ROLE OF THE IT FUNCTION: COSTS, ANALYSIS, DEVELOPMENT Based on materials by David Schuff

IT’s impact on the bottom line  Two things: Reduce costs Increase profit Increase revenue  Everything else relates to one of these two things.  Agree? Try it…

Paying for IT  How does a company pay for technology initiatives?  Where does the money come from?  So how do you know if it is worth it?

Who pays?  For the corporate network?  For an application needed by a single department?  For a new server intended to support that application?  What if the department only needs 10% of that server’s capacity? What is the role of the “chargeback” in all of this?

The Major “Functions” of the IT Function  Operations  Technical support  Network planning and administration  Application Development  Software implementation  What about “managing contracts”?

Looking at the application development function  Analysis/Design  Development The development team Analysis Design Development The business analysts

The Systems Development Life Cycle (SDLC) Business Requirements Technical Requirements Technical Design

The SDLC  What are its strengths?  What are its weaknesses?  When it is appropriate?  What is the role of alternative development strategies?  Rapid prototyping  Joint application development

Requirements Gathering  Why is it important in the context of the SDLC (and software development in general)?  How does it affect testing?  From where do you get the requirements?  What are the difficulties?

Business Requirements versus Technical Requirements  What is the difference?  Which one is more important?  Does it depend on who’s asking the question?  Should the business unit review the technical specifications?

The requirements “game”  In reality, how are requirements used by vendors? By clients?  What is the right level of detail?  Can you have too much detail?  Which party benefits from greater detail?  Why do requirements change?  Is this a bad thing?  How should the client deal with these changes? The vendor?  How do you build a set of requirements that “last?”

The Wall  What is “throwing requirements over the wall”?  What is the implication of this in practice?  Why do companies do it?

How do you know if it is worth it?  Cost justification  Measures of cost and benefits  Intangible costs versus tangible costs  Techniques  Net present value  Expected value

Net present value  Consider a development project:  Year 1: $20,000 expenditure  Year 2: $5,000 savings  Year 3: $7,500 savings  Year 4: $7,500 savings  Is it worth it?  Do you break even: $20000 in spending versus $20000 in income?  Consider a 5% discount rate (cost of capital): NPV = (-20000)(1.05) -0 + (5000)(1.05) -1 + (7500)(1.05) -2 + (7500)(1.05) -3 = = So you would lose $ on this project! Formula for NPV: SFV(1+i)-n

Expected value  E(X) =  xP(x) where x is the outcome and P(x) is the probability of that outcome  Why raffles are bad deals (for players)  Suppose there are 100 tickets at $1 and the prize is $50  E(X) = -1(1) + 50(.01) = = -$.50 So on average you lose $.50 on every ticket

Applying this to an IT project  Is a security system worth the money?  The system costs $10,000 and prevents all downtime  If I do not have a backup system there is a  5% chance we’ll have 10 days of downtime  10% chance we’ll have 5 days of downtime  30% chance we’ll have 1 day of downtime  Each day of downtime costs $10000  So…

The computation…  E(X) = (100000)(0.05) + (50000)(.10) + (10000)(0.30) = = $3000  So the expected value of investing in the system is $3,000  We save $3,000 by implementing the security system  Another way of looking at it:  The expected loss from not having the system is $13,000, which is more than the cost of the system

But what if you have this scenario?  There is a.01% chance you’ll have 10,000 hours of downtime  That’s (0.0001)(10000)(10000) = $10,000  $10,000 is not a lot, but can you afford the $100,000,000 loss if it occurs?  So what do you do to protect against that loss?

Combining NPV and expected value  NPV is discounted value of future cash flows  But those cash flows might be uncertain  So you could look at discounted values of expected future returns  So now, given a 5% cost of capital: NPV = (E(X year1 ))(1.05) -0 + (E(X year2 ))(1.05) -1 + (E(X year3 ))(1.05) -2 + … =  How do you compute E(X yeary )??

Computing expected future cash flows  Back to our security system example  We claim there is a $3000 benefit in the second year  This assumes 100% certainty in the outcome  What should we use for the expected cash flow for year two if we are: 80% certain there will be a $3000 benefit 20% certain there will be a $1000 benefit

Discussion  Beyond Valuation: Options Thinking in Project Management  Should IT projects include people from the business unit in the development process?  In an business that uses technology (for example, a bank), is it more important to have  People in IT with knowledge of the business… or  People in the business units with knowledge of technology?

More discussion  Imagine you are a project manager for a technology initiative  What skills are important to have in your team members (technical and otherwise)?