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Charles Schwab & Co., the big financial services company, grew up around its information technology capabilities. IT was the key factor that allowed the young discount-brokerage house to offer customers lower prices on trades than traditional brokers. Later, as discount brokerage became more of a commodity business, Schwab transformed itself into a full-service, online broker, and by 1998 it was earning a significant share of its profits in the online trading business. But in the next few years competitors caught up to Schwab, and some surpassed it. Several brokerage houses, both discount and full service, were frequently able to beat Schwab on price.
Surprising as it seems, given the company’s strategy of using technology to distance itself from competitors, IT had become part of Schwab’s problem. By the company’s own reckoning, IT staffers’ responses to business requests had become slow and expensive. IT engineers had to spend more time than ever fixing bugs in the systems. Meanwhile, several big, ambitious projects were overdue — including the tax-lot accounting system Schwab had envisioned to serve its most profitable customers — and the slow progress of these projects was preventing the company from responding effectively to competition. Still, the company kept throwing money at projects because it didn’t see an alternative. “We said, we have to keep spending money because we’re half pregnant and you can’t be half pregnant,” recalls Deborah McWhinney, president of Schwab Institutional. A red flag went up when Schwab found itself spending 18% of revenue on IT while three of its leading competitors were spending 13% or less, a cost disadvantage amounting to hundreds of millions of dollars annually.
The fact that a company as tech savvy as Schwab could find itself in this predicament is instructive. It underscores a growing realization we have found among the companies we work with that the usual diagnoses of IT’s troubles — and the usual prescriptions for fixing those troubles — are often misguided. For many years now, companies seeking to deliver higher business performance by harnessing IT have focused on alignment. By alignment, we mean the degree to which the IT group understands the priorities of the business and expends its resources, pursues projects and provides information consistent with them. Almost every company we have worked with recognizes that IT and business priorities must be tightly linked. In practical terms, that means IT spending must be matched to the company’s growth strategies. There must be shared ownership and shared governance of IT projects. It’s become something of a mantra voiced by senior business executives: A lack of alignment can doom IT either to irrelevance or to failure.
That much is true. But in our work with IT and business executives and dozens of companies in many different industries, we began to see a troubling pattern: Even at companies that were focused on alignment, business performance dependent on IT sometimes went sideways, or even declined.
Why wouldn’t a high degree of alignment alone bring about improvement? In our experience, a narrow focus on alignment reflects a fundamental misconception about the nature of IT. Under performing capabilities are often rooted not just in misalignment but in the complexity of systems, applications and other infrastructure. This complexity develops for understandable reasons. At Schwab, for instance, the enormous complexity of the company’s IT system wasn’t the result of IT engineers somehow running amok. Rather, the company’s various divisions were driving independent initiatives, each one designed to address its own competitive needs. IT’s effort to satisfy its various (and sometimes conflicting) business constituencies created a set of Byzantine, overlapping systems that might satisfy individual units for a while but did not advance the company’s business as a whole.
Complexity doesn’t magically disappear just because an IT organization learns to focus on aligned projects rather than less aligned ones. On the contrary, in some situations it can actually get worse. We’ve seen firsthand how IT organizations provide dedicated resources — such as application developers and data centers, to each business unit — in order to improve alignment. They develop customized best-of-breed solutions designed to serve each business’s unique needs. Meanwhile, they ignore the need for standardization and upgrading of legacy systems. They create a labyrinth of new complexity on top of the old, making system enhancements and infrastructure improvements ever more difficult to implement and leaving significant potential scale benefits untapped. Costs rise, delays mount and the fragmentation makes it difficult for managers to coordinate across business units. In these situations, the intent focus on alignment can actually hurt the units instead of helping them. As Richard F. Connell, senior executive vice president and CIO of Selective Insurance Group, of Branchville, New Jersey, told us, “Aligning a poorly performing IT organization to the right business objectives still won’t get the objectives accomplished.” That, in a nutshell, is the alignment trap.
Uncovering the “Alignment Trap”
To test these patterns systematically, and find out more about the root causes of companies’ IT problems, we conducted a survey of more than 500 senior business and technology executives worldwide. We followed up the survey with in-depth interviews of 30 chief information officers and other senior leaders from a broad cross-section of companies.
One thing we confirmed quickly was that Schwab is far from alone in its belief that it is struggling to harness IT to its growth strategy. Only 18% of respondents believed that their company’s IT spending was highly aligned with business priorities — that IT, in other words, always or nearly always established and acted on priorities that supported their business strategy. Only 15% believed that their IT capability was highly effective, that IT ran reliably, without excess complexity and always or nearly always delivered projects with promised functionality, timing and cost.
The survey also showed that almost three-quarters of respondents believed that their IT capability was neither highly aligned nor highly effective, again consistent with the general patterns we have seen. (See “The Path to IT-Enabled Growth.”) These companies occupy what we call the “maintenance zone.” IT at these companies is generally underperforming, undervalued and kept largely separate from a company’s core business functions. Corporate management budgets the amounts necessary to keep the systems running, but IT doesn’t offer enough added value to the business and often isn’t expected to. Companies in the maintenance zone recorded a slower rate of growth — 2% below the three-year average in the survey — while spending the same as the average every year on IT.
Only about one in five senior executives reported in the survey that their company was highly aligned, fairly consistent with our experience. When we looked at the 11% of companies in which IT was highly aligned but was not highly effective, however, we found those companies were considerably worse off than their counterparts in the maintenance zone. While their IT spending was 13% higher than average, their three-year growth rates were 14% lower than average.
This finding was startling, even given the limitations of the survey, which combined self-reported assessments of senior executives with actual data on IT investment and business performance at their companies. It underscored the pattern we encountered at a number of companies with ample IT budgets and strong alignment, but not much to show for it. (See “IT Hopes Vs. IT Realities.”) In these cases, it seemed to us possible, even likely, that the alignment prescription could be worse than the disease. Our thinking has been shaped in part by Schwab and a handful of other companies that have been learning to break out of the trap and create IT organizations that enable growth rather than inhibit it. The number of companies that have already succeeded at this task is small: In our survey, only 7% of respondents said that their IT organizations were both highly aligned with business strategy and highly effective in delivering what was asked of them. But those companies as a group recorded a compound annual growth rate over three years that was 35% higher than the survey average. More surprising still, they were spending 6% less on IT than other respondents. For a large company, the stakes in getting IT right can thus be enormous. In some cases, companies can save hundreds of millions in costs, while increasing sales growth dramatically.
IT Hopes Vs. IT Realities
How have these companies managed to reach that point? While each has followed its own path, there are some common approaches shared by the high performers. Several have diagnosed early on where their company falls on the spectrum of effectiveness and alignment. (See “Diagnosing Your IT Pain.”) For the majority of companies, the single most important task has been to forget about enhancing alignment for the moment and to focus first on increasing the effectiveness of the IT organization. In order for IT to enable growth, that first move is critical — and it’s the one that companies often get wrong. Maintenance-zone companies that try to move directly upward on our chart into the alignment zone, rather than rightward into the effectiveness zone, typically end up in Schwab’s contradictory position. They are traveling in the right general direction, but they’re following a road that can’t get them to their destination. Because they believe that alignment is the key solution to their IT troubles, they can wind up spending enormous amounts of money without solving their problems.
Diagnosing Your IT Pain
Investing in Effectiveness
The legendary inability of IT organizations to do things quickly continually mystifies people outside of IT and frustrates those within it. “This little change I’m requesting is going to take three months?” asks a sales manager, incredulously. The IT manager he is talking to knows that the change isn’t so little — because of overlapping systems, adjustments need to be made in hundreds of different places — but she can’t expect him to understand all the machinations involved. Both feel that the IT system is like a swamp: Projects just get bogged down. Some companies spend more than 80% of their IT budget on maintenance, patches, upgrades and other routine expenses, and less than 20% on the development of new applications and capabilities.
All told, 85% of our survey respondents reported that their company’s IT capabilities were not highly effective. They were either mired in the maintenance zone or snared in the alignment trap. Only 15% placed themselves on the highly effective side. Note that high effectiveness alone made a substantial difference to a company’s economics. Even companies that don’t consider their IT organizations highly aligned were spending 15% less than average, and their growth rates were 11% higher. For many companies, these are numbers that justify considerable investment in pursuing effectiveness.
Making your company’s IT organization effective does not necessarily involve replacing people in IT. You could hire a whole new staff only to find they run into the same problems as the old staff (probably more, since they won’t be familiar with the crazy quilt of IT systems built up over the years). Rather, in our experience, we have found three critical principles most significant in moving organizations to high effectiveness.
“Simplicity is the ultimate sophistication.” The words are Leonardo da Vinci’s, but the mantra should be that of every CIO. Any company’s first step should be to focus relentlessly on reducing complexity rather than increasing it. That sounds like an unexceptionable nostrum, except that the cheapest and quickest way to respond to individual demands for improvements from business units is almost always to do something that increases complexity. Reducing complexity means developing and implementing companywide standards. It means replacing legacy systems where possible and eliminating add-ons. It means building new solutions on a simplified, standardized infrastructure rather than extensive customizing or more layering on top of whatever happens to be there. Such an approach requires a greater investment of time and money upfront and will lead to lower costs only later. For that reason alone, it can be hard for companies to make the commitment.
One company that was able to make such a commitment is De Beers S.A. When Debbie Farnaby became its director of information technologies four years ago, she found a huge number of different application programs in use at De Beers facilities around the world. The problem wasn’t lack of alignment. IT staffers worked closely with production managers at each mine and would develop applications — often in the computer language they happened to be most familiar with — to do whatever the mine managers needed. But there was no standardization, so a program written at one mine wouldn’t necessarily work for another. In addition, the IT organization was bleeding money: It spent roughly 20% of its total software investment every year on licensing fees alone.
Farnaby began the process of replacing most of the local applications with a single SAP enterprise resource planning system. At the time of our interview, she had rolled out the new system to nearly all of De Beers’s locations worldwide. It had taken three and a half years and cost 320 million rand (about $45 million at current exchange rates). But the benefits have been substantial. The new system has allowed her to reduce IT costs and head count every year. It has standardized a wide variety of applications across the entire company. It generates information faster than ever before. Financial reports, for instance, used to take two weeks; they can now be produced in four days. In De Beers’s case, the cost of the new system wasn’t nearly as great as it seemed: The savings on software licensing costs alone were nearly sufficient, over time, to cover the entire amount.
An effective IT organization needs a wide variety of capabilities, ranging from staffing the help desk to creating and integrating innovative business applications. Traditionally, most organizations did as much as they could in-house. Today nearly all the capabilities any company might want are available from a range of suppliers, including low-cost IT specialists in India and elsewhere. Choosing the right source for a capability — maximizing effectiveness while minimizing costs — is thus a critical consideration. A useful method of making the best decisions about sourcing is to ask yourself a series of questions.
First: Is there value our company’s IT organization can add that will merit keeping the work in-house? Outsourcing, whether it means sending the work to offshore vendors or relying on prepackaged solutions, is nearly always cheaper than developing solutions in-house. Still, in-house development often makes sense for applications that are strategic in nature or critical to competitive differentiation. Cleveland-based National City Corp., for example, used to rely heavily on standard banking software from a leading vendor. But a new CIO, Joseph T. McCartin, determined that in-house development in selected areas would actually allow the bank to differentiate itself from its competitors. Four years later, McCartin’s department has developed customized applications for statements, wire transfers, treasury management, pricing, billing and a loyalty program, among others. The in-house programs, said Paul Geraghty, wholesale banking executive vice president, are “much smoother to use, much more navigable and integrate better with other products that we have under development. The look and feel is much more consistent across National City products, and I think clients will therefore be inclined to buy more.”
Another question: If outsourcing seems to be indicated, can we learn to outsource effectively? Many of the CIOs we spoke with emphasized that they needed a deep understanding of the tasks or projects being outsourced, so that vendors could be held accountable for performance and price. That often means doing the job yourself for a while until you understand it well enough to send it outside. When De Beers installed its SAP system, for instance, it ran its own “customer competence centers” (as SAP calls centers for coordination and technical support) for the first 18 months. Recently, CIO Farnaby has decided that the company understands the centers’ issues, so she is exploring the possibility of outsourcing center management. Similarly, De Beers decided to outsource its help desk — but not before Farnaby’s team had educated users throughout the company about how to use a help desk effectively. Today the cost of the help desk service is 66% below what it was when it was run in-house.
Still another question: Can we unbundle particular IT projects, separate out the routine or less strategic parts from those requiring more interaction with management or customers and outsource only the former? Selective Insurance, for example, outsources to an Indian vendor some legacy systems that will not be rebuilt. Meanwhile, Selective develops new applications in-house. But the company also breaks down work into segments and makes individual decisions about each segment. “Routine work — for example, rate changes — we can spec out here,” explains CIO Connell. “Then the programming and initial testing will be done in India, and we will bring it back for integration and user testing.”
Whatever the sourcing decisions, companies need to revisit them regularly as their strategic priorities and in-house capabilities change.
Creating End-to-End Accountability.
Companies cannot build effectiveness unless they hold IT and the business accountable for delivering expected results on time and on budget. It sounds obvious, but many companies observe it only in the breach. Survey data suggest that about three-quarters of IT projects are canceled or fail to deliver expected results on time and on budget. It isn’t sufficient for company executives simply to issue an order that people will now be held accountable. True accountability reflects organizational changes: Executives get the information they need to measure IT progress; IT people are held accountable for outcomes; line managers give IT the resources it needs and then work closely with IT leaders to exercise joint supervision of individual initiatives.
This can mean radically restructuring the way IT operates. At National City, for instance, IT used to be closely aligned with the company’s business units. “There were people who worked on retail projects, people who worked on wholesale projects and so on,” said CIO McCartin. But no one was looking out for the needs of the business as a whole: “We could not do a big-ticket fix on our core systems because nobody would pick up the check.” McCartin reorganized IT to focus not on business units but on core processes and capabilities, such as lending and call centers. A new board with representation from all of the major internal stakeholders now oversees the IT budget and major IT decisions. That, said McCartin, “has enabled us to create a multiyear transformation program, systematically replacing antiquated pieces of the system.”
A good governance structure may need to set firm parameters to keep IT on track. At the German wireless telecommunications company T-Mobile International AG & Co. KG., for instance, head of IT Steffen Roehn meets with his counterparts on the business side every two weeks to define and redefine priorities for the next six to nine months. But Roehn enforces a strict policy of no more than four new-technology releases per year. “Business sometimes has complaints — they want it faster,” he said, “but they have felt the benefits of the strict release cycles and the credibility and dependability they provide. If I tell them they get it in October, they get it in October and not January or April.” This model of IT governance has helped the organization maintain its effectiveness.
From Effectiveness to Enabling Growth
Effectiveness is so important that companies snared in the alignment trap — those in the upper left — almost always find it better to move downward and rightward into “well oiled” territory first, temporarily focusing on effectiveness at the expense of alignment. Effectiveness, after all, usually involves centralizing and simplifying a good part of the IT function. That may mean giving up, for the moment, some of the division-specific applications that have been custom-tailored on legacy systems, just as De Beers and National City had to do.
But the ultimate quest for a company is to move IT into the upper-right quadrant, where it is both highly effective and highly aligned, where IT spending is less than average but growth considerably higher, and where IT appears to be enabling growth rather than inhibiting it. Enterprises that are IT-empowered in this way create an IT strategy and organization that fully support key business objectives. They extend the governance bodies and decision-making processes that ensured effectiveness to guarantee ongoing alignment. Rather than simply create accountability around a discrete process, for instance, their governance crosses traditional organizational lines. That makes it possible to create simpler and cheaper, yet more capable, systems than those of “siloed” organizations. Then, too, business executives are highly engaged in systems projects, often taking lead responsibility for their success. For its part, IT must be a highly reliable partner both in setting expectations around feasibility, time and cost and in delivering consistently.
The combination of high effectiveness and high alignment is a plateau once occupied solely by pioneering companies such as FedEx, Wal-Mart and Dell. IT allowed them to change the game, and to serve customers in ways that competitors could not. Today, a small number of companies continue to reach these heights one by one, some of them in industries that are not generally viewed as being IT-intensive. Examining how they do it shows why the combination of effectiveness and alignment is so powerful.
Nestlé is one such company. Nearly seven years ago, the world’s largest food and beverage company embarked on a project dubbed Global Business Excellence, or GLOBE. The project collapsed dozens of ERP systems across multiple business units into one, establishing a common system design and template for the company’s worldwide operations while still allowing differences for local markets. Just as important, CEO Peter Brabeck-Letmathe gave Chris Johnson, a business unit executive — not an IT executive — accountability for GLOBE’s results. GLOBE “is really a business initiative,” Johnson told CNN in an interview last year, adding that, were it strictly IT, “I don’t think [Brabeck-Letmathe] would have chosen me to run it.”
By 2006, Johnson and the GLOBE team had standardized data management, systems and operating practices at 80% of Nestlé’s S.A. businesses and saved the company $1.6 billion. They also reduced the number of their data centers around the world from 100 to four. This consolidation and simplification — effective IT — had dramatic ramifications. Before GLOBE, the company has acknowledged, its production batch codes differed from one market to another and its customers were coded differently, so that it never really knew how much of any one product it was selling. (In fact, it didn’t even know how many products it sold overall. The answer was about 120,000.) Meanwhile, about 56% of the data in its multiple information systems turned out to be “garbage,” causing anomalies such as salespeople attempting to promote discontinued products. Cleaning up the database in Nestlé’s U.S. home-and-office water business alone saved $300,000 a year.
Brabeck-Letmathe also credits the IT-business transformation with empowering growth. Because GLOBE is tightly aligned as the supply and customer-data platform for the whole business, the program intentionally does not track its benefits separately. But it does put granular information at the fingertips of Nestlé managers around the world, allowing them to manage their businesses more effectively. Over the course of GLOBE’s implementation, Nestlé has seen revenues grow from $50.5 billion to $80.8 billion. Said Brabeck: “I am absolutely convinced that GLOBE has catapulted us [to] a five-year competitive advantage [compared] to most fast-moving consumer-goods companies.”
Most of the successful companies that we interviewed — the companies that have at least begun the process of enabling growth through IT — regard the move into the upper right-hand quadrant as a continuing endeavor rather than a once-and-for-all process. An example is First Data Corp., a large company based in Greenwood Village, Colorado, that provides a variety of back-end services to credit-card issuers and retailers. First Data has grown rapidly in recent years, both organically and through acquisition. Some of its clients wound up buying service packages from First Data that were built on two different (and incompatible) platforms — an unsatisfactory arrangement from the clients’ point of view. “The client was saying, we want a single global solution,” said David Dibble, executive vice president and chief technology officer.
Much as Nestlé did, Dibble’s team resolved the problem by turning over the reins of IT governance to the business. In First Data’s case, the right business solution meant decoupling the company’s products — service packages — from individual IT platforms. (“A platform should not be a business,” said Dibble. “The business is the business.”) That has had two distinct benefits. It has lowered costs and made the IT underpinnings of First Data’s products more effective. It has also enabled the company to make a sale and get a client up and running far faster than in the past, thus enabling growth. Dibble notes, however, that this process of simplification never ends, because each new acquisition brings with it a new IT platform. His continuing challenge is to make sure that other senior managers understand the cost of not simplifying, both in immediate expense and in forgone growth.
Effective IT governance aims to keep the IT environment as simple as possible. But eventually, complexity can still creep back in. One good early-warning indicator is the proportion of IT spending required for maintenance — “keeping the lights on” — as compared to product development. If the ratio creeps up, the CIO or CTO can take that as a sign that it’s time for another round of simplification.
Charles Schwab itself has recently taken some substantial steps in the direction of effectiveness and alignment. The company’s Cambridge Initiative, launched in 2004, is an advanced utility that enables active traders to track their trades and analyze their portfolios. Unlike earlier IT projects at Schwab, it was created on a separate platform rather than overlaid on the corporate mainframe, and it came in on time and on budget. Perhaps more important, it provided customers with additional value while reducing Schwab’s costs to competitive levels: Overall cost per trade was reduced more than 50%, while average time to execute trades at peak times decreased 80%. Clients showed their approval by increasing their trades and bringing more assets to bear, reigniting Schwab’s growth.
These companies and others have learned to interrupt the downward spiral that plagues so many IT organizations with a clear recipe for successful IT enablement. In our experience and research, the companies that achieve the highest growth at a low cost manage complexity down, source IT staffing and software wherever it makes the most sense and create start-to-finish accountability connected to business results. Then, and only then, the best performers tightly align their entire IT organization to the strategic objectives of the overall business, using governance principles that cross organizational lines and making business executives responsible for key IT initiatives. With IT both effective and aligned, these companies have put IT where it belongs in the 21st century: at the heart of the business processes that define a company’s position in the marketplace.