Understanding The Business Value of Systems and Managing Change

Chapter
11
UNDERSTANDING
THE BUSINESS VALUE OF SYSTEMS
AND MANAGING
CHANGE
Essentials of Management Information Systems

Chapter 13 Understanding the Business Value of Systems and Managing Change OBJECTIVES
How can our company measure the business benefits of our information systems? What models should be used to measure that business value? Why do so many system projects fail? What are the principal reasons for system failures? How should the organizational change surrounding a new system be managed to ensure success?

Chapter 13 Understanding the Business Value of Systems and Managing Change OBJECTIVES
Are there any special challenges in implementing international information systems? What strategies can our organization use to manage the system implementation process more effectively?

Chapter 13 Understanding the Business Value of Systems and Managing Change MANAGEMENT CHALLENGES
Determining benefits of a system when they are largely intangible Dealing with the complexity of large-scale systems projects

Chapter 13 Understanding the Business Value of Systems and Managing Change UNDERSTANDING THE BUSINESS VALUE OF INFORMATION SYSTEMS
Traditional Capital Budgeting Models
Capital budgeting
Its one of several techniques used to measure the value of investing in long-term capital investment proj. Process of analyzing and selecting various proposals for capital expenditures IS are considered long term capital investment proj.
Payback Method Accounting rate of return on investment (ROI) Cost Benefits Ratio Net Present Value Profitability Index Internal rate of return
Capital budgeting
Rely on measures of cash flows into & out of the firm. Investment cost is an immediate cash outflow. In subsequent years the investment may cause additional cash outflows. It will be balanced by the cash inflows resulting from the investment. The difference between cash outflows & inflows is used for calculating the financial worth of an investment. In Financial Models, it is assumed that all relevant alternatives have been examined, that all cost & benefits are completely known, & can be expressed in a common metrics. Table 11.1 cost & benefits of IS Tangible benefits can be quantified & assigned a monetary value. Intangible benefits, may lead to quantifiable gains in the long-run.

Limitations of Financial Models
Do not express the risks and uncertainty of their own cost and benefits estimates Cost & benefits do not occur in the same time frame. Cost tend to be upfront & tangible, benefits tend to be back loaded & intangible Inflation may affects cost & benefits differently-Technology can be changed, causing estimates to vary. Intangible benefits are difficult to quantify.

Measuring Difficulty give financial models an application bias: TPS & clerical systems, displace labor & save space, produce more measurable benefits than MIS & DSS systems. Capital budgeting historically concerned long term investments 1-25 years. Very high rate of technological change, in CBIS, means most system are out of date in 5-8 years. It means that payback period must be shorter & the rate of return higher than typical capital projects with much longer useful lives.
Limitations of Financial Models

Case Example: Primrose, Mendelson, and Hansen
The Problem
No automated way of tracking billable hours No secure method for communication No client database No system to track costs

Case Example: Primrose, Mendelson, and Hansen
The Solution
Local area network Lotus Notes to handle client accounting, document management, group collaboration, and e-mail

Costs and Benefits of the Legal Information System
Figure 13-1

Financial Models
Figure 13-2

The Payback Method:

original investment / annual net cash inflow = No of years to pay back
Measure of time required to pay back the initial investment on a project. Popular because of its simplicity & power as an initial screening method. Good for high risk projects in which the useful life of project is difficult to determine.
It ignores time value of money, Amount of cash flow after the payback period Disposal value (0 for IS) Profitability of the investment.
When cash flows are uneven, annual cash inflows are summed until they equal the original investment In the case It will take more than 2 years to pay back the initial investment which is quite reasonable.
Accounting Rate of Return on Investment
(ROI)
Approximates the accounting income earned by the investment

Net Benefit = (total benefits total cost depreciation) / useful life ROI= Net benefit / Total initial investment
Capital investments are made to earn satisfactory rate of return. Determining satisfactory rate of return depends on cost of borrowing money, & historic rate of return expected by the firm Desired rate of return must equal or more than cost of capital (prime rate ) in market. Otherwise no one will lend the firm money.
Ignores: time value of money. 9.58 % could be a good ROI, if the cost of capital is 7-8%

Present value
Value of a payment or stream of payments to be received in dollars. Present Value: Payment x 1-(1+1 interest) -n /Interest Money received in future is not worth as much as money received today. It has to be discounted by some appropriate %age rate or cost of capital.
Net present value

Amount of money an investment is worth, taking into account its cost, earning, & time value of money Net Present Value: PV of Payments - Initial Investment For 1.7 million investment today, firm will receive more than 2 million. Which is very good rate of return. Does not provide measure of profitability. No way to rank order different possible investment

Cost-benefit ratio
Calculates returns from capital expenditure Cost Benefit Ratio = Total Benefits / Total Cost In Primrose case the ratio is 1.74, means that benefits are 1.74 times greater than the cost. It can be used to rank several projects, for comparison. Can be calculated using Present Value to account for the time value of money
Profitability index
Weaknesses of NPV are eliminated Compares profitability of alternative investments by dividing the present value of total cash inflow by initial cost In example case the PI is 2.15, projects an be rank ordered on this index. Firm will only focus on most profitable projects.

Internal Rate of Return (IRR)

Its variation of NPV Rate of return or profit an investment is expected to earn IRR is the discount (interest) rate that will equate the PV of the projects future cash flows to the initial cost of the project.(-1193100 in year 0) In other words the value of R( discount rate) is such that: PV Initial Cost = 0 In example case IRR=55%
Results of the Capital Budgeting Analysis Cash flow positive over the time period and returns more benefits than it costs

Strategic Considerations
Other methods are non-financial & strategic Consideration
Other methods are:

Portfolio Analysis Scoring Model Real Option Pricing Model Several of these methods can be used in combination.
Portfolio Analysis
Analysis of portfolio of potential applications within a firm Determines risks and benefits
Selects among alternatives for information systems

A System Portfolio
Figure 13-3

Scoring Models
Quick and compelling method Method for deciding among alternative systems based on a system of ratings Need experts who need issues & tech. Many qualitative judgement involved
Real Options Pricing Models Models for evaluating information technology investments with uncertain returns

Knowledge ValueAdded Approach

Focuses on knowledge input into a business process Determines costs and benefits of changes in business processes from new information systems

Information Technology Investments and Productivity
Productivity
Measure of firms efficiency in converting inputs to outputs
Information Technology
Reduces cost Increases quality of products and services

Understanding The Business Value of Systems and Managing Change

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Chapter

Essentials of Management Information Systems

Essentials of Management Information Systems

Essentials of Management Information Systems

Essentials of Management Information Systems

Traditional Capital Budgeting Models

Essentials of Management Information Systems

Limitations of Financial Models

Essentials of Management Information Systems

Limitations of Financial Models

Essentials of Management Information Systems

Case Example: Primrose, Mendelson, and Hansen

Essentials of Management Information Systems

Case Example: Primrose, Mendelson, and Hansen

Essentials of Management Information Systems

Costs and Benefits of the Legal Information System

Essentials of Management Information Systems

Essentials of Management Information Systems

The Payback Method:

Accounting Rate of Return on Investment

Approximates the accounting income earned by the investment

Essentials of Management Information Systems

Net present value

Essentials of Management Information Systems

Essentials of Management Information Systems

Internal Rate of Return (IRR)

Essentials of Management Information Systems

Other methods are:

Essentials of Management Information Systems

Essentials of Management Information Systems

Essentials of Management Information Systems

Knowledge ValueAdded Approach

Essentials of Management Information Systems

Information Technology Investments and Productivity

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