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March 5, 2001

The Shrinking IT Budget

The slowing economy is causing some companies to examine technology projects more closely and justify IT spending

By Cheryl Rosen (crosen@cmp.com)

More on IT spending:

TechWeb: Corporate Internet Projects Still On The Rise (1/22/01)

TechWeb Finance: Corporations Rein In IT Spending (1/03/01)

T budgets have been sprinting upward for years, stoked by Y2K projects and kicked into high gear by E-commerce efforts. But an InformationWeek Research study conducted last month suggests the giddy momentum may finally be slowing.

The Priorities survey features quarterly interviews with 300 IT and business executives. For the first time in the survey's four-year history, more than half the respondents say their budgets are either flat or declining--almost double the 28% who responded the same way in the last survey, three months ago. Concerns about the uncertain U.S. economy have resulted in IT budget cuts for 15% of the respondents; another 7% are considering scaling back for the same reason. "We've been on a 10-year roll, but the macro look is that there's a softening in the economy," says Vince Caminiti, senior VP of E-business at Delta Air Lines Inc. "We're watching it closely, and it's not a pretty picture."

But it's not time to panic, either. The survey results indicate a subtle downward shift, rather than a sharp decline, in IT spending: In November, respondents said on average that 8% of their annual revenue went to IT. Now, the number is down slightly, to 7.7%. But 49% of the respondents say their IT budgets are slated to increase.

The ax is hitting some IT budget items hard, such as custom software developments and large-scale PC rollouts. But others, such as customer-relationship management, enterprise resource planning, intranet and extranet projects, and global initiatives with solid business value, appear to be protected, at least for now.

Not surprisingly, many executives are taking a closer look at pending IT projects and asking harder questions about their return on investment. Those examinations, coupled with the slowing economy and questionable consumer confidence, may explain the new IT budget cuts. "Maybe Mr. Greenspan's not concerned, but there are a lot of senior executives who are," says Oracle CEO Larry Ellison, commenting on the vendor's lower-than-expected February sales last week.

"This isn't just Wall Street asking for a return," says Boston Consulting Group VP Roy Lowrance. "Now it's, 'This stuff makes sense, but the bill is really high. Do we need to do it at all?'"

Delta's challenge, like that of many companies, is to cost-justify IT projects. For Delta, wireless applications--from roving check-in agents to baggage tracking--drive productivity and save the airline money, Caminiti says, so they'll likely keep being funded. E-business efforts, such as selling tickets on Delta's Web site and on Orbitz, the multiairline site it will help launch in June, are also safe, since every 1% of sales that move online saves the airline about $10 million. Electronic ticket sales are predicted to save the airline $54 million this year.

But Delta's highly touted program to give its 80,000 employees PCs and Internet access for $10 a month may get bumped. Caminiti says the airline is "thinking about delaying" the initiative.

Much larger projects are on hold at National Steel Corp., a Mishiwaka, Ind., company that sells steel to the Big Three automakers. With auto sales down 6.2% in January and the industry expecting to sell 10% fewer cars this year than last, companies that serve U.S. car manufacturers are stalling out. National Steel said late last month it's cutting its workforce by 10% and its IT budget by 50%. "We're not enjoying much business right now," says Nick Yumiba, the company's director of future systems planning, who's about to take on a new role at the company.

Among the casualties is a project that would have moved National Steel's ordering and fulfillment systems from an IBM mainframe to a client-server intranet running custom applications. The conversion was supposed to have been completed this year, but now the company won't even think about resuming the move until at least the third quarter. "We're kind of stuck between two systems right now," Yumiba says. "But we need to see signs of a turnaround before we can spend any more money on this."

Things aren't as bad at Dennen Steel Corp., a steel distributor in Grand Rapids, Mich. Dennen's IT budget is up about 5% from last year, but that increase is less than what was budgeted six months ago. "The steel industry's been beaten up since then, with falling prices and demand," says VP of finance and IT Jim Hawken. "The things we're putting off may have value-add, but there just aren't enough funds to do them."

Dennen Steel's $500,000 annual IT budget will support a new financial system, but the company scrapped plans to pay an outside consulting firm to heavily customize it. Some Web-based initiatives were also dropped. A plan for employees to use wireless devices on the factory floor to capture receipt information and track product movement still looks feasible, because it promises a quick, positive return.

Lower budget increases are common, according to the Meta Group, which tracks 2,200 companies worldwide. Those companies are reporting overall IT spending growth of about 10%, but that's down from 20% last year--the first decline since 1993. The uphill track of IT spending growth rates began to shift as the dot-coms ran into trouble in the fall, and now, says Meta executive VP Howard Rubin, "it looks like a downhill skier."

Electronic Theatre Controls Inc. in Middleton, Wis., faces a smaller budget than it originally planned. It's keeping IT spending flat, while in past years spending grew by about 15% annually. "It's going to take the whole year to work out all the excess inventory and problems in the overall economy, but we have a long-range strategic plan and we're moving forward with it," says controller Steve Murphy. "That doesn't change with the economy."

A privately held supplier of lighting and control systems whose customers include Broadway shows and Disney theme parks, Electronic Theatre Controls is continuing with a global rollout of Manufacturing Knowledge CRM software from Computer Associates. It's also implementing an E-commerce system that lets distributors order online. But the budget freeze may force the company to limit future projects, such as business-to-business initiatives and outside consulting. "If we have an 18-month recession, we'll be in trouble like everyone else," Murphy says. "But at this point, we're not anticipating pulling back on projects we already have online."

Many companies historically have devoted a large percentage of their revenue to IT. The telecom industry, for example, has been spending about 18% of its revenue on technology--"an extraordinarily high number" that leaves plenty of room for cuts, says Andrew Bartels, a Giga Information Group VP. Banking and brokerage companies also are cutting back from levels that once approached 10% of revenue. The retail sector, on the other hand, which has been spending only 3% or less of revenue on technology, has cut less.

"Our IT budget is less than 2% of our revenue, and our spending this year will be up by 13%, or a couple of million dollars," says the CIO of one major children's clothing manufacturer. "We're investing in systems that meet long-term objectives like better forecasting, and that's not likely to change."

A couple million is peanuts compared with Kmart Corp.'s IT increase. Last month, the retailer unveiled a $2 billion technology upgrade that it will roll out over the next two years. "IT is a crucial element in the growth and repositioning of the company, and that money is locked and loaded," a spokesman says. Indeed, he notes, Kmart stock, trading at about $5 a share in December, rose to $9 after the IT expenditure announcement.

To some extent, IT may be a victim of its own success, Bartels says. Companies are responding to revenue slowdowns more quickly than in the past because of better supply-chain forecasting. As things begin to slip, the psychological environment makes people more careful about spending--further cutting demand and speeding up the time in which a slowdown ripples through the economy.

This snowballing effect--companies cutting back in advance of any actual decline in their revenue--can become a self-fulfilling prophesy, cautions Bartels. It's up to CIOs to fight for projects that bring the productivity and efficiency gains needed to keep costs in line with revenue.

CIOs must make sure IT projects deliver the expected return by rallying support from the entire company, and by being aggressive in forcing an examination of projects not likely to succeed, says Boston Consulting Group's Lowrance. "If you deploy sales-force automation but don't change the productivity targets of the sales force, the project will be an economic failure," he says. "And the person most likely to get blamed is the CIO."