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Guest Post: Total Cost of Ownership

February 26, 2014

john bowlerOur Guest Post today comes  from John Bowler, who is Visiting Professor at DeVry University’ s College of Business.

As the Heizer/Render OM text suggests in Chapter 11, the collaborative relationship between buyer and supplier should yield the lowest total cost of ownership (TCO). TCO is the sum of all direct, indirect, and opportunity costs over the life cycle of a purchase. The goal of the TCO approach is to obtain the most economical total price and not necessarily the lowest initial price. This is the focus of many successful collaborative supplier-client relationships.

The elements of TCO are (but not limited to): Item price; Item ordering cost; Transportation costs; Receiving costs; Inventory carrying cost; Shortage cost; Warranty cost; and Aftermarket/preventative maintenance cost.

TCO composition varies by the type of product, the product’s life-cycle stage, supplier’s location, the buyer’s production methodology and/or method of service delivery. Determining the TCO can be a challenging task. One way to start is to identify the supplier’s costs (or contributions) in regard to the following:

  • Integration relates to how well the supplier meshes with the buyer’s established infrastructure and processes to include the ease by which information flows both ways between buyer and the supplier. In today’s supply chain, timely and accessible information flow is very much as important as on time, in spec, delivery of the product or service.
  • Collaboration relates to the ease of doing business with the supplier.
  • Synchronization refers to supply chain capabilities such as the flexibility to drop ship direct to the end user.
  • Leverage focuses relates to the competitive advantage a supplier contributes to the client’s competitive capabilities.
  • Acceptable risk relates to the level of the supplier’s reliability and resiliency in supporting the buyer’s ability to maximize chosen profit opportunities.

TCO data-driven conclusions provide a competitive advantage to firms across various industries. Thinking outside the box of ways to maximize profitability in supplier relationships rather than calculating ways to minimize supplier costs will earmark industry leaders in the future.

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