As we have discussed in previous articles, ERP software plays a significant role in helping manufacturing companies reduce manufacturing costs. However, the Total Cost of Ownership (TCO) significantly influences ERP strategies and decisions. Over the past decade, ERP solution providers and ERP users have focused on reducing the TCO of ERP. However, with the decline of the economy, many ERP projects and implementations are being delayed at the time they are most needed; showing that sole focus on TCO is not enough. To truly justify the continued investment, and maximize the business benefits of ERP, companies must also consider the Return on Investment (ROI).
What Should Be Included in ‘Total Costs’?
The total costs, in this case, do not encompass the wide range of factors usually included in a total cost estimate. In this instance, total costs only include the total cost of software, services and maintenance per year. These services could include the implementation, training and any type of customization to the ERP system.
When evaluating ERP systems and measuring their ROI, companies should keep in mind that true total cost includes hardware and infrastructure costs, internal costs, and continued care and support. While few companies fully understand and measure internal costs, these costs are crucial when calculating the ROI of an ERP solution. Due to the fact that costs change as a company grows, the expected business benefits will vary from company to company.
How Does the Growth of a Company Affect the Total Costs?
As a company continues to grow and expand, the total cost of the software and services continues to rise. Therefore, companies that wish to take the ERP plunge should invest in the software as early as possible. Fortunately, companies wishing to make an investment in ERP are given a variety of options to do so.
While the total cost of software, services and maintenance increases as companies grow, the cost per user decreases as the company expands. Generally speaking, ERP vendors price ERP software by the number of users; however, users can be defined and priced in a variety of ways depending on the company.
The True Cost of Achieving Business Benefits
So far, we’ve only discussed TCO; however, cost without value is useless. You must also take the ROI of ERP into consideration to find the full value that it brings to a business. Often, the success of ERP is judged by the time, cost and effort to implement it. However, in order to find the full value, you must base its performance on specific Key Performance Indicators (KPIs) that measure both the value it brings to the company and the overall health of the company. The specific business benefits that can be obtained will vary depending on the goals of the company and the opportunity for improvement.
By expanding our view beyond TCO to include ROI, the following business benefits achieved through implementation can be considered:
- 16% reduction in inventory
- 19% reduction in operational costs
- 17% reduction in administrative costs
- 17% improvements in complete and on-time shipments
You might expect the ERP implementations that derive the best or most results to be the most expensive; however, you need to consider the total cost per user and other factors to determine the true price. If you divide the cost per user by the average percentage point of improvement, we will see the price decrease as performance increases.
The ability to quantify the results obtained through ERP implementations is critical in determining its success. Without the ability to measure and quantify savings and improvements, it will become difficult to justify the continued investment in both time and money to reach further improvements. Companies need to continually measure ROI after it has been achieved, not just initially. Continued measurement leads to continued business success and improvement.
While the total cost of ERP ownership is important to monitor, focusing on TCO alone will not justify the time and money spent on an ERP investment. Companies must also focus on the ROI of ERP projects in order to justify continued investment and maximize benefits.
If you are currently considering making an ERP investment or would like to fully utilize your current ERP solution, measuring the TCO and ROI of your investment is key. Download your copy of “ERP: Is High ROI with Low TCO Possible?” now to discover how to properly measure the benefits and total costs of your ERP investment.
If you are ready to take action and need practical advice on the next steps toward reducing costs, click here to sign up for a free 30-minute business consultation.