Steering Clear of Price Without Value: The Total Cost of Ownership Philosophy

The Total Cost of Ownership Philosophy

Part 2 of a 6-Part Series

Welcome back to The Law of Unintended Consequences Meets Public Sector Procurement, our six-part series on how to navigate the unintended consequences of a public sector procurement process.

In our last edition, we discussed how following the “lowest and best” standard during a procurement process can easily lead to securing the “cheapest and worst” provider. In this edition, we will turn our attention to the ways in which we can steer clear of securing a great price without the value to match. Specifically, we will discuss how you can implement the Total Cost of Ownership (TCO) Philosophy in order to achieve maximum value out of the products and services you purchase on behalf of your organization.

Missed our last edition? Click here to catch up.

It is not uncommon to hear the words “price” and “cost” used interchangeably when purchasing products or services. However, the price paid for a product or service does not equal what it actually cost you, and neither price nor cost always translate into value.

  • “Price” is the sum for which a product or service is bought and sold.
  • “Cost” is that price plus all direct and indirect costs associated with acquiring, paying for, utilizing, and maintaining a product or service over its entire lifecycle.
  • “Value” is what that product or service is ultimately worth to you, the buyer.

The Total Cost of Ownership (TCO) philosophy is a concept that speaks to the reality that price is always a part of cost, but that cost is not always a part of the price. More than just the dollar amount, TCO incorporates both the value of time, and the amount of work (direct or indirect) needed to acquire and maintain a product or service.

For example, let’s say that you are evaluating whether to purchase Car A or Car B. Both cars have the same basic features and functionality. Car A costs $20,000 and Car B costs $25,000. Which car is the better buy?

Well… while the price of Car A is obviously $5,000 lower than the price of Car B, the truth is that we do not have enough information to know which car is the better deal. Car A is only $5,000 less expensive than Car B if everything else is equal. For example, what if Car B gets twice as many miles per gallon, and you drive 30,000 miles per year? What if Car A costs an average of $2,500 per year to maintain, and Car B’s maintenance costs are included for the first 100,000 miles? All questions are centered around getting maximum value for the car you are looking to purchase.

In the end, Car A is, without question, the lower priced car, but Car B may in fact cost you less. This is TCO at work.

Integrating the TCO model into your everyday business practices can undoubtedly impact your bottom line, and in our experience, assist you in steering clear of securing a competitive price without maximum value. So, how do you do that?

At Sourcing Alliance, we integrate the TCO model by doing the following on behalf of our members:

  • Designing request for proposal (RFP) specifications that reduce the total resources (in both hard and soft costs) our members expend throughout the entire life cycle of a product or service.
  • Enabling each participant in our purchasing programs to consolidate multiple contracts and vendors into a single contract with one proven supplier.
  • Accessing pre-established contract terms and service level agreements.
  • Establishing a single bill each month.

Stay tuned for our next segment which will discuss what steps you can take to avoid getting locked into a bad contract.

Read Part 3: Locked in and Locked Out: Contract Horror Stories

As always, our website offers a wealth of knowledge and resources about how you may leverage your Sourcing Alliance membership to secure the products and services your organization needs to operate.

Missed our last edition? Click here to read about how following standard public sector procurement guidelines can easily lead to securing the “cheapest and worst” provider.

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