Costing Methodologies for
Information Technology
I f     i T h l
  Tennessee IT Symposium
  April 21, 2008


  Thomas Danf...
SCIENCE APPLICATIONS INTERNATIONAL
CORPORATION (SAIC)                                                         ORLANDO, FL
...
Goa s, Objectives, a d G ou d
Goals, Object es, and Ground
Rules
 Discussion of Current Budgetary Climate
 Overview of Cos...
Cost Estimate vs. Cost
       st ate s
 Methodology vs. Cost Model
What is A Cost Estimate?
The analysis of all cost eleme...
Types of Cost Estimates
 Order of Magnitude Estimates
 Budgetary Estimates
     g     y
 Definitive (Detailed) Estimates
Cost Methodologies
(Appropriate & Popular in IT Costing)

  Parametric
    Cost Estimating Relationships (CERs)
    Learni...
Parametric Methods

 Cost Estimating Relationships (CERs)
   Based upon hi
   B     d       historical d
                 ...
CERs
CER
 Home Grown        Avg. HD Requests/Business Day:                7.68

                   Avg. Time (Hrs) to Reso...
Learning Curve
                                 100


                                 90


                              ...
Regression
                                  LEAP Conversion Cost Estim ates
                                        (Stan...
Bottom-up vs. Top-down

 Both require extensive analysis of direct and (as
 much as possible) indirect costs
 Direct & ind...
1.0    Hardware Costs

                                              1.1    Servers

                                     ...
Total Cost of Ownership (TCO) vs.
Total Cost of Acquisition (TCA)

 TCO can and usually does vary dramatically
 against TC...
Life Cycle Cost g – The Time
   e Cyc e Costing    e    e
Value of Money
 Research & Development
 Production
 Fielding (1-...
Cost Benefit Analysis

 The discounted value of a project’s life cycle
 benefits is compared to the discounted value
     ...
NPV Analysis
                            NPV of Two Technologies/Methodologies

 $3,500,000

 $3,000,000


 $2,500,000

 $...
Return on Investment (ROI)

 Ratio of resources gained or lost on a project
 relative t th amount of resources invested
  ...
ROI
Distance Education Programs

Campus Delivered vs. Collaborative Online
                                               ...
Applications o Cost-Benefit &
 pp cat o s of Cost e e t
ROI Analysis in IT

 Whether or not to pursue a project
 Select am...
Cost–Benefit & ROI
Tips for a Better Analysis

  Don’t start with a predetermined conclusion
  Clearly define problem with...
Parametric Cost Models

 COnstructive COst MOdel (COCOMO) –
 Long History & Open Source
     g      y    p
 SEER-SEM – Gal...
COCOMO
                   ( )
                   (PH)AM = (ACT)(PH)DEV
                            (   )( )
Contract Modif...
Ratios – Comparison of “similar” requirements
with different approaches (E.g. ERP vs. 3GL)

  Integrated Commercial RDBMS ...
The Consequences of
Estimation E
E ti ti Error
 Underestimation:
 undermine planning &
 shortchange upstream
 activities
 ...
Summary & Few Caveats

 Business Case Requires Cost Analysis
 Judgment
 Optimism Bias
 Strategic Misrepresentation
 Q
 Qua...
RESOURCES

  The Society of Cost Estimating and Analysis
  http://www.sceaonline.net/
  http://www sceaonline net/
  The I...
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Cost Analysis In IT - HES08

  1. 1. Costing Methodologies for Information Technology I f i T h l Tennessee IT Symposium April 21, 2008 Thomas Danford Th D f d Chief Information Officer Tennessee Board of Regents
  2. 2. SCIENCE APPLICATIONS INTERNATIONAL CORPORATION (SAIC) ORLANDO, FL Cost Analyst: Developed baseline cost estimates acquisition cost estimates budgetary estimates, estimates, proposals, and other cost/budget related studies for a variety of Department of Defense programs. Program assignments included: The Conduct of Fire Trainer (COFT), for use by the US Army in the training of M1, M1A1, M60, and Bradley Fighting Vehicle crews. The Main Tank Gun/Weapon Effects Signature Simulator (MTG/WESS), a battlefield simulator for use in force- on-force training b the armor and i f f i i by h d infantry schools. GUARDFIST I & II i h l II, interactive videodisk i id di k trainers for Army National Guard armor units. Chemical Warfare Oxygen Generator (CWOG), a device designed to produce therapeutic oxygen while operating in a CW environment, and other cost studies relating to military training and simulation requirements. These assignments involved t e a a ys s o life cyc e cost, budget/co t act requirements, cost be e t, o ed the analysis of e cycle budget/contract equ e e ts, benefit, contingency, sensitivity and trade-off.
  3. 3. Goa s, Objectives, a d G ou d Goals, Object es, and Ground Rules Discussion of Current Budgetary Climate Overview of Cost Estimating Tools and Methodologies Used in IT The Role of Costing in Determining Better Resource Allocation Decisions No Math/Accounting Lessons or Review! All Examples Presented are for Illustrative Purposes Only! Focus on Quantitative not Qualitative
  4. 4. Cost Estimate vs. Cost st ate s Methodology vs. Cost Model What is A Cost Estimate? The analysis of all cost elements of a project proposal or on-going work. It includes verification of cost data, determination and evaluation of all elements of costs and projection of these data to determine the effect on costs, price. What Is A Cost Methodology? An A organized, d i d documented set of practical id t d t f ti l ideas, proven practices, ti procedures and guidelines used for determining one or more cost elements of a cost analysis. What is A Cost Model? A set of mathematical relationships arranged in a systematic sequence to incorporate/formulate a cost methodology(ies) in which cost estimates are derived deri ed from inp ts T picall a cost model is in the form of a comp ter inputs. Typically computer program or spreadsheet.
  5. 5. Types of Cost Estimates Order of Magnitude Estimates Budgetary Estimates g y Definitive (Detailed) Estimates
  6. 6. Cost Methodologies (Appropriate & Popular in IT Costing) Parametric Cost Estimating Relationships (CERs) Learning Curve Regression Design to Specification “Bottom-up” Design to Budget “Top-down” D i t B d t “T d ” Ratios
  7. 7. Parametric Methods Cost Estimating Relationships (CERs) Based upon hi B d historical d i l data and statistics d i i Industry/use specific Statistically i bl St ti ti ll viable (F & T St ti ti ) Statistic) Learning Curve (Slide Follows) Regression (Slide Follows)
  8. 8. CERs CER Home Grown Avg. HD Requests/Business Day: 7.68 Avg. Time (Hrs) to Resolution/Request: 3.25 Approx. R A Requests/Year: t /Y 1,896 1 896 Approx. Person Hours/Year: 6,162 FTEs Required for SMO Requests: 4 Industry “Accepted” System Project Management (SPM) General & Administrative (G&A) Average Change Traffic (ACT)
  9. 9. Learning Curve 100 90 80 70 Labor Hours s 60 50 40 30 20 10 0 0 20 40 60 80 100 120 Task Repetition A sample 90% learning curve. The first time the task is performed requires 100 hours of labor to complete and as the number of times the task is repeated, the labor hours required decreases due to learning. After the 50th time in performing the task however, the reduction in labor hours from learning diminishes.
  10. 10. Regression LEAP Conversion Cost Estim ates (Standalone by Tier) 8.0 7.0 70 6.0 Co (in $M) 5.0 4.0 ost 3.0 2.0 1.0 0.0 II III IV V VI SunGard Licensing Tier Best Fit Know n LEAP Conversions A “best fit” curve for calculating approximate costs of “stand alone” ERP implementations of all HEP Tiers.
  11. 11. Bottom-up vs. Top-down Both require extensive analysis of direct and (as much as possible) indirect costs Direct & indirect costs are identified/established through the work breakdown structure (WBS) May utilize/incorporate parametric methodologies Bottom-up is requirements driven whereas Top- down is funding driven
  12. 12. 1.0 Hardware Costs 1.1 Servers 1.2 Storage 1.3 Network Equipment Sample WBS S l 1.4 1.5 Backup De-installation/disposal fees Elements will vary by project … 2.0 Software Costs 2.1 Applications 2.2 22 OS 2.3 Middleware Note on Indirect Costs: When expenses 2.4 Security (NMS, access, etc.) 2.5 Media conversion (tapes) are shared among projects/departments 3.0 Professional services such as legal services security services, security, 3.1 Project Management accounting, purchasing, payables, and 3.2 Consulting the like, they are defined as indirect 3.3 Training 3.4 Expenses (travel & per diem) costs. Identifying and accounting for 4.0 Site preparation and implementation these costs are among the biggest 4.1 AC power cabling challenges for cost estimating. 4.2 HVAC 4.3 Racking 4.4 Network cabling Indirect costs inevitably benefit (or 5.0 Recurring burden) all projects and since calculating 5.1 Personnel the full cost of a project is required for 5.2 Hardware maintenance 5.3 Software maintenance true discounted cash flow analysis, every 5.4 AC power & HVAC effort should be made to identify them as 5.5 Insurance much as possible or determine a burden 6.0 Miscellaneous 6.1 Parallel operations (maintenance, backfill, etc.) rate. 6.2 Indirect cost burden
  13. 13. Total Cost of Ownership (TCO) vs. Total Cost of Acquisition (TCA) TCO can and usually does vary dramatically against TCA i t TCO is more relevant in determining the viability of any capital i i bilit f it l investment t t Vendors typically focus on either acquisition or maintenance costs but the two must be i t t b t th t tb considered together
  14. 14. Life Cycle Cost g – The Time e Cyc e Costing e e Value of Money Research & Development Production Fielding (1-3 yrs) Sustainment (over the useful life)
  15. 15. Cost Benefit Analysis The discounted value of a project’s life cycle benefits is compared to the discounted value p of its life cycle costs Qualitative vs. Quantitative Discounted Cash-flow (DCF) Methods Net Present Value (NPV) Internal Rate-of-return (IRR) Revenue Neutral Projects - NPV
  16. 16. NPV Analysis NPV of Two Technologies/Methodologies $3,500,000 $3,000,000 $2,500,000 $2,000,000 $1,500,000 $1,000,000 $500,000 $0 Year #1 Year #2 Year #3 Year #4 Year #5 § 49-7-1___(a)(2)(A) Costs § 49-7-1___(a)(2)(B) Costs 5 Year Cumulative Costs for TCA Title 49, Chapter 7, Part 1 Amendment (Residential Only) Year #1 Year #2 Year #3 Year #4 Year #5 NPV § 49-7-1___(a)(2)(A) Costs 697,500 1,274,100 1,861,767 2,460,722 3,071,192 2,817,244 § 49-7-1___(a)(2)(B) Costs 1,365,000 1,569,750 1,774,500 1,979,250 2,184,000 2,064,151
  17. 17. Return on Investment (ROI) Ratio of resources gained or lost on a project relative t th amount of resources invested l ti to the t f i t d Choice of investment alternatives can be essential t hi h ROI ti l to high Leveraging Economies of Scale Results in a Greater G t ROI Appreciating vs. Depreciating ROI
  18. 18. ROI Distance Education Programs Campus Delivered vs. Collaborative Online Campus Collaborative Program Program Course Development Costs $3,000 -$6,000 Online Fee/Course 40 40 Reimbursement Rate/Course 30% 30% Number of Students 20 100 Marginal Return/Course $12 $12 Total Revenue $240 $1,200 ROI -92% 120% Many Indirect Cost Savings -24x7 Helpdesk -Library -Hosting -Professional Development
  19. 19. Applications o Cost-Benefit & pp cat o s of Cost e e t ROI Analysis in IT Whether or not to pursue a project Select among alternatives with different benefits Select among competing projects in IT Select among competing projects in and outside of IT
  20. 20. Cost–Benefit & ROI Tips for a Better Analysis Don’t start with a predetermined conclusion Clearly define problem with realistic baseline, all reasonable alternatives, and benefits and costs measures Monetize benefits and costs as much as possible Use credible data Deal appropriately with risk and uncertainty
  21. 21. Parametric Cost Models COnstructive COst MOdel (COCOMO) – Long History & Open Source g y p SEER-SEM – Galorath Inc. PRICE-S Software Cost Modeling System (COSMOS) – ETSU
  22. 22. COCOMO ( ) (PH)AM = (ACT)(PH)DEV ( )( ) Contract Modifications Only SunGard SMO Staff Only (PH)AM : Annual Maintenance in Person Hours 2,347 (PH)DEV : Development Effort in Person Hours 8,094 ACT : Fraction of software that undergoes change during a year 29.00% TBR SMO Staff Only (PH)AM : Annual Maintenance in Person Hours 809 (PH)DEV : Development Effort in Person Hours 8,094 ACT : Fraction of software that undergoes change during a year 10.00% All Modifications To Date SunGard SMO Staff Only (PH)AM : Annual Maintenance in Person Hours ( ) 6,891 (PH)DEV : Development Effort in Person Hours 23,763 ACT : Fraction of software that undergoes change during a year 29.00% TBR SMO Staff Only (PH)AM : AAnnual M i l Maintenance i P in Person H Hours 2,376 23 6 (PH)DEV : Development Effort in Person Hours 23,763 ACT : Fraction of software that undergoes change during a year 10.00%
  23. 23. Ratios – Comparison of “similar” requirements with different approaches (E.g. ERP vs. 3GL) Integrated Commercial RDBMS ERP (Student (Student, HR/Payroll, Finance) FTEs - 15 Total Annual Personnel Cost = $755K Management Ratio = 16% Best of Breed/Home Grown 3GL System (Student, HR/Payroll, Finance) FTEs - 27 Total Annual Personnel Cost = $1.3M Management Ratio = 33%
  24. 24. The Consequences of Estimation E E ti ti Error Underestimation: undermine planning & shortchange upstream activities Accurate Estimates: fall within 5-10% 5 10% Overestimation: Parkinson’s Law (efforts expand to fill available budget and resources)
  25. 25. Summary & Few Caveats Business Case Requires Cost Analysis Judgment Optimism Bias Strategic Misrepresentation Q Qualitative Issues Accompany Cost p y Risk Needs to be Evaluated
  26. 26. RESOURCES The Society of Cost Estimating and Analysis http://www.sceaonline.net/ http://www sceaonline net/ The International Society of Parametric Analysts http://www ispa cost org/ http://www.ispa-cost.org/ Data & Analysis Center for Software https://www.thedacs.com/databases/url/key/4/152 Thanks for joining me today!!

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