Economic Aspects of

Information Systems

Updated 2015

MIS 2000 Information Systems for ManagementInstructor: Bob Travica

Outline

• Costs & Benefits from IS

• Financial Assessments of Information Systems Economy (size and timing of returns)

• Combined Assessments of Information Systems Economy

• Software & Hardware Acquisition (develop, buy, rent)

• Summary

Cost-Benefit Analysis• Tangible Costs & Benefits ($) • Intangible Costs & Benefits (no $)

Capital Budgeting Methods ($)• Assessments of returns’ size• Assessments of returns’ timing

Mixed Methods ($ and no $)• Portfolio Analysis (Risk control)• Balanced Scorecard (Org. goals achievement)

Quantitative or qualitative figures?

Quantitative Qualitative &Quantitative

Costs & Benefits from IS

• Economic aspects of IS (or IS economy) is assessed in planning of IS as well during IS production stage.

• Cost/Benefit analysis is a necessary component in any assessment of IS economy.

Tangible Costs

- Direct investment in software & hardware (one time)

- IS installation & employee training (one time)

- Operating costs for an IS (recurring) – expenditures on software licences, labor costs of IS staff, IS maintenance, overhead for facilities, expenses of communications carried out by computer networks partaking in IS.

- Loss of money and time with new IS that does not perform as expected (opportunity cost).

- Total Cost of Ownership sums up all the costs in a system life cycle.

Intangible Costs

- Effort put in learning a new IS and associated process

- Employees’ loss of work motivation due to new processes/IS

- Employees’ resistance to new processes/IS

- Lower customer satisfaction due to improperly performing IS

- Limitations in decision making when a new IS cannot deliver reports managers need to make decisions.

- Note that intangible costs may result in tangible costs.

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Tangible Benefits 1/2

- Savings on many counts:

- savings on labor expenses

- savings due to reduced process time (e.g., reducing inventory costs in supply chain process)

- savings due to avoiding to add more employees when improved process/IS can carry a larger volume of operations

- Organizational performance gains (new IS/process organizational productivity financial returns).

Tangible Benefits 2/2

- Better decision making resulting in income increase (e.g., moving

into new product and geographical markets)

- Cutting losses by improved management control (e.g., ERPS case

of detecting fraudulent purchases)

- Data error reduction eliminating waste of business time & labour

for repeated tasks.

Intangible Benefits

- Customer value that does not translate directly into monetary gains for a company

- Better control and decision making, which do not translate readily into monetary gains

- Improvement in the appearance of reports and other business documentation (better quality but no more money).

- Increased knowledge capabilities (note: these are a condition for making more attractive products, but before this products are made and sold no monetary gains accrue).

Financial Assessments of IS Economy

• 1. Returns’ size focus: Various ratios of how much an IS returns in relation to its costs (Benefit/Cost Ratio, Net Present Value, Return on Investment):

– The higher the ratios, the more economically valuable the IS

– Present value of money used (future returns as well as costs discounted for some rate) as finances flow over years (NPV function in Excel)

• 2. Returns’ timing focus: Assessment of when returns will occur (e.g., Break-Even Analysis)

0 1 2 3 4 Time (years)

- The shorter the wait period, the more economically

valuable the IS.

Mixed Methods of AssessingIS Economy 1/2

1. Portfolio Analysis

– The focus is on controlling risks that different systems can bring

– In planning IS, IS projects compared on risks they bear (completion within budget & time, technology demands, size of organizational change required)

– Risk = probability a problem will happen x weight of problem

– Risk can be thought of as a special and critical cost

– Riskier projects: Expensive systems, new technologies, and larger org. changes (e.g., enterprise systems)

Mixed Methods of AssessingIS Economy 2/2

2. Balanced Scorecard

– The focus is on achieving organizational goals

– A combination of tangible and intangible benefits in select areas – finances, customer relations, key processes, growth potential, anything else important for a company.

– IS contribution to these performance indicators is assessed periodically.

Balanced Scorecard

Tangibles Tangibles &Intangibles- Process focus!

Intangibles

Software and Hardware Acquisition

• Three options: Make, Buy, Rent

1. In-house Development (company's IS Department does programming, hardware acquisition, and IS installation)

2. Buy:

– Off-the-shelf software (e.g., Microsoft Office, SAP)

– Buy custom-built software (a software vendor writes software according to the client company’s requirements).

– Note: If there is a system development capability in the IS Department, the buy options are called “outsourcing” (sourcing outside of own company)

• For pros & cons (benefits & costs) see the chapter.

More…

• 3. Rent:

– Annual licencing of software or hardware

– Rent via the Cloud (partial or total IS services).

• Cloud Advantages:

– Reduce costs: pay-per-use, avoiding development & maintenance costs

– Client benefits from new IT as vendor keeps updating it to remain competitive gains in client’s business processes.

• Cloud Disadvantages:

– Synchronizing business processes between client and vendor

– Risk of compromising confidentiality of business data

– Vendor lock-in (it is hard to get out of Cloud as a company relies more on a cloud vendor)

– Unexpected changes in pricing services.

Summary

• Costs of IS can be tangible (expressed in monetary terms) & intangible (all other forms). Examples of tangible costs are investment in computer software and hardware, and system’s operating costs.

• Benefits of Information Systems can be tangible & intangible. Examples of tangible benefits are cost reduction and income gains.

• Financial Assessments of IS economy focus on the size of returns (e.g., NPV) and on timing of returns (e.g., payback period).

• Mixed Assessments of IS economy cover tangible and intangible C/B (portfolio analysis, and balanced scorecard).

• Software can be developed by the company’s IS department, purchased, or rented; hardware is usually purchased or rented. Each option has pros and cons.

• Cloud (cloud computing) is the trendy rental option with significant pros & cons.