A brief introduction to total cost of ownership (TCO)
Total cost of ownership refers to all of the expenses that are incurred when purchasing, implementing, deploying, maintaining, and using a product, tool, or equipment. This also includes any time costs associated with downtime, training, or other productivity losses.
This total cost of ownership, also known as actual cost, quantifies the entire lifecycle of a product and helps determine or assign a more accurate picture of not only the cost, but also the value.
What is the objective of total cost of ownership?
Defining the total cost of ownership is a necessary step taken to assess the actual costs of IT and to determine whether the return or earned business value justifies the cost.
By quantifying the total cost of ownership, leaders can get an idea of the return on investment versus the price of purchase alone. This leads to smarter business decisions and investments, in addition to maximizing existing investments and informing future ones.
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What are the components of TCO?
There are many components that can make up the total cost of ownership, but, generally, TCO is calculated based on the following costs:
- Initial purchase price
- Usage costs
- Quality costs
- Incurred costs
- Disposal costs
- Acquisition costs
- Maintenance costs
In addition to the mentioned components, other elements are:
- Security
- Staffing
- Repairs
- Upgrades
- Sourcing
- Lead time
- Acquisition
- License fees
- Maintenance
- Migration costs
- Implementation
- New equipment
- Employee training
- Support or service delivery
- Risk management
- Method of delivery
- Disaster recovery planning
- Network or system integrations
- Productivity losses due to downtime
There are also a few qualitative factors that go into measuring total cost of ownership, including:
- Reliability
- Performance history
- Customer satisfaction
- User experience
- Environmental impact
- Regulatory compliance
TCO application across different industries (with examples)
Because purchases are essential to running a business, total cost of ownership is an important calculation for all industries — not just IT. However, depending on the sector, TCO components can look slightly different.
TCO components by industry
| Industry | TCO application |
| IT | – Actual cost of direct, indirect, recurring, and non-recurring costs associated with managing IT tools, systems, or platforms for the organization, including: – Initial purchase value – Hardware and software acquisition – Management and maintenance Support Communications – End-user expenses – Downtime, training, and other productivity losses |
| HR | – Actual cost of direct, indirect, recurring, and non-recurring costs associated with managing HR tools, systems, or platforms, including: – Initial purchase value – AcquisitionImplementation Maintenance Support – Integrations Downtime, training, and other productivity losses |
| Construction | – Actual cost of direct, indirect, recurring, and non-recurring costs associated with construction and materials management, including: – Initial material purchase value – Inflation – Design – Development – Production – Operation – Maintenance Facility or asset management Disposal – Repairs |
| Procurement | – Actual cost of direct, indirect, recurring, and non-recurring costs associated with purchasing a product or service from a given supplier beyond initial purchase price, including: – Inflation Delivery Sourcing time Maintenance – Repairs – Upgrades – Disposal – Spot purchasing – Supply chain management – Regulatory and compliance costs |
TCO application example
Picture a software buying team in the discovery phase of a search for a no-code process management solution. During this time, they’re considering the immediate and long-term costs associated with whichever software they choose.
The options are down to two, so they’ve decided to conduct a TCO analysis before requesting additional information and demos. To determine total cost of ownership, the team completes the following steps to identify annual TCO:
- Determine the initial, up-front purchase cost (direct cost i.e. cost owed upon close)
- Define the length of ownership (average technology lifecycle is 5-7 years)
- Determine and assign a value to each additional cost (indirect costs i.e. training, implementation, maintenance, in-house development, and customization)
- Determine and assign a value to recurring costs or ad hoc costs (proactive planning i.e. data recovery, license management, upgrades, enterprise growth, recurring fees)
- Consider the qualitative factors that may affect TCO (i.e. reliability, technical support, performance, regulatory compliance, etc.)
Once all values are calculated, the team will sum up the initial purchase price (Step 1) and costs of operation across the purchase lifespan (Step 3-5).
The strategic importance of TCO in decision-making
With a full understanding of actual total costs, decision-making is much more precise and cost-effective. In the end, a TCO analysis provides better, more sustainable, and predictable long-term value — all essential qualities for a strategic operation.
For example, for procurement, total cost of ownership is necessary to determine which supplier offers the better long-term value, which, in turn, helps prioritize investments, negotiate better contracts, and select the most cost-effective vendor or supplier.
Methodologies for calculating TCO
There are various ways to calculate total cost of ownership. No matter the methodology, various core elements carry across each one, including initial purchase value, indirect costs (like maintenance or downtime), and remaining value (or value over the long term).
Below are additional formulas for calculating total cost of ownership:
- Initial purchase value + indirect costs + hidden costs
- Initial purchase value + maintenance costs – remaining value
- Initial purchase value + costs of operation across purchase lifespan
- Initial purchase value + cost of operation + cost of maintenance + cost of downtime + cost of production – remaining value
How to maximize total cost of ownership
Optimizing total cost of ownership not only improves short-term costs, it can also lead to much greater long-term savings and value. A common misbelief is that lowering costs begins and ends with negotiating a lower initial purchase cost, but optimizing TCO requires a big-picture strategy. Follow these suggestions to improve total cost of ownership.
- Spend more to save more. While this may seem counterintuitive to saving, accounting for additional costs upfront can help lower costs in the long run. For example, choosing to spend more on maintenance or adding some additional preventive maintenance for possible downtime can help keep costs down and operations running smoothly in the case of an emergency.
- Minimize downtime. There’s a saying that goes: you get what you pay for. To minimize downtime, opt for a more cost-effective and reliable purchase — not a cheaper or more time-consuming one. By increasing the time between services, TCO sustainability is greater. While a higher purchase cost doesn’t necessarily mean less maintenance costs, there is a correlation between greater investments, less downtime, and faster recovery.
- Invest in preventative maintenance. Maintenance, whether it’s reactive or proactive, translates to downtime that can affect productivity, which sometimes leads to higher costs. In a similar strategy to spending more upfront to save in the long run, investing in preventative measures to reduce downtime helps optimize TCO. Whether it’s creating a routine maintenance procedure or training employees to report bugs, preventative maintenance measures can improve long-term savings.
- Invest in change management and employee training. Quiet costs that can occur when implementing a new system, tool, or software are those associated with adoption and change management. It’s important to spend time training employees and aligning them — from the C-suite to interns — on purpose, goals, and procedures when adopting a new tool or software.
Optimize TCO with Pipefy
Proactive TCO management is a fundamental aspect of strategic business planning. Not only does it help businesses better align goals with budgets, but it also helps anticipate any costs incurred during a product’s or service’s lifecycle. This leads to better planning, higher-value asset management, and more data-driven insights into purchasing decisions and improvements.
With Pipefy, proactive management is made easier. Built-in security features and a 99.9% or higher uptime reduce the costs associated with maintenance and potential productivity losses.
As a scalable solution with a high adoption rate and myriad integrations that cut costs due to errors, eliminate process gaps, and reduce communication interruptions, Pipefy is the secure and cost-effective solution trusted by countless IT departments.
