💲 Procurement
💲 Procurement Total Cost of Ownership (TCO) Comparison
Lowest purchase price ≠ lowest total cost. Compare two sourcing options on full landed and lifecycle cost — purchase, freight, duties, carrying, quality and the cost of cash tied up in payment terms.
1 Option A (e.g. Local supplier)
Capital, storage, insurance & obsolescence as a % of average inventory value per year.
Days of in-transit + safety stock you must finance. Longer-lead options carry more.
Parts per million rejected. 1,500 PPM = 0.15%.
Longer terms = more cash freed up = lower cost of cash.
2 Option B (e.g. Offshore supplier)
Capital, storage, insurance & obsolescence as a % of average inventory value per year.
Days of in-transit + safety stock you must finance. Longer-lead options carry more.
Parts per million rejected. 15,000 PPM = 1.50%.
Longer terms = more cash freed up = lower cost of cash.
3 Shared assumptions
Used to value the cash tied up in inventory & payment terms. WACC or your hurdle rate.
Spread one-off tooling / qualification cost across its useful life.
Tip: in-transit + buffer days inflate carrying cost because longer-lead supply chains finance far more stock. Payment terms work the other way — longer terms reduce total cost because the supplier finances your cash.
4 Verdict
5 Side-by-side TCO breakdown
Annual TCO = (Qty × Unit price) + Freight + Duty(Qty×Price×Duty%) + Carrying((Qty×Price)/2 × ((Lead+Buffer)/365) × Carry%) + Quality(PPM/1e6 × Qty × Rework$) + Amortised switching − Cost-of-cash from terms (Terms ÷ 365 × Discount% × Annual spend)
📏 Based on CPSM / CIPS total-cost-of-ownership & landed-cost methodology. Figures are for guidance — validate against your own data, Incoterms and applicable standards.
Frequently asked questions
Why isn't the lowest unit price the best deal?
Because the sticker price is only one of seven cost buckets. Freight, duties, the cost of financing extra in-transit and safety stock, scrap and rework from a higher defect rate, and amortised switching/tooling can easily erase a unit-price advantage. CPSM and CIPS both teach buyers to decide on total cost of ownership, not purchase price — exactly what this tool computes.
How is inventory carrying cost calculated?
Average inventory value is taken as half the annual purchase value (a sawtooth cycle-stock assumption), then multiplied by your carrying-cost rate and scaled by how long stock sits on the books: (Lead time + buffer days) ÷ 365. A 45-day-lead offshore option with 40 days of buffer finances far more stock than a 7-day local one, so its carrying cost is much higher.
What does "cost of cash from payment terms" mean?
When a supplier gives you 60-day terms, they finance your purchase for 60 days — that's working capital you don't have to fund. We value it as Annual spend × (Terms ÷ 365) × your discount rate, and subtract it from TCO. Longer terms lower total cost; the discount rate is your WACC or hurdle rate.
How do I convert a defect rate to a quality cost?
Enter the reject rate in PPM (parts per million). Quality cost = (PPM ÷ 1,000,000) × annual quantity × your rework or scrap cost per defective unit. 8,000 PPM on 10,000 units at $9 each is 80 defects × $9 = $720/yr. Use full cost of poor quality (rework labour, scrap, sorting, line stoppage) for a realistic figure.
Should switching cost be in the comparison?
Yes — qualification, tooling and validation are real costs of moving to a new source, but they're one-off. Amortise them across the expected supply life (default 3 years) so an annual TCO comparison is apples-to-apples instead of penalising the new supplier for a single year.