Life Cycle Costing (LCC) also called Whole Life Costing is a technique to establish the total cost of ownership. It is a structured approach that addresses all the elements of this cost and can be used to produce a spend profile of the product or service over its anticipated life-span. The results of an LCC analysis can be used to assist management in the decision-making process where there is a choice of options. The accuracy of LCC analysis diminishes as it projects further into the future, so it is most valuable as a comparative tool when long term assumptions apply to all the options and consequently have the same impact. This briefing provides general guidance on LCC. For guidance on the application of LCC to construction projects.
Why is it Important?
The visible costs of any purchase represent only a small proportion of the total cost of ownership. In many departments, the responsibility for acquisition cost and subsequent support funding are held by different areas and, consequently, there is little or no incentive to apply the principles of LCC to purchasing policy. Therefore, the application of LCC does ave a management implication because purchasing units are unlikely to apply the rigours of LCC analysis unless they see the benefit resulting from their efforts.
There are 4 major benefits of LCC analysis:
Evaluation of competing options in purchasing;
Improved awareness of total costs;
More accurate forecasting of cost profiles; and
Performance trade-off against cost.
Option Evaluation. LCC techniques allow evaluation of competing proposals on the basis of through life costs. LCC analysis is relevant to most service contracts and equipment purchasing decisions. Improved Awareness. Application of LCC techniques provides management with an improved awareness of the factors that drive cost and the resources required by the purchase. It is important that the cost drivers are identified so that most management effort is applied to the most cost effective areas of the purchase. Additionally, wareness of the cost drivers will also highlight areas in existing items which would benefit from management involvement.
Improved Forecasting. The application of LCC techniques allows the full cost associated with a procurement to be estimated more accurately. It leads to improved decision making at all levels, for example major investment decisions, or the establishment of cost effective support policies. Additionally, LCC analysis allows more accurate forecasting of future expenditure to be applied to long-term costings assessments.
Performance Trade-off Against Cost. In purchasing decisions cost is not the only factor to be considered when assessing the options. There are other factors such as the overall fit against the requirement and the quality of the goods and the levels of service to be provided. LCC analysis allows for a cost trade-off to be made against the varying attributes of the purchasing options.
Who is Involved?
The investment decision maker (typically the management board) is accountable for any decisions relating to the cost of a project or programme. The SRO is responsible for ensuring that estimates are based on whole life costs and is assisted by the project sponsor or project manager, as appropriate, together with additional professional expertise as required.
LCC involves identifying the individual costs relating to the procurement of the product or service. These can be either ―oneoff ‖ or ―recurring‖ costs. It is important to appreciate the difference between these cost groupings because one-off costs are sunk once the acquisition is made whereas recurring costs are time dependent and continue to be incurred throughout the life of the product or service. Furthermore, recurring costs can increase with time for example through increased maintenance costs as equipment ages.
The types of costs incurred will vary according to the goods or services being acquired, some examples are given below.
Examples of one-off costs include:
implementation and acceptance;
transition from incumbent supplier(s);
changes to business processes.
withdrawal from service and disposal
Examples of recurring costs include:
contract and supplier management costs;
cost of changes;
maintenance and repair; and
transportation and handling.