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Using cost allocation so the business gets IT!


Last week in my post “Achieving financial transparency through IT Financial Management,” I talked about the importance of getting IT costs to a business service level. As a reminder, we need to do this in IT so the business understands where the money on a plan is going and so IT can “act like a businessperson” in its discussions with the business regarding spending priorities. But how do you do this when how IT collects its costs by cost center? The answer is allocation.


Allocation needs to be done in a transparent fashion

The important thing to get here is that you need to allocate costs in a manner that creates transparency to the consumer of IT’s products at each stage of the process. This is so that I can understand IT costs whether I am consuming a virtual server or sales force automation. So what are stages and why do they matter? Well, everything that IT does effectively is in service to the business. This means that all costs—direct or indirect—need to be funneled up to the service.


How does this work? As Julie Andrews said in “The Sound of Music,” let’s start at the very beginning. The foundation for IT and IT costs are things it does to make services deliverable in the first place. Things included here are network, telephony, servers and storage. These IT or infrastructure services have to be in place and working for the corporate accounting or internet banking to be available.


The first stage of allocation centers around capturing all of these costs. This involves collecting together the costs that go into IT services. What are these? Let’s use the example of the network. Here, there are equipment purchases for the WAN, LAN, and the backbone components, as well as the maintenance costs for all of this equipment, the labor costs for the teams that works on the network, and finally the costs of all upgrade programs and projects. When these costs are totaled—a very important thing to do—you have the cost of the IT network service. By the way, getting to these numbers is increasingly important in a world of cloud and internal and external service providers, because internal organizations need a comparable to the outside providers.


Higher-level allocation drives understanding

Once IT services have been costed, we need to allocate the total to the applications that IT runs. Remember, the purpose of all of this IT stuff is to deliver applications that solve problems.  So we need to allocate IT services to applications. To be clear, this type of allocation is what the accountants call the allocation of an indirect cost. Added to this indirect cost will be the direct costs of running an application. This includes the software, dedicated hardware, maintenance costs and labor costs.


Once application costs are collected, they are in turn allocated up to business services. Services are—in today’s environment—represent canister of applications. So we allocate application costs to services and then add to services the cost of supporting programs and/or projects related to these applications. This results in the total service cost and can be compared against outside providers.


The final stage of allocation is to customers

Once you have service costing, the final element of allocation is allocating costs to customers. This allows the business to know what it’s paying for in a language that it can understand. But as important is the ability to present the IT budget not as a list of components but service costs and to ask questions of the business in the budget review. As I mentioned in my previous post, this is a game changer for the business and IT relationship with the business.




Related links:

Blog post: 3 ways IT leaders can strengthen compliance and control COBIT 5, 3 steps IT can take to prove and manage value

Solution page:  IT Performance Management

Twitter: @MylesSuer

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About the Author


Mr. Suer is a senior manager for IT Performance Management. Prior to this role, Mr. Suer headed IT Performance Management Analytics Product Management including IT Financial Management and Executive Scorecard.


Great insightful post, Myles.  Such cost allocation is vital to tracking the ROI on Cloud Computing which should not be just a one-time activity or an after-thought.


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