Continue reading Total Cost of Ownership (TCO)" />
The total cost of ownership (TCO) is the purchase price of goods and operational costs associated with the purchase. Assessing the total cost of ownership represents taking a macro-level view of the product and its value over time.
Before one embarks on purchasing goods either for personal use or professional use, one must evaluate needs analysis, consisting of the utility value of the goods, the economic value addition, TCO, and funds to purchase the targeted goods.
The purchase cost has two elements, the first one is visible costs, and the second one is invisible cost. Generally, we focus on visible costs and don’t even bother to understand invisible costs, which are certain.
Figure 1: Visible vs. Invisible costs:
The TCO is useful whenever an organisation aims to acquire an asset, or an individual invests in a huge asset. The metric could be relevant in situations such as:
|Purchasing an ERP System||Investing in real estate for residential purposes|
|Investing in real estate for Office use||Buying a new automotive|
|Investing in Marketing Campaign||Installing an expensive security system|
|Purchasing Equipment and Machinery||Buying a resort home|
|Sometimes even recruiting a top executive||Any asset that has an extended lifetime and tends to generate additional costs|
There are three elements to this calculation. The first one is the initial cost (I). The second one is Maintenance Cost (M); this cost includes operational costs, downtime costs, parts replacement costs, and any other cost related to maintaining the asset in working order. The last element is known as “R,” and the “R” stands for the remaining value of the asset after the estimated utilisation time of the acquisition.
The simple formula is: I + M – R
The TCO is a procurement metric that every organisation or individual ideally uses to ensure better ROI (Return on Investment). It is only possible when all asset components are captured to estimate an optimised cost-benefit ratio. It is not a one-time use metric. Organisations may have to develop a database to systematically collect all the costs elements involved in procuring goods/assets to make it easier to calculate the TCO for every procurement.