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Rethinking IT for the Cloud, Pt. 2 – The Cloud Services Financial Model

By: Khalid Hakim

Attending VMworld? Please join my group discussion on IT Financial Management (OPT1004-GD) on Monday, August 26th at 3:30pm PT in Moscone West, Alcove 3. Hope to see you there!

This series looks at what it takes to transform a traditional, passive-order IT operation into a cloud-based IT ‘shop’ selling services – turning what’s typically regarded as a revenue drain into a business enabler, revenue supporter, and value creator.

In part one, I suggested a few key points to help you identify how much each and every service in your cloud service catalog is costing your company.

Now, let’s place those services within a broader context: to deliver IT as a Service and run IT like a business requires a business mindset and a business model. So what should that model look like?

To start off, take the key business functions of manufacturing organization. These include (but aren’t limited to) product manufacturing and management, sales, marketing, HR, and finance. The product manufacturing department is responsible for using raw materials, machinery and labor to create a physical product (i.e. a mug). Its marketing and finance teams then establish a unit cost for the product and set a pricing strategy. Marketing helps with product promotion, sales does the actual selling, and finance is a horizontal layer across all these functions to ensure that the organization will stay in business.

Now look at the IT organization as a service broker. What does it need on top of the traditional IT planning, project and service management, architecture, development, and operations functions? Answer: a business practice within IT that penetrates every function across the stack.

If you want IT to be a business-trusted advisor, in other words, then functions similar to those of the manufacturing business need to be deployed to help run the IT service factory as a real business.

Product management (i.e. service management), sales, and marketing functions will facilitate and market service provisioning, and a finance function will account for service costs and encompass planning and budgeting for investments. It might sound like I’m just suggesting that IT requires an improved focus on investments that help the business generate more revenue. And sure, such an organization could be described as business within a business. But, in this case, IT is the business!

The Cloud Financial Services Model

I call this model the Cloud Financial Services Model. At its core is a focus on the Accounting, Budgeting, and Charging/Showback processes. These are the basic processes around which you can flesh out a full service broker business, as shown in the diagram below.

The model’s three core areas encompass the following:

–       Service Accounting: A full accounting of the service costs and expenses incurred will include tracking actual services costs, allocating all IT costs to services being offered, and correctly categorizing costs in terms of Fixed and Variable expenses, Direct and Indirect costs, Period and Service costs, and CAPEX and OPEX. Failing to allocate or miss-categorize these costs will impact your overall cost accuracy and transparency.

–       Service Budgeting & Forecasting: This covers the process of predicting, anticipating, and controlling your organization’s services investment and any other planned expenditures on both an annual and ongoing basis.

–       Service Charging and Showback: The showback is a reporting of cloud service consumption and costs, but is a step prior to charging as there is no actual billing involved. Charging is the process of pricing and billing cloud service consumers for cost recovery and value creation.

With these three areas in place, you can now build a set of Cloud Service Management Activities. Each has its own role to play:

–       Service Definition: Your cornerstone, 360-degree process for reviewing a  service, covering business and consumer management, and service and operations management. This includes identifying all the components making up the service chain and all cost drivers and their associated cost classifications & categorization, along with allocation bases. It will also, in turn, drive overall service costing accuracy and improve cost transparency.

–       Service Catalog/Portfolio Management: Your service catalog is the one-stop shop from which your consumers pick and choose services, so it must contain the right level of information, including cost and/or price. A service portfolio management budgeting and planning-based approach can help realize investment value far better than component- or project-based budgeting. Also, aligning IT cloud portfolio investment categories with business categories is a key step to the path to turning IT into a generator of business value.

–       Service Demand and Investment Analysis: Understanding the demand and performance requirements of both the business and cloud services will help drive a planned demand pipeline that in turns boosts the overall cloud service workload’s efficiency.

–       Standardization and Configuration Management: Standardization and realistic configuration management drive simplicity in service automation and provisioning, and hence efficiency in overall operations. Creating standard cloud service offerings with a high degree of standardization and automation results in operational expenses (OPEX) savings.

–       Service Operations Cost Optimization: Continuously looking for operations improvement opportunities is necessary along the operations journey. New cost drivers may continue to pop up during cloud service operations (especially privately operated ones) and thus IT management may run into cost overruns when unmonitored.

–       Value Measurement: It is generally important to consider a combination of financial measures (such as reduction in costs, revenue increases, and productivity improvements) and non-financial measures (such as performance, satisfaction and compliance).

–       Consumer and SLA Management & Reporting: Running strategic service reviews with consumer stakeholders ensures the continuous alignment and meeting SLA expectations – and that they’re getting value for their money. Producing a bill of cloud services consumption and total cost incurred to consumers is one of your key reporting and billing activities. It can kick off service improvement initiatives, driving service quality while optimizing and lowering costs.

–       Contract and Vendor Management: One way to look at cloud computing is as a new delivery channel for IT services. As a service broker, an IT organization acts as an advisor trusted to provide the required services to its consumers at the right quality and cost, regardless of where those services actually reside. Contract & Vendor management becomes even more important with public cloud services to ensure that service levels are being met and that demand is being proactively managed.

While the core Accounting, Budgeting, and Charging IT financial management processes are required for the cloud business management, those in the model’s outer layer represent the cloud-specific activities that will actuate your cloud financial management practices on the ground.

For example, Service Definition is a cornerstone activity as you need to define the boundaries of what you want to offer for each service. You can’t manage what you can’t control, after all, and you can’t control what you can’t define. Indeed, everything starts with defining your cloud services – of which service accounting and pricing become key activities – followed by publishing the right information to a broader IT service catalog. Service demand and investment analysis is then required to plan for future demand and to deliver services more efficiently at the right quality level, and so on, down the list.

The bottom-line: The Cloud Financial Services Model reflects how cloud service management activities are strongly tied to financial management core processes. Adopting it will help position you for success as you seek to transform IT from a cost center to value creator.

In summary:

  • Delivering IT as a Service and running IT like a business requires a business mindset and business model.
  • The Cloud Financial Services Model is a useful business model in this regard – offering a core focus on Accounting, Budgeting, and Charging/Showback (ABC).
  • The model also includes the various Cloud Service Management Activities via which you will deliver your financial processes.

In my next post in the series, I’ll take you though a cloud service costing exercise to show how you can calculate a cost for a specific cloud service.

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