Return on Investment vs Total Cost of Ownership of It Projects

Topics: Rate of return, Investment, Net present value Pages: 3 (1128 words) Published: August 7, 2013
Return on Investment (ROI) and Total Cost of Ownership: A Comparison

Introduction
When a business decision is made to make an investment, the need for metrics arises to decide the profitability of the investment. These metrics can be measured before an investment is made to gain an insight into expected returns or they can be measured at regular intervals, (quarterly or yearly) to analyse the profitability of the investment. There are quite a few metrics that are used to calculate profitability of investments, but the most popular among them is the “Return on Investment” (ROI), a performance metric used to measure the efficiency of an investment. The “Total Cost of Ownership” (TCO) is another metric that can be used to calculate the overall cost of an investment, which can in turn be used to calculate the profitability of that investment. Traditional investment can be easier to measure using the above mentioned metrics, however, IT investments poses some challenges when measuring these metrics.

Return of Investment and Total Cost of Ownership
Businesses invest millions in their IT infrastructure, and therefore they mandate the use of proper metrics to be able to predict or view the results of their investment. Hence, the role of metrics like ROI and TCO become pivotal in making investment decisions. Return on Investment or ROI, is in its most basic form, as described by Erdogmus et al. (2004), is the ratio of the net benefits to costs and can be represented as: ROI = (Benefits – Costs) / Costs * 100

Studying ROI metrics is considered one of the key steps in making an investment decision. However, it is not as straightforward in the case of an IT investment decision based on its ROI because the returns are not easily quantifiable, when compared with investments made in other domains. As ROI becomes difficult to quantify, another metric that gains prominence is the Total Cost of Ownership (TCO) of an investment. Bailey and Heidt (2003) describe TCO as a...

References: Bailey, J.T. & Heidt, S.R. (2003) "Why Is Total Cost of Ownership (TCO) Important?", Darwin Magazine, pp.1–3, [Online] Available fom: http://bizmaxs.com/documents/Why%20is%20TCO%20important.pdf.
Erdogmus, H., Favaro, J. & Strigel, W. (2004) "Return on investment", IEEE Software, 21 (3), pp.18–22, [Online]. Available from: http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.195.3158&rep=rep1&type=pdf.
MacCormack, A. (2003) Evaluating Total Cost of Ownership for Software Platforms: Comparing Apples, Oranges and Cucumbers, [Online]. Available from: http://ideas.repec.org/p/reg/wpaper/168.html.
Nash, K., S. (2008) “TCO versus ROI” CIO [Online] Available from: http://www.cio.com/article/331763/TCO_versus_ROI (Last Accessed: 11 June 2013).
Stratopoulos, T. & Dehning, B. (2000) "Does successful investment in information technology solve the productivity paradox?", Information & Management, 38 (2), pp.103–117, [Online]. Available from: http://www.sciencedirect.com/science/article/pii/S0378720600000586.
Weill, P. & Olson, M.H. (1989) "Managing Investment in Information Technology: Mini Case Examples and Implications", MIS Quarterly, 13 (1), pp.3–17, [Online]. Available from: http://www.jstor.org/stable/248694.
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