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HOW TO CALCULATE TCO AND ROI

29 November 2018

HOW TO CALCULATE TCO AND ROI

Thinking of investing in technology for your factory? Wondering how to evaluate the actual value that new machinery can bring to your operation? Want a reliable way to measure the true cost of a new packaging project?

Achieving a clear, accurate snapshot of how new packaging equipment such as palletizers, bagging systems, and scales can impact your company is critical when considering a major capital expense. After all, there’s a lot at stake here—and there isn’t one single formula or set of rules you can follow to assess your options when acquiring new machinery.

This is a process that requires you to dig deep into the metrics that make your organization run—factors including labor costs, real estate expenses, projected revenue, and growth potential are all variables in the equation here.


First, let’s go over some terminology.

  • Return On Investment —ROI: A well-known benchmark used to estimate the gain on an investment in comparison to the initial amount invested.

  • Total Cost of Ownership—TCO: A projection of the expenses associated with purchasing, deploying, using, and retiring a product or piece of equipment.

  • Payback Period: A calculation of the number of years needed for the equipment to pay for itself, otherwise known as the 'break-even' point.

  • Useful Life: The lifespan of a product, measured either in terms of time (hours, days, months, years) or cycles.

  • Residual Value: What the equipment is worth once it has reached the end of its useful life in relation to your specific application.



LOOK BEYOND THE ROI

ROI is the industry standard with regards to capital expenditures, and when it comes to purchasing new equipment, there’s a lot to consider when calculating this critical metric. Despite the prevalence of management tools and formulas designed to streamline the process of determining the ROI of new machinery, the fact is that these formulas fail to account for the unique factors that influence the ROI within your specific application.

That’s not to say that ROI calculations should be disregarded altogether; standardized ROI formulas should simply be viewed as a basic outline that you can use to generate a customized metric that represents one aspect of the TCO of an investment in automated equipment.

Corporate meeting and company growth, Photo by rawpixel on Unsplash


CONSIDER THE TOTAL COST OF OWNERSHIP

The initial cost of a capital purchase usually represents a big chunk of the budget, but what if after running down all the costs and expenses generated from a project, you realize that the actual purchase price of new packaging equipment represents less than 10% of all your expenses?

Sounds crazy? Absolutely not. There are multiple factors to evaluate when assessing the total cost of ownership of machinery. The most obvious one is the acquisition costs, including the purchase price of your new equipment, but there are also delivery costs, installation and commissioning and training as well. But there’s even more.


INCREASED EFFICIENCY = LOWER COST OF OWNERSHIP

One of the undeniable advantages that automated packaging machinery brings to the table is performance and accuracy, which can represent up to 50% of the total expenses related to a project. Problems like product giveaways, incorrectly sealed bags, and damaged products are virtually non-existent with the right machinery, which in turn brings down the TCO while increasing profit margins.

Another important consideration is the projected maintenance and utility costs, including regular servicing and anticipated downtime. Companies that are looking to buy new packaging equipment need to evaluate the costs related to maintenance documentation, performance testing, daily changeovers, maintenance costs, spare parts, and components since this category can represent up to 35% of the costs related to a new project over a 15-year period.

Here’s a real-world example that demonstrates why you need to dig deep when calculating your TCO:
Let’s say a brand-new weighing system gives you the ability to be even more precise on dosing. Given that inadvertent product giveaway can cost your company up to 300K a year, over 15 years this represents an expenditure of 4.5 million dollars.

Investing only a fraction of your projected future losses in a new weighing system will not only mitigate product giveaway losses but deliver a host of other benefits to your company. In this case, the simple math shows that new equipment will pay for itself in as little as two years, while an in-depth analysis can reveal the profitability of new packaging equipment long after you’ve recovered the initial capital expenditure.

new automated packaging equipment in industrial plant


THE HUMAN FACTOR

Unlike machines, humans simply aren’t built to perform precise, repetitive tasks 24 hours a day, 7 days a week. Relying on manual labor involve a number of variables that can be damaging to both your reputation and your bottom line, making it tough to take control of your expenditures.

In today’s complex and highly competitive environment, hiring and managing workers for a packing line takes a great deal of ongoing oversight to ensure not only compliance with the demands of the job but with the endless array of government regulations and union agreements regarding labor rights and workplace standards.

Employing human workers adds significant risks to your operation, and many of these risks are well beyond your control. While you can take steps to create a safe, healthy workplace, you can never completely eliminate the risk of injuries. Despite your best efforts to predict future labor costs, you’re vulnerable to changes in minimum wage laws, population shifts, and even lawsuits related to workplace safety or discrimination—all variables that can have a major impact on the profitability of your enterprise.

Shifting your current manual packaging processes to an automated model allows you to accurately predict your ROI and TCO—without worrying about the multiple 'what if' that come with using manual labor to perform the same tasks.


LOOK FOR LONG-TERM GAINS

When it comes to assessing whether or not to invest in new equipment, many companies seek a payback of two years, and in some cases, this is a realistic goal and a critical statistic to consider. At the same time, it’s important to take a balanced view that factors in both the initial cost outlay and the long-term advantages of packaging automation.

To really see the big picture, go ahead and calculate TCO and ROI over the next 15 years (even if you’re just looking for a short-term gain)—this will help you understand the potential long-term gains that can be achieved through a large capital investment in robotic packaging equipment.


AUTOMATION
THE COMPETITIVE ADVANTAGE

Of course, the other 'X' factor in this equation is the impact automation will have on your ability to recruit and retain new, lucrative market leads. Upgrading your facility by installing new packaging equipment gives your company a significant competitive advantage when bidding for contracts, soliciting clients, and seeking expansion opportunities.
Your prospective customers will appreciate the reliability that an investment in new machinery brings to your production facility, providing your business with the ability to compete for bigger and more lucrative contracts.

exploring equipment options


THE BIG PICTURE -  ROI + TCO = YOUR BOTTOM LINE

In summary, assessing the true TCO and ROI of a new packaging project requires a careful, in-depth analysis of a variety of factors, including these expenditures:

  • The upfront cost of the machinery—this includes shipping, duty, and taxes, as well as installations and building permits

  • The cost of training staff members to operate the new equipment, including management of supplies such as chemicals

  • The utility expenditures related to the operation of the machinery

  • Maintenance and inspection

You’ll also need to calculate projected savings and potential added revenues that are expected once your new equipment is fully installed and operational, including:

  • Reduction in labor-related costs, including wages, benefits, insurance, and company infrastructure related to human resources

  • Increased reliability and capacity to bid for larger, more lucrative contracts

  • Elimination of variables related to a human-powered workforce, including concerns related to labor disruptions, shortages of skilled workers, and absenteeism

  • The ability to increase production while decreasing the amount of physical space, utility costs, and resources needed

  • Reduced product loss thanks to an improvement in measurement accuracy and product handling
  • The potential to operate 24 hours a day, 7 days a week, with minimal, predictable periods of downtime for maintenance

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