Total Cost of Ownership

Do you manage supplier relationships to achieve lowest total cost-of-ownership (TCO)?
A. No. We just use the suppliers we’ve always used.
B. We concentrate on getting the lowest price.
C. We manage relationships to ensure we get good value.
D. We manage relationships to achieve the lowest total cost-of-ownership for our major spend headings.
E. We consistently foster, develop and sustain relationships to ensure we achieve the lowest total cost-of-ownership for all spend headings.
[Score:  A=0, B=1, C=2, D=3 and E=4]

 

Why is this question important?

TCO - Total Cost of Ownership - is the purchase price of an asset plus the costs of operation.

The essence of the concept is that the full costs of a decision should be evaluated, rather than focusing on the initial purchase price (of hardware and software for example). Installing a new CRM system will have a number of direct and other attributable costs:

  • software costs
  • hardware costs
  • installation costs
  • customisation and configuration costs
  • training costs
  • continuing licensing costs

When choosing among alternatives in a purchasing decision, you should evaluate not just an item’s short-term price, which is its purchase price, but also its long-term price, which is its total cost of ownership. The item with the lower total cost of ownership will be the better value in the long run.

Take a simple example, the total cost of ownership of a delivery truck is not just the purchase price, but also the expenses incurred through its use, such as repairs, insurance and fuel.  A second-hand delivery truck that seems to be a great bargain might actually have a total cost of ownership that is higher than that of a new delivery truck, if the second-hand truck requires numerous repairs while the new truck has a three-year warranty.

TCO

The Total Cost of Ownership (TCO) concept was ‘reinvented’ in relation to the information technology world.

In calculating the total cost of ownership for a computer, the following items may be considered:

  • Purchase cost and depreciation of the computer
  • Software purchases
  • Support personnel salaries and benefits
  • Implementation costs
  • Network infrastructure costs
  • Server costs
  • etc.

TCO analysis has since been expanded to include ‘extended costs’ for any purchase – these are called fully burdened costs.

The best suppliers are low-cost, not simply low-price.  Purchase price is only one component of the total cost of acquiring materials.  The total cost of ownership of acquiring goods and services from a specific supplier includes the purchase price plus the coat of performing all of the procurement related activities:

  • Ordering
  • Receiving
  • Inspecting
  • Returning
  • Moving
  • Storing
  • Scrapping
  • Re-working
  • etc.

Many leading companies depend on their suppliers to produce high-quality products at short notice and deliver them directly to their point of use – delivering products with no defects, requiring no inspection and ‘just-in-time’.

Thus developing, managing and sustaining good supplier relationships is critical.

Progressive companies view suppliers not just as ‘suppliers’, but as critical ‘strategic partners’ who work with their customers to provide extended services and to deliver new ideas and innovation.