When selecting an off-the-shelf or developing custom software for your business, you might focus solely on the initial purchase price. However, understanding the total cost of ownership for software (TCO) is crucial to making informed and strategic decisions. Failing to account for all the direct costs, indirect costs, and hidden costs can lead to unexpected challenges, costly overhauls, and even strained budgets.
This guide helps you gain a comprehensive understanding of TCO by discussing why it matters, how to calculate it, and the best practices to make sure you’re not blindsided by additional costs down the line.
What is TCO, and why is it important?
TCO refers to the true cost of acquiring, implementing, maintaining, and retiring an off-the-shelf or custom software system throughout its life cycle. It includes direct costs such as purchase fees and indirect costs such as productivity losses and employee training.
By calculating TCO, your business can:
- Plan budgets more accurately by accounting for all costs upfront.
- Make informed decisions when investing in off-the-shelf software or developing custom software.
- Evaluate cost differences between competing software solutions.
- Avoid unexpected expenses such as maintenance costs or downtime.
- Present a clear case to stakeholders for budgeting and decision-making.
A TCO analysis also identifies key factors such as opportunity costs or soft costs so you can pick a software solution that meets your budget and business needs.
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How to calculate the total cost of ownership for software
To calculate total cost effectively, break it into three main categories:
Initial costs
These refer to the upfront expenses of buying and deploying off-the-shelf or custom software. Key TCO factors at this stage include:
- Purchase price or subscription fee for the software licenses
- Implementation costs, including expenses incurred while integrating the software with other systems or tailoring it to meet non functional requirements
- Quality assurance to test the new software’s performance
- Employee training to facilitate the seamless adoption of the new tool
- Infrastructure costs, especially for on-premises solutions requiring hardware or data storage
Ongoing costs
Once your software is live, several ongoing operational costs must be accounted for:
- Software maintenance to apply bug fixes, install updates, and perform system health checks to keep everything running optimally
- Energy consumption for powering data centres or server hosting infrastructure
- Support contracts for vendors to provide technical help when needed
- Productivity losses and other downtime costs from system performance issues or outages
- Expenses for audits, regulatory adherence, and critical security updates
- Costs related to licensing expansions as your business unit grows and new users are added
For cloud-based solutions, factor in recurring subscription fees, as these significantly affect the overall TCO.
Retirement costs
Every software system, whether off-the-shelf or custom-made, has an end to its life cycle. Some costs related to decommissioning include:
- Safely migrating data to a new platform to avoid loss
- Disposal or recycling of outdated hardware
- Temporary productivity losses during system transitions
- Change management to ensure seamless transition to new technologies
Best practices for calculating TCO
To get an accurate TCO analysis, follow these tips:
Define the scope
Identify the software’s purpose, its users, and how it fits within your organisation’s workflow so that no cost is forgotten when calculating TCO.
Stay up to date on pricing
Run your TCO calculation early in the software selection process to have a baseline of how much you will be spending. Price changes due to market shifts, new technologies, or inflation might impact your decision.
Align costs and savings with your business goals
If sustainability is a major factor for your company, include energy costs and other related expenses in your calculations. Similarly, evaluate features that deliver specific cost savings over time.
Account for growth
If your business plans to scale, include the costs of future expansions such as additional software licenses or users, or upgraded data storage capacity.
Use TCO tools
Simplify your TCO analysis by using specialised TCO calculators, which can guide you step by step and help prevent overlooking hidden costs such as development costs and support costs. These tools can also give you a clearer and more accurate picture of total ownership.
Weigh your options’ pros and cons
A SaaS solution may have a low initial cost but higher operational costs. Conversely, on-premises deployments may demand a larger upfront investment but offer better control.
Revisit and revise
TCO is not static. Conduct regular TCO analysis as your needs evolve, especially after major upgrades or changes in your business unit structure.
Let Manao Software help you make cost-effective decisions
Manao Software understands that calculating TCO can be a complex process, especially with so many factors to consider. Our experts can help you navigate each stage, from software development and deployment to long-term support, so your organisation benefits from a smart investment that results in long-term cost savings.
Schedule a consultation with us to start your journey towards smarter, more efficient software solutions with a clear view of the total cost of ownership.
