- Cost Transformation
Lifecycle costing is the maintenance of physical asset cost records over entire asset lives. This means decisions around the acquisition, use or disposal of assets can be made in a way that achieves the optimum asset usage at the lowest possible cost to the entity.
Lifecycle costing can also be applied to profiling cost over a product's life, including the pre-production stage (terotechnology), and to both company and industry lifecycles.
What is it?
Product lifecycle costing
Product lifecycle costing is the accumulation of a product's costs over its whole life, from inception to abandonment. The typical stages of a product's whole life are:
When considering the profitability of the product portfolio and also planning a new product, the management accountant should assess the profitability of products over their whole lives. A product will typically accrue costs from a variety of activities:
- Research and development
As well as the above activities, some products accumulate costs for the producer at the end of their lives, such as safe disposal, storage, dismantling, specialist logistics and recycling. Three factors should be optimised to maximise a product's profitability over its whole life. These are to:
- Design costs out of the product
- Minimise the time to market
- Maximise the length of the lifecycle.
Designing costs out of the product
Development activity is the most important from a sustainability perspective. Since 80% of a product's costs are locked in at the design stage, it's vital that waste is minimised by design. Choices made at the design stage should account for all stages of a product's life, including end of life costs, which could involve handling or storing hazardous material, and polluting activities, such as land fill or incineration.
The reduction of waste by design is usually good for profitability and also the sustainable consumption of scarce capitals. While it may be tempting to specify cheap materials in the design of products, consider the environmental impact and end of life requirements.
Even though some financial or environmental costs accumulated in the lifecycle of a product are not producer costs, the producer should still consider these costs carefully. Aware consumers will often factor such costs into their purchase decisions, and thus even if the producer ignores these factors, the consumer may calculate the total cost of ownership of the product, not just the initial acquisition cost. Known as asset lifestyle costing, this is the other side of the coin to product lifecycle costing.
A great example is the aero engine market. The balance of power has radically shifted from producers to operators in recent years, to the extent that producers must now guarantee operating performance across a range of factors. They must also agree to pay operators for costs of under-performance over an engine's whole life.
Producers are taking note of consumers' increasing environmental awareness. As a result, they're considering the price and financial cost of their products. However, they're also designing products to have a lower environmental impact and using 'environmental friendliness' as a selling point to enhance product appeal. More and more producers are adopting triple bottom line, or PPP (people, planet, profit) principles in practice.
Minimising time to market
Competitors watch each other to discover new products coming to market, and they seek to develop products to keep ahead of each other. When competition is minimal, the growth phase of a product's life provides producers the chance to charge premium prices and invest heavily in awareness activities.
The longer a producer has before a rival product hits the market, the longer they're able to command a price premium and entrench their product in the consumer's buying habits. The management accountant should be aware of the competitive market for new products to improve accuracy of whole-life profitability.
Maximising the lifecycle
Getting to market quickly will lengthen a product's life. However, there are other ways of increasing a product's life and, ideally, consideration should be given to this at the design stage. Examples include:
- Designing the product in a modular way and conceptualising future modules to aid introducing variants after the initial launch
- Designing the product to satisfy as many markets as possible, even if this requires post-launch modification
- Staggering the launch in different markets to reduce costs and prolong demand.
The management accountant should try to encourage teams involved in product conceptualisation to consider as many of these factors as possible at the design phase. This improves estimation of whole-life profitability.
Asset lifecycle costing
For the user of an asset, the initial purchase price may only be part of the ownership cost. Other costs of operating the asset over its life may even dwarf the initial purchase price. These could include: maintenance; repair; downtime; energy consumption; consumables consumption; and environmental costs – such as emissions treatment, or compliant or safe material storage or disposal.
The management accountant should ensure they are aware of all the costs associated with safe and compliant acquisition, operation, asset disposal and associated processes – and incorporate these factors into the buying decision-making. Since ownership costs can vary between rival products at different stages of asset lives, the total ownership costs should be compared on a discounted cash flow basis.
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