Calculating TCO and ROI: the critical metrics for evaluating your SaaS stack
Learn how to determine the value of SaaS tools for your business by measuring their Total Cost of Ownership (TCO) and Return on Investment (ROI).
As companies face economic downturns and tech industry layoffs, many department leaders look hard at their technology resources, searching for ways to reduce costs and preserve their workforce.
However, determining which tools are critical and deliver more value than their monthly subscription can take time and effort.
Tools that assist in sales have clear value, as you can directly measure their impact through revenue attribution. On the other hand, tools like design software may not directly impact revenue, but they are necessary for critical employees to perform their jobs effectively.
When assessing their value, consider the impact of all tools on business outcomes, including brand perception and user engagement. Additionally, department heads should evaluate whether the tool provides efficiencies that would otherwise require additional headcount or resources.
As companies increasingly use cloud-based software, knowing which SaaS tools can deliver value and positively impact your business is crucial. When evaluating SaaS tools, you should consider two key metrics: total cost of ownership (TCO) and return on investment (ROI).
Let’s look at what each metric means and how to measure them.
Total Cost of Ownership (TCO)
TCO refers to the cost of owning and operating a software product beyond the subscription fee.
Although the annual contract cost is significant, SaaS products have other hidden costs associated with their use. For example, TCO includes time and operational costs for effective tool implementation and business needs.
A new CRM integrated by a sales team may need regular maintenance to keep customer data accurate. In addition, salespeople may require extra training and support to effectively customize the software solution.
The system may also require ongoing maintenance to ensure the customer data remains accurate and up-to-date. Failing to consider these factors can lead to an inaccurate TCO estimate and may result in unexpected costs.
Additional costs to consider when measuring SaaS TCO
When buying a SaaS product, some of the additional costs to measure in your TCO analysis include:
- Implementation fees: Some SaaS products may require upfront fees for implementation or setup.
- Training expenses: The tool's complexity may require staff training, which can come at an additional time and money investment.
- Support costs: SaaS support services can be included in the subscription fee or cost extra for premium services.
- Integration costs: Integration with other software or systems in your organization may entail additional costs, often working with your information technology team.
- Data storage costs: Some SaaS products may charge additional fees for data storage beyond a certain threshold.
- Customization costs: Customizing a tool to fit your business needs may incur additional costs.
A single equation cannot measure TCO for SaaS products as the costs depend on the product and the business. Commonly, you calculate TCO by adding up the acquisition costs and costs associated with deploying and operating the SaaS tool over its expected lifetime.
An example of TCO calculation is TCO = subscription, implementation, training, support, integration, storage, customization, and other maintenance costs. To annualize TCO, divide a SaaS tool's total ownership cost by its expected lifespan for a yearly cost estimate.
Buyers can better understand the actual cost of owning and operating a SaaS solution by factoring in all these costs. In addition, understanding your TCO can help you make an informed decision about the tool's value for your business.
Return on Investment (ROI)
To measure ROI of a software purchase, you compare the subscription cost to the potential benefits and savings it provides. The formula for calculating ROI is:
ROI = (Net Profit / Total Cost of Ownership) x 100%
Compare increased revenue to total investment to calculate ROI for software that generates revenue. For instance, if a sales enablement tool generated $100,000 in increased sales and costs $50,000 annually, the ROI would be 200%. This positive ROI justifies the cost of the tool.
Calculating ROI for software products that don't impact revenue is a different challenge. Here, you can measure the tool's impact on efficiency, customer satisfaction, and cost savings to evaluate ROI. In our example of design software, you can measure how enhanced product aesthetics improve brand perception. Leading indicators, like social media engagement, can show the tool's impact on the bottom-line revenue.
After measuring each product's return in your SaaS stack, compare it with the TCO to determine the software purchase's value.
Remember to note whether you calculate annualized or lifetime ROI and adjust your equation to reflect this.
Measuring SaaS ROI year-over-year
Some software projects may increase SaaS ROI (return on investment) over time as their TCO decreases after the first year of implementation and training. In the long term, the team may better use the tool, potentially increasing the return.
For most software, you can expect ROI to go up with each year of adoption. However, some tools may cost more the more you use them, impacting your year-over-year ROI calculation. Therefore, it is essential to monitor this to ensure the ROI remains favorable.
Examples of how to measure software ROI include:
- A marketing automation tool that costs $20,000 annually results in $60,000 in time and cost savings annually. The software ROI is 200%.
- The software development tool costs $5,000 annually and saves the company $25,000 in labor costs annually. This results in an ROI of 400%.
- A social media management tool that costs $10,000 per year may not directly impact revenue. However, it can improve brand perception, which you can measure through metrics such as social media followers. Next, you can calculate the ROI by comparing the increase in social media followers to the total investment. Then compare it to revenue influenced by social media.
How understanding your SaaS investment helps your team grow
The best way to ensure the success of your SaaS tool deployment is by measuring its impact on your business. Establish measurable goals upfront to track progress after deployment and determine if the tool delivers value to your organization.
Measuring the impact of your software can help your team, business, employees, and bottom line thrive in several ways. For instance:
Evaluate tools to make informed decisions about usage optimization or alternative exploration.
Measuring your software's impact can help you find ways to improve efficiency by identifying and fixing bottlenecks.
Better employee engagement
Employees who see the tangible results of implementing a tool feel more engaged and invested in the firm’s success.
By identifying the most influential SaaS companies’ tools and optimizing their use, you can improve customer satisfaction and loyalty, increasing revenue.
Maximize your software investment by regularly setting transparent software TCO and ROI metrics and monitoring tool impact. Be sure to measure results before the end of your annual contract. Continuous monitoring helps you identify areas for improvement, optimize tool usage, and ensure SaaS products deliver the desired outcomes.
How Vendr can help you understand the TCO and ROI of your SaaS products
Evaluating the value of SaaS tools for your business is critical but can also be challenging. Determining which tools are critical and deliver more value than their monthly subscription cost takes time and effort.
By leveraging the Vendr platform, your Finance and Procurement teams can navigate the challenges of evaluating your SaaS stack. The TCO and ROI of your SaaS products can be accurately calculated using Vendr to benchmark all the associated costs. And Vendr Buyer Guides provide you the playbook to help you negotiate the best terms and prices for your SaaS products, ensuring your costs remain low.
Nailing down your SaaS products' ROI and TCO is critical to making informed decisions, andVendr's got you covered.