7 financial implications of the rise of cloud computing

Cloud computing is now a proven approach to cutting IT costs, but it raises the issue of communication between the Finance and IT functions more clearly than ever. Given the reliance on computing for today’s organizations, a solid understanding of the pros and cons of cloud computing is essential knowledge for today’s Finance Directors.

1. ROI has changed with the cloud

Historically, payback from IT investment was at best, unclear and at worse negative. This is because of the upfront capital intensive nature of IT investments before cloud. Buy now and (potentially) reap benefits later, does not appeal to many accountants – even less so, because reallocating IT resources normally costs money. Cloud computing has changed that because it delivers IT services rapidly without making large investments, so Return on Investment (ROI) can be expected sooner.

2. Operating expense is better than capital expenditure

Before cloud computing, IT was viewed as a long-term, variable capital expense, rather than an ongoing predictable cost. Avoiding the P&L account like this meant reduced external auditor scrutiny on how hard these ‘IT assets’ were working. It ignores the rapid depreciation of IT hardware (often much faster than the generally accepted three years}. Today, transparency of major expenses like telecoms and IT is critical. Allocating IT to operational expenses forces transparency around business-as-usual versus exceptional circumstances and forces managers to think about the technology costs required for each.

3. IT Directors provide services, FDs provide the funding options

Good IT Directors view the business they work for as their customer. The best Heads of Finance do the same. Research shows that 42% of IT Directors report into an FD or CFO and so we need to fully understand what the business is paying for. Like most finance professionals, the more I have to rely on something other than my trusty spreadsheets to the get the information I need, the more nervous I get.

Technologists can be a hindrance unless they can articulate IT requirements in terms of overall business strategy. IT projects should obviously only be approved in the context of all the other priorities of the business and after asking “How can I make the business more competitive?” If IT can explain this well, our role in finance then simply becomes how best to fund the plan.

4. Tax implications of transitioning to hosted services from DIY

Capital allowances have been the target for less generous tax treatment for years, few businesses, or indeed workers, opt for company cars these days. Moving IT provision off balance-sheet and into operating expenses makes it a simple tax write-off expense. However, one should never make a commercial decision based solely on tax. Few businesses will move all their IT over to the cloud in a single tax year, so there are often important taxation decisions about how to treat existing assets during the transition from traditional on-premise IT to cloud computing.

5. Procuring cloud services makes IT strategic once more

The traditional approach to procurement is to squeeze the supplier for the largest discount possible. Vendors were often complicit in this behaviour with list prices which no sane purchaser paid without at least a 30% discount, then levying complex ‘maintenance and support’ trailing costs of typically 20% annually.

When procuring cloud services, which are linked to the ongoing relationship and quality of service, rather than a one-off transaction, it is important to follow a more enlightened approach, building a partnership rather than counting the pennies. Done right, moving to the cloud means the IT function can be redeployed on building strategic value projects bringing business agility through faster time to market and opening new opportunities via operational transformation and cost reduction and so on.

As well as more motivated IT colleagues, there is a tremendous satisfaction for finance professionals who tame the fluctuating cost of software licences which do little more than ‘Keep the Lights On’ and maintain a very high standard of living for the software vendors.

6. Cross charging in the cloud is easy

The move from buying and managing infrastructure to having things done for you with managed services has far-reaching consequences. With a clearer view of which services are required for each business unit, the finance function has, perhaps for the first time, a very granular view of the company’s P&L. This makes cross-charging of individual items such as compute cycles, storage requirements and telecoms usage possible, forcing business units to consider how their IT costs affect the overall profitability of the business –perhaps for the first time.

7. FDs need to plan for exiting recession

While the recession seems to be stubbornly with us for some time to come, it is worth preparing for an eventual return to business growth. Staying in ‘recession mode’ longer than is necessary will hurt businesses’ ability to bounce back for many reasons; risk-averse staff who stayed loyal during the recession start looking at other opportunities again, over-trading can affect cash flow as businesses grow and a lack of agility to grab new opportunities can mean reduced market share. It may appear strange but is an unsurprising consequence that more businesses fail just after a recession when the economy starts to pick up than at the very depths of the economic cycle.

Heads of Finance may also want to think hard about funding new IT purchases because new banking regulations, such as BASEL3, may mean retail banking cannot subsidise commercial banking. This will mean more scrutiny by funders, internal and external to the business, on the financing arrangements of IT services. In this context, a very flexible and elastic IT infrastructure, which can quickly and easily scale up as well as down is the best way to equip yourself for an uncertain future.

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John Leese john joined Star in 2005, having started his corporate career at Content Technologies in 2000 where he managed its operational finance team through a period of significant change, including its £600 million acquisition by Baltimore and subsequent sale to Clearswift in 2002. John joined Star from Clearswift where he was Group Financial Controller. John began his career at Deloitte & Touche, where he qualified as a Chartered Accountant. He then moved to Ernst & Young, spending over three years on the West Coast of the US in its Software Industry Group.