What is cost transparency?
To put it simply, Cost Transparency is a term used to describe the tracking within the organisation of the total cost required to provision and maintain products and services for the benefit of the enterprise. It is also about establishing what different products and services exist, what they cost and how they relate to each other and to the business.
If one considers that a Shared Services unit provides a range of administrative and support services, along the lines of IT, HR and finance to the entire organisation, it has never been more important for both the unit delivering and those receiving such services to completely understand the costs associated with this.
Cost transparency is the answer, as it is designed to provide business, finance and shared service owners with detailed and meaningful insights into their respective areas. It creates both visibility and understanding of the costs and volumes of their entire shared service product and service portfolio, enabling the organisation to make informed and fact-based strategic and tactical decisions concerning its shared service investments.
Cost transparency enables Shared Services to move beyond merely delivering a product or service to a business unit, to the point where it is actually able to quantify the value obtained from such a delivery.
Shared Services cost transparency is all about showing the business:
- What services it consumes
- The cost of delivering these services
- Providing a granular breakdown of costs according to activities
- Offering clarity around the resources involved in producing these services
What are shared services?
Typically, shared services encompass operations like HR, IT, Finance, Procurement, Legal Services, Marketing, and Sales. Business operations that used to be shared by several units within the business are consolidated under the Shared Services umbrella in order to eliminate redundancies and inefficiencies, with individual business units effectively becoming internal clients.
Since there will always be multiple business units in an organisation using services provided by the shared service centre, there are obvious gains in efficiency and reduction in costs. These services are then charged back to the business units that require them.
What is business demand?
Business demand is the requirement that revenue-generating business units place on their shared service providers – both internal and outsourced external ones – to enable their business operations. This could encompass any number of services, including such diverse ones as real estate from which to conduct business, through to IT platforms or other products and services that allow business to operate and transact.
Business often tends to think demand is one sided, as it is the entity ultimately footing the bill, and Shared Services simply needs to deliver on all requests. However, the reality is that all areas within the enterprise, including Shared Services, have a fixed capacity and a limited supply from which to meet all these demands. However, Shared Services departments are best placed to know the business ins and outs, and are thus well positioned to choose which technologies or services they can contribute to enable their internal customers business strategies, while still remaining agile and flexible enough to accommodate business needs.
Why correct behaviour is so important in large organisations
It is important to understand that shared service areas, or centralised functions, often have strategies developed for the enterprise they service that, as a whole, they wish to pursue and see manifested throughout the organisation.
In large companies, there are often divisional or region-specific behaviours which can conflict with overall corporate goals. A good example of such conflict can be considered in the following example:
A large business occupies multiple buildings in a central business district. One of these edifices is shiny, new and expensive, while another is a building the company already owns, but which is now ageing. Management agree that there is adequate capacity for the older building to house the staff of both buildings, and since a lease break on the new building is coming up, they take the decision to consolidate into a single building that will offer better value.
The best behaviour for the company to encourage is a swift move and consolidation into the one better value, yet ageing building. However, unless an incentive is offered to those in the newer, smarter premises, they will be far less likely to want to switch buildings, and will thus most likely drag their feet. An eloquent solution would therefore be to establish a subsidised recharge for early adopters, and use a commercial incentive to drive quicker adoption of this particular business strategy.
How can shared services influence business demand and behaviours while satisfying the business and its strategic aspirations?
The simplest and easiest manner to achieve this is to utilise the laws of supply and demand, and just like any good market place, both of these factors will need to come into play to reach a dynamic constantly evolving equilibrium. This should be a driving force when creating pricing around Shared Services.
It is necessary that those services that are used are felt by the consuming business, and the best way to ensure this is by instituting a meaningful, trusted and accurate chargeback or show-back model to establish commercial awareness and incentives linked to consumption. The old adage that there’s no such thing as a free lunch is very true in this context.
Creating a commercial awareness means allowing consumers to choose service alternatives based on service level agreements (SLAs) and pricing, which in turn allows them to choose exactly what they order and how much they pay for the lunch bill!
When consumers start paying for what they use, it has a positive effect on the entire business, because it immediately changes employee behaviour, since the items can no longer be used as if they were free. Studies show that feedback around cost implications on consumption delivered in a timeous fashion is effective in changing consumer behaviour on an ongoing basis.
Of course, setting the correct price point is just as vital when it comes to influencing business demand. As with all markets, there will be times when a subsidy or tax is the best tool to drive the correct, holistic organisational behaviour, and this is often the case within Shared Service organisations.
For example, setting up a new data centre may be expensive for the first adopters, as start-up costs are high and require economies of scale to see true benefits. The question that needs to be answered then is how can cost transparency be used to influence this behaviour?
The answer is to subsidise the price of the data centre, with the goal of encouraging adoption until the economies of scale kick in. This is done by artificially lowering the price point as a way to initially make the data centre attractive to newcomers.
Naturally, this places a high level of responsibility on shared services to educate its customers on the services it performs, the results delivered and the opportunities for improvement. Cost transparency clearly enables such education relatively easily and – when coupled with a solid understanding by shared services around what its customers do with the services they buy, and how well these products meet the customers’ needs – should help shared services to accurately gauge customer requirements and estimate the impact of these on business performance. Once this is achieved, shared services should also be positioned to reliably identify the next form of leverage to pursue.
Once these initial objectives are successfully met, the next step for shared services is to expand the portfolio of services offered, after which it needs to begin leveraging knowledge-based expertise. It needs to look beyond what it does currently, linking its plan to overall company goals and assessing how it can optimise its contributions on behalf of all parties.
In the end, as shared services strategies mature, the next step in their evolution may well see them move to the core of the business, where they will no longer just be focused on driving cost savings, but on performing business-critical processes that contribute a much higher level of organisational value.
What are chargeback and showback models?
On the other hand, it may be advisable to launch a shared services approach using the showback model for a limited period of, say three to six months, as a way of effectively introducing the manner in which it all works. Once employees have a better understanding of how the costing will work and have had the opportunity to become used to the model, switching it out for a chargeback approach will be much easier for them to accept.
Chargeback is, as the name suggests, a method of charging a company’s internal consumers for the shared services they use. So, for example, with IT services, instead of bundling all the IT costs under the IT department, a chargeback program will allocate the various costs of delivering IT – such as hardware, software and maintenance – to the individual business units that consume them.
In those cases where shared services are viewed as essentially a commodity, accountability and efficiency improvements will likely afford the kind of significant cost savings that make chargeback a very attractive path.
Showback is closely related to chargeback, however while it offers many of the same advantages, it does not have all the drawbacks. While it does employ the same strategy as chargeback with regard to tracking and cost-centre allocation of expenses, through the measurement and display of the services cost breakdown by consumer unit, it does this without actually transferring costs back.
Costs remain in the shared services centre, but information about consumer utilisation is far more transparent. Moreover, showback is often much easier to implement as, unlike with the chargeback model, there are no immediate budgetary impacts on user groups.
Regardless of the model, however, both showback and chargeback operate on the same premise: that awareness drives accountability. However, it must be remembered that once business units are aware they will not be charged in the showback system, their attention to efficiency and improving usage may very well not be as focused.
How to build a trusted showback or chargeback model
In implementing such a model, it is worth noting that there are a number of prerequisites that one must have in place, in order to effectively create a trusted Cost Transparency solution that will help drive adoption:
• Create a defendable cost model
This should be a model that offers an accurate means for attributing cost and consumption, and can be achieved by identifying drivers of costs and using consumption based drivers that mimic reality as much as possible.
• Ensure that multiple options are made available
Allow consumers to utilise different options and service alternatives, such as the tiering of services, accompanying service levels and access to alternative technologies. There is little use in creating a chargeback or showback model in which consumers do not have alternative options or the ability to choose what products and services they consume, at appropriate price points.
Key aspects of the model, including data, inputs, changes and alterations in behaviour must be felt and the effect must be seen in a rapid fashion. Consumers must be able to see how their consumption choices and the changes they make to these have a visible and tangible effect on their business unit.
• Hosting Solution
Once both your model and reporting requirements have reached a sufficient scale, it is important to adopt a robust, secure and scalable software solution. In essence, it needs to be one that has the flexibility to accommodate any scenario, as well as the freedom to reflect how your business operates.
The crucial key to a successful cost transparency and cost model adoption, and one which will help to drive trust by being able to see what ownership or consumption basis has driven an allocation is the issue of granularity. Essentially, this is the ability to see all of the highly detailed driver information that makes up a charge. A good example here would be how a business unit may have been charged for ‘connectivity’ in the past, but this can now be broken down into component parts, such as the cost of the fibre, the servers, switches and routers involved in providing the service, as well as affiliated costs such as the power and cooling required in the data centre. Granularity makes the driver basis defendable and believable, and even in situations where the data is wrong, one can still drive a positive outcome through error identification and data remediation.
• Win over key stakeholders
It is important to identify key influencers in the organisation and focus on winning them over first – in this way, you convert them to evangelists of your model. Identify topical quick wins and deliver on those first. Communicate that it is a journey and manage expectations around changes. Just like shared services can’t deliver on all business asks, prioritise roadmap items and relentlessly focus on those to drive value. Create a governance process around changes, but exempt consumers from changes that may be linked to their performance or personal incentives. Win adoption of proposed changes by showcasing their intentions and intended benefits. Compare changes before and after.
Shared services allow for costs to be reduced through the economies of scale from centralisation of services, but when it comes to truly understanding costs, the shared services environment is extremely complex. This is exactly what the discipline of cost transparency is designed to address: enabling enterprises to attribute costs more accurately, while also enabling those people responsible for specific areas of the business to understand which costs they are able to control and which levers they can pull to effect changes in these.
With cost transparency, one not only obtains a clearer view of costs, but also the ability to do something about them in a way that helps to increase performance. The granular knowledge of what services are not being used to their fullest extent will enable consolidation and cost reduction, coupled with increased efficiencies.
This demonstrates that the best cost transparency strategies move beyond simply cost savings and into the arena of optimisation. In the end, it is about transforming the conversations between what the business unit needs and what Shared Services provides.
Ultimately, Cost Transparency as a solution is designed to help businesses to reduce, consolidate and standardise expenditure. After all, if you are able to effectively unpack the cost of shared services, you can use this knowledge to drive improved savings. Cost Transparency is designed to give business access to the levers it needs to make truly informed IT decisions, unlocking greater value from existing IT investments and delivering increased savings with regard to future investments.
When used effectively, Cost Transparency is a powerful tool that creates an efficient and optimised organisation where business and shared service providers are aligned and organisationally altruistic behaviours are encouraged and incentivised.
Blake Davidson, Head of Delivery, Magic Orange