Lessons Learned: Calculating the Total Cost of Ownership [Financial Sustainability] for Government Resource Planning

Posted on August 15, 2012 in PFM

Doug Hadden, VP Products

Why is Total Cost of Ownership (TCO) so important?

• Governments implement Government Resource Planning (GRP) or Enterprise Resource Planning (ERP) software to improve fiscal discipline, government efficiency and improve Value for Money (V4M).
• The initial cost for enterprise software may not reflect the overall cost or Total Cost of Ownership (TCO) experienced by government organizations. Governments can show VFM fiscal discipline by analyzing all internal and external GRP acquisition and maintenance costs across multiple years.
• Many government organizations fail to calculate many long-term internal costs required to use, manage and maintain GRP software over many years.
• TCO is critical to financial sustainability because governments are engaged in on-going Public Financial Management (PFM) reform. TCO should consider more than the maintenance of a “steady state.”

Average cost by category for Enterprise Software differs among analysts depending on data completeness, category definitions and duration analyzed. Nevertheless, studies show that consulting for implementation tends to be the highest cost.

Why is TCO Such a Problem in Enterprise Software?

• Moderate to high implementation costs ranging from a 1:1 ratio in the private sector to 3:1 to 15:1 in the public sector with examples where services significantly exceeded other costs.
• Average TCO measured at over $50,000 per user in one analyst study making this cost material to government budgets. Governments are legally “budget-driven” where high TCO and unexpected cost overruns may require supplemental budgets or extracting funds from other priorities.
• High maintenance costs that originate from maintaining complex code and problem troubleshooting, and difficult upgrades that can increase TCO after the initial implementation.
• High upgrade costs increase the TCO where ERP upgrades are estimated to be ½ the value of the original license fee and 20% of the original implementation costs where experts warn that organizations should expect to pay as much as 3 times the original ERP software cost to upgrade to new technology
• Unexpected risk costs were average implementation variance of 2 and 4 months over schedule in one study, average variance for ERP projects was 230% of schedule in another study , and up to 80% of ERP exceed time and budget estimates in a third study.
• Additional sustainability costs for staff retention and certification. Some ERP solutions have expensive functional and technical training course to certify government staff. Government employees can leverage this certification to join private companies. Governments need programs to retain talent and prevent this “brain drain”.

What are the Acquisition Costs for GRP Software?

• Internal personnel costs and consulting fees for needs analysis and the development and maintenance of a request for proposal. Procurement costs including engaging financial and IT experts throughout the process. Government procurement cycles for GRP tend to be lengthy.
• Computing hardware, networking and required bandwidth for the computing infrastructure to support the GRP. This includes disaster recovery sites, testing centre, provisioning of reliable power and long-term telecommunications contracts. This also includes the personnel costs to accept shipments of equipment.
• Middleware software including security, database, load-balancing, operating systems and systems management tools necessary to support the implementation.
• The GRP software license costs are typically based on the number of (named or concurrent) users or size of the government.

What are the GRP Implementation Costs?

• Project management costs including dedicated employees to project, program management office, communications and meetings.
• Installation, provisioning and set up of the GRP software and middleware.
• Internal personnel costs and consultant costs to articulate the current business processes, legal requirements, forms and report requirements.
• Internal personnel costs and consultant costs for any changes to current processes required by the software or good practices. This could include comprehensive business process re-engineering and additional staff training.
• Data conversion costs including quality assurance. This can also include data completeness analysis where information that is not in the current system needs to be uncovered from other sources.
• Internal personnel costs and consultant costs to manage old and new systems in parallel.
• Configuration and customization costs, typically accomplished by external consultants or software vendors. This covers adapting the core software and integration, reports and forms.
• Internal personnel and consultant costs for piloting, analyzing and acceptance testing following quality assurance processes.
• Technical training for middleware, networks, computers and systems management. Functional training for GRP users.
• Development of any special documentation or user guides that describe the government processes and how these are accomplished within the software
• Additional implementation phases may occur such as adding additional software modules, more users or new government entities.

What are the On-Going Costs for GRP?

• Maintenance costs for all hardware and software purchase, which includes vendor customer support. This is typically an annual contract.
• Government personnel acting as first line support for equipment and software. This also includes case management to track bugs and enhancements while maintaining the vendor relationship
• System tuning of databases, operating systems and networks as number of transactions increase.
• Changes to configuration and customization of reports or forms accomplished by internal staff or consultants.
• Bandwidth, telecommunication, electricity and rental/lease/space costs.
• New fiscal year processing including carry-over of previous year funds accomplished by internal staff or consultants
• Upgrade costs associated with moving to newer software versions. This includes change management to ensure that any customization accomplished in the previous version is added to the next, testing and acceptance.

What are the Hidden Costs in GRP?

Total costs change through the lifecycle of GRP usage where imple
mentation costs are higher that additional year steady state. Additional per year costs can mount because of software upgrades, government modernization and unexpected costs.

• Lost productivity as systems are run in parallel and the employee learning curve.
• Reduced efficiency by adding so-called “best-practices” that adds complexity to existing processes.
• Change management costs for new government regulations and training on processes within the software.
• Disaster, lost data, business disruption through late implementation or system failures including audit and reporting disruption.
• User conference and training travel and expenses charges to keep up-to-date on software changes.
• License audits where vendor demands additional payments
• Maintenance options may require additional payment to achieve necessary service to overcome problems.
• Unexpected add-ons when product portfolio does not meet entire requirement.
• Middleware changes such as operating system or databases outside the GRP system upgrade period.

What TCO Factors are more Important in Government than the Private Sector?

• Adapting a private sector financial system for government often increases customization work to support legal processes and public sector financial standards. Software designed for the private sector tends to require significant upfront customization costs.
• Larger technical footprint of ERP systems means requiring multiple computers and application servers and consuming large amounts of disk space that increases the TCO beyond the initial cost. The sophistication of the larger technical footprint requires more internal support, better software tools and higher technical capacity.
• Lower technical capacity in the public service in some countries can increase TCO. Some ERP applications require significant technical knowledge to implement and support, including systems management and database tuning, often requiring permanently contracted external consultants.
• Lower accounting functional capacity of the public service in some countries may require additional financial management training. Some systems are designed for more complex accrual accounting. Other systems have complex business processes that must be followed by public servants.

Software designed for Government, GRP, tends to have a lower TCO that software designed for the private sector, ERP. Based on analysis of turnkey TCO proposals, FreeBalance compared to Tier 1 ERP Vendors.

How does the Choice of GRP or ERP software affect TCO?

• Adaptability: code customization (including software code, call-outs, scripting) costs more than configuration for implementation and significantly more for software upgrades because customized code has to be maintained.
• Footprint: hardware and bandwidth footprint including replication services can add significantly to space, equipment and electricity costs.
• Leverage: importance of the government market to the software manufacturer is critical to ensuring that product upgrades meet emerging needs otherwise customization costs increase year over year.
• Governance: many GRP projects create governance structures with Systems Integration firms but not the software manufacturer. This reduces commitment to meeting government needs over time.

What is a Risk Management Approach to GRP TCO?

• A risk management approach identifies risk factors, risk appetite and risk mitigation strategies. Example of risk factors include: organizational capacity, vendor success ratio, extent of expected customization.
• Risk factors can be used to calculate an expected budget overage. Risk mitigation strategies add costs. Both factors can be used when determining the potential TCO for any software acquisition.

What are some TCO in GRP Good Practices?

1. A risk management approach based on industry experience in similar projects, the extent of required customization and the level of commitment by the software manufacturer to the government market and to the government customer can be used to calculate expected budget overages. Some hidden costs can be estimated. Governance structures and leverage with the software manufacturer should be included in the risk calculation.
2. A long-term project approach should identify increased per-year costs by vendor version upgrade path and upgrade policies. The multiple-year project plan should act as input into the IT budget.
3. Government experience with software vendors should be modelled to determine expected implementation and maintenance costs.
4. A “turnkey” approach should be used by committing a single provider or consortium to assume a fixed-price schedule.
5. Internal costs should be modelled as part of the TCO calculation. This includes the expected costs for additional training and certification. (Prices for courses are publicly available.) Employee retention and turnover should be analyzed.
6. Customization costs for the initial implementation should be used as an anchor to calculate future software upgrade and customization changes. Industry figures for average duration of upgrades should be used.