Budgeting under normal circumstances can be a headache for anyone. Establishing an IT budget in particular can seem overwhelming without a clear baseline, or model to work with. Do you budget per-employee? A percentage of total revenue? How do you incorporate future initiatives and programs?

Then, after you decide what to base your budget off of, how do you ultimately determine your budget amount? Conflicting information from multiple sources and industries does little to help here: One source may say that businesses spend an average of $15,000 per employee, while another may declare 1–2% of revenue per employee is the norm, and yet another could report 10% of revenue or more per employee! How can you determine what’s best for your business?

We feel that a good way to approach budgeting is to first answer four very important questions that take into account your business, your industry, your technology usage, and your plans for the future.

1. Where are you at now?

This information can be used to establish a baseline (i.e. the amount you will need for the same people to continue to use the same technology in the same way, assuming your business stays at its current size). You’ll need to take into account:

  • Your size
  • Your current IT tools
  • How you use technology
  • The spending habits in your industry

Your company size and current tools are self-explanatory. But perhaps the most important of these determinations is how you use and view technology. Are your IT resources simply used to accomplish a set list of tasks? Is IT an integral part of the way you do business? Are you actively using technology as part of your plan to grow your business and drive revenue? Your answers will have a significant effect on your budget.

Also important, and sometimes overlooked, is your industry as a whole—specifically, how competitive is it, and how important is IT to advancement and success?  What are other companies doing in your industry and how do you relate to them?

2.Where do you want to be?

The answer to this question will probably have the most significant impact on your IT budget. What do you want your technology to do for you? If you view technology as something of a necessary evil, then you won’t need to make much of an adjustment to your baseline established above. But if you want to harness the potential of your IT strategy to enhance your team’s effectiveness and actively boost revenue, you’ll need to consider how much that growth will cost. A higher budget will be required to make the transition from break/fix, reactionary IT to a transformational IT leading to growth.

Once you determine the difference between where you are currently, and where you want to be tomorrow, you’ll be better prepared to determine overall budget.  For example, a company with low competition, a low level of industry innovation, and a primary IT focus of cost containment, will be towards the low end of IT spending.  On the other hand, a company in a highly competitive industry, that is constantly innovating, with a focus of integrating technology into their business model, will be towards the high end of IT spending.  There are hundreds of proposed budgets for small and medium sized business, but our research has yielded the following for typical IT spend in organizations with around 20 – 500 employees.

If you budget by IT spend per employee / per year

  • Low end: $2700
  • High End: $15,100

If you budget by IT as a percentage of gross revenue

  • Low end: 2%
  • High end: 6.5%

3. How should you allocate?

When it’s time to assign actual numbers to the calculations you made in the previous 2 steps, allocation seems like a huge challenge. We use SaaS applications in almost every department, from sales and marketing to HR to customer service. Should the SaaS applications used by those departments be included in the IT budget, or the budget for that department? What about apps that are used across multiple departments?

The answer to these questions comes down to what is now a fact in any industry: Every budget is an IT budget. The costs of the initiatives, devices, and applications used throughout your organization should indeed be part of your IT budget, and this distributed budget model will clearly reflect how your success and growth is tied to your IT.  Every department in the organization should have their technology spend measured in the overall IT budget. This will give you the ability to tie costs directly to performance, and as we’ll see in the next section, give you a mechanism for determining performance as it relates to IT spend.

4. How will you measure results?

Finally, determining the success of your IT budget will be extremely important as you redesign it for future years. But how can you be sure you are attributing the right amount of your company’s growth and success to your IT strategy? Interestingly, a study by Alinean found that as per-employee IT spending rises in successful companies, the overall IT spend as a percentage of revenue actually declines. This is because business growth today is fueled by scaling processes and technology, rather than just by personnel increases. (This can especially be seen in the tech startup model where many small, innovative companies are getting their start today!) Thus, an interesting new model of growth has emerged:

IT cost per employee goes up –> IT spend as a percentage of revenue goes down –> Revenue per employee increases

When looking to determine how effective your technology team is spending their budget, you can now use three very easy metrics.

  • Cost of IT per employee
  • Revenue per employee
  • Cost of IT as a percentage of revenue

When the top two metrics go up, the bottom metric should go down.  If the cost of IT as a percentage of revenue is flat, or goes up, your technology budget is not being spent as effectively as it can be.

** An important note to make here.  R&D budgets should not be confused with IT budgets.  How much money you spend in R&D (new product development) should be factored out of the equation to properly access the effectiveness of your current IT spending.

At the end of the day, your IT budget should be a useful operational tool, not a dreaded chore to toil over every year. Taking in the big picture of where IT fits into your business strategy and translating it to company growth may not be the norm, but it is the best way to get the fullest understanding of how you need to use and budget for this crucial aspect of your business.