Demystifying

TCO
Optimizing Procurement
Through Total Cost
of Ownership

Total

TCO Cost of

Ownership
AUTHOR
RAVI NISHANT

www.scmdojo.com
 What is TCO?
TCO is a holistic methodology that considers all costs
associated with a product or service over its entire lifecycle

It goes beyond the initial purchase price to encompass

acquisition, ownership, usage, disposal, and hidden costs.

By understanding TCO, businesses can make informed

decisions about which options truly offer the best value.

Piece Price

Shipping Inventory

Regulatory
Product
Compliance
Quality Total Costs
Cost of
Ownership Intellectual
Oversight
Property

Trade Other
Financing Inputs
Costs
Political & Security
Risk Management

Copyright: RAVI NISHANT www.scmdojo.com

 Why is TCO Important in
Procurement?
Traditional procurement often prioritizes low upfront costs,
leading to hidden expenses later.
TCO analysis helps identify and mitigate these hidden
costs, optimizing budgets and driving long-term savings.
It empowers procurement teams to negotiate better
contracts, select more cost-effective suppliers, and
improve overall financial performance.

Copyright: RAVI NISHANT www.scmdojo.com

 Key Components of TCO
Laser
Acquisition Cost: Purchase price, Cost Category
Printer A
Inkjet Printer B

shipping, taxes, installation fees,

training. Acquisition Cost $350 $150

Purchase Price $300 $100

Ownership Cost: Maintenance, Shipping $25 $25

repairs, upgrades, insurance,

Taxes (10%) $35 $15
storage.
Installation Fees $0 $0

Usage Cost: Energy consumption, Training $10 $10

consumables, downtime, Ownership Cost (5 years) $500 $1200

productivity impacts.
Maintenance (per year) $50 $0

Repairs (average per year) $0 $50

Disposal Cost: Recycling fees,
waste removal, environmental Upgrades (optional year 3) $100 N/A

impact mitigation. Insurance (per year) $10 $5

Storage $0 $5
Hidden Costs: Lost productivity due
Usage Cost (5 years, 5000 pages per
to downtime, warranty claims, year)
$750 $1500

quality issues.
Energy Consumption (per page) 0.02 kWh 0.05 kWh

$0.10 per
Consumables (toner/ink) $0.05 per page
page

Downtime (average per year) 2 hours 4 hours

Copyright: RAVI NISHANT

Productivity Impact (per hour downtime) $50 $50

Disposal Cost $25 $10

Recycling Fees $15 $5

Waste Removal $10 $5

Hidden Costs (estimated) $100 $200

Lost Productivity due to downtime $100 $200

Warranty Claims $50 $100

Quality Issues (reduced print quality) $50 N/A

Total Cost of Ownership (5 years) $1725 $3085

www.scmdojo.com
 Benefits of Applying TCO
in Procurement:
Impact on
Benefit Key Action Example
Procurement

Identify and eliminate

Negotiate contracts based
Lower overall hidden expenses (e.g.,
Reduced Procurement Costs on TCO, not just upfront
spend energy consumption,
price
downtime)

Partner with suppliers

Evaluate suppliers based
Improved Supplier Select optimal offering reliable products,
on long-term value, not
Management partners low maintenance costs,
just price
and sustainable practices

Allocate budget effectively

Informed Develop accurate cost
based on actual value
Enhanced Budget Accuracy investment forecasts based on TCO
proposition of each
decisions analysis
purchase

Choose eco-friendly Prioritize suppliers with

Environmentally
Increased Sustainability options with lower sustainable practices and
friendly choices
disposal costs products

Identify and mitigate

Choose suppliers with
Proactive risk potential cost risks (e.g.,
Improved Risk Management proven reliability and good
mitigation warranty claims, quality
quality control
issues)

TCO is not just about saving money; it's about making smarter
choices that benefit the entire organization. By embracing
TCO, procurement teams become strategic partners, driving
value creation and sustainable growth.

Copyright: RAVI NISHANT www.scmdojo.com

 Calculating TCO
Step-by-Step Guide

1
Define the product/
service and its lifecycle

2
Gather data for all
cost components

Use a TCO model or

3 spreadsheet

4 Analyze and interpret

the results

Report to the stakeholder

5 by using interactive
dashboards

Copyright: RAVI NISHANT www.scmdojo.com

 TOTAL COST OF OWNERSHIP
OF AN ERP SYSTEM
TCO per project External Costs External Time Internal Costs Internal Time

Implementation Costs

Project Purchases

Initial Licenses

Hardware

Project Spanning Activities

Project Management

Project Management Support

Training

Travel

Change Requests

Application Implementation

Diagnostic

Analysis

Design

Development

Deployment

Go-Live

Total Implementation Costs

Post-Implementation Costs

Yearly License Fees

Year 1

Year 2

Year 3

Application Support

Year 1

Year 2

Year 3

System Operation

System Optimization

Total Post-Implementation Costs

Grand Total

Total TCO

Copyright: RAVI NISHANT www.scmdojo.com

 TOTAL COST OF OWNERSHIP
OF AN ERP SYSTEM
External Costs:
These are expenses incurred directly with external parties
during the implementation process. They typically involve
payments to external resources or services.

Internal Costs:
These are expenses incurred within your organization as a
result of the implementation effort. They represent the time
and resources dedicated by your own staff to the project.

In the context of the ERP implementation table, internal time

and external time refer to the amount of time spent by people
involved in the project, categorized based on whether they
are internal or external resources. Here's how they impact
cost.

Internal Time:
Increased workload:
Training and onboarding:
Change management.

External Time:
Consultant rates:
Travel and accommodations:
License fees:

Copyright: RAVI NISHANT www.scmdojo.com

 Procurement as the TCO
Champion: Overcoming
Challenges
Challenge
Data gathering and
analysis complexity:
Cross-departmental
collaboration:
Subjectivity in defining and
measuring soft costs:
Regular TCO model
updates:
Copyright: RAVI NISHANT
Procurement's Toolbox for TCO
Mastery
Develop standardized data collection processes and templates.
Leverage technology and data analytics tools to automate data
gathering and analysis.
Partner with IT and other departments to access relevant data
sources.
Train procurement professionals on data analysis techniques.
Establish a cross-functional TCO working group with representatives
from finance, IT, engineering, and other stakeholders.
Develop clear communication channels and shared goals for TCO
implementation.
Provide training and education on TCO benefits to all departments.
Incentivize collaboration and reward successful TCO initiatives.
Develop standard definitions and measurement methodologies for
key soft costs, like productivity loss or risk mitigation.
Utilize industry benchmarks and best practices for quantifying soft
costs.
Conduct pilot projects to assess the impact of soft costs in specific
scenarios.
Employ scenario planning and sensitivity analysis to account for
uncertainty in soft cost estimates.
Establish a process for reviewing and updating TCO models based on
market changes, supplier negotiations, and internal factors.
Implement change management procedures to ensure smooth
adoption of updated models.
Communicate model updates to relevant stakeholders and train them
on their application.
Continuously monitor and track TCO data to identify opportunities for
improvement
www.scmdojo.com
 Best Practices for Effective
TCO Implementation

BEST PRACTICES EXECUTION

Embrace Technology for Smarter Implement a cloud-based TCO management

platform to streamline data collection, analysis,
Decisions: and reporting.

Standardization: Consistency Develop standardized templates for identifying

cost components, collecting data, and calculating
Leads to Clarity: TCO for different types of purchases.

Collaboration: Teamwork Makes the Establish a cross-functional TCO committee with

representatives from procurement, finance, IT,
Dream Work: and operations.

Track key TCO metrics (e.g., average TCO per

Monitor & Improve: Continuous project, cost savings achieved) and conduct
Learning is Key: regular reviews to identify areas for
improvement.

Compare your TCO data with industry

Benchmarking: Learn from the Best: benchmarks for similar products or services.

Copyright: RAVI NISHANT www.scmdojo.com

 Real-World Example of
TCO in Action
Scenario: A construction company is considering purchasing two
excavator machines, one from Brand A and another from Brand
B. Both machines have similar specifications but differ in initial
purchase price and other cost factors.

Cost Category Brand A Brand B

Initial Purchase Price $80,000 $70,000

Fuel Consumption (per hour) 10 gallons 8 gallons

Fuel Cost (per gallon) $5 $5

Annual Operating Hours 2,000 hours 2,000 hours

Fuel Cost per Year $100,000 $80,000

Maintenance Cost (per hour) $20 $15

Annual Maintenance Cost $40,000 $30,000

Repair Cost (average per incident) $5,000 $3,000

Estimated Repair Frequency (per year) 2 times 1 time

Average Repair Cost per Year $10,000 $3,000

Resale Value after 5 years $30,000 $35,000

Total Cost of Ownership (5 years) $260,000 $218,000

Copyright: RAVI NISHANT www.scmdojo.com

 ANALYSIS

While Brand A has a higher initial purchase price, its lower

fuel consumption and maintenance costs contribute to
significant savings over 5 years.

Brand B's lower initial price is outweighed by higher fuel

and maintenance expenses, resulting in a higher total cost
of ownership.

Considering resale value, Brand B retains slightly more

value, but the difference is not enough to offset its higher
operating costs.

Copyright: RAVI NISHANT www.scmdojo.com

 SUMMARY

This was a simplified example, and real-world scenarios

may involve more complex cost factors and
considerations.

It's crucial to customize the TCO analysis based on specific

organizational needs, usage patterns, and market
conditions.

Procurement should collaborate with other departments

(e.g., operations, finance) to gather accurate data and
ensure a holistic evaluation.

Copyright: RAVI NISHANT www.scmdojo.com

 Learn More about TCO
with SCMDOJO Academy
5 star course

Visit
https://www.scmdojo.com/academy/c
ourses/total-cost-to-ownership-serve
 Reviews About Course

Saurabh Grover B.E., MBA

Fabulous learning experience from Mr. Corey Weekes

Through his course, I learned about TCO's key
considerations, green economy impact, post-COVID
supply chain realities, and cost calculation checklist.
Additionally, I gained valuable knowledge on Total Cost to
Serve's importance, key downstream cost drivers, and cost
determination approach. Overall, the course has added
immense value to my skillset and helped me unlock the
secrets of effective SCM
 Reviews About Course

Ahmed

Difference between the traditional approach and the

details that must be considered for managing well the cost
I liked the way he explained the notions by giving accurate
examples and comparing different scenarios. Lessons were
direct and to the point.

Ufuk

Great overview of TCO

Great overview with good examples and their impacts on
the total value and margin.