Knowledge - Asset Management - Life Cycle Cost Analysis
Life Cycle Cost Analysis
Life Cycle Cost Analysis (LCCA) can help fleet managers to understand how much an asset really costs to own and operate. Rather than focusing on the purchase price, LCCA serves as a more long-term, exhaustive measurement of economic viability over each stage of an asset's life cycle.
The acquisition of an asset is only part of the total cost of ownership to take into account when weighing benefit cost vs. 'do nothing' scenarios. Depreciation, interest, maintenance, fuel and downtime are examples of life cycle costs that will have an impact on an asset's net value to an organization.
LCCA was first used in the United States by the Department of Defense (US DoD) in the mid-1960s. The US DoD applied LCCA in the procurement of military equipment, as they found that acquisition costs only accounted for a small part of the total cost for the weapons systems while operation and support costs comprised as much as 75%.
Since then, many different backgrounds and disciplines have been interested in calculating the optimal allocation of budget by estimating the costs that incur during the whole life cycle of an asset. All the different fields, scopes and aims behind LCCA have laid to a large number of different definitions.
How to Use Life Cycle Cost Analysis
The life cycle cost (LCC) of an asset is defined as the total cost, in present value or annual value, that includes the initial costs, maintenance, repair and renewal costs over the service life or a specified life cycle. LCC is based on an understanding that the value of money changes with time and as a result, expenditures made at different times are not equal. This concept, referred to as the ‘time value of money’, is the basis for life cycle cost analysis (LCCA). LCCA is a process for evaluating the total economic cost of an asset by analyzing initial costs and discounted future expenditures such as maintenance, operational, user and social costs over the service life or life cycle of an asset.
There are six main costs that you need to think about when learning how to do a life cycle cost calculation. Here is a little more information about them:
This is the amount of your initial investment.
Essentially, this covers all the costs incurred by your business in ensuring that the asset continues to perform functionally. Depending on the asset, it may include annual check-ups, maintenance fees, specialist professional services, etc.
Although it may sound similar to maintenance costs, operational costs refer to the charges incurred with running the asset itself. This is likely to include items like energy or fuel usage.
If you purchased an asset using financing, you also need to take into consideration any interest fees that you paid throughout the course of the asset’s life.
It is also important to consider the extent to which the asset’s value depreciated over its usable life to determine the total cost of the asset.
End of Life Costs
Finally, you should think about end of life costs, also known as disposal or demolition costs, which may include the charges associated with removal or scrapping.
LCC = Purchase Costs + Lifetime Maintenance Costs + Lifetime Operating Costs + Financing Costs + Depreciation Costs + End of Life Costs - Residual Value
This concept should not be confused with Life Cycle Analysis (LCA), a scientific, structured and comprehensive method that is internationally standardized in ISO 14040 and 14044. It quantifies resources consumed and emissions as well as the environmental and health impacts and resource depletion issues that are associated with any specific products or services. The environmental LCA, thus, does not address the economic elements of the product life cycle, which indeed are the main focus of LCC.
Total Cost of Ownership (TCO)
Total Cost of Ownership (TCO) is a similar concept and often used in the same context. TCO comes more from the business sector and refers to the sum of all costs incurred throughout the lifetime of owning or using an asset. Looking at the total cost of ownership is a way of assessing the long-term value of a purchase to a company or individual. Whether a cost is included in the TCO analysis generally depends on the relative importance or magnitude of those cost for the items purchased. Thus, TCO involves judgment on the part of the user.