There’s a sense of despair these days in the boardrooms of companies struggling with IT. They are all too aware that information technology is vital to strategic success. Yet their application portfolios are inflexible and difficult to maintain. Their technology infrastructures are complex and hard to reconcile. And their IT organizations are overburdened, overstretched, and overwhelmed.

While these companies continue to grapple with IT, others have avoided or managed to climb out of the "IT abyss" that has swallowed up so many of their peers. In recent research,¹ we looked at companies that have prospered by applying principles that drive simplicity and flexibility throughout the technology environment, while allowing rapid development efforts and sane investment decisions.² These principles can help senior executives work out how to improve their company’s IT performance—but first, they must determine what that performance is today. The factors underlying IT success are so closely interwoven that to pull just one lever without a holistic understanding of overall performance may simply make matters worse.

Performing a proper diagnosis is no easy task, however. Even quantitative measurements can be difficult to determine, particularly as companies move from the old certainties of automation-oriented cost reduction into the mistier realms of IT-enabled business redesign. The lack of hard numbers also undermines companies’ confidence in qualitative measures. They must try to understand the many "soft" indicators that together give a complete picture of IT performance.

A sense of place

We believe it is possible for executives to get a handle on their company’s IT performance, and to chart a course for improvement once that diagnosis has been made. The best way to start is by pinpointing where the company stands in the IT landscape. Exhibit 1 illustrates the most common situations companies find themselves in.

Frozen in the past

Companies in this situation have typically avoided the cost and complexity challenges of distributed computing. As a result, they tend to have highly centralized IT departments that are slow to respond to the rapid business changes of the 1990s. Their plight is largely the result of tightly integrated mainframe-based application portfolios, long development times, inflexibility, and a history of low or erratic IT spending.

One diversified financial institution is currently suffering from just these woes. In an industry where product life cycles are closer to months, development projects always take more than two years to complete, and the results often fall far short of promised functionality. Spending on IT is well below the average for the industry. And the company’s continuing reliance on a mainframe-based application portfolio makes it much harder to add new functionality when necessary.

As with wood that’s been eaten by termites, the troubles facing companies frozen in the past aren’t obvious from the outside. Spending is under control, and systems function well. But when stresses are applied, the problems become only too apparent.

The financial institution’s experience bears this out. It is under enormous pressure to manage cost more effectively, to introduce new products, to improve customer service, and to integrate acquisitions. But aging legacy systems are impairing its ability to respond. Tension is building between the demands of the business and the desire to maintain control over IT spending. Tempting though it is simply to shore up systems, this only defers the pain. Sooner or later, the day of reckoning will come.

In the abyss

Some companies are spending more and more on IT, but reaping diminishing returns. Their software development efforts don’t deliver needed functionality on time. The complexity of their distributed computing environment is exploding, while their IT budget is dominated by operations and maintenance spending, with little left over for new development. In short, they are stuck in the IT abyss.

One such casualty is a major multi-line mutual insurance carrier. Its business units feature complex distributed environments that have sent IT spending soaring. They have also spawned a complex, hard-to-maintain application portfolio that is steadily falling behind in functionality, and a plethora of technologies that support specific applications. The insurer has no company-wide standard for shared infrastructure, and employs over a dozen technology "stacks"—groups of hardware, software, and networking technologies supporting a given application—that are unable to communicate with one another. And the complexity of integrating the various technology stacks means that the insurer’s rising IT costs are delivering little functionality.

The CEO is desperate. "We’re falling further behind in the functionality we need to be competitive," he told us. "Our IT spending is out of control. We’re squeezing costs in other areas, while IT has doubled. How long can I let this go on?" His company is squarely in the abyss. Others may be characterized as falling in, avoiding the abyss, or climbing out.

Falling into the abyss. Companies in this precarious state are trying to improve their IT capabilities by upping their spending and applying more advanced and distributed technologies. But they have neglected to upgrade their management processes at the same time, so their efforts are paradoxically serving only to hasten their decline. Such companies can often be recognized by their lack of adherence to technology standards.

Avoiding the abyss. These companies manage to escape the previous group’s fate by taking a gradual approach to renewing their applications and improving their management practices. What marks them out is their steady evolution of systems that adhere to technological standards, and their avoidance of "boom and bust" spending patterns.

Climbing out. These companies have identified and corrected their management shortcomings, but need time for their systems and performance to recover. A key sign is that business people are involved in IT and helping to make decisions about applications.

Competitive

A fortunate few companies have managed to put the IT abyss safely behind them. They have a robust and simple distributed computing environment, an up-to-date application portfolio, an effective new development process, and an IT budget that is firmly under control.

One major transportation company made the grade by moving from an exclusively mainframe to a mixed IT environment, all the while maintaining competitive functionality and controlling costs. Its core transaction systems remained on the mainframe, but new development efforts were focused on distributed platforms, which enhanced flexibility and speed. The company established clear standards for its technology infrastructure and developed a flexible application portfolio that delivers robust functionality in return for moderate IT spending.

Leading

An even more select group of companies have discovered IT’s holy grail: they are using information technology to create competitive advantage. Their IT spending is focused on delivering innovations that competitors can’t match. They are giving their customers easier access to systems and information; tailoring their offerings to smaller market segments; reducing supply-chain inventories and throughput times; improving product design; bringing new products to market earlier; and integrating the systems of acquired companies more rapidly. These leading companies are distinguished by their flexible and robust technology infrastructures, by their proprietary applications supporting industry-leading processes, and by IT organizations that are skilled at employing technology to support and generate business value.

One consumer goods company has been using creative, targeted IT investments for the past decade to help it achieve excellent financial results. Its outstanding technical capabilities enable it to employ processes that competitors cannot replicate. It can respond within days to competitors’ moves by making changes in prices, marketing, and promotions. Its sound, standardized infrastructure and data architecture make developing new functionality a quick and easy business. And its talented IT organization, led by a CIO who is a true peer of senior management, identifies and implements one high-value project after another.

How do you know?

So how can you tell whether you are in, or dangerously close to, the IT abyss? To find out where your company stands in the IT landscape we have described, you need to examine three key areas:

• Your current applications, technology infrastructure, and IT organization, and the past investments that have made them what they are today.
• How you tackle the main IT management processes—namely, setting strategic and technical direction, making decisions about funding, executing your IT strategy, and reviewing performance.
• The business results you are getting from your IT spending.

Start with yesterday

When looking to the future, begin in the past. Senior managers need to examine today’s IT results and business impact in the light of yesterday’s investments. After all, it is these investments that have produced the application portfolio, technology infrastructure, and IT organization that determine current performance. Until the legacies of the past have been recognized and dealt with, it will be impossible to tackle present pressures.

Companies that have avoided the abyss have two things in common in this respect. First, they have overcome the challenge of complexity in their application portfolio and technological infrastructure. Second, they have schooled their IT people in business literacy and taught their business people enough about IT to help them harness its value.

Applications. To diagnose the health of their application portfolio, companies must look at their use of standard and custom applications, the technologies they are built on, and the business value they deliver. The best companies have deployed applications not only to reduce costs or boost efficiency, but also to measure the more strategic business areas that distinguish them from their competitors. They insist on using standard systems for standard processes like basic finance, accounts receivable, and accounts payable, and they resist the temptation to customize them. The few custom applications that are used are built from broadly accepted technologies and have simple user interfaces.

Technology infrastructure. Evaluating your technology infrastructure involves assessing the consistency, robustness, and complexity of the overall architecture and understanding the viability and reliability of the individual technologies that make it up. The best companies standardize as much as possible, realizing that homogeneity and ease of interconnection confer greater flexibility. Any exceptions are isolated so that complexity is minimized. A few companies have gone even further by developing a technology infrastructure that allows easy transfer of information, better connectivity between applications, and better synchronization of data across them. To achieve this, they ensure that the application architecture is modular, take care to preserve the integrity of the data architecture, and invest in messaging middleware to simplify communications between applications.

One acquisition-oriented financial institution turned standardization into a fine art. Just two or three weeks after an acquisition, its customers could walk into a branch of the newly acquired company and do business exactly as they would at one of the original branches. Contrast this with the plight of a company that made heavy use of non-standard technologies. After a while, it found that many of the technologies were no longer properly supported. The result: a plethora of problems with maintaining skills, integrating old and new technologies, managing a fragmented developer base, and meeting rising development costs.

Although the loudest complaints tend to be about legacy systems, sometimes the most harmful relics of the past are legacy cultures

IT organization. Although the loudest complaints tend to be about legacy systems, sometimes the most harmful relics of the past are legacy cultures. It may be a question of image. Too often, the CIO still isn’t seen as an equal member of the senior management team; in turn, the IT organization is viewed as a drain on costs with no real relevance to business needs. Making sure that the CIO and IT organization are business literate and that the rest of senior management know something about IT is one way to tackle this problem.

Companies must decide which skills are crucial to their IT objectives. Simply to stick with what they have may be dangerous in an era when technological changes can rapidly render skills obsolete. IT-smart companies realize they are unlikely to be able to keep up with every skill they need. They focus their IT organization on working closely with key managers, from strategy development right through to project execution. They aspire to real technical depth only where they have enough activity to allow them to develop and retain good programmers. Other areas are outsourced.

As part of the diagnostic, senior managers should assess their own wil-lingness to take responsibility for the success of the IT effort. Effective IT organizations are seldom found in companies where the business people don’t get involved.

How you do IT

Once you have a firm grip on past investments in applications, infrastructure, and organization, the next item to consider is the processes by which you manage today’s IT efforts. In competitive and leading companies, the five key IT management processes set up a virtuous cycle of performance improvement. Effective strategic direction setting leads to clear technical direction setting and solid and consistent funding, execution, and review of investments.

Companies should begin by asking themselves such questions as: Does our strategic direction setting ensure that IT is aligned with strategy? Does our technical direction setting provide a consistent and clear way forward? Do we have a robust funding process? A hard-nosed execution process? A useful review process?

Strategic direction setting. The goal of this part of the IT management process is to establish a clear vision for the role of IT in the overall business strategy, and to determine the application portfolio and infrastructure needed to implement that strategy.

What distinguishes the best companies is the collective experience of their IT and business people, who work together to decide where IT can be used to greatest advantage. The business people take full responsibility for realizing the business payoff. Building shared experience takes time, and mistakes are almost inevitable. Risky or doubtful projects are sometimes tested on a small scale. A few failures are accepted as necessary in a process that also creates big wins.

Technical direction setting. Setting a technical direction entails ensuring that strategic goals are underpinned by a clear technology architecture. In practice, this means selecting vendors and technologies according to a balanced set of criteria. Companies that are lost in the abyss often get so engrossed in technical and functional specifications that they forget to give commercial factors due weight in their decision making.

One company that was developing a data warehouse rejected a market-leading database in favor of one that performed marginally better in terms of speed. However, the chosen database lacked market support and was making little money. Three years later, the vendor has fallen behind, the system has proven unreliable and costly to maintain, and the company now faces the high transition costs of converting to another database.

Funding. Once strategic and technical directions have been set, it’s time to figure out how resources should be allocated. Most companies find it hard to set overall IT funding levels, evaluate and prioritize new development projects, and establish operations budgets. There is no easy way to decide how much to spend on IT. Sometimes your budget is dictated by what you can afford, but the best companies use collective judgment informed by bottom-up determination of opportunities and top-down assessment of affordability.

Project selection is grounded in an overall application portfolio blueprint that focuses on the future IT needs identified by the company’s business strategy. Such a blueprint enables top management to make broad decisions without getting bogged down in hundreds of project proposals. Investments are evaluated not merely in terms of the hard cost savings they produce, but in the light of all major benefits, including "soft" payoffs. Finally, operations and maintenance are budgeted in the same way as a factory, with spending managed tightly via an annual bottom-up review and top-down demands for constant productivity improvements.

Execution. In new development, the best companies avoid "big bang" projects taking three to five years. Instead, they add infrastructure, develop custom applications, or implement standard systems via a series of regular deliverables, often every 90 days, and ensure that major projects take no more than two years to complete.

Good execution in operations and maintenance again means running things like a factory. The watchword is discipline. Examples include introducing a unified plan to synchronize maintenance and upgrades; automating tasks such as software installation and performance monitoring; and employing market-based performance standards by setting ambitious targets and benchmarking internal activities against outsourced equivalents.

Review. Reviewing overall IT performance helps you to distill lessons that will help you do better next time. Most companies claim to perform reviews, but few do so effectively. They may complain that they can’t review big projects properly because "Most of the original people are gone or have moved on to different efforts," as one CIO told us, or because "The scope of the project has changed many times over the years," as another explained. Both these objections can be addressed if projects are kept short, given clear objectives, required to produce regular deliverables, and monitored continuously.

In the best IT companies, business people drive the projects and are on the hook for the results. Hard benefits are budgeted for, and results are measured at every stage. Post-implementation review is easier, since all the milestone results are available to help managers weigh outcomes against objectives. Lessons learned are built into subsequent projects.

Today’s performance

The third area of the diagnostic looks at how IT expenditure has affected current performance.

Spending. In many companies, operations and maintenance spending is squeezing out new development. Some are seeing their IT spend soar, but have little to show for it by way of new functionality. They lament: "We’re spending a lot just to keep the lights on," or "We’re spending more on IS but getting less out."

In the best IT companies, operations and maintenance costs are growing much more slowly than revenues. These companies spend more than 50 percent of their non-capital IT budget on genuine new development. They also manage to obtain better business capabilities than their competitors, but without spending as much.

The distributed nature of expenditures and the difficulty of establishing clean cost definitions make it hard to measure spending in multi-business organizations. The most useful approach is to monitor changes from one year to the next using a consistent set of definitions.

Results. As IT projects become more closely bound up with business processes, measuring their overall contribution is getting harder. Many companies can track impact on costs (how many positions were saved after a particular system was introduced? how much did inventory turns improve?), but attributing revenue and margin improvements to IT is far more difficult. Asking whether a rise in revenue is the result of product design, advertising, or underlying IT systems is a bit like wondering whether it is sugar, flour, or egg that makes a cake taste good.

The best companies ensure that line managers drive the whole baking process, IT included. When results are not forthcoming, business and IT people work together to resolve what to do. One useful way for a company to assess its performance is to map out its current systems capabilities against the most important business process for itself and its competitors in order to ascertain whether it is ahead of or behind the game given the relative level of resources.

Now for the improvement

The most important function of the diagnostic we have described is to help in the setting of priorities for IT. A company must understand the gaps in its performance before it can work out how to improve.

In addition to the detailed area-by-area improvement plans that a thorough diagnostic can yield, there are broader improvement strategies that apply to a company’s specific position in the IT landscape (Exhibit 2). Below are strategies for the four most common situations. In all of them, balance is essential; pushing in one area and ignoring shortcomings in others will not produce the desired results.

Build

Companies that are frozen in the past need to focus on building and renewing their application portfolio and technology infrastructure. They have the luxury of being able to take one step at a time to turn their IT situation around. They need to establish a robust plan to replace existing systems and infrastructure gradually, in a way that creates value for the business. They should:

• Develop a clear vision for their application portfolio and technology infrastructure
• Decide on an approach for renewing applications and infrastructure that takes into account the needs of the business; the urgency of replacing existing systems because of unreliability, obsolescence, or other problems; and the interdependency of the components
• Set and enforce rigorous technology standards to avoid adding complexity as spending shifts to distributed systems.

Control

Companies that are falling into or already in the abyss need to gain control over their technology infrastructure and spending before they can climb out. Unlike companies that are frozen in the past, they have typically taken a number of steps and are moving too quickly. IT costs are escalating, technologies are proliferating, the organization is having trouble keeping up, and controls are breaking down. Companies must quickly take command of spending by cutting back initially on development projects and establishing a robust funding process. They also need to define and enforce standards specifying which technologies will be employed.

Execute

Companies that are avoiding the abyss, climbing out, or competitive should focus on execution. These companies have addressed most basic challenges, but are not yet performing as well as they might. They need to develop mature business and IT judgment through the ongoing process of deciding which IT projects to invest in. Their CIOs need to position themselves as peers of other business leaders, and to build close cooperative relationships with them. As well as continuing to develop infrastructure and technology standards, these companies need to improve cost-effectiveness and strengthen their basic processes for managing IT across the board.

Extend

Companies that are moving ahead or leading need to use IT to drive greater competitive advantage. Equipped with a robust infrastructure and an effective application portfolio, they are already ahead of many of their competitors. Rather than stop there, they should ensure IT is a part of key business strategies, configure databases and business applications to deliver proprietary advantage, deploy advanced technologies to enhance flexibility, and establish an R&D fund to experiment with high-risk opportunities.

IT is undoubtedly becoming a more prominent feature of the business landscape. Once a back-office function, it is now an integral part of most core business processes. But before they can attain top performance, most companies must traverse an IT abyss. The risk they face is that however much they spend on IT, they will be unable to capture value from their investments.

Avoiding the abyss calls for an in-depth diagnosis of a company’s position—one that takes into account where it has been (its IT past), where it is heading (its current IT management processes), and what results are being achieved (its IT performance). Armed with this knowledge, companies can determine the best strategy to pursue to improve their overall IT performance.