: academic research
Determinants and Consequences of Firm Information Technology Budgets
Executive Summary: The purpose of this paper is to determine which factors influence the allocation of resources to firms’ IT budgets and then to ascertain if a relationship exists between the IT budget and a firm’s performance. The authors find that firms in more concentrated industries (as classified by SIC, or Standard Industrial Classification, codes) as well as those experiencing greater uncertainty, such as profit volatility, have higher IT budget levels, suggesting a need for more sophisticated IT processing capabilities. In contrast, companies that have diversified into unrelated industries have lower IT budgets, perhaps due to the lack of synergy between unrelated businesses. They also find that IT budget levels are positively correlated with firm operating performance, as well as subsequent shareholder returns.
Key Findings: The first finding is that industry factors (i.e., environmental factors), organizational factors, and the objective of the IT investment affects the level of a firm’s IT budget. Companies in more concentrated industries, those with more profit volatility, and those that have diversified into related industries have higher IT budgets, indicating a need for more advanced technological capabilities. On an organizational level, more profitable firms demonstrated higher IT budgets, whereas firms with greater debt and firms experiencing higher growth had lower IT budgets. And firms that were automating or transforming their organization invested more heavily in IT than those using IT primarily for informational purposes. Taken together, environmental and organizational factors, plus variations in the nature of the IT investment, explain 28 percent of the differences in firms’ IT budgets.
IT budget levels are also a positive predictor of future profitability (i.e., operating profit), after controlling for other types of investments such as capital, research, and advertising. The authors’ results suggest that an increase in the IT budget of 1 percent of sales will increase operating income, on average, by 0.16 percent of sales.
Finally, IT budget levels are also a positive predictor of shareholder returns. Firms that allocate an additional 1 percent of sales to the IT budget will, on average, enjoy excess returns of 1.172 percent for their investors for each of the subsequent three years.
Research Impacts: Chief information officers, chief financial officers, analysts, budgeting professionals, and chief executive officers.
Authors and Link to Article
Kevin Kobelsky – Baylor University – firstname.lastname@example.org
Vernon J. Richardson – University of Arkansas – email@example.com
Rodney E. Smith – California State University – firstname.lastname@example.org
Robert W. Zmud – University of Oklahoma – email@example.com