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• What are the key drivers of IT costs?
• What is a reasonable spending level for the IT function?

MEASURING INFORMATION TECHNOLOGY EXPENSES. IT expenses in a
professional services firm should be considered as a percentage of revenue. For
example, in a mid-size firm, IT costs should range from 1 percent to 3 percent
of revenue. This is a key metric used in all organizations and is a helpful
planning and benchmarking tool. Remember, though, that the range can be
significant based on the nature of the users and the type of business. The
42 Managing and Governing the Professional Services Firm

higher end range would be applicable to financial consultants, who work long
hours, often on the road at client locations. They are considered “intense
users” requiring laptops, connectivity (the ability to dial in and have access
to Internet and firm servers), and a 24/7 help desk. By comparison, a medical
practice typically requires desktop computers for select staff, has set work
schedules, and deals more with application-based requirements such as
billing and Health Insurance Portability and Accountability Act (HIPAA)
compliance.
One significant factor that increases a professional services firm™s IT
costs is multioffice locations, which typically need to communicate with
both the front and back offices of an organization. The thinner the spread of
the firm, the greater is the potential for diseconomies of scale. The topic of
benchmarking and IT costs is discussed in detail in The Executives Guide to
Information Technology, (Wiley, 2002) Chapters 3 and 13.

INFORMATION TECHNOLOGY COST DRIVERS. There are many poten-
tial IT cost drivers. Exhibit 2.15 outlines a number of factors to consider
when analyzing a firm™s IT spending.24

ECONOMIES OF SCALE IN INFORMATION TECHNOLOGY”ARE THEY
ACHIEVABLE? Scale economies have an impact on spending levels and are
an important consideration when looking at purchasing power and the abil-
ity of size to drive down costs. This makes perfect sense”but current
trends and recent IT benchmarking show that, as companies grow, so do
their IT requirements. When growing or expanding through acquisitions,
firms want more technological capability. That means more service (e.g.,
they want to expand help desk hours from five days to seven days a week),
more sophisticated software, or upgraded hardware. They perceive larger
competitors as awash with IT perks or simply believe they have been sacri-
ficing until now and that their growing organization should have all the bells
and whistles.
As law firms expand, all costs expand as a percentage of revenue, not just
IT costs. In addition, labor costs are a significant expense for firms™ IT de-
partments. Labor costs are 30 percent to 40 percent of the average IT budget.
Five key drivers determine IT staffing levels:

1. Number of end users supported
2. Number of systems supported
3. Number of sites supported and geographic dispersion
4. Support requirements
5. Complexity of the environment (number of different types of applica-
tions, systems, and networks)
43
Professional Services Firm Benchmarking

IT COST DRIVER COMMENTS AREAS AFFECTED

Industry Some industries dictate higher General spending
IT spending, e.g., Transporta-
tion-airline reservation systems

Company size (sales, profitabil- Company revenue General spending
ity, number of end users, type of Number of knowledge workers Support
end users) Number of professionals Capital items

Number of computers per IT costs rise with the number of Purchase of PCs
knowledge worker personal computers deployed Support
Complexity of internal operations Outsourcing functions should Personnel
lower IT costs since no longer Hardware
have to support Maintenance
Computational intensive envi- Integration
ronments will increase IT costs

Historical capital spending Historical CapEx spending does Depreciation
not drive increased cost, how- Capital expenditures
ever increased depreciation
expense will affect the IT
budget, e.g. purchasing Main-
frame will affect depreciation for
3 to 5 years of useful life of the
equipment

Current economic/marketplace Economic pressures will increase Personnel
condition need to cut IT spending Overhead
Profitable companies tend to
spend more on IT

Competitive initiatives Major business transformation Personnel
projects such as supply chain Software
reengineering will precipitate
Hardware
major IT expenses to support

Demands from customers or Pressure from customers or sup- Software
suppliers pliers for electronic information
flows and other types of com-
puter-related messaging can
drive up IT expenditures in the
short term

Merger and acquisition activity Acquisitions and mergers acqui- Personnel
sitions will drive IT integration Integration
costs
Potential economies of scale in
the long term

Exhibit 2.15 Key Drivers of IT Cost
(continued)
44 Managing and Governing the Professional Services Firm

IT COST DRIVER COMMENTS AREAS AFFECTED

Age of infrastructure As age of infrastructure Maintenance
increases, cost to support gen-
erally increases

Central vs. decentralized IT Decentralized IT operations Personnel
operations tend to increase IT spending Software
due to lack of controls and vol- Hardware
ume discounts

Number of platforms Costs increase in relation to the Personnel
number of supported platforms Maintenance
Standardization of environ-
ments lowers IT costs

Application complexity Application complexity drives Maintenance
higher support costs

Application age Application age drives higher Maintenance
support costs

Central v s. decentralized Decentralized purchasing tends Personnel
purchasing to increase IT spending due to Software
lack of controls and inability to Hardware
leverage purchasing volume

Standardization of environ- Hardware
Standardization ment, technical platform and Support/Maintenance
tools reduces IT spending

Chargeback mechanism Chargeback mechanism can General spending
employed lower IT spending by driving
more rationale behavior with
business units, for example,
market pricing

Exhibit 2.15 Continued



Creating an IT budget requires the analysis of a large number of vari-
ables and the weighing of multiple competing priorities, while devising the
most cost-effective approach for delivering mission-critical services. Be-
cause of the impact the budget has on the IT department™s ability to run ef-
fectively, budget creation is one of the most important jobs of an IT
manager.
One area to consider for benchmarking is the breakout of spending for an
IT budget. A professional services firm IT budget should have these spend-
ing ranges:
45
Professional Services Firm Benchmarking

Labor (staff, professional services) 25 to 35 percent
Software/software maintenance 10 to 20 percent
Hardware/hardware maintenance/hardware depreciation 20 to 30 percent
Data communications 5 to 15 percent
Miscellaneous/supplies/travel expenses 5 to 10 percent

Determining IT spending decisions is a critical factor in enhancing firm
profitability. Estimation and benchmarking of IT spending provides focus
and validation of the firm™s current spending and investment strategy. This
process can also educate senior management and provide deeper insight into
company-specific IT spending and its impact on profitability. Regardless of
the outcome of the benchmarking exercise, firms should invest only in proj-
ects that meet the business or strategic criteria of their organization.

Benchmarking Human Resources
HR departments should be managed as strategic assets and that HR perfor-
mance should be measured in terms of its strategic impact on the business of
the firm. Such an initiative forces managers to regard HR as an entity that
must be structured and managed to create value.
While viewing HR as a strategic asset is certainly a best practice, plan-
ning and implementation can be successfully undertaken only if staff under-
stand how their jobs contribute to company success. Often, employees don™t
understand how their job fits into the big picture.
The people factor is a simple concept: Investing in human creativity deliv-
ers high returns in terms of job satisfaction and shareholder returns. Imple-
mentation requires sustained attention to a set of basic rules. In a poor
economic climate, managers who are overly focused on achieving short-term
returns through cost cutting often run against the grain of the people factor.
People must understand where they fit into the overall strategy and believe
they are valued. Evidence suggests that companies with the foresight to see
beyond immediate business difficulties will emerge from a business or eco-
nomic downturn with renewed strength.25
When developing, managing, or expanding the human resources depart-
ment to meet a company™s changing needs, it is important to focus on the ser-
vices HR provides. A firm™s approach to building and staffing its HR function
should parallel its approach to client service and should be guided by some
key qualitative and quantitative determinations. Service firms understand
the need to not staff a client engagement or project with too many or too few
professionals or too inexperienced or too senior professionals. Similarly, firms
should seek the same balance of staff to handle the most important element
46 Managing and Governing the Professional Services Firm

in its own organization”its people, also known as “the inventory that goes
home at night.” Exhibits 2.16 and 2.17 illustrate target ratios of partner to
professional staff for law firms and management consulting firms.26, 27

PARTNER LEVERAGE
For each partner in a typical management consulting firm, there are an addi-
tional five to six FTEs in other positions. This includes other professional
positions, leveraged at 1 25 to 1 75, and a support staff position.

AVERAGE PERSONNEL RATIOS BY FIRM SIZE FOR LAW FIRMS
As the size of the firm increases, the ratio of associates to partners/share-
holders increases. The most significant increase occurs when firms grow
from 75 to 150 lawyers to greater than 150 lawyers. The ratio of associate to
partner/shareholder jumps from 0.69 to nearly 1.
No organization achieves 100 percent satisfaction among employees; how-
ever, the firm must strive for high levels to ensure proper retention of profes-
sional staff and high-quality delivery of services. As a company grows, it is
imperative to instill equality and to document the company™s policies and




Exhibit 2.16 Partner Leverage
47
Professional Services Firm Benchmarking



1.00
.98
.90

.80

.70
.69
Ratio




.60
.61
.57
.50 .52
.40
.36
.30

.20
Less than 9 9 to 20 21 to 40 41 to 75 76 to 150 Over 150
Number of attorneys in firm



Exhibit 2.17 Average Personnel Ratios

procedures. Whether your firm has 20 or 1,000 employees, you must have an
employee handbook that outlines everything that affects how employees are
treated. Rules are helpful both in sports and professional arenas, and em-
ployees want to know what the rules are and what happens when they are not
followed. In many ways, a firm™s employee handbook mirrors its approach to
business, where attention to detail and explanations of services are provided.
Consequently, an employee handbook can serve as a good benchmarking

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