Triange 7-11

7-11_article_3.docx

Home >Business & Finance homework help >Financial markets homework help >Triange 7-11

Generating Premium Returns on

Your IT Investments

Although ITportfolio management has been a best practice for some time now, many companies are still getting returns from IT investments that are below their potential. New studies show that

a measurable premium can be gained by implementing a set of interlocking business practices and processes, collectively called ITsavvy.

Peter Weill and Sinan Aral

hen the weather is hot, 7-Eleven Japan's stores in Tokyo have

plenty of bento boxes Japan's cold boxed meals of rice, pickles and other food- stuffs - while on cold days there are lots of hot noodles for sale. The stores' operators always seem to have plenty of what their customers want; in fact, they order and receive fresh food deliveries three times a day. It is no coinci- dence that the company is the nation's most profitable retailer. Its 2004 gross margins topped 30% - six times its 1977 gross margins.

7-Eleven Japan Co. Ltd. is

- to put it simply - very

savvy about using IT. At least

twice a week, every one of its

10,000-plus mostly franchised

stores gets a visit from a 7-

Eleven Japan "counselor." The counselor works with the store manager or franchisee to improve the business, often by using data from the store's information systems to manage and order more effectively.1

By matching local practices and preferences to IT investments, the store can continually introduce and succeed with new product lines. The typical store adds 70% new items for sale each year, a higher rate than that of any other retailer in Japan, which helped double its average stores' daily sales from 1977 to 2004. The store managers regularly receive graphical data show- ing recent sales, weather conditions and product range information, so they always know just how many bento boxes to order.

PeterWeill is the directorof the Centerfor Information Systems Research at the MIT Sloan School of Managementand MIT seniorresearchscientist.SinanAral is a Ph.D.candidatein the Sloan School's IT Group.Contact them [email protected] and [email protected].

!lutratio

C,SaraTy-intheiSpot.Co.

WINTER 2006 MIT SLOAN MANAGEMENT REVIEW 39

7-Eleven Japan makes effective IT investments and manages an IT portfolio that constantly matches its business strategy. But the company's well-managed IT investments are only part of the story behind its 20-year track record of industry-leading finan- cial returns. The convenience-store giant blends its IT invest- ments with a range of assertive IT practices and capabilities - everything from the counselors' visits that increase the store operators' IT skills to the "transparency" of an information infra- structure that links 70,000 computers in stores, at headquarters and at supplier sites.

A primary objective of this article is to show that IT invest- ments alone, even using the much-heralded IT portfolio approach, cannot by themselves ensure that all key business goals are met. Our research shows that a measurable bottom line pre- mium for every IT dollar invested is achieved by companies with a mutually reinforcing set of practices and capabilities that we call IT savvy.

7-Eleven Japan clearly has IT savvy in abundance; so, too, do

quite a few other exemplary organizations. In our study of 147

companies over five years, we found that the impact of IT savvy

is substantial. (See "About the Research.") For example, for each

dollar invested in IT infrastructure, companies with high IT savvy have higher net profits in the year after the investment than does

About th0eea(

This article is based on five years' worth of data from ClOs and ITmanagers at 147 U.S. companies and supple-

mented by discussions with IT managers in large U.S., European and Asian organizations. The data was col- lected in person and by telephone from 2001 to 2003 by research company Harte-Hanks Inc. and analyzed by MIT Center for Information Systems Research staff. To further understand the role and impact of IT savvy, we conducted interviews and discussions with ClOs and other senior executives from 2003 to 2005. Using MIT CISR frame- works and questionnaires, the 2005 IT portfolio data was collected from 640 companies by research firm META Group, now part of Gartner Inc., and analyzed by MIT CISR.

Performance data was sourced from the Compustat database. The total IT investment includes all centralized and decentralized IT spend (expenses and depreciated cap- ital), both in-house and outsourced, plus the full costs of all employees dedicated to IT services and management. The survey sample is composed of 58% manufacturing and 42% services companies, which mirrors the composition of the Standard & Poor's 500 and the Fortune 1000 listings. The results are all statistically significant, based on regression analysis that controls for size, industry, R&D and advertis- ing expenditure.

the average company. Those with low IT savvy have, on the other hand, substantially lower net profits in the following year (con- trolling for many other factors).

In colloquial usage, the term IT savvy has been imprecise - a general descriptor at best. But in our work at MIT's Center for Information Systems Research, we have developed a definition that describes the core attributes while preserving the "street

smarts" sense of the term. To us - and in conversation with the business executives with whom we work regularly - IT savvy refers to the planned, ongoing use of a set of interlocking busi- ness practices and competencies that collectively derive superior value from IT investments. For companies like 7-Eleven Japan, IT savvy is ingrained, informing almost all of the company's busi- ness decisions and sharply focusing its IT investments. The goal of this article is to introduce the concept of IT savvy in order to reframe the discussion about the business value of IT. We first review the different IT assets in which companies invest before discussing the gap in IT investment returns that separates those with IT savvy from those without.

Revisiting the Value of ITAssets

Just as investors address their objectives for risk and return using portfolios of financial investments, some companies use IT port- folio management to better enable their management teams to match IT investments to strategic objectives.' Successful IT port- folio techniques change the conversation from technical to strate- gic considerations by applying a commercial lens to IT investments; the result is an allocation of IT assets that is appro- priate for the company's circumstances.

Our research identified four broad classifications of IT invest- ments: transactional, informational, strategic and infrastructure. Transactional investments are used primarily to cut costs or increase throughput for the same cost (for example, think of a brokerage firm's trade processing system). Informational invest- ments provide information for purposes such as accounting, reporting, compliance, communication or analysis. Strategic investments are used to gain competitive advantage by support- ing entry into new markets or by helping to develop new prod- ucts, services or business processes (ATMs were a successful strategic IT initiative for the first banks that introduced them but they became transactional over time). And infrastructure invest- ments are the shared IT services used by multiple applications (such as, servers, networks, laptops, customer databases). Depending on the service, infrastructure investments are typi- cally aimed at providing a flexible base for future business initia- tives or reducing long-term IT costs via consolidation.

Each type of investment represents a different IT asset class with its own unique risk-return profile. In the same way that any personal investment portfolio must weigh stocks, bonds, cash and other financial assets against personal goals, an IT portfolio

MIT SLOAN MANAGEMENT REVIEW WINTER 2006

must be balanced - and regularly rebalanced - so that it is con- stantly aligned with business strategy and provides the appr()pri- ate combination of short- and long-term payoff. It is sc!nior management's job to balance the IT portfolio, and to intelirate these disciplines into the company's IT governance processe S.4

The average company studied in 2005 allocates 46% of its total IT investment to infrastructure. (See "Considering IT Invest- ments as a Portfolio.") Utilizing the infrastructure are the t)rans- actional systems, accounting for 26% of the average IT sFiend. Conceptually, informational and strategic systems sit on tc)p of and use the transactional and infrastructure systems, absor*bing 17% and 11% of average IT investment, respectively.

nore Investment for any single project can be spread over one or i

asset classes. For example, the executives of a multibillion-d[ollar U.S. software and IT services company allocated a recent multimil- lion-dollar investment in a customer relationship managemen t sys- tem this way: 60% informational, 5% strategic, 25% transact ional and 10% infrastructure. As a relatively late adopter of CRM, flae IT services company expected few strategic benefits from the inivest- ment. Also, it already had much of the infrastructure needed fclr the CRM implementation. By contrast, a competitor had succes:sfully implemented CRM three years earlier with a higher total

Making a sensible asset allocation requires senior managers to be crystal clear about what they wish to achieve and about who will be held accountable - hardly the stuff of technical specifications.

Each asset class is linked to different types of business value. (See "Different IT Assets Deliver Different Value;' p. 42.) For example, companies that invest more heavily than their competi- tors in transactional IT have lower costs. Transactional invest- ments pay off by using IT to support or automate repetitive business processes. Logistics leader United Parcel Services of America, Inc. offers a good example: The company uses IT effec- tively to cut business costs and increase productivity. For instance, it provides free package tracking information on its Web site or integrated into its customers' enterprise resource planning sys- tems. Before online tracking was offered, customer calls to the company's call center cost UPS about $2 each; sometimes there were two follow-on calls to locate the package, for a total of $6 for one inquiry. Now each tracking request costs UPS only a few cents, even during the Christmas rush, when the company gets up to six million such requests a day.6 For any company that is eager to use IT to cut costs and improve productivity, it makes sense to tilt its IT portfolio toward transactional investments.

IT Inetet a a s Potoi

project cost and a different allocation of resources - more strategic and less informational.

Pharmaceuticals leader Eli Lilly and Company has used the portfolio approach since 1999 to categorize its IT investments. "We tend to want to have 5% [of our projects] in strategic areas, 15% to 20% in the informa- tional category, and the remaining percentage split between the infrastructure and transactional," explains

Sheldon Ort, Lilly's information officer for business 5

operations.

The technique is also engaging business leaders in IT

investment decisions at Mohegan Sun, the Connecti- cut-based casino. CIO Dan Garrow reflects on the expe- rience: "Comparing our strategy against our plans for expenditures in each of the four management objec- tives for investments, we realized there was a disconnect between our long-range plans and our resource alloca- tions, both human and financial. Portfolio thinking helped us bring the day-to-day activities back into alignment with our long-range objectives. Portfolio thinking helps us determine what type of company we are and the level of risk we're willing to take, particu- larly around our strategic business efforts."

The Returns From the Four ITAsset Classes

The portfolio allocation approach works because it underscores the importance of how organizations use technology instead of focusing on the technology itself.

Cosidrn

portfolio management is an increasingly common way to help man- ement teams match ITinvestments to strategic objectives. Our

search identified four broad classifications of ITinvestments: transac- •nal, informational, strategic and infrastructure.

Cut costs

Increase throughput

* Product innovation Process innovation Competitive advantage

service delivery Increased sales

Marktpositioning

INFOMATINAL,STRATEGIC 26% TRANSACTIONAL

46%

INFRASTRUCTURE

"•Increased control "*Better informa i

"*Better integration "*Improved quality•enewed "Faster cycle time

"*Business integration

"*Business flexibility

"*Reduced marginal cost of business unit's IT "*Reduced ITcosts

"*Standardization

*Framework from P.Weill and M. Broadbent "Leveraging the New Infrastructure: How Market Lead- ritalize on IT,"Harvard Business School Press, 1998.

ercentages are from an MIT CISR study of 2005 total IT investments from 640 enterprises.

WINTER 2006 MIT SLOAN MANAGEMENT REVIEW 41

The up and down arrows gauge the average changes in prof- itability, innovation and market value the year after an IT investment is made. For example, companies that invest more heavily than their competitors in transactional IThave lower costs.

a leader in the marketing, hospitality and travel businesses; its most recognized brands include Radisson Hotels & Resorts, T.G.I. Friday's restaurants, Carlson Marketing Group, Carlson Wagonlit Travel, Radisson Seven Seas Cruises and the Gold Points Reward Network.7 Although the businesses are run autonomously, Carlson has captured cost savings and synergies with a world-class shared services capability, which won the 2004 International Productivity and Quality Council's award for the "best mature shared services organization."

Carlson Shared Services is set up to operate as a business, offer- ing IT and financial services (with plans to offer more); it is governed by aboard comprising the CIOs and CFOs of the business units; and its IT organization provides 89 infrastructure services to Carlson's businesses. The IT unit compares the prices of its services to those of external vendors, and outsources whenever a vendor can offer a bet- ter price or quality proposition than what internal IT resources can offer. As a result, Carlson's business units use the shared IT services as much as possible, even though use is not mandatory.

Although the top performers (defined as the top third in terms of industry-adjusted return on assets, net margins and revenue growth) have IT portfolio allocations similar to the average company's, collec-

tively they spend 4% more on IT as a percentage of net sales.

But the differences within specific industries are striking. For example, top performers in financial services spend 10% less on IT than the average financial firm but have portfolios more heav- ily weighted toward IT infrastructure. (In that sector, IT invest- ment is so fundamental to business processes that IT systems are

quite mature, with much of the advantage coming from higher efficiency in executing basic transactions and providing infra- structure to foster innovation.) By contrast, the top performers in wholesale, retail and transport sectors spend 11% more on IT than their average competitors and weight their portfolios more heavily toward informational assets, indicating that there's still competitive advantage in the effective use of information.

The ITSavvy Premium

Clearly, companies that link their IT investments to their business

strategies are well-placed to outrun their competitors along desired performance dimensions. But investing the right amount in the right IT asset classes is only the first step. Above-average management capabilities are also needed to achieve above- industry-average returns from those IT investments.

A subset of companies in our sample obtain performance gains that are far greater than those of their competitors. One year after an investment, companies with high IT savvy achieved higher performance from each IT dollar invested across all four IT asset classes. In effect, IT savvy yields a substantial financial premium. Our research assessed each company's relative IT savvy by cataloging companies' practices, processes and capabilities.

(See "Companywide IT Savvy Affects Performance,' p. 43.)8

Inform.Ao3

Strategic

N6 _1P

.0z

* *

Transactional Infrastructure

INFRASTRUCTURE TRANSACTIONAL INFORMATIONAL

STRATEGIC

R&D

Ar3v•pTl¢• • r. ADVERT4ISI

Statistically significant impacts controlling for industry, firm size, R&D expense and advertising expense

1 Net M = Income Before Extraordinary Items tMargin Total Sales

2 Sales From Modified Products Sales From New Products

Total Sales Total Sales

3 The Market to Book value of company stock in the same year the investment is made.

Similar evidence applies to the other IT asset classes. Compa- nies such as 7-Eleven Japan that invest more heavily in informa- tional IT have higher quality and larger margins (net profits per dollar of sales). Strategic IT investments help spur innovation and thus position an organization for growth. For example, Van- guard.com, the Web site of the mutual funds firm, has a cus- tomized, password-protected portfolio analysis tool that offers sophisticated calculations, including comparisons of investors' current asset allocations versus long-term goals.

Investments in IT infrastructure serve multiple purposes. Some are designed to cut costs through standardization and con- solidation - data center consolidation, for instance. Others reduce time to market for new business initiatives or provide a platform for delivering companywide initiatives such as a shared customer database for a single point of customer contact. (See "Building IT Infrastructure for Strategic Agility," MIT Sloan Management Review, fall 2002.)

Carlson Companies Inc. offers a good example of the value created by a shared IT infrastructure. The $20 billion company is

42 MIT SLOAN MANAGEMENT REVIEW WINTER 2006

The returns from IT infrastructure - the largest IT asset class and often the most difficult to cost-justify in advance - strikingly illustrate the impact of IT savvy. For each dollar invested in IT infra- structure, companies with high IT savvy have $247 higher net prof- its in the year following the investment. Their infrastructure investments are also associated with superior returns for other key performance measures, including innovation and market capital- ization. By contrast, companies with low IT savvy have, on average, $909 lower net profits the next year per dollar spent on infrastruc- ture - controlling for industry, size and other investments such as research and development and advertising expenditures.

IT infrastructure is the foundation ofall IT investments, includ- ing the communications network, shared customer data, laptops, data centers and servers; it accounts for close to half of the average company's total IT spend. High-IT-savvy companies turn these enabling investments into value much faster than do low-IT-savvy companies - in one year compared with three years or longer. They achieve this premium by following particular practices more rigorously - for example, by ensuring that more of their business processes are digitized, and by more quickly designing and imple- menting changes to crucial business processes. Thus, instead of hav- ing their infrastructure investments hit the bottom line only as

acquisition costs, IT-savvy companies put them to work faster, reg- istering improvement on the bottom line in the next year.

Raytheon Company illustrates how IT infrastructure invest- ments can deliver cost savings and provide a platform for business agility, and it shows how business processes and decision-making practices must change accordingly. Rebecca Rhoads is vice president and CIO at the $21 billion aerospace and defense corporation, which has grown significantly through mergers with the defense operations of Texas Instruments, Hughes, General Dynamics and E-Systems. She explains that the practices guiding Raytheon to a standardized technology infrastructure after the mergers were just a first step in generating value from IT:

"You will outgrow the governance model that makes you suc- cessful. It took me a while to figure that out because we had developed a governance model that was so effective - everybody was so supportive of it. We had buy-in, we had alignment, we were moving forward on it. It was a governance model that helped us consolidate and shape up the company. So once we reduced a couple of thousand legacy applications, once we went from 150 payroll systems to one, 28 e-mail systems to one, we reduced IT spend by over 40%. That's what we needed to do over the first three to four years of being the new company, because if

Our research assessed each company's relative ITsavvy by cataloging its practices, processes and capabilities. As indicated below, across all four ITasset classes, companies with high ITsavvy achieved higher performance from each ITdollar invested.

Informa

Strategic

Transactional Infrastructure

Savvy of Company4 INFRASTRUCTURE

TRANSACTIONAL

INFORMATIONAL

1Net M tMargin

Income Before Extraordinary Items Total Sales

(negative) incremental impact for that variable.

STRATEGIC

AA* "High Impact" is 50%or less of the highest positive

"Very High Impact" is greater than 50% of the highest

2 Sales From Modified Products Sales From New Products Total Sales Total Sales

3The Market to Book value of company stock in the same year the investment is made

positive (negative) incremental impact for that variable.

All impacts are statistically significant, controlling for company and

industry effects.

"Average" is the average return for all companies surveyed. "High"

implies additional return for the companies in the top 5% of IT savvy. "Low" is the additional negative impact on return for the companies in the bottom 5% of ITsavvy.

LOWER COST OF GOODS SOLD

Low Average High

PROFIT' INNOVATION 2 MARKET VALUE3 Low Average High Low Average High Low Average High

AIAAA

WINTER 2006 MIT SLOAN MANAGEMENT REVIEW 43

you don't get the synergy of the merger, you're not going to come up for air ever."9

However, Rhoads found that, following Raytheon's cost-cut- ting successes, the focus needed to shift to agility, to questions of how the company would grow and how IT enables that growth.

High-IT-savvy companies also see higher performance associ- ated with transactional IT investments used to automate repetitive transactions, cut costs and increase throughput. Not only does Wall Street value such investments in high-IT-savvy companies, but also these companies have higher profits. Interestingly, compa- nies with more transactional IT investment also have more sales from new and modified products. Paradoxically, in high-IT-savvy companies, process digitization enables innovative new products and services by freeing up managers to innovate on the platform of these digitized processes. For example, Amazon.com, Inc., the quintessential IT-savvy company, can relatively easily try a new service such as tailored recommendations based on the consumer's purchase history and on other customers' reviews. The new service requires only marginal investment on top of Amazon's current dig- itized processes. Better yet, the product can be offered to only a few target customers and the impact can be measured immediately. By contrast, low-IT-savvy companies do not convert trans-

actional investments into innovation.

Characteristics That Create ITSavvy

What are the hallmarks of the IT-savvy company? Companies

with high IT savvy have developed the five mutually reinforcing characteristics described below. The first three characteristics are practices related to IT use, and the last two are competencies needed for high IT savvy. The mutual reinforcement of both

practices and competencies is necessary for high IT savvy, and these five characteristics are representative but not exhaustive of companies with stronger overall IT savvy. (See "The Five Charac- teristics of IT Savvy.")

Strategic IT, with its objectives to create new business value or growth, is historically a high-risk, high-return asset class. But companies with high IT savvy mitigate the risks inherent in strategic IT investments and have higher than average profits, innovation and market capitaliza- tion for each dollar invested. In such companies, business management involvement and a culture of IT use in busi- ness processes are necessary for more successful strategic (and in other companies, risky) IT investment.

Again, IT savvy makes a big difference with informa- tional IT investments. Companies with strong IT savvy demonstrate particularly strong profitability because of the disciplines required to use common sets of infor- mation effectively. There is no impact from informa- tional IT on innovation, cost or market capitalization in the average company.

So what's the outlook for companies with low IT savvy? Overall, their IT investments are associated with lower returns from all four asset classes in their IT port-

folios. The situation for these companies is bleak, with value leaking from most of their IT spending. These companies would do well to reduce their IT investments to essential areas only and to re-weight their portfolios toward lower-risk transactional IT assets until they have improved their overall IT savvy. Otherwise, they will continue to leak value, particularly from the longer-

Cor cha

term and higher-risk asset classes such

as strategic IT.

ved from a factor analysis of 18 independent practices and competencies in 147 companies fro, 1999 to 2002.

44 MIT SLOAN MANAGEMENT REVIEW WINTER 2006

IT for communication -

as e-mail, intranets and wireless devices for internal and external communications and work practices. For example, 7-Eleven Japan's system connects 70,000 computers in stores, at headquarters and at supplier sites, providing transparency across the entire value chain. A salesman for one of the company's food suppliers put it this way: "[Their] information system is so good that we can instantly find out which goods ofours are selling to what types of customers and how much." The collaboration between 7-Eleven Japan and its partners includes shared information, information systems and

Fi e Characteristics of IT Savvy

npanies with high IT savvy have developed five mutually reinforcing

extensive use of electronic channels such

racteristics.* The first three are practices related to IT use and the last two are competencies needed for high IT savvy.

Der

Practices

IT FOR INTERNAL AND EXTERNAL COMMUNICATION

INTERNET USE

DIGITAL TRANSACTIONS

mtpetencies

COM PANYWIDE

IT SKILLS

MANAGEMENT INVOLVEMENT

Intensity of electronic communication media such as e-mail, intranets and

wireless devices for internal and external communications and work practices

Internet-based architectures (i.e., open) for key functions like sales force management, employee performance measurement, training and post-sales customer support

Percent digitization of transactions executed with both suppliers and customers

Technical and business skills of IT people, ITskills of business people and ability to hire skilled IT people

The degree of senior management commitment to IT projects and the degree of business unit involvement in ITdecisions

The underpinning for 7-Eleven Japan's digital capability isthe network of 70,000 computers that collect data at the point of sale on every customer and every item sold.

know-how about operations management as well as quality con- trol throughout the value chain.

Internet use - more use of Internet architectures for key processes such as sales force management, employee perform-

ance measurement, training and post-sales customer support.

Digital transactions - a high degree of digitization of the com- pany's repetitive transactions, particularly sales, customer inter- action and purchasing. The underpinning for 7-Eleven Japan's digital capability is the network of 70,000 computers that collect data at the point of sale on every customer and every item sold. Each day's data is analyzed for use the next morning. Other digitized processes allow each store to place orders and receive deliveries three times daily, with deliveries organized by temper- ature - frozen, refrigerated, ambient, etc.

Companywide IT skills - the ability of almost all employees to use IT effectively. There are strong technical and business skills among the IT staff, strong IT skills among the business staff and an adequate market supply of highly skilled IT staff. 7-Eleven Japan trains its 200,000 employees to use available point-of-sale data along with information on product, local weather forecasts and regional demographic and purchasing patterns so they can propose and quickly test hypotheses about the appeal of different types of products in each store.

The results of IT savvy are clearly observed when measuring process digitization. On average, the 147 organizations we studied completed 19% of their sales and 23% of their purchases electron- ically; there was little variation across industries. However, the third of companies with the most digitized processes completed 50% of their sales and 55% of their purchases electronically.

Seven Ways to Extract More Business Value

From Your ITPortfolio

Our research identifies the returns on different types of IT invest- ments for the average company, and demonstrates that even higher returns are available by matching IT-savvy practices and competencies with the IT portfolio. But how can managers work to match IT savvy with the IT asset mix? Here are seven sugges- tions based on the experiences of the top performers:

1. Identify the current and previous year's IT portfolios. Using our portfolio categorization, estimate your company's IT portfo- lios for the last three years and the proposed IT portfolio for next year.10 At an IT investment committee or governance meeting, discuss whether these investments are appropriate for the com- pany's business strategy. A recent discussion with an insurance company, looking back over the last four years of IT portfolios, raised these important questions:

"*Why did the company's percentage of strategic IT investments fluctuate so dramatically?

"*Will the low infrastructure investments planned for next year adversely affect strategic agility?

"*Does the decentralized and departmentalized decision mak- ing about IT investments fritter away IT resources and undercut support of the company's overall strategic direc- tion?

"*Why do some business units with different strategies have the same IT portfolios?

By answering these questions, the insurer reconsidered its IT investment process and began increasing the IT savvy of the whole organization - starting at the top. The CFO put it suc- cinctly: "This is the first IT discussion I have really understood - investments, asset classes, risk profile, savvy and accountability for performance."

strong commitment of sen- ior managers to effective IT use. Business-unit managers are heavily

involved in IT decisions, strengthening partnerships between IT staff and business units to help generate value from IT investments.

The mutually reinforcing aspect of IT savvy is critical. Our find- ings show that in the companies that exhibit high IT savvy, IT prac- tices are interlocking and tightly clustered. Putting it another way, the companies that focus on strengthening IT capabilities have developed the IT practices and companywide IT skills that com-

plement investments in the four IT asset classes. The strong commitment of senior management encourages more business- unit managers to become involved in IT decisions. This in turn leads to more companywide IT skills via formal and informal edu- cation programs, along with more use of IT for communication, work practices and transaction digitization.

Constant management involvement -

WINTER 2006 MIT SLOAN MANAGEMENT REVIEW 45

2. Understand IT asset class performance and benchmarks for your business. Using the results reported in this article and other benchmarks, assess whether your current IT portfolios are appro- priate for your company's or business unit's strategic goals, IT savvy and appetite for risk. An attractive alternative to using benchmarks is to compare multiple business units in your com- pany. Since each business unit has a different strategy and IT savvy, comparisons of the alignment of their objectives, practices, capa- bilities and IT portfolios will help highlight where IT investments are applied thoughtfully and what changes should be considered.

3. Understand and track your organization's IT savvy. IT savvy should be assessed and actively managed. The five practices and competencies discussed above provide a good starting point. Again, it's informative to compare IT savvy across multiple busi- ness units. Companies or business units with low overall IT savvy should consider re-weighting their IT portfolios toward the less risky transactional and informational investments.

At the same time, low-IT-savvy companies can focus on improving the IT practices and competencies that are most

important for the asset classes in which they invest the most. (See "Different Performance Goals Call for Different IT Invest- ment/Savvy Profiles.") To improve IT savvy, start with character- istics that provide leverage for the most important asset classes in the company's or business unit's IT portfolio. Practices from strong IT-savvy business units can be codified and transferred to those with less IT savvy.

4. Balance the portfolio for alignment and risk-return profile - and ensure that the process is transparent. Using the results from the previous three steps, senior management must make judgments about the company's IT portfolio. The judgments are based on management's intuition concerning strategy, appetite for risk, the company's IT savvy, the economy, available capital, etc. Having an IT portfolio process makes this judgment explicit and trackable over time instead of hidden

within the budgets of each project or department.

5. Re-weight portfolios annually and whenever major changes occur. Like personal investments, IT portfolios need to be re- weighted as business and economic cir- cumstances change. For example, as companies achieve high overall IT-savvy

MIT SLOAN MANAGEMENT REVIEW WINTER 2006

*..,e -•S-

IT savvy should be assessed and actively managed. Companies can focus on improving the IT practices and competencies that are most important for the asset classes in which they invest the most. Below, the right-hand column identifies the components of IT savvy that add the most leverage to the asset classes in the ITportfolio for each performance goal.

ratings, they can invest more in IT and assume more risk (such as increase strategic or infrastructure investments) in their portfolios relative to competi- tors or to previous investments.

6. Incorporate the IT portfolio approach into the IT governance framework. Effective IT governance specifies the decision rights and accountability framework to ensure that IT is applied in the right ways. IT investment is one of the key IT deci- sions that needs to be governed. Effective governance institutionalizes

the disciplines of IT investment (often incorporating IT portfolio management) in a repeatable process that is understood and followed by all managers and linked to the com- pany's incentive and reward systems. Organizational learning is predicted, in part, by the time between action and feedback. The shorter the time lag, the greater the number of oppor- tunities to learn. Tracking the impact of IT investment decisions and using

PERFORMANCE GOAL

PROFITABILITY

MARKET VALUE

INNOVATION

LOWER COST OF GOODS SOLD

INVESTMENT EMPHASIS*

for Higjh-lT-Sawv

HIGH-LEVERAGE PRACTICES/CAPABILITIES

Companywide ITskills Management involvement Internet use

Management involvement Internet use

Companywide ITskills Internet use

for All

Companies

Infrastr ucture

Transactional

Infrastructure

Strategic

Infrastructure

Companies

Strategic

Transactional

Strategic

Informati Transactional

Strategic Informatim8

* Investment emphasis refers to higher-priority IT investments, where the IT investment is often larger than the industry average.

these results to inform the next cycle of IT investment promotes enterprise learning - the faster the better.1 1

7. Learn from post-implementa- tion reviews and formal training. Most companies woefully underin- vest in IT education and training. Various sources estimate that around 2% of the average IT budget is allocated to education and train-

ing. What's worse, training is one of the first areas to be cut when times get tough. Many companies also miss out on the important opportu- nity for learning offered by a post- implementation project review. Growing numbers of companies now include in their project budgets an allocation for development of people that includes education, training and post-implementation reviews (or even in-process imple- mentation reviews). Professional

development helps companies gen- erate the expected benefits of IT

M n ay

To gauge your compan y's degree of ITsavvy, each key manager should begin by asking

the following question•s:

CEO

* Who has the respon sibility for making our key ITdecisions, and how do I hold them

accountable for per formance?

* How is my ITgovern ance linked to the governance of the company's other key assets,

such as our people, our know-how, our physical assets and our financial assets?

* What are the three c r four key metrics I should oversee to get the most value from IT?

?How ITsavvy am I? * How ITsavvy are we?

CFO

•What are the key IT.asset classes within our ITportfolio?

• What has been our historical risk and return by ITasset class?

and helps motivate and energize staff.

These suggestions are just a start. They are not meant to be a step-by-step "how-to" for over-

hauling the IT strategies of large, complex organizations, nor are they meant to provide a new organization blueprint for the IT- savvy company. But they are intended to provoke the kind of thinking that can quickly point out performance gaps and inspire robust initiatives to close those gaps and keep them closed.

clamoring for the attention of the top management team. Many of those issues call for sizable resource commitments in terms of funding and dedi- cated staff. But IT savvy in and of itself is not a major resource

drain. In our experience, companies with average or low IT savvy can significantly increase their returns and reduce their IT risk without investing another cent in technology. That should be rea- son enough for many business leaders to elevate the issue.

investment,

lesigned to increase companywide ITsavvy? Are our incentives c

How effective isouirprofessional development around ITsavvy? How isthis measured?

Clearly, there are myriad pressing issues

More fundamentally, though, the story of IT savvy is a story of untapped potential - of money left on the table, and of com- petitors who can grab a lasting advantage. In a time of unrelent- ing competition from all corners of the globe, managers must understand the consequences of not acting to enrich their organ- izations' IT savvy. They must find answers to questions about the best utilization of technology in their organizations and give seri- ous consideration to an increasingly important question: Are we IT savvy enough for 2010 and beyond?

How can I help mak,e better ITinvestments, particularly when they involve complex jus- tifications (such as, option pricing) as with ITinfrastructure?

Unit Leaderof

* What percentage my key business processes are optimized and digitized?

* How ITsavvy are my people? How ITsavvy am I?

* How effective are our partnerships with the shared ITgroup? What's our role in that

partnership?

* How business savvy are my ITpeople?

• How do we make thie key ITdecisions in my business unit?

HR Director

• How ITsavvy are our business people? * How business savvy are our ITpeople?

CIO

* What percentage ofour key business processes are digitized? Percentage of sales? Per-

centage of purchas es? What degree of cross-business unit linking is needed?

* What is our ITsavv• by business unit? Should our ITinvestment allocations vary by

. . * *

business unit to reflect the differences? bHow o orwt

How do Iwork with my senior management colleagues to increase ITsavvy?

What is our curren t ITportfolio allocation by asset class? How did it get that way? What have been ouir historical returns by asset class and by business unit?

What changes to ITgovernance do I need to make to address the answers to the ques- tions above?

WINTER 2006 MIT SLOAN MANAGEMENT REVIEW 47

STATEMENT OF OWNERSHIP, MANAGEMENT AND CIRCULATION

(Required by U-S.C. 3885). (1)Publication title: MIT Sloan Management Review, (2)Publication No. 1532-9194. (3)Filing Date: 10/14/2005, (4)Issue Frequency: Quarterly. (5)No. of Issues Published Annually: 4.(8)Annual Subscription Price: $89.00.(7) Complete Mailing Address of Kniown Office of Publication: MIT, E60-100, 77 Massachusetts Avenue, Cambridge, MA 02139-4307. Contact Person: Corrine Callahan. Telephone (617) 253-3965 (8)Complete Mailing Address of Headquarters or General Business Office of Publisher: MIT, E60-10o, 77 Massachusetts Avenue, Cambridge, MA 02139-4307. (9)Full Names and Complete Mailing Addresses of Publisher, Editor, and Managing Editor. Publisher: Christine Leamon, MIT E60-100, 77 Massachusetts Avenue, Cambridge, MA 02139-4307. Editor: Christopher Bergonzi, MIT E60-100, 77 Massachusetts Avenue, Canmbridge MA 02139-4307. Managing Editor: Beth Magura, MIT E60-100, 77 Massachusetts Avenue, Cambridge, MA 02139-4307. (10) Owner: Massachusetts Institute of Technology. Sloan School of Management, 77 Massachusetts Avenue, Cambridge, MA 02139- 4307. (11)Known Bondholders, Mortgagees. and Other Security HIolders Owning or

The authors gratefully acknowledge the support for this research from MIT CISR patrons and sponsors (http://mitsloan.mit.edu/cisr/) and the National Science Foundation, grant number IIS-0085725. In particular, we would like to acknowledge the input of Jeanne Ross of MIT Sloan CISR, Shafeen Charania of Microsoft Corp. and John Sviokla of DiamondCluster International.

REFERENCES

1. For more information, see K. Nagayama and P. Weill, "7-Eleven Japan Co. Ltd.: Reinventing the Retail Business Model," working paper 4485-04, MIT Sloan School of Management, CISR, Cam- bridge, Massachusetts, January 2004.

2. S. Aral and P. Weill, "IT Assets, Organizational Capabilities and Firm Performance: Do Resource Allocations and Organiza-

tional Differences Explain Performance Variation?" working paper, MIT Sloan School of Management, CISR, Cambridge, Massachusetts, 2005.

3. See M. Jeffery and I. Leliveld, "Best Practices in IT Portfolio Management," MIT Sloan Management Review 45, no. 3 (spring 2004): 41-49, who report 24% of companies had effectively imple- mented IT portfolios and 78% expected implementation by the end of 2004; P. Weill and M. Broadbent, "Leveraging the New Infra- structure: How Market Leaders Capitalize on Information Technol- ogy" (Boston: Harvard Business School Press, 1998); P. Weill and S. Aral, "Managing the IT Portfolio," (update circa 2003), MIT Sloan School of Management CISR Research Briefing, vol. III, no.

March 2003, available in "CISR Research Briefings 2003," CISR working paper 340; and P. Weill and S. Aral, "Managing the IT Port- folio: Returns From the Different IT Asset Classes," MIT Sloan School of Management CISR Research Briefing, vol. IV,no. 1A, March 2004, available in "CISR Research Briefings 2004," CISR working paper 351.

4. See P. Weill and J. Ross, chap. 3 in "IT Governance: How Top Performers Manage IT Decision Rights for Superior Results" (Boston: Harvard Business School Press, 2004).

5. Adapted from T. Datz, "Portfolio Management: How to Do It Right," CIO Magazine, May 1, 2003.

6. See J. Ross, "United Parcel Service: Delivering Packages and E-Commerce Solutions," working paper, MIT Sloan School of Man-

agement, CISR, Cambridge, Massachusetts, August 2001.

7. Drawn from N. Fonstad and J. Ross, "Case Vignette of Carlson," MIT Sloan School of Management, CISR, Cambridge, Massachu- setts, January 2003.

8. For example, the practice - digital transactions - was meas- ured as the percentage of orders and total sales conducted elec-

tronically, which averaged 22%. Each company's IT savvy was calculated by a linear combination of the five characteristics shown. (See "The Five Characteristics of IT Savvy," p. 44.)

9. R. Rhoads, "RTN on Governance" (presented at the MIT CISR summer session, Cambridge, Massachusetts, June 2005).

10. To estimate your portfolio using the MIT CISR IT portfolio framework, go to http://web.mit.edu/cisr/MITCISR-ITPortfolio.doc to obtain a brief questionnaire.

11. See P. Weill and J. Ross, "A Matrixed Approach to Designing IT Governance," MIT Sloan Management Review 46, no. 2 (winter 2005): 26-34.

Reprint 47211. For ordering information, sre page 1.

iHolding 1 Percent or More of Total Amount of Bonds, Mortgages, or Other Securities: none. (12) Tax Status: The purpose, function, and nonprofit status of this organization and the exempt status for federal income tax purposes: has not changed during the preceding 12 months, (13) Publication Name: MIT Sloan Management Review. (14) Issue Date for Circulation Date Below: Summer 2005. (15) Extent and Nature of Circulation: (a.) Total No. Copies (net press run): Average No. Copies Each Issue During Preceding

12 Months: 38,342; No. Copies of Single Issue Published Nearest to Filing Date: 38,108; (b1 Paid end/or Requested Circulation (1)Paid/Requested Outside-County Mall Subscriptions Stated on Form

3541: Average No. Copies Each Issue

No. Copies of Single Issue Published Nearest to Filing Date: 22,580. (2)

County Subscriptions Staled on Form 3541: Average No. Copies Each Issue During Preceding 12 Months: 0: Actual No. Copies of Single Issue Published Nearest to Filing Date: 0.(3)Sales through Dealers and Canriers. Street Vendors, Counter Sales, and Other Non-LISPS Paid Distribution: Average No. Copies Each Issue During Preceding 12 Months: 7,302; No. Copies of Single Issue Published Nearest to Filing Date: 7,079. (4)Other Classes Mailed Through the U,SPS: Average No.

Cýopies Each Issue During Preceding 12 Months: 69; No. Copies of Single Issue

Average No. Copies Each Issue During Preceding 12 Months: 31,298; Actual No. Copies of Single Issue Published Nearest to Filing Date: 29,727. (d.) Free Distribution by Mail: (1)Outside-County as Slated on Form 3541: Average No. Copies Each Issue During Preceding 12 Months: 302; Actual No. Copies of Single Issue Published Nearest to Filing Date: 304. (2)In-County as Stated on Form 3541:. Average No. Copies Each Issue During Preceding 12 Months: 0; Actual No. Copies of Single Issue Published Nearest to Filing Date: 0. (3)Other Classes Mailed Through the USPS: Average No. Copies Each Issue During Preceding 12 Months: 0; Actual No. Copies of Single Issue Published Nearest to Filing Date: 0.(e.) Free Distribution Outside the Mail: Average No. Copies Each Issue During Preceding 12 Months: 5,714; Actual No. Copies of Single Issue Published Nearest to Filing Date: 5,913. (f.) Total Free Distribu.tion: Average No. Copies Each Issue During Preceding 12 Months: 6,017; Actual No. Copies of Single Issue Published Nearest to Filing Date: 6,217. (g.) Total Distribution: Average No. Copies Each Issue During Preceding 12 Months: 37,315; Actual No. Copies of Single Issue Published Nearest

to Filing Date: 35,944. (h.) Copies not Distributed: Average No. Copies Each Issue During Preceding 12 Months: 1,028; Actual No. Copies of Single Issue Published Nearest to Filing Date: 164. Total: Average No. Copies Each Issue During Preceding 12 Months: 38,342; Actual No. Copies of Single Issue Published Nearest to Filing Data: 36,108. Percent Paid and/or Requested Circulation: Average No. Copies Each Issue During Preceding 12 Months: 84%/; Actual No, Copies of Single Issue Published Nearest to Filing Date: 83%. This Statement of Ownership will be printed inthe Winter 2006 issue of this publication. Icertify that all information furnished on this term istrue and complete.

Christine P.Leamon, Publisher

48 MIT SLOAN MANAGEMENT REVIEW

WINTER 2006

During Preceding 12 Months: 23,928; Actual Paid In-

ACKNOWLEDGMENTS

1C,

TITLE: Generating Premium Returns on Your IT Investments SOURCE: MIT Sloan Management Review 47 no2 Wint 2006

PAGE(S): 39-48

WN: 0634907228018

The magazine publisher is the copyright holder of this article and it is reproduced with permission. Further reproduction of this article in violation of the copyright is prohibited. To contact the publisher: http://mitsloan.mit.edu/smr/