building a best practice chargeback model

RPC Solutions, LLC

Become More Accountable & Competitive

with Cloud Providers

Building a Best Practice

Chargeback Model

Financial World of Information Technology

Conferences

July 18-22, 2011, San Antonio, TX

Jason Byrd

© Copyright RPC Solutions, LLC 2011

Have You Heard This Before??

• Our IT services are too high and we can

do better by providing them themselves

or—at a minimum—get a better deal

from the external marketplace.

• Gmail is free. Why do we have to pay

for our internal corporate email?

• I have no idea what is all this IT stuff I

am paying for!

• We want to pay our fair share and not

subsidize the smaller business units,

pay the for overhead or extravagant

services for the bigger business units!

• We can’t accurately budget for IT costs

each year!


Cloud Computing Driving Organizations to Chargeback

Many organizations have been using an IT chargeback

model for the “historical” technologies procured and

delivered by the IT organization.

…While other IT organizations have avoided the use of

chargeback altogether and continued using a classic

corporate funding model.

However, with the industry-wide emergence of cloud

computing, all types of IT organizations will need to

evaluate best practice elements of chargeback as they

begin introducing cloud computing solutions into their

environment.


Gartner’s 10 Most Important Technologies

1. Cloud computing

2. Advanced analytics

3. Client computing

4. IT for green

5. Reshaping the data

center

6. Social computing

7. Security

8. Flash memory

9. Virtualization

10. Mobile applications Source: Gartner, “Technologies You Can’t Afford to Ignore”, October 20, 2009

“…Using cloud resources does not eliminate the costs

of IT solutions, but does re-arrange some and reduce

others. In addition, consuming cloud services

enterprises will increasingly act as cloud providers and

deliver application, information or business process

services to customers and business partners.”

- Gartner


Five Critical Success Factors for IT Transformation

1. Aligning to the Right IT Strategic Business Target

2. Ensuring the Integrity of Architecture for Process and Other Assets

3. Interweaving Structure and Governance in IT Management and the

IS Organization

4. Executing Skill Development and Realignment

5. Managing IT Sourcing Strategy and Execution

“The emergence of SaaS and cloud computing—in parallel with the

growing role of outsourcing—is one of the main drivers of the evolution

up to and beyond 2013. And the great variations on cloud services will

have a deep impact on the business and on IT organizations, if they

are smart enough to take the lead in this new area.”

Source: Gartner, “IT Organization Transitions: Critical Success Factor Choices and Road Maps to 2013”, November 13, 2009


The Cloud “Stack”

SaaS – Software as a Service

(Applications like Salesforce.com)

PaaS – Platform as a Service

(Development platform like

Force.com and Microsoft Azure)

IaaS – Infrastructure as a Service

(Hardware/Network like Rackspace)

Infrastructure as a

Service (IaaS)

Platform as a Service

(PaaS)

Software as a Service

(SaaS)


Cloud Computing Examples

Infrastructure as a

Service (IaaS)

Platform as a Service

(PaaS)

Software as a Service

(SaaS)

Source: Tim O’Reilly & IBM 7

Over 200 Other Cloud Providers!

CloudBurst Websphere CloudBurst

EC2

http://www.crunchbase.com/service-provider/rackspace

http://www.crunchbase.com/company/amazon

http://www.crunchbase.com/product/google-app-engine

http://www.crunchbase.com/company/flickr

http://www.crunchbase.com/company/salesforce


IT Organizations are Emulating the Cloud Providers

Internal IT organizations are being driven to

emulate what cloud Providers are offering:

- Leveraging virtualization

- Pooling of resources

- Delivering IT services via dynamic provisioning & a self-

service portal

- Have appropriate Chargeback mechanisms and pricing.

But it’s not just the technology and services of the

cloud that are being emulated….


Applying the “Free Market” to IT

- Milton Friedman, Professor of Economics at the University of Chicago

and 1976 Nobel prize winner, offered comments that could apply to IT

chargeback and pricing for today’s technology-dependent enterprises….

“Price works so well, so efficiently, that we are not aware of it most of the time…. If

an exchange between two parties is voluntary, it will not take place unless both

believe they will benefit from it.” —Milton Friedman

“When government — in pursuit of good intentions — tries to rearrange the

economy, legislate morality or help special interests, the costs come in inefficiency,

lack of innovation, and loss of freedom.” —Milton Friedman

The largest impediment is that an IT organization is not a “free market.”

Explicit effort and governance are required to maintain the semblance of laissez-faire.

The greatest is risk that the required people, processes and technologies may create the very governmental bureaucracy that Friedman feared when he also cautiously noted…

Chargeback can be an effective tool, but it must be integrated properly and aligned with corporate finance, governance and culture.


Key Definitions and Differences

An IT funding model is the mechanism through which IT

enabled initiatives and their ongoing costs are purchased. It

should consider both the initial procurement and the ultimate

financial reporting.

Chargeback is any funding model where a cost center—in

our case the IT—passes its costs to the internal customers

and/or benefactors of the technologies. There are other

funding models that do not use chargeback, the most

common of which is straight corporate funding.

The chargeback model is the compilation of individual

chargeback methods used for individual IT costs/services.

Cost allocation is a general term for a type of chargeback

method, where the total IT costs are fully and exactly

distributed to customers the end of the fiscal cycle, using

drivers that are typically outside of the customers’ direct

control throughout the year.


Benefit Themes for Chargeback

Why is your

organization

considering a

chargeback model?

There are four

general areas of

benefit to be

achieved….

Behavior Modification

Cost Accounting

Enable an Internal IT “P&L”

Governance and Communication


Two Dimensions of IT Costs

Price Layers

• Technology Refresh

• Market Adjustment & Profit

• Risk Contingency

• Strategy, Admin & Overhead

• Variable Costs

• Fixed Costs

Chart of Accounts

• Hardware

• Software

• Service/Cloud Providers

• Indirect Labor

• Direct labor

• Overhead

• Licenses

Decomposing IT costs

into these categories

will often create new

discussions….


Decomposing the Financial Layers

A number of highly political questions inherent in the

financial layers of IT costs can undermine the effectiveness

of chargeback reform if not addressed adequately in

advance….

- Are capital assets depreciated beyond or before the end of their

effective lives, and is the depreciation linear or exponential?

- How is a business unit charged for access to an IT system already

fully paid for by another business unit?

- Are IT overhead costs readily separated from service delivery costs?

- Is the IT delivery organization’s service levels generally agreed to be

appropriate?

- Can all IT costs be extracted and reported in terms of the services to

which they relate?


Four Behavioral Drivers for Chargeback Methods

Each behavioral driver has its “equal and

opposing force”

Simplicity

• Is the method easy to understand, and is what I’m paying for clear?

Fairness

• Does the method allocate costs equitably to whomever uses the service?

Predictability

• Does the method allow me to forecast my costs?

Controllability

• Does the method allow me to control my costs?


Highest

Complexity,

Sophistication

& Cost

Lowest

Complexity,

Sophistication

& Cost

MBP Market-based prices

HLA High-level allocation of specific IT costs

DC Direct cost

MRU Measured resource usage

TFR Tiered flat rate

NFR Negotiated flat rate

Per measured unit of service

Based on projected service usage

Based on service accessibility whether used or not

Based on measured consumption of IT resources

Based on dedicated resource ownership

Based on user size (e.g., employees, revenues)

IT Chargeback Methods


Methods Correlate to Each Driver

Highest

Complexity, Sophistication

& Cost

Lowest

Complexity, Sophistication

& Cost

MBP

HLA

DC

MRU

TFR

NFR

Simplicity Fairness Predictability Controllability

1 4 1 2

1 4 2 2

2 2 3 1

1 4 1 4

3 3 1 3

4 0 3 1


Four Foundational IT Funding Models

BU BUBU

Corp

IS BU BUBU

Corp

IS

BU BUBU

Corp

IS BU BUBU

Corp

IS

Corporate

Funding

IS

Funding

BU

Funding

Venture

Pool

Funding

Benefit

Chargeback Source: Gartner, “Expanding Your IT Funding Options”, August, 2003


Define Services and

Service Levels

Continuous

Improvement

Current Situation

Assessment

Define Chargeback

Approach and

Levels

Develop Processes

and Define Support

Organization

Calculate

Projected Rate

Structure

Design Implement Assess

Asses the current

practice in:

• Funding Model

• Rate Setting

• Chargeback and,

• Cost Accounting

Methods

…for each IT

service

Take a Project Approach to Chargeback

Based on:

• Prior and/or

projected

volumes

• New

Chargeback

model


Chargeback Project Elements and Pricing Estimates

Determine Business Drivers

Determine IT Strategy

Determine IT Governance Model

Determine Current Funding/Chargeback Model

Design Funding Model

Design Service Catalog

Determine Cost Pools

Develop Chargeback Methods

Define Service Level Agreements

Project Aggregate Volume/Costs

Develop Rates

Project Business Unit Volume

Build Budget-Neutral Normalization

Design Data Collection & Billing Automation Tools

Design Organizational Support Structure

As

se

ss

Desig

n

Imp

lem

en

t

(client specific)

(client specific)

(client specific)

Time/Effort


Chargeback Considerations for Cloud

Computing

- Servers can be delivered in minutes or days, and consequently demand has

doubled post-virtualization; chargeback can be a way to ensure that good business

decisions are being made.

- Chargeback may not be politically viable for your organization; even so, still build

the capability to estimate costs and measure real resource usage in order to report

business unit usage of IT resources.

- Choose a provider that allows you to tag cloud assets with metadata, and that can

generate automated billing and utilization reports.

- Ensure that the pricing model matches the nature of your application.

- Try to mirror the pricing the cloud providers charge. Every cloud provider has a

different way of pricing, but some common current pricing models are per-instance

charge, capacity pool charge, and resource charge.

- Most providers also levy a separate charge for bandwidth to the Internet, metered

either as a charge for bytes transferred or for megabits per second at the ninety-

fifth percentile.

- Keep it simple and relatively static initially for customers.


Thank You

Jason Byrd Strategic Advisory Services

RPC Solutions

(972) 244-3064

[email protected]

www.rpc-solutions.com

building a best practice chargeback model

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