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Posts Tagged ‘ERP costs’

In our prior post we noted the key premise of ERP: that’s it’s a strategic investment in your business – just like those machines on the shop floor, or the key employees on your management team.  We also noted that it’s scary to many folks, who in turn wait way too long to make a change or upgrade, because sometimes the costs of efficiencies to be gained can be difficult to calculate, whereas the cost of the system itself is very clear – and of course, always too much.

Today we’ll comment on three points made by Panorama Consulting in a recewnt article intended to answer the question: “What can you do to get ahead and accurately weigh the implementation costs versus the cost of inefficiency if you don’t implement?”

  1. Quantify the costs of inefficiency. Your current processes are likely to be some combination of old, outdated, inefficient, broken, redundant or ripe for opportunity for improvement.  Your customers, your employees and your bottom line are all feeling these costs.  The question is: when are you going to start tracking, calculating and accounting for them?

 While you can hire an outside consultant to do this for you, do you really need or want to?  No.  You can do this yourself by time studies that honestly seek to calculate the very real dollar costs associated with each key process in your system.  At the very least, do a day’s worth of route or process tracking to get a baseline for what it costs today.  You’ve got to start somewhere.  Be sure to factor in all necessary labor, overhead and machine costs.  Don’t fudge – it’s your money you’ll be investing and saving after all.

Identify waste at its source by defining the true costs of these processes now while identifying areas where you even think automation could curb those costs.  You should be able to calculate potential decreased labor costs across a time unit of value (i.e., an hour, a day, a run or a shift).

 

  1. Have a clear vision of what your ERP implementation can and should do for your organization. The fact that your old legacy accounting/ERP system is old is probably true, but it’s not reason enough by itself for action.  You must define what you want in the next system – i.e., increased inventory returns, faster customer responsiveness, fewer shipping errors, increased sales throughput, reduced labor costs or shorter cycle times.  There are too many to list, but you know – or should know – which ones matter most to you.  You can’t identify the cost of these inefficiencies capably until you’ve identified, categorized and measured or calculated them.

 

  1. Define how your organization will achieve those benefits. Panorama consultants note thatNumbers in a business case are meaningless without clear and tangible steps on how to achieve them. In order to fully ‘operationalize’ these potential business benefits, your team will need to outline the steps and owners of the steps to realizing those benefits.”  They give examples like determining which process changes and software modules will fulfill a stated goal, such as x% of improved inventory returns… or how a certain process change might reduce your production cycle times.  You get the idea.  You have to ask a lot of questions… question a lot of processes, and process a lot of data and results.

But if you do, eventually patterns will arise and insights will be realized.  You’ll begin to see the inefficiencies and waste and learn to calculate them at least in gross terms.  (Now here by the way is where an experienced business process or lean consultant can really help make a difference.)

The point is: the costs are there, they are evident when you dedicate the time to look, they are very real and, in our experience over many years, they are very significant.

 

Your ERP investment can pay for itself ten times over – but you’ll never know it if you don’t start counting the ways: the inefficiencies, the improvement opportunities, the competitive advantages, the costs and workflow reductions… all of it.

 

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Deciding finally to upgrade your old accounting system into a modern ERP system is never an easy decision.  All too often, we’ve seen that nebulous fear cause many a client to wait too long.  Usually, it takes the sunsetting (i.e., discontinuation) and total loss of support for their current product – with maybe a touch of hardware obsolescence and crumbling network infrastructure thrown in – before they’ll finally bite the bullet.

We think that’s because it’s hard to quantify the cost savings and efficiencies that will be gained against the much more plainly understood “cost” of the system.

All too often our constant reiterating wail to clients that ERP is a strategic investment in your business – just like a machine on the plant floor – falls on deaf ears much like the baying of the coyotes outside my windows on an Indiana night.

Just this week a client told us that they are not spending any more money on software for the rest of this year.  That’s like saying I’m not spending any more on oil and maintenance for our equipment.  The difference?  Most businesses have difficulty appreciating that – done right – the improvements to processes and business alike that result from a strategically used ERP system can save five, ten or even 100 times their costs in wasted or redundant labor and other inefficiencies.

Except of course: We’ve always done it this way…

You can’t blame them really.  Most folks are coming off “accounting” systems built in the 80s or 90s that mostly documented business ‘transactions’ and not much more when it comes to process improvement.  It’s a stretch for them to appreciate that ERP is just the tool we use to codify and standardize business process improvements.  It’s not about the software, per se, it’s about the improvements to processes and the reduction in costs that ultimately flow through it, once processes have been realigned and the software is configured to accept them.

It’s hard for clients to wrap their heads around this, when all they know is what’s worked in the past: build better widgets, and increasingly more of them, as cheaply as possible, and all good blessings will flow.

The idea that wide swaths of a business might be “leaned out” through the implementation of improved processes woven into an extensive enterprise management system that makes those changes ‘stick’ takes some education and some getting used to.  And it takes an investment in the foundation (like working a little compost into the garden dirt) before the changes can begin to grow and bear fruit.  In other words, it can be a leap of faith.

So in the post that follows, we’ll take a high-level look at three steps to weighing the costs of implementation against the cost of continued inefficiency.  Stay tuned…

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implementation-costs-1024x483As providers of ERP software, we have long observed the tendency among some to severely underestimate the actual cost of a system implementation.  When we hear these claims, we typically presume that the sellers are of the “in for a dime, in for a dollar” school of thought, which says that once we get the client a ways down the road, then we can talk about some of the details that may have been skipped over in the selling stage.  Of course by that time it’s too late.  Most companies are reluctant to bail on these ‘sunk costs,’ even if their implementation does threaten to go 100%, or 200% or more over what they first believed it would take to implement.

So we were interested to see what the folks at Panorama Consulting learned after completing their 2016 ERP Survey.  Their own data confirms our own long held suspicions about the unrealistic expectations that are too often set (as in “sold”) around ERP.  Here’s what they had to say, after studying hundreds of ERP implementations and their results.

For starters… only about 40% of ERP project surveyed came in on the scheduled time duration.  No surprise there.  In fact, about one-third of projects came in at least 25% beyond the estimated time duration.

From a cost standpoint, the figures were similar, where about 20% of projects were anywhere from 25% to at least 75% over budget.  It appears that most projects, about 60% of the total, were within about 25% of their budgeted estimate.

But their key takeaways can be summed up in their own words:

ERP vendors and consultants are notorious for underestimating the time and cost required to implement systems. This is sometimes due to the fact that overzealous sales reps are trying to lowball their estimates to get the deal done, while other times its simply due to the fact that sales teams do not truly know the costs required to make an implementation of their software successful.

Unlike the 1:1 software to implementation cost ratio that the industry typically uses to estimate implementation costs, our research over the last decade shows a remarkably steady, yet different metric when it comes to cost. The average organization spends a total of 5-percent of their average revenue on the total cost of implementation.  This metric includes everything from software licenses, hardware upgrades, consulting fees, internal resource costs, customization, contingency costs and everything in between.

For example, a company that does $100M in annual revenue is likely to spend an average of $5M on their total cost of implementation. Vendors don’t like these numbers because they can create sticker shock while they are trying to close new business, but the facts can’t be disputed.

Keep in mind that most ERP vendors don’t have insights into these additional non-vendor costs, but they typically constitute a majority of implementation costs. Also keep in mind that larger organizations typically see percentages lower than 5%, while smaller organizations can see numbers a bit higher. This is largely because larger organizations have size and scale that enables a lower normalized implementation cost relative to their smaller counterparts.

Put another way, they say: “Expect to spend a total of 5x your direct cost of software.”

Multiply your software license costs by five to get your total cost of ownership. Again, as is the case with the 5-percent metric discussed above, this will lead you to a total, “all in” cost of ownership that includes everything that might be required to make your project

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proformativeA group (and website) called Proformative provides a web forum (www.proformative.com) for “corporate financial professionals” (Controller, CFOs, etc.) that provides useful information to its audience about a wide range of finance-related topics from HR and Recruiting to ERP and Excel Shortcuts, and much in between.  Proformative boasts of having over 100,000 registered members.

Recently, under the title “ERP Implementation Methodology Best Practices & ROI” (found here) several contributors voiced their opinions about what to expect from ERP.  You can peruse the article yourself, but we thought we’d highlight a couple comments that caught our eye.

Bob Scarborough, CEO of Tensoft, Inc. listed 5 important things he thinks you should consider:

  • IT Costs – It’s more than just the software, but still the easiest to count.
  • Productivity Impact – Rectifying data input errors & redundancy are valid ROI components.
  • Visibility Impact – When new systems provide more/better data access or velocity, it matters.
  • Audit & Compliance Impact – Better controls & repeatable processes reduce audit costs.
  • Risk Impact – How much risk is built into your current system? This cost is real, if tough to count.

Len Green, a Consultant at BT Partners suggests looking out 3 to 5 years for costs from day one.  He notes that some improvements occur only after implementation, so allow for progressive improvements, not 100% gain in year one.  He adds that software costs are only part of the story: additional staff during implementation and integration with other current business systems may affect overall costs.  And don’t count headcount reductions that do not equal a whole FTE.

Emerson Galfo, CFO at C-Suite Services questions whether ROI is really the best metric.  He cites Amazon as having invested heavily in technology since its inception for reasons including pursuit of market share or to support a business vertical.  If they’d evaluated Amazon Fire solely in terms of ROI, it might never have happened.  Yet it has contributed, he notes, “to a thriving Amazon ecosystem.”

And finally, this from Wayne Spivak, CFO at SBAConsulting.com adds: “Implementing a new ERP system that is well thought out in advance, with clear understanding of the pitfalls, the problems, the issues and the costs of both dollars and time will yield better (I’ll never say perfect or even great) results out of the box.  We need to see larger pictures than dollar and cents on every investment…”

 

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justifypic3In our previous two posts here and here we looked at some of the very real “hard” costs, or tangible benefits, that are typically derived from a successful ERP implementation.  We even put a few numbers to them.  In today’s concluding post, we’ll look at a few intangible benefits.  These may not result in hard dollar savings, but they are beneficial and often important nonetheless.

As noted earlier, the basis for many of our comments are from a report prepared by Compare Business Products.com.  Based on their research, previous industry research results, and our own experiences over more than twenty years, we feel confident that anyone who applies ERP correctly will receive benefits in line with those cited in our previous posts, and with our comments today.

Improvement in Process Design and Production  Since ERP provides a single, company-wide, unified silo of information about products, orders, customers, etc., it stands to reason that a company will have better control over process design and production.  Changes to products/orders can be managed in real time.  Everyone can be in the same information loop.  Production agility is improved, along with response times and overall visibility.  Additionally, ERP can often support ‘rules’ of configuration, thus improving the speed and flexibility of order building, BOM changes, and product customizations unique to customers.  Your entire team – and possibly even your customers with some additional work – can see for themselves what changes are or are not possible, and often, track their order status as well.  The end result is tighter supply chain integration between factory, customer and supplier.  But perhaps the real end result is improved customer loyalty and retention, and typically, sales too.

Improvement in Accounting Procedures  Here again, the common silo of information means less duplication, in this case, of accounting files and data.  A lot of paper can be eliminated with ERP through electronic document archival.  Accuracy is improved when there is only one set of data to work from.  Order and product costing can be faster and more flexible.  Work in process (WIP) can now be tracked, financial statements are automated and simplified, with greater accuracy, and most reporting can now be done more quickly.  Overall accuracy and timeliness of reporting is improved.  Best of all, a lot of redundant data entry is eliminated, thus saving wasted and unproductive labor.

Improved IT (or “MIS”) Functionality  With information in one place, under one software system, management information systems are improved when it’s no longer required to collate information from different sources.  With today’s newer systems, dashboards can be built to monitor key performance benchmarks, and users can usually drill-down to the source data they need on an ad hoc query basis.

In conclusion… add up all the costs we’ve noted, hard as well as your own estimate of the value of soft cost savings.  Even a fairly small manufacturing concern is going to see very real, six-figure annual cost savings once deployed.  And that’s a reduction in costs that goes on year after year.  And the more you grow, the greater the ratio of savings created by your ERP investment.  No matter how you slice it, when you do the math, the old adage is true of ERP: It doesn’t cost, it pays.

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justifypic2In our previous post we discussed two very real, very important cost benefits that accrue to companies who successfully deploy ERP systems.  The improvements to inventory and receivables are significant, and well documented.  As we noted, the typical $10 million factory can free upwards of a million dollars in newly available cash through inventory and receivables collection improvements.  Those are very real savings.

Those two areas alone are often capable of offsetting the entire cost of your ERP system – and then some.  Next we’ll look at still more areas where benefits accrue to the wise…

Reduction in Material Costs  ERP almost always leads to improved procurement practices.  As your forecasting improves, your order lead times shrink, and you run into fewer stock-outs as well.  Better advance planning of purchasing in turn leads to obtaining better discount breaks, terms and conditions from vendors.  When you improve your forecasting, they can improve theirs, and often you’re rewarded.  Typical figures cited in reductions to material costs for these reasons range around 5%.

Lower Labor Costs  Usually, ERP helps improve manufacturing practices (and helps you grow leaner), and as such you can reduce outages, interruptions, and with them, re-work, overtime and mistakes.  Better demand forecasting can level out production schedules, reduce the stresses of rush jobs and expediting, and optimize tooling and machine setups as you learn to stage your production runs better through improved MRP, scheduling, planning and forecasting.  Estimates are that ERP can reduce overtime and re-work by roughly 10%, while speeding up factory floor flow.

Improved Sales and Customer Service  One key benefit of ERP is improved levels of intra-company communications – a shared silo of information accessible to all users.  This improved coordination leads to shorter production leads and eventually to improved sales as you prove your ability to deliver.  The result is improved customer loyalty which always has a positive effect on sales.  Another benefits lies in ERP’s ability to improve production agility.  With proper planning and MRP, you can better accommodate order changes later in the process, and further improve customer loyalty and satisfaction.  The long-term effect is improved customer retention (and less customer loss), leading to notable increases over sales volumes pre-ERP.  A figure of 10% is often cited as typical here.

In this and our prior post we’ve tried to illustrate some of the proven benefits to ERP we’ve seen over the years, and as noted in a report by Compare Business Products.com.  These are the benefits that yield what we like to call “hard” dollar savings – quantifiable cost reductions (or revenue increases) proven to result from successful ERP deployments.  Collectively, they will return more than your original ERP investment — sometimes surprisingly quickly.

In our next and final post in this series, we’ll take a look at some of the intangible (or “soft”) – yet still very important – cost savings attributable to your ERP investment.  Stay tuned…

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justifypic1A recent article from an outfit that provides a variety of product info and comparisons to businesses, called Compare Business Products in Palo Alto, made some good points recently that reinforce what we’ve long known are the tangible, as well as sometimes intangible, cost savings and benefits that accrue to companies that effectively deploy ERP systems.  Their points are worth noting and highlighting in our post today.

The cost savings that accrue from a good business management system do more than just make you a better, more efficient company.  They actually pay for themselves.  And then some.  Let’s look at a few of the areas where research studies have proven this to be true.

Inventory Reduction  In a typical successful ERP implementation, the study’s authors state, “a 20% inventory reduction becomes a commonly achieved benchmark.”  That’s not just a one-time savings, but a recurring event that is further augmented through lower warehousing costs, less handling and transport, reduced obsolescence, and so on.  Together, the collective savings of improved turns and lowered costs can typically take upwards of 30% out of the costs for inventory related items in the manufacturing or distribution environment.

On the less tangible cost-savings side, let’s not forget the benefits that normally come in the form of stocking the right items, avoiding out-of-stock situations and their negative customer effects, avoiding the buildup of obsolete items, and having fewer part shortages to deal with – all the result of improved planning, MRP and visibility.

Finally, an implementation of something closer to just-in-time stocking will put any firm on track for a leaner experience, and free up funds for more important business needs.

Let’s combine inventory reduction savings with a related improvement typically caused by ERP]…

Improved Receivables (days of receivables ratio)  Research indicates that the number of days between invoice and collection, on average, goes from about 73 days to 60 once ERP has been established.  That’s a fairly significant cash bump, the result usually of improved billing procedures, visibility, aging control and accounting follow-up.

Combining inventory reduction and improved receivables in a $10 million (revenues) factory can lead to some serious cash improvement.  A typical company in this range might have around $3 million in inventory, perhaps $2 million in receivables, and $500,000 in cash available.  A reduction in inventory of even just 25% frees up around $750,000 in newly available cash flow, while an improvement of 13 days in A/R receipts per our average cited above, yields an 18% improvement (reduction in A/R), thus freeing up another $360,000.  Combined, the typical improvement produced by a well-deployed ERP system in a $10 million firm is over one million dollars.

And that’s just the beginning.  In our next post, we’ll look at a few other areas where ERP frees up cash, and creates other savings and benefits, resulting typically not just in a system that pays for itself, but one that can return those costs several times over.  Stay tuned…

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