Calculating the Total Cost of Ownership for Enterprise Software

August 3rd, 2021

Evgenia Kuzmenko

Do you always pay more when you outsource software development? Is your outsourcing vendor charging you extra fees during deployment? If so, this is the post for you. Discover how to compute the total cost of ownership for custom software.

According to a 2021 report, the cost of developing a simple app ranges from 40,000 USD to USD 50,000. This price can vary depending on the complexity of the software. Organizations frequently embark on the app development process with no idea of the total cost. Calculating the TCO of your project is a good way to predict its cost-effectiveness. The TCO (Total Cost of Ownership) directly impacts the ROI (Return on Investment) because it determines the profitability of a project over a set period.

Therefore, to calculate the ROI correctly, you must first determine the TCO. The issue is that when deciding to build enterprise software, teams consider only certain costs while ignoring others. The scope of work for custom software development, developer recruitment stages, QA processes undergone during testing, operation, and maintenance throughout the SDLC are all frequently overlooked aspects that accrue as hidden costs.

It is also important to keep in mind that TCO can fluctuate over time. It may be higher at first due to the need for training, for example, but it will eventually fall as the costs of servicing and support change, increasing the risk of failure and associated downtime. If you’re having trouble figuring it out, don’t worry; in this post, we’ll walk you through the main steps and factors of enterprise software price estimation.

What does cost of ownership mean and what are some real-world examples?

The total cost of ownership (TCO) includes all costs of designing a product or service incurred throughout the development life cycle. These expenses are related to the planned IT solution both directly and indirectly. The direct expenditure, for instance, includes hiring and administrative expenses and indirect costs could be the downtimes. 

The difference between running costs and capital expenditure is an important factor when calculating the total cost of ownership of a system. TCO cost measurement allows you to uncover the full costs of a given IT system and the overheads of changed components.

Examples of TCO

Investing in a banking solution is one example. You’ll need to conduct a thorough analysis of the total cost of ownership. Of course, the base cost of software development is taken into account, but there are additional costs to consider:

• Recruitment: costs from job posting, agencies, hiring events, HR, developers salaries, interviews, hiring tools. 
• Testing: costs of performing functional and non-functional testing. 
• Maintenance: costs of future upgrades, retesting, debugging, etc. 
• miscellaneous: any unforeseen expenses that may arise.

Using these costs as a guide, you can calculate the benefits and drawbacks of developing custom software versus purchasing off-the-shelf systems. You can also predict the overall success of your project, whether on an ongoing or future basis. Finally, on a smaller scale, product owners use the TCO to make purchasing decisions.

In the second example, consider a global brand like Google deciding to obtain proprietary software to improve its services and products at a cost of $10,000, but before doing so, it will consider the total cost of its financial decision from purchase to disposal, as the purchase could initially cost $1,000,000, but additional costs of training, setting up, repairs, and so on coexist.

Because of the flaw in the business analysis, the extra cost of $900,000 must be met regardless of whether the full cost of the purchase decision was known at the outset or not. If a company is unable to account for the full cost, the company’s operations will suffer.

Understanding the total cost of ownership is critical because it allows owners to make better financial decisions. As a result of sound cost-cutting policies, businesses can avoid unforeseen expenses that they would not be able to account for and improve their profitability and efficiency.

Another example of the Total Cost of Ownership is renting an apartment. While the upfront fees are readily available, you may be required to pay for a variety of other items. Assume the apartment requires you to pay for the insurance. That is only one side of the coin. You’ll also need to consider things like:

• Moving expenses from your previous residence to your new home
• Agency commissions
• Security fees

Breaking TCO costs in software development outsourcing

The IT-outsourcing market was expected to generate 163.5 billion US dollars in revenue in 2018. The IT-outsourcing market is expected to be worth approximately 179.8 billion US dollars by 2021. While more businesses are joining the bandwagon, the success of any IT outsource project is heavily reliant on strategic planning. And the TCO plays a significant role in this.

Therefore, the decision to outsource the development of custom software is frequently based on reducing costs by comparing and contrasting the efforts of an expensive software development team and a cheap software development team. It is prudent to be aware that the cost of outsourced software operation may increase exponentially due to factors that a business may or may not be familiar with, and these factors that may affect outsourced software development are as follows:

• Risk
• Integrity
• Efficiency
• Method 

Risk

The sheer number of failures in the execution of software development is one key factor that drives businesses to hire a costly software team that prioritizes the success of the business operations over anything else. Well-paid services result in the best services rendered, and this is the motivation for business decisions, as opposed to taking the risk of hiring an incompetent software team that will commit to shoddy work and stalls the business operation.

Integrity

The integrity of the business software is an important consideration for a business because it is frequently more expensive to account for the debt caused by bug-ridden software when this could easily be avoided by hiring an expensive team that is very competent and thus giving the business tangible cost benefits.

Efficiency

According to industry standards, the quality of output from an expensive hire is more than ten times that of a cheap hire. Because resources are limited, it is preferable to go with the proven efforts of an expensive hire to avoid wastage and double allocation of resources.

Method

The benefits of a well-oiled team often boil down to the ability to collaborate effectively within the team, and the conduciveness of a business environment for work is critical to improving the business’s outcome to work ratio, timely delivery of tasks, cost of idle pay, and so on. These advantages are associated with the services of expensive hire, as opposed to cheap hire.

How much does it cost to find/hire software developers?

The cost of finding and hiring software developers is hinged on finding the best software developers using a cost and benefit ratio that puts the gains as being tangibly higher than the cost, and a recent study puts a large difference between the supply of competent software developers and the demand for them, with the duration of 42 days given as the minimum time it takes for a business to find and recruit a high-quality agency. To ensure the process of recruitment is done tactfully, these are the due considerations businesses should go through:

• Finding the right agency
• Recruitment cost
• Efficiency cost

Finding the right agency

Businesses are encouraged to take due consideration in choosing an agency for their software projects, as the choice of the right software agency means a similar cultural identity and process between the vendor and the business.

 A choice of the right information technology agency means all expenses incurred by the vendor are optimized and the service delivered enhances communication and collaboration within the business. The cost of finding the right agency for software projects is often within 15% to 30% of the annual pay for the services of the IT agency.

Recruitment cost

This cost comprises the expenses used in processing the vetting of the software developers to work with, the consultation, training, and induction. These four stages make up the cost of the recruitment as it takes a toll for a business to expand its resources in finding the right business to team fit.

This stage costs more as there is the dedication of special resources that could otherwise be utilized elsewhere to ensure that operations of the business are always a going concern.

Efficiency cost

The loss due to efficiency occurs as a result of a stall in the operations of the business, due to positions being left vacant that should otherwise be occupied. The zero productivity of the open position means the business is not producing optimally.

This cost is often overlooked when analyzing the business turnover, but concrete research indicates that it is a bad business decision to leave a position vacant, as it hurts businesses in ways that are hidden, yet significant, similar to how a firm total cost of ownership considerations should not only account for costs that can be felt initially but inclusive of costs that are great, and seemingly invisible.

What about the operating expenses?

The operational cost of software development for a business is the cost function of a business information technology division that shows the activities that make up the business expenses and some of these activities are explained below: 

• Assembly of  technical requirements 
• Environment establishment 
• Developers recruitment across all levels for a business fit
• Management of the legal, financial, and environmental work for developers.

Assembly of requirements

This is one of the cores of the operational cost for a business as it provides answers to questions about the expectations of the project,  the objectives and activities, how to approach the documentation of requirements tracing, requirements analysis and storage. 

These activities under the assembly of requirements are key because it guides the running of the project from the start to the end, as it goes through filtering activities that are essential from the non-essential activities that aid software development. Every software development project has a purpose, means to carry out the purpose, and an outcome the software development project seeks. This gives the software development team a direction and helps with the coordination of all the steps needed for a quality outcome.

Setting up the environment

When developing an application, the cost of various environment setups based on the stage of development must be considered. This would include the cost of establishing:

• Development environment.
• Beta environment.
• Production environment.

The development environment is where your application is created, and developers complete the coding process. The development environment is typically set up on local PCs, with work aided by a Git repository. Once the developed software product is ready for release, the beta environment is established. The primary but not exclusive goal of the beta stage is to test the software. As a result, costs are incurred across both developer testing and product testing by real users. The final environment configuration will be the production environment. At this point, the software is ready to go live, and comprehensive testing must have been completed.

Developers recruitment across all levels for a business fit

Organizations look for applicants who will readily fit in during the hiring process. Therefore, costs of training, creating a recruitment policy, active search and screening, applicant testing, and the onboarding of new entrants are incurred to accomplish this. Dedicating a portion of your expenditures to hiring makes the process smooth for both recruiters and candidates and assures that applicants will perform effectively and keep productivity high if hired.

The management of the legal, financial and environment work for software developers

The effective management of the developers ensures that the remuneration of software developers is timely and work is carried out without infractions of any kind, and the same applies to the working environment for developers. A conducive environment irrespective of the cost implication will always bring higher turnover than an environment that is poorly monitored and set up to reduce businesses expense. The end for most businesses is to minimize costs as much as possible and make revenue as high as feasible.

Conclusion

The total cost of ownership can’t be overlooked as its analysis is essential in preventing unnecessary future losses that can arise from focusing only on the immediate direct costs of a purchase.