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 resource s 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 system s 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 Portfolio s and catalogues, valuing those IT service s, 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 Service s. 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 system s. 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 operational capability, 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 cost s shared amongst all.
• Fixed or user cost – The most simplistic of chargeback models, this model takes the cost and divides by an agreed denominator such as number of users. This model contributes little to affecting customer behaviour, or identifying true service demand or consumption, but does allocate the costs to the bottom line of multiple businesses in the easiest, if somewhat inequitable, fashion if so desired.

No matter which methodology is used, or none or all, it is more important to make certain that the overriding substantiation comes from providing value to the business.

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