Until now, banks investing in new information systems technology could generally expect some alignment between the industry acceptable standard of 3-5 years depreciation schedules and information technology refresh cycles.
But big data and new technology have changed the rules. A discrepancy has emerged as those technology cycles become more rapid, especially with disruptive technology that has yet to undergo an industry consolidation cycle. Accounting rules need to reflect this shift so CIOs and CFOs can agree on how to account for investments that will not survive the typical three years.
As CFOs assess new information technology investments against a three year horizon, CIOs must step in early and make the case for sustaining them 18-24 months in a rinse-and-repeat fashion. They need to point out the new twist in the conversation: many of these investments are relatively smaller and the ROI can be realized quicker, so it makes sense to look at two cycles of technology investments against one accounting depreciation cycle.
Under GAAP, fixed assets (or any assets that have a lifespan of more than a year) get depreciated over their expected useful life, aka “recovery period.” Investments in information systems are typically depreciated over 3-5 years, based on the premise that a piece of hardware in the data center will need to be replaced with a new one before five years have elapsed.
The same discipline is also applied to purchased or in-house-developed software and the labor required for integrating it with the bank’s system. For example, if a bank implemented a new risk management system at the cost of $10MM, they would account for the expense on their balance sheet at $2MM/year for a period of five years. As a result, a business case for implementing this new risk management system would probably be approved as long as its ROI proves to be positive within the five year period that the total expense shows on the balance sheet.
At the end of the five years, a new system implementation may be budgeted to replace the now aging system, beginning a new recovery period for this new expense.
In the past few years, the technology industry witnessed a major disruption as big data and breakthrough technology have accelerated the number of new offerings being introduced to the marketplace at lower price points then ever before. At this pace of innovation, the average useful life of most information systems introduced to the market is compressing. Companies with brand new solutions are launched and others get acquired or disappear on a daily basis while the rate of competition and volatility in the tech space is higher than ever before.
CIOs and the CFOs need to recognize the increasing gap between this accelerated pace of change in the technology space and the relatively static accounting rules that were composed in a different era. They need to work together on more aggressive business cases and implementation schedules so they don’t get stuck with systems that in two years will be considered legacy.
So when a bank’s CIO builds the above business case for implementing that new risk management system, he or she should present solutions demonstrating the ability to put the system in place and realize a positive ROI in a two years or less. Similarly, the CFO should put together an aggressive depreciation schedule to ensure that the expense in this new asset is recovered during the same two year schedule. Then the balance sheet has the capacity to afford the next investment shortly after the system has been service for those two years.
One way to compress these timeframes is to better control the scope of implementations into shorter release schedules and faster cadence of releases. Another is to put together more aggressive financial benefits statements that demonstrate a positive ROI over a much shorter timeframe. Today’s rapid acceleration in technology innovation requires banking CFOs and CIOs to come to the table and assess ways to accommodate smaller information systems investments over shorter timeframes. The alternative is to suffer a “depreciation hangover” that weighs down the balance sheet and blocks the bank from investing in new systems that keep pace with the market and their competitors.
Avi Kalderon is practice leader for big data and analytics at NewVantage Partners