions about their demand.

Each month, cost center managers should each receive a line-item invoice that details their consumption of IT resources and outlines their actual costs for the month by service.

This information can be checked against the budgeted amounts for the services to determine any variance.

Together, the service catalogues and invoices become extremely valuable components for IT demand management because they enable business executives and managers to have detailed discussions with their IT relationship or account managers about their requirements for IT services.

CIOs are also able to quickly determine the optimum strategy for delivering shared IT capabilities.

At budgeting time, rather than looking at last year's expense plus some growth factor, managers can look at specific demand and cost drivers and make rational decisions about future demand.

This all leads to more accurate forecasting and planning and enables business managers to look at the business value of each service.

This IT-as-a-service approach provides customers with a detailed understanding of the costs of products and services.

Craig Symons is vice president and principal analyst serving CIOs at Forrester Research

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