Justification of ERP Investments Part Three: Costs of Implementing an ERP System

  • Written By: Dr. Scott Hamilton
  • Published On: February 12 2004



Enterprise resource planning (ERP) implementation costs can be divided into one-time costs and ongoing annual costs. Both types of costs can be segmented into hardware, software, external assistance, and internal personnel.

*This is Part Three of a four-part article reprinted from Maximizing Your ERP System by Dr. Scott Hamilton. Bridging the theory and realities of current ERP systems, Maximizing Your ERP System provides practical guidance for managing manufacturing in various environments. Drawing on case studies from Dr. Scott Hamilton's first-hand experience in consulting with more than a thousand firms, it covers common problems and working solutions for how to effectively implement and use ERP systems. The book can be ordered on amazon.com. This excerpt on "Justification of ERP Investments" is presented in four parts:

  • Quantifiable benefits from an ERP system

  • The intangible effects of ERP

  • Costs of implementing an ERP system

  • Replacing or re-implementing an ERP system

Reprinted with permission of McGraw-Hill.

One-Time Costs

Software. The cost of an ERP software package varies widely, ranging from $30,000 (USD) for micro-based packages to several million for some mainframe packages. The number of concurrent users generally drives the software costs, so that smaller systems cost less. For illustrative and general guideline purposes, the software package costs range from $50,000 to $200,000 (USD) for smaller manufacturers. In addition to the ERP software package, one-time costs may include systems software, development of customized software, or integration with other applications.

Hardware. Hardware selection is driven by the firm's choice of an ERP software package. The ERP software vendor generally certifies which hardware (and hardware configurations) must be used to run the ERP system. Hardware may need to be replaced or upgraded. As a general rule, small to medium-size manufacturers already have microcomputers and a local area network, so that a micro-based ERP system built on de facto standards requires little additional investment in hardware.

External Assistance. External assistance includes the consulting and training costs to implement the ERP package. The software vendor, reseller or independent consultant groups may provide external assistance. The amount of required external assistance is dependent on several factors, such as the complexity of the ERP package, the experience or knowledge of internal personnel, and the extent to which external personnel are used in place of internal personnel to implement the system.

A general guideline for these costs has been the ratio with the cost of the ERP software package. A comprehensive micro-based ERP package typically has a .5 to 1.0 ratio; the manufacturer requires $.50 to $1.00 (USD) of external assistance for each dollar of software package costs. The elapsed time for implementation of the entire ERP application typically requires four to six months. Many of the mainframe ERP packages have a three to five ratio for the costs of external assistance. The software package typically costs more, and the elapsed time for implementation requires nine to twenty-four months.

Internal Personnel. Internal personnel time reflects the time commitments for the implementation project team, the executive steering committee, the users in various functional areas, and management information system (MIS) personnel. The time commitments include training classes, development of internal procedures for using the system, developing customized reports and applications, preparation of the data, meetings with external consultants, and team meetings. A general guideline for internal personnel costs can also be expressed as a ratio with the ERP software costs, where a typical ratio is .5 to 1.0.

The one-time costs for implementing an ERP system can be simplistically estimated using typical ratios with ERP software costs. These ratios are summarized in figure 3.4 for one-time and ongoing annual costs, along with example calculations for a $100,000 (USD) ERP software package.

The one-time and ongoing annual costs for hardware are not included in the example. In many cases, the use of de facto standard hardware means that a firm already has the hardware for an ERP system. The example shown in figure 3.4 indicates an estimated $300,000 (USD) for one time costs and $65,000 (USD) for annual costs related to an ERP system.

OnGoing Annual Costs

Software. Ongoing software costs should include the annual customer support agreement with the ERP software and vendor. This customer support typically provides telephone assistance and software upgrades and is typically priced around 15 percent to 20 percent of the software price. Upgrades to system software releases will also be required.

The upgrade path for new releases of the ERP software package is critical. New releases contain enhancements for functionality and bug fixes, and ensure the software runs on the latest technology platform. From the user's point of view, the upgrade path enables the manufacturer to take advantage of hundred of man-years of development efforts undertaken by the ERP software vendor (and other technology vendors) with minimal investment. From the vendor point of view, it is much easier to support users on the latest releases. However, user changes to source code and other user customizations can make it very expensive or even impossible to upgrade. Additional costs must then be incurred to ensure the customizations work with the latest upgrade. As shown in the example estimates in figure 3.4, a ratio of .25 has been used for total annual costs related to ERP software.

A phased implementation approach may mean that additional software must be purchased. A data collection system, for example, may be implemented as part of a second phase. Hardware. Ongoing hardware costs will reflect new requirements specified by the ERP vendor to run the software.

External Assistance. External assistance should be used as part of a continuous improvement program to effectively use an ERP system application for running the company. Training and consulting can focus on improved business processes, new or poorly used software functionality, and training of new personnel. A phased implementation approach requires additional assistance at each phase. Additional customizations may be required, especially with evolving user sophistication. As shown in the example estimates in figure 3.4, a ratio of .1 to .2 could be used for total annual costs related to external assistance.

Internal Personnel. The implementation project team does not necessarily end its responsibilities at time of system cutover. A phased implementation approach and continuous improvement efforts will require ongoing time commitments. Employee turnover and job rotation will also require ongoing training efforts. The nature of the ERP software package (and associated system software and hardware) typically mandates the number and expertise of MIS personnel needed for ongoing support. It may range from a part-time clerical person (for administering a micro-based ERP package) to a large group of MIS experts (for some mainframe ERP packages). As shown in the example estimates in figure 3.4, a ratio of .1 to .2 could be used for total annual costs related to internal personnel.

*This concludes Part Three of a four-part article reprinted from Maximizing Your ERP System by Dr. Scott Hamilton. Bridging the theory and realities of current ERP systems, Maximizing Your ERP System provides practical guidance for managing manufacturing in various environments. Drawing on case studies from Dr. Hamilton's first-hand experience in consulting with more than a thousand firms, it covers common problems and working solutions for how to effectively implement and use ERP systems. The book can be ordered on amazon.com. This excerpt on "Justification of ERP Investments" is presented in four parts:

  • Quantifiable benefits from an ERP system

  • The intangible effects of ERP

  • Costs of implementing an ERP system

  • Replacing or re-implementing an ERP system

Reprinted with permission of McGraw-Hill.

About the Author

Dr. Scott Hamilton has specialized in information systems for manufacturing and distribution for three decades as a consultant, developer, user, and researcher. Scott has consulted for over a thousand firms worldwide, conducted several hundred executive seminars, and helped design several influential ERP packages. He previously co-authored the APICS CIRM textbook on How Information Systems Impact Organizational Strategy and recently authored Managing Your Supply Chain Using Microsoft Navision. Dr. Hamilton is currently working closely with Microsoft partners involved with manufacturing and distribution, and can be reached at ScottHamiltonPhD@aol.com or 612-963-1163.

 
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