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INFORMATION TECHNOLOGY SERVICE SOCIETY RT elily-F s! Le fury [ever Committee to Study the Impact of Information Technology on the Performance of Service Activities Computer Science and Telecommunications Board Commission on Physical Sciences, Mathematics, and Applications National Research Council NATIONAL ACADEMY PRESS Washington, D.C. 1994

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NOTICE: The project that is the subject of this report was approved by the Governing Board of the National Research Council, whose members are drawn from the councils of the National Academy of Sciences, the National Academy of Engineering, and the Institute of Medicine. The members of the committee responsible for the report were chosen for their special competences and with regard for appropriate balance. This report has been reviewed by a group other than the authors according to procedures approved by a Report Review Committee consisting of members of the National Academy of Sciences, the National Academy of Engineering, and the Institute of Medicine. The National Academy of Sciences is a private, nonprofit, self-perpetuating society of distinguished scholars engaged in scientific and engineering research, dedicated to the further- ance of science and technology and to their use for the general welfare. Upon the authority of the charter granted to it by Congress in 1863, the Academy has a mandate that requires it to advise the federal government on scientific and technical matters. Dr. Bruce Alberts is presi- dent of the National Academy of Sciences. The National Academy of Engineering was established in 1964, under the charter of the National Academy of Sciences, as a parallel organization of outstanding engineers. It is autonomous in its administration and in the selection of its members, sharing with the National Academy of Sciences the responsibility for advising the federal government. The National Academy of Engineering also sponsors engineering programs aimed at meeting national needs, encourages education and research, and recognizes the superior achievements of engineers. Dr. Robert M. White is president of the National Academy of Engineering. The Institute of Medicine was established in 1970 by the National Academy of Sciences to secure the services of eminent members of appropriate professions in the examination of policy matters pertaining to the health of the public. The Institute acts under the responsibility given to the National Academy of Sciences by its congressional charter to be an adviser to the federal government and, upon its own initiative, to identify issues of medical care, research, and education. Dr. Kenneth I. Shine is president of the Institute of Medicine. The National Research Council was organized by the National Academy of Sciences in 1916 to associate the broad community of science and technology with the Academy's pur- poses of furthering knowledge and advising the federal government. Functioning in accor- dance with general policies determined by the Academy, the Council has become the principal operating agency of both the National Academy of Sciences and the National Academy of Engineering in providing services to the government, the public, and the scientific and engi- neering communities. The Council is administered jointly by both Academies and the Institute of Medicine. Dr. Bruce Alberts and Dr. Robert M. White are chairman and vice chairman, respectively, of the National Research Council. Support for this project was provided by the following organizations: the Alfred P. Sloan Foundation (under Grant No. 90-10-4) and Apple Computer Inc., International Business Ma- chines Corporation, the AT&T Foundation, Digital Equipment Corporation, and Xerox Corpo- ration, under unnumbered contracts. Library of Congress Catalog Card Number 92-85596 International Standard Book Number 0-309-04876-1 Copyright 1994 by the National Academy of Sciences. All rights reserved. Available from: National Academy Press 2101 Constitution Avenue, N.W. Washington, D.C. 20418 B-132 Printed in the United States of America

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COMMITTEE TO STUDY THE IMPACT OF INFORMATION TECHNOLOGY ON THE PERFORMANCE OF SERVICE ACTIVITIES J. BRIAN QUINN, Dartmouth College, Chair MARTIN BAILY, McKinsey & Co., Vice Chair JORDAN BARUCH, Jordan Baruch Consulting TORA BIKSON, RAND Corporation DAVID CARLSON, Kmart Corporation DENNIS CHAMOT, AFL-CIO KENNETH COATES, Ford Motor Credit Company WILLIAM CURTIS, Carnegie Mellon University ROBERT ELMORE, Arthur Andersen & Co. CHARLES GOLD, Ernst & Young MAX HOPPER, American Airlines ELLEN KNAPP, Coopers & Lybrand HENRY LICHSTEIN, Citibank JEROME MARK, Bureau of Labor Statistics (Retired) STEPHEN ROACH, Morgan Stanley & Co. IRWIN SITKIN, Aetna Life and Casualty (Retired) MICHAEL ZUBKOFF, Dartmouth Medical School Special Advisors JOHN OPEL, IBM Corporation (Retired) MORRIS TANENBAUM, AT&T (Retired) WALTER WRISTON, Citibank (Retired) Staff MARJORY S. BLUMENTHAL, Director HERBERT S. LIN, Senior Staff Officer LESLIE M. WADE, Project Assistant . . . ADZ

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i COMPUTER SCIENCE AND TELECOMMUNICATIONS BOARD WILLIAM WULF, University of Virginia, Chair RUZENA BAJCSY, University of Pennsylvania JEFF DOZIER, University of California at Santa Barbara DAVID J. FARBER, University of Pennsylvania HENRY FUCHS, University of North Carolina CHARLES GESCHKE, Adobe Systems Inc. JAMES GRAY, Digital Equipment Corporation JOHN L. HENNESSY, Stanford University DEBORAH A. JOSEPH, University of Wisconsin RICHARD M. KARP, University of California at Berkeley KEN KENNEDY, Rice University BUTLER W. LAMPS ON, Digital Equipment Corporation BARBARA H. LISKOV, Massachusetts Institute of Technology ROBERT L. MARTIN, Bell Communications Research DAVID G. MESSERSCHMITT, University of California at Berkeley ABRAHAM PELED, IBM T.J. Watson Research Center (until August 1993) WILLIAM PRESS, Harvard University CHARLES L. SEITZ, California Institute of Technology EDWARD SHORTLIFFE, Stanford University School of Medicine CASMIR S. SKRZYPCZAK, NYNEX Corporation LAWRENCE T. TESLER, Apple Computer Inc. LESLIE L. VADASZ, Intel Corporation MARJORY S. BLUMENTHAL, Director HERBERT S. LIN, Senior Staff Officer JAMES MALLORY, Staff Officer GREG MEDALIE, Staff Officer RENEE A. HAWKINS, Staff Associate GLORIA BEMAH, Administrative Assistant JANET QUARLES, Project Assistant LESLIE M. WADE, Project Assistant IV

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COMMISSION ON PHYSICAL SCIENCES, MATHEMATICS, AND APPLICATIONS RICHARD N. ZARE, Stanford University, Chair RICHARD S. NICHOLSON, American Association for the Advancement of Science, Vice Chair STEPHEN L. ADLER, Institute for Advanced Study JOHN A. ARMSTRONG, IBM Corporation (retired) SYLVIA T. CEYER, Massachusetts Institute of Technology AVNER FRIEDMAN, University of Minnesota SUSAN L. GRAHAM, University of California at Berkeley ROBERT J. HERMANN, United Technologies Corporation HANS MARK, University of Texas at Austin CLAIRE E. MAX, Lawrence Livermore National Laboratory CHRISTOPHER F. McKEE, University of California at Berkeley JAMES W. MITCHELL, AT&T Bell Laboratories JEROME SACKS, National Institute of Statistical Sciences A. RICHARD SEEBASS III, University of Colorado CHARLES P. SLIGHTER, University of Illinois at Urbana-Champaign ALVIN W. TRIVELPIECE, Oak Ridge National Laboratory NORMAN METZGER, Executive Director v

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Preface In the spring of 1991, The Computer Science and Telecommunications Board (CSTB) of the National Research Council (NRC) convened the Com- mittee to Study the Impact of Information Technology on the Performance of Service Activities. Asked initially to assess the impact of information technology (IT) on productivity in the service sector, the committee met five times over a 1 6-month period, deliberating over concepts and the analyses of subgroups convened to assess specific issues. In addition to using the standard macroeconomic data collected and developed by government agencies, the committee drew on observations from managers and executives in industry (a group including some of the committee's own members, as well as numerous others). These observa- tions were obtained through interviews that were used to develop and check insights, not to generate quantitative data. Appendixes A through D pro- vide methodological and supporting details about the committee's sources of information and its approach to using this information. Appendix E lists the interviewed executives, whose observations helped the committee to understand the processes by which IT projects are planned, implemented, and evaluated. At the macroeconomic level, the committee was concerned about the constraining effects of looking at services from the traditional perspectives of goods-producing industries (Chapter 1~. At present, most of the termi- nology, methodology, and data for analyzing productivity (and performance) derive from earlier studies in the goods-producing industries, but to the . . Vll

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. ~ . V111 INFORMATION TECHNOLOGY IN THE SERVICE SOCIETY committee, most of these seemed inadequate for understanding trends in the service sector. For example, whereas productivity in goods-producing ac- tivities is measured in terms that refer to relatively concrete units of output, dollar sales, or profits, performance in services may relate best to more subjective qualities such as timing, quality, comfort, or convenience. Mea- surement difficulties are a theme that runs through the entire report. In refining its approach to reflect its initial findings, the committee chose to investigate the full range of impacts of the use of IT on perfor- mance in the service sector. Thus, the committee examined the nature and measurement of performance in services at progressively less aggregated levels of analysis: the macroeconomic level (Chapter 1), the industry level (Chapter 2), the enterprise level (Chapter 3), and the activity level (Chapter 4~. Chapters 1 through 4 culminate in Chapter 5, which discusses implica- tions for managers in organizations wishing to improve their management of information technology, and Chapter 6, which presents issues and recom- mendations for public policy. To put this report in perspective, some observations on the committee's operation and scope of concern are appropriate. First, this report was shaped by interactions within a multidisciplinary committee that included business executives, economists, behavioral scientists, management theorists, and tech- nologists. Second, the committee considered the context of international competitiveness in conducting its analysis, but detailed investigation of in- ternational conditions was beyond its scope. Third, although smaller com- panies were represented in the data that supports industry- and macroeconomic- level analyses, the committee's resources did not permit a systematic examination of the distinguishing characteristics of smaller enterprises. Many parties outside the committee contributed to this report. First and foremost were the executives of major service companies who participated in the committee's extensive series of interviews. The time, thoughtfulness, and candor of these executives were invaluable to the committee in under- standing a variety of complex and otherwise hidden experiences. The anonymous reviewers convened by the NRC also played a key role; their probing com- ments on the initial draft resulted in a much stronger final report. The contributions of Patricia Higgins (Dartmouth College) in providing research, moral, and logistic support throughout the project were essential to its suc- cessful completion. Penny Paquette and Scott Anfinson of Dartmouth Col- lege, Debbie Perrault of Kmart, and Ashley Maddox (intern at Arthur Andersen) also contributed to this report. The committee chair, James Brian Quinn, integrated the contributions from those inside and outside the committee. He also demonstrated a sig- nificant personal involvement in shaping the ideas, the concepts, and even the detailed wording of this report. As importantly, his involvement dem

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PREFACE IX onstrated a central finding of the study that good work and high perfor- mance demand strong and enlightened management and leadership. CSTB is grateful for the support of the Alfred P. Sloan Foundation, Apple Computer Inc., International Business Machines Corporation, the AT&T Foundation, Digital Equipment Corporation, and Xerox Corporation, which made this project possible. In accordance with NRC policy, the majority of the funding for this study did not come from private industry. William Wulf Chair Computer Science and Telecommunications Board

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Contents SUMMARY AND OVERVIEW 1 INTRODUCTION AND IMPACT OF INFORMATION TECHNOLOGY AT THE MACROECONOMIC LEVEL........ This Study Approach, Scope, and Terms, 29 Current Data and Measures of Productivity, 30 National Income and Product Accounts Prepared by the Bureau of Economic Analysis, 31 Industry-specific Measures of Productivity Developed by the Bureau of Labor Statistics, 40 Alternate Measures of Productivity and Performance, 44 Observations and Conclusions, 45 Many Factors Influence Productivity: IT Affects Many Aspects of Performance, 45 Organization and Scope of This Report, 47 Notes and References, 49 Bibliography for Chapter 1, 51 2 IMPACTS OF INFORMATION TECHNOLOGY AT THE INDUSTRY LEVEL ......................... Air Transport, 57 Telecommunications, 62 Retail and Wholesale Trade, 69 Health Care, 75 xi .. 24 .. 52

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. . X11 INFORMATION TECHNOLOGY IN THE SERVICE SOCIETY Banking, 80 Insurance, 86 Observations and Conclusions, 91 Notes and References, 93 IMPACTS OF INFORMATION TECHNOLOGY AT THE ENTERPRISE LEVEL .................................. Why Firms Invest in IT, 98 How Companies Use and Invest in IT, 100 Types of Applications, 100 Decision Making About Investing in IT and the Rigor of Program Evaluation, 118 Cross-cutting Observations Regarding All Uses of Information Technology, 122 Controlling the Costs of IT, 122 Enhancing Technological Sophistication and Developing Standards 124 Problems in Assessing Enterprise Performance, 125 Summary and Conclusions, 132 Notes and References, 133 4 IMPACTS OF INFORMATION TECHNOLOGY AT THE ACTIVITY LEVEL...................... Introduction, 136 What Is an Activity?, 139 Some Observations About Service Activities, 141 Service Activities Are Everywhere, 141 Service Activities Are Increasingly Important, 141 Service Activities Are Generic and Elemental, 142 Roles for Information Technology in the Evolution of Activities, 143 New Tools and Tasks, 144 New Linkages and Transformations in Firms, 148 Outsourcing and Industry Transformation, 153 Consequences for Employees, 155 Conclusions, 160 Notes and References, 163 IMPROVING DECISION MAKING ABOUT INFORMATION TECHNOLOGY ........................................... Common Problem Areas in the Management of Information Technology, 168 Lack of Competition, 168 Inadequate Planning and Follow-up, 169 97 136 165

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CONTENTS . ~ X111 Resistance and Inefficiencies in Work Practices, 170 Excessive Project Scope, 171 Technology-driven Investments in IT, 172 Difficulties in Software Development, 172 Critical Issues in the Management of Information Technology, 173 Information and IT Strategy Seeking Competitive Advantage, 174 Cross-Functional Reengineering and Reorganization, 175 Continuous User and Customer Involvement, 181 Customer-driven Measures of Quality, 182 Compressing Project Scope and Payback Time, 185 Postproject Audits, 186 Benchmarking Against Specialized Outside Providers, 187 Customer and Knowledge-driven Performance Evaluation and Reward Systems, 190 Summary and Conclusions, 191 Notes and References, 192 6 INFORMATION TECHNOLOGY IN SERVICES: IMPLICATIONS FOR PUBLIC POLICY........ Implications for Macroeconomic and Fiscal Policy, 194 Background on Employment Issues Raised by Information Technology in Services, 195 The Need for Policy Intervention to Ease Employment Transitions, 199 The Need for Additional Research to Guide Policy Making, 201 Improving Federal Macroeconomic Data Gathering and Analysis, 203 ... 193 Improving Data and Accounting Principles Related to Investments in Information Technology, 205 Increasing Awareness of and Investments in Research Related to Information Technology in Services and Service Quality Measurements, 206 Other Policy Issues Identified by This Study, 207 Notes and References, 209 APPENDIXES A Selected Research on Economic and Strategic Impacts of Information Technology, 217 B Methods for Deriving Bureau of Economic Analysis Measures of Output, 228 Procedures for Deriving Bureau of Labor Statistics Measures of Productivity for Service Industries, 234 D How the Committee Conducted Its Study, 247 E List of Executives Interviewed, 266

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