Total Cost of Ownership

Total Cost of Ownership​

Every purchasing professional should be cognizant of TCO (Total Cost of Ownership). Too many times company spend “stupid” money in the process of obtaining parts, finished goods, or raw materials. Below are a few basic examples:

Computer Company XYZ needs to source a new cable for a new product that is about to enter the manufacturing stage of development. The Sourcing Manager does some research and finds 2 vendors that manufacture the cable. Let’s call the cable “CAB123.” Computer Company XYZ is located in Nevada.

Vendor 1 will sell CAB123 for $1.00/ea. Vendor 1 is located in China.

Vendor 2 will sell CAB123 for $1.25/ea. Vendor 2 is located in Arizona.

At first glance the decision is simple. Vendor 1 sells the part for 80% the cost of Vendor 2. However, we have only identified the cost of the product. We have not accounted for any additional costs like shipping or taxes.

Now let’s look at shipping and see if that changes are opinion. Vendor 1 ships CAB123 in lots of 500. 1 lot of 500 will costs $250 to ship from China to Nevada. You plan on purchasing 1 lot every 2 weeks. Thus, your freight costs will be $500/month. If we add the freight cost ($500) to the cost of the cables (1000 cables x $1.00/cable = $1,000) we have a total cost of $1,500.

Vendor 2 ships CAB123 in lots of 250. 1 lot of 250 will cost $20 to ship from Arizona to Nevada. You plan on purchasing 2 lots every 2 weeks. Thus, your freight costs will be $80/month. If we add the freight cost ($80) to the cost of the cables (1000 cables x $1.25/cable = $1,250) we have a total cost of $1,330.

Additionally, it is important to consider intangibles, such as the distance from the vendor to your facilities. If you get in a bind and need CAB123 quickly, a vendor in Arizona is much more likely to exhibit responsiveness than