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StrategyDriven Alternative Selection Article

Alternative Selection – Total Value of Ownership

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More and more prevalent in business case evaluations today is the concept of the total cost of ownership whereby organizations evaluate the collective expense associated with a given initiative or asset over its entire life. Comparing initiatives on this basis alone however, fails to consider the offsetting benefits the organization would realize over the investment’s lifetime as calculated during return on investment (ROI) estimations. In order to effectively compare competing proposals, organization leaders should evaluate the total value of ownership of each investment alternative.[wcm_restrict plans=”40819, 25542, 25653″]

Put simply, the total value of ownership is represented by the cumulative lifetime benefits associated with an investment less the sum of its costs. This calculation expands on the ROI estimate traditionally used by recognizing the ongoing rewards and costs associated with investment opportunities rather than relying on more simplistic point-in-time or short-term returns and costs.

Total Value of Ownership = Total Benefit of Ownership – Total Cost of Ownership

Calculating the total value of ownership can be difficult. Not only does the accuracy of estimation decline as the projection period increases but the qualitative nature of some benefits and costs makes joining these factors challenging. (See the StrategyDriven articles Total Benefit of Ownership and Total Cost of Ownership for the specific calculation method.) To address this challenge, we recommend reasonable, consistently used, and well-documented conversion factors be applied to all qualitative factors such that each is converted into monetary terms for the purpose of joining the benefits and costs of ownership estimates into a single total value figure. Organization leaders are then able to compare the merits of very different initiatives against each other.

Final Thought…

As with all things StrategyDriven, the total value of ownership should not be used as the sole basis for initiative comparison and selection. A broader view should be taken that includes initiative characteristics such as alignment with mission goals and the organization’s capability to successfully execute on the selected alternative. That said, we believe the total value of ownership remains a critical component of any comparative analysis.[/wcm_restrict][wcm_nonmember plans=”40819, 25542, 25653″]

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StrategyDriven Alternative Selection Article

Alternative Selection – Total Cost of Ownership

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All too often, executives and planners focus on the cost of implementing a project and omit recognition of the other associated costs accompanying the resulting outputs once the project is completed. Even if those costs are accounted for, other hidden costs, such as the reduction of future operational flexibility and options, can be overlooked. Overlooking these costs can significantly impact an initiative’s return on investment; inappropriately inflating the investment’s value to a point where an otherwise unacceptable pursuit appears to be worthwhile. Therefore, when selecting from among the myriad of business operations and initiative opportunities it is important to fully examine the total cost of ownership.[wcm_restrict plans=”40831, 25542, 25653″]

Costs of Ownership

While not intended to be all inclusive the following are some of the more significant liabilities associated with any initiative:

  1. Cost of project scoping and planning
  2. Cost of project execution
  3. Cost of project implementation
  4. Cost of lost productivity during the project’s implementation resulting from a natural learning curve
  5. Cost of ongoing operations and maintenance
  6. Cost of future upgrades (particularly associated with technology projects)
  7. Cost of existing personnel ongoing and new personnel onboarding training
  8. Cost of decommissioning and disposal
  9. Cost of lost flexibility because of project output constraints on business structures, processes, interfacing systems and information/data sharing, etc.
  10. Cost of increased response time to changes driven by the market and technology
  11. Cost of future proliferation associated with business growth, mergers, and acquisitions, etc.
  12. Cost of lost present and future opportunities resulting from project and operations and maintenance costs
  13. Cost of ownership risk (reputational, personnel, and financial) mitigation, transference, elimination, and management

There exists some other more obscure costs of ownership including:

  1. Cost of employee departures for other employment opportunities resulting from the expertise gained during the project’s development and implementation
  2. Cost of employee departures for other employment opportunities resulting from organizational resistance to the project’s implementation
  3. Cost of lost productivity resulting from employee resistance to change
  4. Cost of employee attrition from those leaving the organization because they do not want to change

Calculating the Cost of Ownership

Calculating the total cost of ownership can be difficult. When doing so, the following guiding principles can help to create a credible estimate:

  • Estimate all costs in common monetary terms using organizationally acceptable conversion factors where applicable
  • Apply organizational, pay grade, or other group averages for employee pay scale costs
  • Include the employee’s total cost of employment – compensation, benefits, etc.
  • Convert future costs to present values (Net Present Value or NPV)
  • Thoroughly review and document the project or business operation for all of development, implementation, operation and maintenance, and decommissioning and disposal costs
  • Use internal and external benchmarks from like projects or operations when available and where appropriate for costs, frequency of occurrence, etc.
  • Use weighting factors to account for uncertainties
  • Develop total cost of ownership ranges accounting for optimistic, most likely, and conservative assumptions

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[/wcm_nonmember]Additional Information

Many project costs often go unrecognized. StrategyDriven’s Project Management Warning Flag – Unfunded Activities provides additional insights to the warning signs indicating not all project costs are being appropriately included in overall cost estimates.