How to Evaluate Costs/ROI
A prospective buyer must factor in costs such as implementation, training, hardware, infrastructure, and upgrades.
When it comes to ERP systems, there two basic pricing models: user-based and usage-based:13
User-based pricing means one license fee per user, which includes access to all modules of the ERP system. For instance, Microsoft Dynamics GP ERP/accounting software is sold on a user-based model. If a company buys one user of the Business Essentials edition, that user can get access to every module in that version..14
Usage- or module-base pricing means the functionality needed is purchased on an a la carte basis, plus a small per-user fee. If all that is needed is very limited functionality, both now and in the future, buying a module-based system can often save money. For most manufacturers, though, user-based pricing is often a better value and a better investment because it offers more for the money.15
There is also a third pricing model that is based on concurrent or named users. If a system is sold by concurrent users, a company will only need to buy licenses for the number of people who will access the system at the same time. For instance, if a company has 10 people who use the system, it can be set up so that all 10 have credentials and security rights; however, if only five of them need access at the same time, the company would only need to pay for five licenses. If a sixth person tried to log in, that person would be denied access until someone else signs out..16
Additional ERP System Costs
However, the pricing structure isn’t simply limited to the licensing fee. A prospective ERP buyer must factor in other costs such as implementation, training, hardware, infrastructure, and upgrades. For example, maintenance costs are normally 15%-20% of the total cost of the system per annum. This fee is typically calculated based on the net price of the system. So, if the ERP contract is worth $1 million, the total cost of annual maintenance is $175,000 (assuming the midpoint of the range). During the typical 10-year life span of a system, maintenance costs are nearly two times the cost of the original license.17
Of course, the true measure of the cost of an ERP system is the return on investment (ROI). Industry expert Ray Wang of Altimeter Group recommends that companies evaluating ERP systems calculate the ROI on per-employee cost or the cost as a percentage of revenue. For example, if a company spends $3 million on an ERP system for 3,000 employees, that is a starting cost of $1,000 per employee. If prior to installation of the system each employee generates, on average, $200,000 in revenue each year, then to break even on the ERP system purchase, employee productivity needs to increase 0.5% per employee for the system to pay for itself.
Another calculation, based on a formula developed by independent consultant Mitch Milam to justify client customization changes in CRM, is formulated on a four-step analysis. Using this approach, whose principle applies to ERP as well as CRM, if a manufacturer is doing the same repetitive task, such as re-keying data from an inventory system into a financial system, the company needs to determine how much that task is costing and if the company would actually save money by upgrading to a system that automates the process.18