Back to Basics: TCO vs. ROI
What is the difference between TCO and ROI? It's a seemingly simple question, but it has great implications. Each measure will have a different value when you are figuring out the financial effects of your technology investment. Often these terms are tossed around interchangeably, but they are not the same.

Total Cost of Ownership
The Total Cost of Ownership (TCO) is arguably the simplest calculation -- it simply adds up all the costs associated with a particular IT investment. TCO typically is used for comparative purposes such as matching up the costs of one ERP/CRM solution versus another. To decide what the cheaper solution is, you obviously need to know the software costs. However to be able to determine the Total Cost of Ownership you also need to know:

	Discover Your TCO for ERP and CRM Customize your own TCO analysis for ERP and CRM. Choose your vendor: SAP, Oracle, or Peoplesoft and select your application: Supply Chain Management, Financials, Human Resources, Manufacturing, Business Intelligence and more. Compare Unix platforms side-by-side, to see the technology choices that are most effective for you. Try it now!

• Advanced table and index partitioning
• Number and cost of servers required
• Additional storage needed
• Support and maintenance costs
• Professional services required for implementation
• IT staff required for ongoing support
• Networking expenditures
• Training costs
• Facility requirements
• Downtime associated with each solution

In the ERP/CRM example, the software cost of such a solution is usually less than 20% of the total costs. TCO, therefore, represents a very important way to compare one ERP/CRM vendor to another, because it captures the costs beyond the software price. However TCO tells the customer nothing about the benefits of the solution; it is strictly a comparison of which vendor is the lowest cost provider.

Return on Investment
In contrast, Return on Investment (ROI) largely is focused on measuring benefits to see if they exceed the costs of implementing a specific IT project. Return on Investment can be confusing because it describes a very specific financial calculation at the same time it is used as a collective representation of a suite of calculations that include ROI, NPV, IRR and Payback.

Put simply, an ROI calculation takes the benefits of a project divided by the costs, and expresses that calculation as a percentage over a specific time period (usually 3 years). Therefore, the ROI for an ERP/CRM solution could be 58% over 3 years. Net Present Value (NPV) calculates the benefits of a solution, minus the costs (after taxes and discounting) and is expressed in dollars. The Internal Rate of Return (IRR) is a more mathematically sophisticated version of ROI, which calculates the cost of capital when the ROI is 0%. Finally, Payback Period is a simple concept -- the time it takes to get your money back from the project, expressed in years and months.

These four measures together - ROI, NPV, IRR, and Payback -- are collectively thought of as ROI and allow a CFO typically to decide whether a particular project meets the company's financial goals. Some companies will place more weight on projects with a large NPV, since those projects will have a bigger impact on the business. Often, smaller companies, where cash flow is more an issue, may use some combination of payback and ROI to make a purchase decision.

A Two-Prong Approach
Customers planning any significant technology investment would be wise to complete an ROI analysis first. The ROI analysis will determine the financial significance of the project, and the speed of payback. Then, once you have a good business case, conduct a TCO analysis on at least two vendors, but preferably three. A thorough TCO analysis will pinpoint where the differences are in solution costs, over a multi-year timeframe. This two-phase approach ensures that you will not only get a good return, but that you ultimately will work with the most cost-effective vendor.

	ROI versus TCO: Digging Deeper Take a Spin on Our ROI and TCO Web Calculators CIOview produces both ROI and TCO software. We have "PreView" versions of each type of tool on our Web site. If you'd like to take our 5-minute PreView for a quick spin from this eUpdate, here is an example of each analysis: ROI - PreView of ROInow! for Data Warehousing TCO - PreView of TCOnow! for Server Consolidation Explore ROI and TCO on our Web Site What are ROInow! and TCOnow!? White Paper: How to Calculate ROI, NPV, Payback and IRR Ask the Experts: Why do I need to know NPV for my IT project? Isn’t ROI enough?

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