Synonyms

Life cycle cost analysis; Total cost of ownership; Whole-life cost

Definition

The definition of LCC as quoted from AS/NZS 4536:1999 (Australian/New Zealand Standard 1999) is

a process to determine the sum of all expenses associated with a product or project, including acquisition, installation, operation, maintenance, refurbishment, discarding and disposal costs.

Life cycle costing (LCC) is a concept for estimating the total cost or total ownership cost (TOC) which includes acquisition costs (total capital cost, i.e., land acquisition costs and construction costs), ownership costs (all future costs, viz., installation costs, operation costs, repair costs, service and maintenance costs, and disposal costs), as well as other cost components.

The acquisition costs are often visible as they relate to purchasing assets such as equipment, which include the investment for the raw material cost and up until the equipment is manufactured and has left the factory. The acquisition cost is genuinely the tip of an iceberg as there are other future costs which are incurred after the product is manufactured such as the transportation, handling, installation, maintenance, and end-of-life costs as illustrated in Fig. 1.

Life Cycle Cost, Fig. 1
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An iceberg analogy for the total cost visibility (HM Treasury 1992)

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Theory and Application

History

LCC was developed by the US Department of Defense (DOD) during the mid-1960s and has been used ever since as a tool for large infrastructure projects such as military facilities, buildings, and oil refineries. From the 1980s through the early 1990s, different cost models were developed for LCC estimation, among them, Activity-Based Life Cycle Costing in 2001 (Emblemsvag 2001).

In the 2000s, the list of LCC applications was extended to include more products and processes, and LCC was integrated into other aspects of sustainability including environmental life cycle costing (ELCC) and societal life cycle costing (SLCC). These two types of LCC are different than the conventional LCC as they integrate LCC with the environmental aspect of LCA (Hunkeler et al. 2008).

The SLCC may also include externalities or external costs as defined by environmental economics and external costs which are usually borne by society as shown in Fig. 2. Such costs can be assessed using the preference theory of economic valuation methods (e.g., hedonic pricing and contingent valuation) that are based on the market and nonmarket values (e.g., the willingness-to-pay survey) (Rebitzer and Hunkeler 2003).

Life Cycle Cost, Fig. 2
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Cost and benefits during product life cycle (Westkaemper and Osten-Sacken 1998)

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Potential Benefits

LCC leads to potential benefits in the long term since manufacturers can gain revenue during the usage and end-of-life stages with an appropriate decision at the design stage as depicted in Fig. 2. It can be applied at any stage of the product life cycle, but when it is applied at the early, conceptual, and detailed design stage of product development, 70–85 % of the total cost of a product can be saved as shown in Fig. 3.

Life Cycle Cost, Fig. 3
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Cumulative percent of LCC committed (U.S. Department of Energy 1997)

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Theory

Goal and Purpose

In principle, LCC uses the same principal as cost accounting calculation that is based on real monetary flows. The main goal of LCC is to compare the TOC for different product or process alternatives. It is used as an engineering decision making to identify the most cost-effective decision when considering the costs and the revenues involved during all life cycle stages, namely, material, manufacturing process, usage, and end-of-life. ISO15663, IEC60300-3-3, and AS/NZS 4536 are the main procedures for LCC methods (Hunkeler et al. 2008).

LCC is also used as a tool for triple-bottom-line assessment of the sustainable development where win-win situations and trade-offs are identified by considering LCC in conjunction with life cycle assessment (LCA) and its social impact such as the externalities as shown in Fig. 4.

Life Cycle Cost, Fig. 4
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The conceptual framework of LCC (Brown and Straton 2001)

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Life Cycle Costing Methodology

Many LCC models and methods have been developed over the years as a tool to support the economic decision making.

Life cycle cost models can be categorized into three categories (Dhillon 2010) which are:

  1. 1.

    Conceptual models: This category is for macro-level. It is flexible and based on qualitative variables and hypothesis approach (Sherif and Kolarik 1981).

  2. 2.

    Analytical models: Mathematical models in this category are ranging from simple to very complex models, and they are considered as the most commonly used cost models.

  3. 3.

    Heuristic models: The model can involve simulation models, but cannot guarantee to give an optimum solution. These models are based on ill-structured version of analytical models: an experience-based method and rule-of-thumb strategy, for example, a simulation technique that determines the cost-effectiveness of different levels of reliability and maintainability training for airlines.

Life Cycle Cost Basic Steps

Life cycle cost can be analyzed by using the following basic steps (Dhillon 2010):

  1. 1.

    Cost breakdown structure (identify activity and define cost drivers)

  2. 2.

    Cost estimating (present value)

  3. 3.

    Discounting

  4. 4.

    Inflation

Cost Breakdown Structure (CBS): This is the most important step as it identifies all the associated cost elements as well as establishes the boundary of the LCC analysis. This is to prevent any omission and double counting of the cost elements.

Cost Estimating: Each cost element has to be estimated which can be performed by using the following three approaches:

  • The first approach is when the factors of the cost elements are known with a known accuracy level.

  • The second approach is predicting by using the historical or empirical data.

  • The third approach is the expert opinion which is used when there is no real data. The opinion must be supported with the assumptions made.

All costs including the future cost such as the maintenance and disposal costs are converted into present values.

Discounting: This is defined as a percentage of the value of money that is changed over time between present and future.

If the percentage is set in a high value, then the importance gives more to the present time. If the percentage is low, then the future is considered to be more important. When the percentage is equaled to zero, this means there is no difference in the value between the present and the future.

The discount value depends on many variables such as inflation, cost of capital, investment opportunities, and personal consumption preference. These values must be validated carefully with a careful expert consultation.

Inflation: This is often excluded from LCC; however, it is considered when there is more than one commodity such as oil price and man-hour rates.

Additionally, the sensitivity analysis should be conducted to examine the uncertainty of the cost model.

Life Cycle Cost Elements

Cost elements of LCC are defined in various definitions such as internal and external costs and direct and indirect costs. Among the definitions, the total cost assessment method, which is one of LCC methods, classifies costs into five categories (Little 2000). These are:

  • The direct costs for the manufacturing site (e.g., capital investment)

  • The potentially hidden corporate and manufacturing site overhead costs (indirect e.g., outsourced services)

  • The future and contingent liability costs (e.g., liabilities for personal injury and property damage)

  • The internal intangible costs (e.g., customer loyalty and corporate image)

  • The external cost (social cost)

These cost elements may include both nonrecurring (one-off, e.g., installation and facility) and recurring costs (e.g., maintenance and handling).

Life Cycle Cost Tools

Table 1 presents the available LCC tools which are used in practice (Gluch and Baumann 2004). These tools are often classified into a generic and a specific cost model. The specific cost model is the modified generic model which is developed with the system boundary of LCC. A generic model is often developed as a summation of the common cost elements that are related to the product life cycle (Table 1).

Life Cycle Cost, Table 1 Corporate environmental accounting tools (modified) (Gluch and Baumann 2004)
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Cross-References

Environmental Impact

Environmental Impact Assessment

Life Cycle Engineering

Sustainability

Sustainability of Machining

Sustainable Manufacturing