When the economy slows down, companies look to reduce costs and rightly concentrate on the accessible, major cost areas such as headcount and procurement. By comparison, information technology (IT) cost reductions can be just as easy to achieve, typically have lower human impact and can deliver similar levels of saving. Yet frequently, IT cost reduction is not given the same priority or pursued with the same vigour.

IT consumes a significant part of most companies' budgets. Last year The Boston Consulting Group's (BCG's) top 20 clients devoted, on average, $800m to IT, or between 5 and 8 per cent of their total expenditure. Firms in technology-intensive industries such as banking, telecoms, and pharmaceuticals spent well above that.

IT spend has typically increased over recent years as companies respond to the perceived needs of e-business, customer relationship management and enterprise applications. However, senior managers remain frustrated that much of this spend appears to add little recognisable value to the business. Why is this?

Quite simply companies often do not know how much they are spending, what they are spending it on, or what they are getting for their money. Long term studies by BCG demonstrate that, by addressing these issues, companies can reduce IT costs by between 20 and 35 per cent with minimal impact on the business value derived from this expenditure.

Reducing IT expenditure often appears deceptively easy. In the face of increasing pressure to reduce costs, companies impose budget ceilings, arbitrarily cancel projects and defer renewal. Whilst this may achieve the goal of reducing short term expenditure, it can be very harmful in the longer term. It can for example, have a direct impact on business performance or result in a sharp increase in the eventual cost of addressing the problems that the original spend was intended to fix. There is strong evidence that such an approach to IT cost reduction actually destroys business value.

The alternative strategy is value-based IT cost reduction. To do this, a complete picture of where IT costs are incurred needs to be built. Informed choices can then be made about how changing or re-distributing expenditure will drive greater value. This form of cost cutting sounds simple, but successful execution is far from easy.

An early question is, where to look for savings? A large corporate typically spends between 50 and 60 per cent of its IT budget on operations, 30 to 40 per cent on applications and development and the balance, around 10 per cent, on governance. Typically, opportunities exist in each of these categories to rebalance the equation linking cost and service. Although the size and mix of opportunities will be company specific, experience suggests they are likely to arise in six main areas. Allocation of current and investment spend to different parts of the business - laying out where the money is going usually reveals that the distribution is not consistent with the priorities in the business strategy. The opportunity is to divert the IT spend to those areas of the business that are central to the strategy: spend less on IT, but minimise the impact on the core of the business. Current development portfolio. In a typical portfolio there will be a mix of worthwhile, so-so and poor projects. Re-appraisal of the current value proposition of each project typically leads to some being stopped and others being reconfigured or delayed. Achieving the planned value from potential investments: companies frequently identify good projects but fail to achieve the benefits. The opportunity is to institute and operate tight disciplines so that projects get completed as planned and delivered projects are managed through to realisation of the intended value. There are often simple changes that can be made to accountabilities and reporting that eliminate waste and improve the value achieved. Complexity in the accumulated systems architecture. Determining how this complexity drives the cost of support and change provides a rationale for reducing the variety of technologies in use. The sourcing model. The opportunity is to rationalise existing supply contracts and exploit the scale benefits available through the external provision of IT services. Removing the limitations on value creation that arise from organisation and governance. In many organisations the lack of co-ordination between the business, IT communities and external providers masks cost inefficiencies. The opportunity is to tighten the linkage and eliminate the waste. Once the areas of opportunity have been examined, a number of actions can begin to take place. There will be some quick hits such as stopping low value projects and renegotiating supplier contracts. Others, such as simplifying the architecture or outsourcing an internal function, will take a lot longer.

It is important that actions are prioritised using consistent criteria - cost, impact and value, resource requirements and timeline. These are the raw data from which a value-based cost reduction programme can be assembled. The ideal is to create a self-funding programme in which the near term savings create both the capacity and funding for the medium and longer term changes.

Success in IT cost reduction projects is largely determined by a small set of key factors. None of these factors will be a surprise, yet experience shows that few companies manage them consistently well. Typically, successful outcomes follow from keeping the elapsed time between delivery milestones very short. It is also important not to start unless there is explicit senior and local commitment to achieving the changes and a high quality project team with appropriate resource and support in place. Successful change is more likely if only a small incremental effort is required to adopt the change locally. The state of each of these factors is measurable and regular monitoring, reporting and corrective action ensure successful execution with no surprises.

BCG's value-based IT cost reduction projects around the world reveal a consistent pattern of results. Through reprioritising the development portfolio, reducing the maintenance spend, contract renegotiation and 'right sizing' the governance functions, savings of between 5 per cent and 15 per cent of current costs are achievable in the short term.

Similar savings can be made in the medium term through optimisation of the desktop and network infrastructures, rationalisation of data centres and redesign of the development process. Finally, by the implementation of new sourcing arrangements and a reconstruction of the IT architecture, cumulative savings of 20-35 per cent are achievable in the long term.

It is clear that spiralling IT costs can sabotage a company's best-laid strategic plans. Managers can use the value-based approach to cut these costs dramatically and drive the return on IT spending much higher. Given the size of IT spending in most major companies today, and the rate at which it is growing, the control of these costs is a challenge and a goal that executives cannot afford to ignore.

Simon Bennett is vice-president, The Boston Consulting Group