For a long time, procurement departments have focused solely on the purchase price. Today, this vision is expanding with life cycle cost analysis. It involves understanding all the costs associated with a product or service, from its design through to its end of life. This method offers a complete picture of the true cost of a product or service, going beyond the simple initial costs. This enables informed decisions to be made, focusing on overall value creation.
Life cycle cost analysis: definition
Life cycle cost analysis (LCCA) is a method for analysing the total cost of a product, service or system throughout its entire useful life. This includes direct costs borne by the company as well as indirect costs borne by society as a whole, from the development phase through to end-of-life management. This approach has the distinctive feature of monetising the environmental externalities associated with the purchase of products, services and systems.
The objective is to demonstrate that acquisition costs ultimately represent only a tiny fraction of total costs, highlighting the importance of broadening the analysis to make informed decisions. In public and private markets, this method becomes a strategic tool for evaluating the total cost of an offer, taking all its components into account.
Zohaib Zubair, Group Finance Vice-President at Dubai Holding Entertainment: "By going beyond the initial investment and operational expenses, LCC provides a more comprehensive view, allowing for a thorough assessment of the economic impact of a project. This approach aids in comparing alternatives, evaluating project feasibility and viability, and optimising resource allocation and risk management throughout the project life cycle."
TCO vs LCC
Life cycle cost (LCC) goes further than Total Cost of Ownership (TCO). Total Cost of Ownership takes into account the total cost of a product or service from the point of purchase. For life cycle cost analysis, this begins much earlier, from the planning, development and production phases, integrating environmental externalities.
The components of the life cycle cost
As you've understood, life cycle cost comprises two components: direct costs borne by the company and indirect costs borne by society.
Direct costs
Direct costs (also called internal costs, global costs or financial costs) are borne by the buyer or users throughout the life cycle. They can easily be quantified at each stage.
This includes:
- Acquisition and commissioning costs to ensure proper functioning: delivery, installation, configuration, insurance...
- Operating costs: energy consumption or other resources, subscriptions, taxes...
- Maintenance costs: upkeep, spare parts, repair costs...
- End-of-life costs: decommissioning, collection, recycling, disposal...
Indirect costs
Indirect costs are those attributed to environmental externalities. These are the indirect financial impacts that a product has on the environment and society. They are not always easily measurable or quantifiable. These may include, for example, greenhouse gas emissions and other polluting emissions, energy consumption, deforestation...
To monetise the value of these externalities, it is necessary to follow a method that is based on objectively verifiable criteria, accessible to all stakeholders, and whose required cost data can be provided with reasonable effort.
How to calculate life cycle cost?
Life cycle cost analysis is organised into four main stages, from scoping through to decision-making.
Defining the scope
The first stage involves defining the scope of the life cycle and identifying the relevant cost items to analyse. Depending on the nature of the purchase, certain cost categories will be particularly relevant. For software, licence costs; for industrial equipment, rather energy consumption...
Collecting the data
The second stage focuses on gathering all the necessary data, i.e. relevant information on each cost and impact. For this phase, you need to rely on your suppliers, but also collaborate with other company functions (finance, production, CSR...).
Calculating the costs
The third stage concentrates on calculating life cycle costs. To do this, procurement departments can use different types of tools, from spreadsheets like Excel to specialised software.
Analysing the results
Lastly, all that remains is to compare the different options based on these results. The buyer can consider various strategies: prioritising high quality and durability, circular procurement, the functional economy, etc.
The benefits of this approach for the company
With life cycle cost analysis, every purchasing decision becomes more informed, more efficient and more responsible.
Informed decision-making
This approach offers a complete vision of costs as well as the environmental and societal impacts of a product, going well beyond the purchase price. Procurement departments can thus objectively evaluate different purchasing options, compare them and make their choice with full knowledge of the facts, based on their long-term value.
Resource optimisation
Thanks to this holistic approach, procurement departments are able to identify hidden costs as well as sources of savings in their purchases. This opens the way to optimisation strategies, whether in terms of operating costs, energy consumption or waste management, for example.
Contribution to sustainability objectives
Through life cycle cost analysis, procurement departments contribute to achieving their company's Sustainable Development Goals. They can assess and highlight their purchases' impacts on the environment in line with their Corporate Social Responsibility strategy.
Life cycle cost analysis enables cost optimisation and impact limitation over the long term. It's a strategic tool to boost competitiveness and guarantee the sustainability of your company.
