Information systems for competitive advantage

Information systems for competitive advantage

Topic aims

· Review competitive forces and competitive IS/IT strategies for gaining competitive advantages

· Explain concepts of value chain, value web and business eco-systems and co-opetition

· Demonstrate some IS/IT applications useful for gaining competitive advantages

· Explain the importance of being both innovative and the best.

2.1 Competitive forces and competitive advantage

Gaining competitive advantage is critical for organisations. Baltzan and Phillips (2010, p. 16) define competitive advantage as ‘a product or service that an organization’s customers value more highly than similar offerings from its competitors’ (in other words, you have something useful (i.e. products, services, capabilities) that your competitors do not have). Competitive advantages are typically temporary as competitors often seek ways to duplicate the competitive advantage (Baltzan & Phillips 2010, p. 16). In order to stay ahead of competition, organisations have to continually develop new competitive advantages. This section discusses how an organisation can analyse, identify, and develop competitive advantages using tools such as Porter’s Five Forces, three generic strategies, and value chains.

Michael Porter’s Five Forces Model is a useful tool to assist in assessing the competition in an industry and determining the relative attractiveness of that industry. Porter states that in order to do an industry analysis a firm must analyse five competitive forces (Baltzan & Phillips 2010, p. 17):

· Rivalry of competitors within its industry

· Threat of new entrants into an industry and its markets

· Threat posed by substitute products which might capture market share

· Bargaining power of customers

· Bargaining power of suppliers.

To survive and succeed, a business must develop and implement strategies to effectively counter the above five competitive forces. O’Brien and Marakas (2011, p. 49) suggest that organisations can follow one of five basic competitive strategies, which are based on Porter’s three generic strategies of broad cost leadership, broad differentiation, and focused strategy (see Figure 2.1). The five competitive strategies are:

· cost leadership: reducing costs of products and services and identifying ways to help suppliers and customers reduce their costs

· differentiation: exploring ways to differentiate a firm’s products and services from its competitors’ and to reduce the differentiation advantages of competitors

· innovation: developing new ways of doing business, i.e. unique products and services and unique markets or market niches

· growth: increasing a company’s capacity to produce goods and services, expanding into global markets, diversifying into new products and services, and integrating into related products and services

· alliance: setting up new business linkages and alliances with customers, suppliers, competitors, consultants, and other companies.

Figure 2.1 Competitive forces and competitive strategies. (Source: O’Brien & Marakas 2011, p. 49)

Merger or acquisition could be another useful strategy for eliminating competitors. Some understandings of using information systems for gaining competitive advantages could be located in Table 2.1.

Table 2.1Competitive Strategies & Roles of Information Systems. (Source: Adopted from Xu & Quaddus 2013, pp. 28–29)

Competitive Strategy

Roles of Information Systems

Cost Leadership

Organizations can use information systems to fundamentally shift the cost of doing business (Booth, Roberts & Sikes 2011) or reduce the costs of business processes and/or to lower the costs of customers or suppliers , i.e. using online business to consumer & business to business models, e-procurement systems to reduce operating costs.

Differentiation

Organizations can use information systems to develop differentiated features and/or to reduce competitors’ differentiation advantages, i.e. using online live chatting systems and social networks to better understand and serve customers; using technology to create informediaries to offer value-added service and improve customers’ stickiness to your website/business (Booth, Roberts & Sikes 2011); applying advanced and established measures for online operations to offline practices (i.e. more accurate and systematic ways of measuring efficiency and effectiveness of advertising) (Manyika 2009).

Innovation

Organizations can use information systems to identify and create (or assist in creating) new products and services and/or to develop new/niche markets and/or to radically change business processes via automation (i.e. using digital modelling and simulation of product design to reduce the time and cost to the market (Chui & Fleming 2011). They also can work on new initiatives of establishing pure online businesses/operations. At the same time, the Internet and telecommunications networks provide better capabilities and opportunities for innovation. “Combinational innovation” and Open innovation are two good examples. There are a large number of component parts on the networks that are very expensive or extremely different before the establishment of the networks, and organizations could combine or recombine components/parts on the networks to create new innovations (Manyika 2009). Meanwhile everyone is connected via personal computers, laptops and other mobile devices through cabled Internet or wireless networks or mobile networks, there are plenty of opportunities to co-create with customers, external partners and internal people.

Growth

Organizations can use information systems to expand domestic and international operations and/or to diversify and integrate into other products and services, i.e. establishing global intranet and global operation platform; establishing omni-channel strategy to gain growth (omni-channel strategy looks at leveraging advantages of both online (or digital) and offline (or non-digital) channels) (Rigby 2011).

Strategic Alliance

Organizations can use information systems to create and enhance relations with partners via applications, such as developing virtual organizations and inter-organizational information systems.

O’Brien and Marakas (2008, p. 47) also point out that information technology can help a business implement the five basic competitive strategies in many ways (see Table 2.2). Table 2.2 presents examples of how specific companies have used information technology to implement these five strategies.

Table 2.2Examples of competitive strategies. (Source: O’Brien & Marakas 2008, p. 47)

Strategy

Company

Strategic Use of Information Technology

Business Benefits

Cost Leadership

Dell Computer

Online build to order

Lowest cost producer

Priceline.com

Online seller bidding

Buyer-set pricing

eBay.com

Online auctions

Auction-set prices

Differentiation

AVNET Marshall

Customer/supplier e-commerce

Increase in market share

Moen Inc.

Online customer design

Increase in market share

Consolidated Freightways

Customer online shipment tracking

Increase in market share

Innovation

Charles Schwab & Co.

Online discount stock trading

Market leadership

Federal Express

Online package tracking and flight management

Market leadership

Amazon.com

Online full-service customer systems

Market leadership

Growth

Citicorp

Global intranet

Increased in global market

Wal-Mart

Merchandise ordering by global satelite network

Market leadership

Toys ‘ᴙ’ Us Inc.

POS inventory tracking

Market leadership

Alliance

Wal-Mart?Procter & Gamble

Automatic inventory replenishment by supplier

Reduced inventory cost/increased sales

Cisco Systems

Virtual manufacturing alliances

Agile market leadership

Staples Inc. and Partners

Online one-stop shopping with partners

Increased in market share

On top of these five basic strategies, companies can also adopt other competitive strategies facilitated by information technology to shape their competitive advantage. Some examples provided by O’Brien & Marakas (2011, pp. 50–52) are:

· locking in customers or suppliers by building valuable new relationships with them via CRM applications

· building switching costs via extranets and proprietary software applications so that a firm’s customers or suppliers are reluctant to pay the costs in time, money, effort, and bear the inconvenience to switch to a company’s competitors

· raising barriers to entry through improving operations or promoting innovation by increasing the amount or the complexity of the technology required

· leveraging investments in IT to take advantage of strategic opportunities, i.e. developing new products and services via intranets and extranets.

2.2 Value chain

Another important concept and tool that can help a business identify competitive advantage and opportunities for strategic use of information technology is Porter’s value chain model. The value chain approach views an organisation as a chain, or series, of processes, each of which adds value to the product or service for each customer (O’Brien & Marakas 2011, p. 56). The value chain helps an organisation determine the ‘value’ of its business processes for its customers. The model highlights specific activities in the business where competitive strategies can be best applied and where information systems are most likely to have a strategic impact. The firm’s value chain can be linked to the value chains of its business partners thereby achieving strategic advantage by providing value, not only through its internal value chain process but also through powerful, efficient ties to industry value partners (Laudon & Laudon 2012, p. 135) (see Figure 2.2).

Figure 2.2 The firm value chain and industry value chain. (Source: Laudon & Laudon 2012, p. 135)

The use of IT does not in itself create value. The value is in the strategic use of IT to assist/improve a competitive strategy. So here technology is the means to support the value chain.

A value web is a value chain extended by Internet technology that connects all the firm’s suppliers, partners, and customers and can ‘synchronize the value chains of business partners within an industry to rapidly respond to changes in supply and demand’ (Laudon & Laudon 2012, p. 137) (see Figure 2.3). It is more customer-driven, less linear than a value chain and is flexible and adaptive to changes in supply and demand.

Figure 2.3 The value web. (Source: Laudon & Laudon 2012, p. 135)

2.3 Business eco-systems and co-opetition (competition & cooperation)

In today’s digital era, firms need to have a more dynamic view of the boundaries among firms, customers, and suppliers, with competition and cooperation occurring with members of the Industry set (more than one industry) (Laudon & Laudon 2012, p. 140) (see Figure 2.4). For example, car, plane, bus, train are in the same industry set of transportation. Another example is the way that traditional universities are now competing with online learning and other training and development firms.

Business eco-systems refer to ‘loosely coupled but independent network of suppliers, distributors, partners and strategic alliances’ (Laudon & Laudon 2012, p. 139). An excellent example of business eco-systems is the mobile Internet platform; industries such as mobile device manufacturers, software vendors, online services firms, Internet services providers are working together.

Figure 2.4 An eco-system model. (Source: Laudon & Laudon 2012, p. 140)

Another term reflects the same meaning is ‘co-opetition’. In order to succeed in today’s highly competitive market, firms also should practice ‘co-opetition’ since not all strategic alliances are formed with suppliers or customers. Co-opetition is a strategy whereby companies cooperate and compete at the same time with their competitors, complementors (i.e. hardware and software businesses), customers, suppliers (Pearlson & Saunders 2014, p. 65). Through co-opetition, the best possible outcome for a business can be achieved by optimally combining competition and cooperation. A good example is Covisint, which is the auto industry’s e-marketplace and is backed up by competitors of GM, Ford, Daimler Chryslers and others. Benefits of Covisint include speed in decision making, reduced supply chain costs and greater responsiveness in serving customers.

The downside to co-opetition is that it may be viewed as collusion. Many countries have legislation in force to deter anti-competitive or price-fixing practices. The ACCC in Australia has imposed huge monetary fines on companies and the directors of those companies found guilty of anti-competitive or price-fixing practices.

2.4 Applications of information technology for competitive advantages

There are many ways that organisations may view and use information technology to support competitive advantages. Here we discuss a few examples of strategic business applications of information technology.

Building a customer-focused business

Information technology can help build a customer-focused business, which can anticipate customers’ future needs, respond to customer concerns, and provide top-quality customer service (O’Brien & Marakas 2011, p. 54).

Re-engineering business processes

Information technology is an important enabler of an organisation’s effort for business processes re-engineering (BPR), which is fundamentally rethinking and radically redesigning the business processes to achieve dramatic improvements in cost, quality, speed, and service. For example, firms can use Internet (i.e. online retailing) and Internet-linked networks (i.e. intranet for connecting employees all over the world and extranet for cooperating and collaborating with business partners) for business transformation (O’Brien & Marakas 2011, p. 58).

When implementing strategic initiatives, such as cross-functional systems of CRM, ERP, and SCM, organisations always have to make some fundamental changes to their business processes to facilitate the integration and implementation of new systems. In preparation for implementing such systems organisations may first need to fix poorly designed processes and/or change processes. There is no point in automating a bad process. Although companies may achieve dramatic improvement in cost, quality, speed and service, the risk of failure and level of disruption to the organisational environment of radical changes/BPR can be detrimental (O’Brien & Marakas 2011, p. 58).

Becoming an agile company

According to O’Brien & Marakas (2008, p. 59), agility is ‘the ability of a company to prosper in rapidly changing, continually fragmenting global markets for high-quality, high performance, customer-configured products and services’. Accordingly an agile company is a company that can ‘make a profit in markets with broad product ranges and short model lifetimes, and can produce orders individually and in arbitrary lot sizes, and information technology along with the help of customers and business partners can help a company achieve agility (O’Brien & Marakas 2011, p. 63) (see Table 2.3).

Table 2.3Role of IT in achieving agility. (Source: O’Brien & Marakas 2011, p. 63)

Type of Agility

Description

Role of IT

Example

Customer

Ability to co-opt customers in the exploitation of innovation opportunities

· as sources of innovation ideas

· as cocreators of innovation

· as users in testing ideas or helping other users learn about the idea

Technologies for building and enhancing virtual customer communities for product design, feedback, and testing

eBay customers are its de facto product development team because they post an average of 10,000 messages each week to share tips, point out glitches, and lobby for changes.

Partnering

Ability to leverage assets, knowledge, and competencies of supplies, distributors, contact manufacturers, and logistics providers in the exploration and exploitation of innovation opportunities

Technologies facilitating interfirm collaboration, such as collaborative platforms and portals, supply-chain systems, etc.

Yahoo! has accomplished a significant transformation of its service from a search engine into a portal by initiating numerous partnerships to provide content and other media-related services from its website.

Operational

Ability to accomplish speed, accuracy, and cost economy in the exploitation of innovation opportunities

Technologies for modularization and integration of business processes

Ingram Mrico, a global wholesaler, has deployed an integrated trading system allowing its customers and suppliers to connect directly to its procurement and ERP systems.

Creating a virtual company

A virtual company uses the Internet, intranets, and extranets to link people, assets and ideas, form workgroups and support alliances with business partners (O’Brien & Marakas 2011, p. 64) (see Figure 2.5) regardless of location.

Figure 2.5 A virtual company. (Source: O’Brien & Marakas 2011, p. 64)

Strategy and the Internet

Porter suggests the Internet is relevant to strategy development. However, he argues the Internet is only a complement to, not a cannibal of, traditional ways of competing.

Reading 2.1

Turn to Reading 2.1 for a discussion about the Internet and competition, titled ‘Strategy and the Internet’ by Michael Porter (2001).

2.5 Early technology adopter and innovation

Companies like eBay (online auction), Yahoo (Internet directory), and Apple computer (software/hardware) ‘got there first’ and leveraged their first-mover/early adopter competitive advantage. Companies such as Citibank (ATM), Sony (video tape), Chemdex (B2B digital exchange), Netscape (Internet browser), lost their first-mover advantages to late movers. Intel (microchip), America Online (Internet marketing), Google (online search engine), are some good examples of companies who were later movers but gained success over earlier adopters by being the best (Turban et al. 2006, p. 592).

The first mover in an industry has the advantage of being the first to offer a good or service to the market. This can help create an impression that it is the pioneer or the initiator in the customer’s mind. In addition this firm will be able to capitalise on the demand for this good or service until another firm enters the market (Turban et al. 2006, p. 591). However, first movers take the risk that new goods and services may not be accepted by the market. Some factors that determine the success or failure of the first mover strategy suggested by Turban et al. (2006, p. 591) include:

· size of the opportunity: big enough opportunity for just one firm and the company is big enough for the opportunity

· commodity products: simple enough to offer but hard to differentiate, i.e. books and airline seats. Products such as clothes and restaurants are more easily differentiated by later movers with better features and services encouraging a switch to late movers.

· be the best: in the long run, best-mover advantage not first-mover advantage determines the market leader.

In the long term, organisations have to keep on being innovative and investing in R&D to stay ahead of the competition and/or survive in the market. The following Figure 2.6 presents the Top 20 Innovation firms based on spending on R&D.

Figure 2.6 The Innovation Top 20 (based on R&D spending). (Source: Jaruzelski, Staack & Shinozaki 2016, p. 5)

It should be noted that R&D investment alone could not guarantee successful innovation management, for example, the top 10 most innovative companies presented in Figure 2.6 are not necessarily top spenders on R&D. Other factors influencing the success of innovation management could include (Jaruzelski & Dehoff 2010; 2011; Jaruzelski, Loehr & Holman 2012; Xu & Quaddus 2013, pp. 38–39): top management’s innovation skills and attitude, innovation process (including effective management of ideas generation and the process of from idea generation to product development), alignment between innovation strategy and business strategy, and pro-innovation culture (i.e. strong customer focus and customer experience orientation, passion and pride for products and services offered).

Figure 2.7 The Most Innovative Companies. (Source: Jaruzelski, Staack & Shinozaki 2016, p. 9)

Meanwhile organisations are paying more attention to open innovation. Open innovation emphasises an organisation’s efforts of engaging and collaborating with external sources and its partners in its innovation process (Lichtenthaler, Hoegl & Muethel 2011). The telecommunications networks and Internet technologies have made the open innovation more appealing to organisations. Open innovation strategy has been adopted by many most innovative companies in the world. One of the excellent/prominent examples or leaders of successfully implementing open innovation strategy is Mozilla Corporation, which has developed an open-source and free web browser: Firefox (Xu & Quaddus 2013, p. 34).

Reading 2.2

Read Reading 2.2 titled ‘The Half-Truth of First Mover Advantage’ by Suarez and Lanzolla (2005) for a discussion on identifying situations in which companies may gain first-mover advantages and situations in which such advantages are less likely.

Reading 2.3

Turn to Reading 2.3 titled ‘Is Your Company Ready for Open Innovation’ to read about some insights on successfully implementing open innovation in the organisation.

Reading 2.4

Turn to Reading 2.4 to read about some innovation best practices at some of the world’s most innovation firms.

Activity 2.1

Go to MySCU and locate Activity 2.1 Case titled read the case titled ‘Wachovia and Others: Trading Securities at the Speed of Light’ under Topic 2 – Information Systems for Competitive Advantages in the Section of PPTs and Recordings. Answer the questions at the end of the case.

Summary

In this topic an important dimension of strategic information systems, identifying competitive advantages and enhancing competitive strategies through information technology, was discussed. Organisations can apply strategic planning tools such as Porter’s five forces and value chain to analyse their competitive position, examine their competitive advantages, and identify relevant competitive strategies. IT can play a very important role in the success of organisation’s competitive strategies. However competitive strategies alone cannot create magic. In order to meet the ‘IT’s unmet potential’, both IT and non-IT executives need to work hard to have a better understanding each other’s areas (Roberts & Sikes 2008). The transparency in the planning and execution of IT projects should be visible to business leaders. Accountability of IT projects should be applied to both IT and business sections in the organisation. In the next topic, planning and evaluating information systems will be discussed.

Feedback to activities

Activity 2.1

1. Competitive advantage: faster technology and co-location enable faster transactions. Fast transaction speeds enable algorithm based trading. Algorithm based trading allows traders to take advantage of minute, fleeting price anomalies.

Sustainable advantages: since high speed transactions require co-location, this advantage might be sustainable assuming limited capacity to co-locate.

Temporary advantages: the algorithms themselves might be imitable or their effects might be mitigated by competitor’s countermeasures.

2. Technology enables faster and more efficient workflows, and organisations may derive competitive advantage from these. In some cases, technology alone applied to an existing business process can also provide competitive advantages. For example, simply co-locating servers helped speed up transactions.

3. Examples:

· Airline reservations systems

· Check clearing

· Credit card transaction processing

· Telecommunications switching and routing

· Weather modeling and forecasting

· Massive Multiplayer Online Role-Playing Game providers (MMORPG)

Read World Activities

1. Note: Because NYSE and NASDAQ are such common terms within articles about technology (and many others), general web searches including the terms NYSE or NASDAQ yield useless results. It is suggested that you first identify each organisation’s CIO and then search for that CIO by name.

1. NYSE

2. Technologies: complex event processing.

3. Benefits: this capability further enables algorithm-based trading by increasing speed and data volume.

4. NASDAQ:

5. Technologies: Virtual data center.

6. Benefits: Reduce seven data centers down to two resulting in significant cost savings.

2. Barriers to commerce fall into several categories:

· Lack of communication

· Uncertainty (risk/trust)

· Lack of security

· Lack of privacy

· Lack of IT infrastructure

· Lack of IT skills

· Cost

With these barriers in mind, students should be able to select an industry, evaluate one of the barriers noted above, and prepare their report.

Topic 3Information systems planning

Topic aims

· Discuss the importance of alignment between IS/IT strategy and business strategy

· Argue the importance of evaluating the performance of IS/IT strategic initiatives

· Describe metrics for measuring performance of IS/IT initiatives

· Present methods for IT investment justification and discuss difficulties associated with justifying IS/IT investment.

3.1 Strategic alignment of IS/IT with business strategy

Business goals and systems plans need to be aligned. Strategic systems plans need to align with business goals and support those objectives. However in today’s dynamic environment, how can you make strategy and how can you plan when information technologies are changing so rapidly? There is a need to align IS/IT planning concurrent with strategic planning for a firm. Some benefits of doing so are (McNurlin & Sprague 2004, pp. 116–117):

· A good planning process helps organisations learn about themselves and promote organisational change and renewal.

· Managing IS/IT requires planning for changes in business goals, processes, structures, and technologies.

· Good IS/IT planning can greatly assist organisations’ efforts in strategic use of IS/IT for competitive advantage

· Many IS/IT projects in organisations have not been successful. One of the important reasons is the lack of proper planning for them.

However IS planning is not easy. Some of the reasons suggested by McNurlin and Sprague (2004, pp. 116–117) are:

· companies need a balanced portfolio of projects

· infrastructure development is difficult to fund

· responsibility needs to be joint: business planning, not just a technology issue

· other planning issues: Top-down Vs. bottom-up; radical change Vs. continuous (need a balance), etc.

McNurlin and Sprague Jr. (2004, p. 118) state that traditionally strategy formulation has followed a linear process (see Figure 3.1), where (1) business executives created a strategic business plan that described the direction of the business (2) IS executives then develop an IS strategic plan responding to how IT would support the business plan (3) following that an IT implementation plan was created to address the details of implementation.

Figure 3.1 Traditional strategy making. (Source: McNurlin & Sprague Jr 2004, p. 118)

McNurlin and Sprague (2004, p. 118) further point out that nowadays the Internet and other technological advances require changing some assumptions that were made about strategy formulation:

· the future cannot be predicted – (who predicted the Internet, Amazon, eBay, Facebook, Alibaba?)

· IS/IT does not just support the business anymore – it is an essential platform of business and makes e-business possible

· top management may not know best – inside-out versus outside-in approach

· an organisation is not like an army – the industrial era metaphor is not relevant any more.

The new IS/IT strategic planning process should be a two-way street where, on the one hand, IS/IT aligns with business strategies and supports planned business operations, while on the other hand IS/IT also has impact (or injects input) on the making of business strategy, i.e. by demonstrating IT-based capabilities and predicting emerging technologies and trends before business strategy is made (McNurlin & Sprague Jr 2004, p. 119) (see Figure 3.2). IS/IT and the business should stay together rather than the conventional practice of business first and IS/IT second.

Figure 3.2 New strategy planning process. (Source: McNurlin & Sprague Jr 2004, p. 119)

Furthermore, traditional planning at ‘start of year’ is not good enough anymore. In response to the rapid changes in the market and dramatic advancement in technology, McNurlin and Sprague (2004, p. 116) suggest that there is a need for continuous planning, where there is a need to form a best-available vision of the future upon which to base current decision making. Then the technology is monitored. Advanced technology groups should be formed to monitor technology trends and recommend suitable new technology to the organisation (McNurlin & Sprague 2004, p. 116). In large organisations, there is also a trend for Chief Information Officers (CIOs) to be part of senior management (McNurlin & Sprague 2004, p. 116). The traditional top-down approach of making IT strategy is becoming more and more irrelevant in the current business context.

O’Brien and Marakas (2011, p. 584) suggest a business/IT planning process, which emphasises a customer and business value focus for developing business strategies and models before IT strategies and an IT architecture are developed (see Figure 3.3).

Figure 3.3 Business/IT planning process. (Source: O’Brien & Marakas 2011, p. 584)

O’Brien and Marakas suggest that components of Business/IT Planning (referring to Figure 3.3) include:

1. strategy development – establishing business strategies that support business vision

2. resource management – designing strategic plans for managing or outsourcing IT resources

3. Information Technology Architecture – making strategic IT choices that reflect an information technology architecture designed to support business/IT initiatives.

Information Technology Architecture includes (O’Brien & Marakas 2011, p. 584):

1. technology platform – including networks, computer systems, system software and integrated enterprise application software

2. data resources – consisting of operational and specialised databases

3. applications architecture – integrated architecture of enterprise-wide systems

4. information technology organisation – organisational structure and management of the IS function.

On a related note, more close collaboration between Business and IT functions (and staff) need to be established to achieve better alignment between Business and IT.

3.2 Measuring the success of strategic initiatives

There is an old saying that: ‘If you cannot measure it, you cannot manage it’. According to Turban et al. (2006, p. 603) through systematic assessment of their strategic initiatives, organisations can:

1. ensure their strategic initiatives are delivering what they are supposed to deliver and apply corrective actions

2. determine if their strategic initiatives are still viable in the current environment

3. reassess the initial strategy and projects and improve future strategic planning

4. identify failing initiatives and projects and causes as soon as possible and avoid the same mistakes/problems for future initiatives/projects.

In order to measure the performance of IT, organisations need to create a set of metrics. Efficiency IT metrics and Effectiveness IT metrics are two primary types of IT measurement metrics. Haag et al. (2006, p. 30) suggest that efficiency IT metrics focus on technology and include throughput, speed, availability, accuracy, Web traffic, and response time. On the other hand, Effectiveness IT metrics deal with the impact IT has on business processes and activities, concentrate on an organisation’s goals, strategies, and objectives, and include usability, customer satisfaction, conversation rates and financial metrics (Haag et al. 2006, pp. 30–31).

Reading 3.1

Turn to Reading 3.1 titled ‘Measuring the Success of Strategic Initiatives’ to read about measuring the performance of IS/IT strategic initiatives.

Activity 3.1

Answer the following questions:

1. Explain the difference between efficiency and effectiveness.

2. Define the relationship between benchmark and benchmarking.

3. Explain the interrelationships of efficiency and effectiveness IT metrics.

4. Describe how an organisation should determine the efficiency and effectiveness of its website.

5. Describe and identify visitor, exposure, visit, and hit website metrics.

Activity 3.2

Turn to Reading 3.1 and read the Case titled ‘How Do You Value Friendster’. Answer the questions at the end of the case.

3.3 Financially justifying IT investment

There is an increased demand for financial justification of investing in IT projects. In many businesses, IT is a significant part of the annual budget (Pearlson & Saunders 2004, p. 223). Organisations also don’t want to be pushed into buying IT systems by the vendors of such systems, they want to spend on IT projects which can actually produce value. Furthermore, the majority of the businesses will ask their IT executives to demonstrate the potential value, payback or budget impact of their IT projects (Pearlson & Saunders 2004, p. 223). As a result, there exists a clear need to understand and demonstrate the true return of an IT project.

However measuring and addressing accountability is difficult. Some reasons for this difficulty identified by Pisello (2004) reported in Turban et al. (2006, p. 621) are: (1) many company executives lack the knowledge or tools to do ROI calculations (2) there is a lack of formal processes or budgets in place for measuring ROI (3) many company executives do not measure how projects coincide with promised benefits in a timely manner after completion. In addition, very often companies have to make tough decisions on selecting appropriate IT projects due to funding and resources constraints. Analysis is needed to determine whether funding of an IT project is appropriate. And in some large companies, and in many public organisations, a formal evaluation of requests for funding of IT projects is mandated (Turban et al. 2006, p. 621).

The five financial metrics of NPV, ROI, IRR, PB and TCO discussed by Haag et al. (2006, pp. 487–492) can be used to justify the IT investment. Gunasekaran et al. (2001) propose that when organisations are deciding on IT projects, five areas should be addressed (see Figure 3.4).

Figure 3.4 A model for IT project justification. (Source: Gunasekaran et al. 2001 in Turban et al. 2006, p. 624)

Reasons suggested by Turban et al. (2006, pp. 624–627) for the difficulties in measuring and justifying IT investments include:

1. Difficulties in measuring productivity and performance gains:

· Data and data analysis may hide the productivity gains. It is more difficult to measure (i.e. defining input and products) the gains in service industry than in manufacturing industry. And most of the time, the benefits of an IT project are less tangible than manufacturing products or building plants.

· Productivity gains may be offset by losses in other areas, i.e. online sales gains may be offset by offline sales losses.

· Incorrectly defining what is measured, i.e. productivity gains may not be the same as profit gains.

· Other difficulties such as many IT projects may take a few years to show results but many studies do not allow for such a time frame.

2. Difficulties in relating IT expenditures to organisational performance.

Soh & Markus (1995) present a process to examine the relationship between IT investment and its impact on organisation (see Figure 3.5):

· The relationship between investment and performance is indirect.

· Factors such as shared IT assets and how they are used can impact organisational performance and make it difficult to assess the value of an IT investment.

Figure 3.5 Process approach to IT organisational investment and impact. (Source: Soh & Markus 1995 in Turban et al. 2006, p. 626)

1. Difficulties in measuring costs and benefits. Many costs and benefits of IT projects are difficult to quantify. Information technology is too deeply embedded in most business processes. It is very hard to isolate and measure IT as a separate element. And nowadays many systems are very complex with multiple layers of hardware, software and networks across various functions and different geographic locations.

· Tangible costs and benefits – are those that are easy to measure and quantify and that relate directly to a specific investment.

· Intangible costs and benefits are difficult to measure:

· Intangible costs may involve having to change or adapt other business processes or information systems.

· Intangible benefits include faster time-to-market, increased employee and customer satisfaction, easier distribution, greater organisational agility, and improved control.

· Handling intangible benefits:

· The most straightforward solution to the problem of evaluating intangible benefits in cost-benefit analysis is to make rough estimates of the monetary values of all of the intangible benefits and then conduct a ROI or similar financial analysis.

Another difficulty is possibly the mismatch between company timelines. Strategic planning generally spans one to five years whilst financial planning (budgets) just look at the next financial year. The benefits of IT projects can be expected over several years or even the entire life of the project.

A further difficulty in justifying an IT investment is the knowledge that within a few years of implementation, new systems or processes or equipment will make this present IT investment outdated.

Turban et al. (2006, p. 622) also point out that justification may not be necessary when (1) the value of the investment is relatively small for the organisation (2) the relevant data are not available, inaccurate, or too volatile (3) the IT project is mandated – it must be done regardless of the costs and benefits involved.

Reading 3.2

Turn to Reading 3.2 titled ‘Valuing Technology’ to read about some tools organisations can apply to assess the financial health of an information technology project.

Reading 3.3

Turn to Reading 3.3 titled ‘Advanced Methods for Evaluating EC and IT Investments’ by Turban et al. (2006) for information on other IT project/investment evaluation methods, such as Information Economics, the Balanced Scorecard and Dashboard, which are not covered in the textbook.

Reading 3.4

Turn to Reading 3.4 titled ‘Managing the Realization of Business Benefits from IT Investments’ and read about an approach for identifying, planning, and managing the delivery of benefits.

Reading 3.5

Turn to Reading 3.5 titled ‘A Model for Investment Justification in Information Technology Projects’ by Gunasekaran et al. (2001) for the discussion of five perspectives when making IT investment decisions.

Reading 3.6

Turn to Reading 3.6 titled ‘How IT Creates Business Values: A Process Theory Synthesis’ by Soh & Markus (1995) for discussion of difficulties in relating IT expenditures to organisational performance.

Activity 3.3

Turn to Reading 3.2 and attempt activities 1–4 of Making Business Decisions.

Summary

In this topic the importance of IS/IT planning and measuring the performance of IS/IT strategic initiatives were discussed. Different measurement metrics were reviewed. And some methods for justifying IS/IT investment and associated difficulties with justifying IS/IT investment were presented. In the next topic, we will look at developing and implementing information systems.

Feedback to activities

Activity 3.1

1. Efficiency implies doing things right and effectiveness implies doing the right things.

2. Benchmarks are baseline values the system seeks to attain. Benchmarking is a process of continuously measuring system results, comparing those results to optimal system performance (benchmark values) and identifying steps and procedures to improve system performance. Benchmarking uses benchmarks.

3. Efficiency IT metrics focus on technology and include (1) throughput: the amount of information that can travel through a system at any point in time, (2) speed: the amount of time to perform a transaction, (3) availability: the number of hours a system is available, (4) accuracy: the extent to which a system generates correct results, (5) Web traffic: includes number of pageviews, number of unique visitors, and time spent on a Web page, (6) response time to respond to user interactions. Effectiveness IT metrics focus on an organisation’s goals, strategies, and objectives including (1) usability is the ease with which people perform transactions and/or find information, (2) customer satisfaction such as the percentage of existing customers retained, (3) conversion rates: the number of customers an organisation ‘touches’ for the first time and convinces to purchase products or services, (4) financial metrics: such as return on investment, cost-benefit analysis, etc. Ideally, an organisation wants to operate with significant increases in both efficiency and effectiveness.

4. Organisations typically measure the amount of web traffic as the primary determinant of the success of the website. This view is limited. The organisation must analyse its web traffic to determine such things as revenue generated by web traffic, number of new customers acquired by web traffic, reduction in customer service calls, etc.

5. Visitor metrics track the actual visitors to the website and include unidentified visitors, unique visitors, session visitors, tracked visitors, and identified visitors. Exposure metrics track the number of times a particular Web page has been viewed by visitors in a given time period and include page exposure and site exposures. Visit metrics track each website visit including stickiness, raw visit depth, and visit depth. Hit metrics track when a visitor reaches a website.

Activity 3.2

1. Efficiency IT metrics can focus on Friendster’s current technology. You could benchmark Friendster’s existing applications to create baselines. You could then continuously monitor and measure against these benchmarks to ensure that Friendster’s applications are functioning correctly. This would be particularly important in the area of its web interface that its customers are using.

2. You could use effectiveness IT metrics to determine if Friendster’s customers, suppliers, and even employees are satisfied with the application and the company. You could determine if the application is easy to use, are first-time customers converting due to a banner ad or pop-up ad, and in general are customers satisfied with the Friendster experience.

3. Since the company has yet to generate any revenue, it is impossible to determine how the VC company estimated Friendster at $53 million. Would you invest in a company that has yet to earn any revenues?

4. Again, since the company has yet to generate any revenue, it is impossible to determine how Google has estimated the value of Friendster at $30 million.

Additional Case Information

It is worthwhile to compare Friendster and eBay. Why? Because both by a not-very-painful stretch of the imagination are in the ‘social software’ business, both rely on the economics of large user bases, and at some point Friendster will need to capitalise on the connections between its users as eBay does.

· Friendster – close to $0 revenue, $53,000,000 market cap, 1,500,000 registered users, close to $0 revenue per registered user, $35.33 market value per registered user.

· eBay – $2.1 billion expected revenue in 2003, $36.1 billion market cap, 85.5 million registered users, $24.56 revenue per registered user, $422.46 market value per registered user.

Activity 3.3

There are few right or wrong answers in the business world. There are really only efficient and inefficient, and effective and ineffective business decisions. If there were always right answers businesses would never fail. These questions were created to challenge you to apply the materials you have learned to real business situations.

1. Assessing the business value of information technology

Project Purpose: To analyse IT business value.

Potential Responses: You can use any of the financial metrics discussed in the text to determine their response.

· Net present value (NPV) – the present value of the stream of net (operating) cash flows from the project minus the project’s net investment

· Internal rate of return (IRR) – the rate at which the NPV of an investment equals zero

· Return on investment (ROI) – indicates the earning power of a project and is measured by dividing the benefits of a project by the investment

· Payback period (PB) – the period of time required for the cumulative cash inflows from a project to equal the initial cash outlay

· Total cost of ownership (TCO) – consists of the costs, direct and indirect, incurred throughout the life cycle of an asset, including acquisition, deployment, operation, support, and retirement

2. Comparing financial metrics

Project Purpose: To compare ROI, IRR, and NPV.

Potential Responses: Your justification for your answer will be the important part of this question.

· Net present value (NPV) – the present value of the stream of net (operating) cash flows from the project minus the project’s net investment

· Internal rate of return (IRR) – the rate at which the NPV of an investment equals zero

· Return on investment (ROI) – indicates the earning power of a project and is measured by dividing the benefits of a project by the investment

3. Analysing websites

Project Purpose: To understand Web site metrics.

Potential Responses: Your justification for your answer will be the important part of this question.

4. Comparing organisations

Project Purpose: To explain comparative metrics.

Potential Responses: Comparative metrics assess how the organisation is performing compared to other organisations, industries, and markets. Different types of comparative metrics include:

· IT spending by activity and resource

· IT spending as a percentage of revenue

· IT budget allocated per employee

· The value of the help desk.

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