Supplier’s total cost of ownership evaluation: a data envelopment analysis approach

• The analysis of two supply categories of a middle sized mechanical company shows that the results of supplier’s Total Cost of Ownership (TCO) are well approximated by a much more parsimonious tool here defined as TCO-based DEA.
• TCO-based DEA is a Data Envelopment Analysis (DEA) using the amount purchased from the supplier as output and the cost drivers of TCO as inputs.
• The correlation between both ordinal and cardinal values generated by the two scoring procedures is high and much higher than the ones generated by comparable scoring procedures weighting the same output and inputs.

Supplier Total Cost of Ownership (TCO) is a widely-known approach for determining the overall cost generated by a supplier relationship, but its adoption is still limited. The complex calculations involved – and in particular the activity-based costing procedure for computing the cost of managing the relationship – pose a major obstacle to widespread TCO implementation. The purpose of this work is to formulate a Data Envelopment Analysis application (denoted ‘TCO-based DEA’) that can act as a proxy for TCO, and to test its ability to approximate the results of TCO with less effort. The study is based on the analysis of two categories of suppliers (74 in total) of a medium-sized Italian mechanical engineering company. The results show that TCO-based DEA is able to significantly approximate the outcomes of TCO, for both the efficiency indexes and rankings of suppliers, whilst requiring substantially less effort to perform the analysis. To our knowledge, this is the first study to develop a DEA-based tool for approximating TCO and to test it in a real-world setting. The research shows significant potential within the supply chain management field. In particular, TCO-based DEA can be used for analysing suppliers’ performance, rationalising and reducing the supplier base, assisting the negotiation process.