Investing in digital capabilities is essential for most businesses to find new paths for long-term growth and to compete with digital-native companies. However, the pace of technology change is faster than ever, the cost of capital remains elevated for some companies with interest rates higher than they have been in years, and inflation is weighing on margins. These factors make it vital for CFOs to be able to rigorously vet these investments. 

Unfortunately, some CFOs remain skeptical of digital spending because of a perceived inability to accurately estimate costs and measure returns. To overcome this barrier, it is more important than ever to distinguish between IT and digital investments in order to properly align metrics and KPIs to make the right decisions about whether a digital investment will drive long-term value. CFOs may also need be aware of common investment decision pitfalls and consider enhancing the current investment decision process to maximize return on investment.

How digital investments differ from IT spending

When considering digital investments, CFOs may need to see them as part of a continuously evolving digital strategy that adapts to market conditions and disruptions, rather than one-off fixes. Digital investments can also enable greater intimacy with customers and the customer’s customer and connect with the P&L statement. Think of it in terms of digital business building. How does this differ from IT spending? It’s a matter of focus.

IT: Focused on improving and automating internal processes and systems with an emphasis on reducing costs

Digital: Primarily concerned with generating new businesses, products and services and growth opportunities

IT: Focused on a business’s current state and sustaining the operating model

Digital: Focused on market externals, being the disrupter and changing how a company goes to market and creates a durable competitive advantage; enabling transformation in how a company interacts with customers, clients or stakeholders and the products and services they buy

Both types of investments can run into the same pitfall: insufficient corporate finance rigor. But even then, the cause is different. IT spending decisions tend to prioritize affordability, so cost trumps all. Digital investing is often driven by the need to act quickly with insufficient corporate finance input around the size and pace of outlays and quantification of returns. In fact, this me-too mindset, which we currently see around large language models can hamstring efforts to drive breakthrough returns right out of the box. 

Driving digital differentiation

Treating digital investments as a long-term growth differentiator can help CFOs guide decisions by setting the framework for rigorous analysis and clear expectations about how they can perform in the near term and what value creation potential exists in the long term.

Whether considering your first digital investment, or evaluating prior digital investments, plan to periodically review results, asking:

• How did actual outlays compare with the investment case?
• Were any major outlays or cost categories missing entirely from the investment case? 
• How complete was the appraisal of sources, pacing and levels of revenue?
• How much manual adjustment of financial reporting is required to properly compare actuals with the investment case? 
• Were the KPIs most affected by the investment modeled and considered in the investment case? 
• How complete was the consideration of other business factors, such as taxes, balance sheet impact, cost of capital and credit rating, in the investment case?

Apply lessons learned to new digital investment decisions, which can be led by the business, not the CIO, as these investments are geared toward driving long-term value. The analysis conducted by the business, in partnership with the CFO, needs to include a buy vs. build vs. partner analysis that can be different from how the CIO might think about a one-off technology investment. 

Identify new KPIs for the investment, which can include net new revenue, increased market share and access to new customer segments. Also consider whether the market perception of the company changes to give it a digital valuation premium. Then communicate progress on the KPIs to not just internal stakeholders, but investors, customers, suppliers, investors and other ecosystem stakeholders so that they have visibility on how the investments can contribute to mutual success and long-term returns.

Lastly, design and adopt a recurring review of active investments and use those learnings to modify existing investment plans and guide the future investment decision framework.

Conclusion

Digital investment is different from IT spending and needs to be treated as the long-term investment decision that it is. CFOs need to bring financial rigor in the decision-making process for these investments, while partnering with the business to make sure the investments help reposition the company for long-term growth. 

For more resources and information on digital investment decisions, visit EY Capital allocation services. 

Bryan Knoepp is the EY Americas Finance Services Corporate Finance Leader and Jon P. Watts is an executive director on the Corporate Finance team at Ernst & Young LLP.

The views reflected in this article are the views of the authors and do not necessarily reflect the views of Ernst & Young LLP or other members of the global EY organization.