Whole-life cost
Encyclopedia
Whole-life cost, or Life-cycle cost (LCC), refers to the total cost of ownership
over the life of an asset
. Also commonly referred to as "cradle to grave" or "womb to tomb" costs. Costs considered include the financial cost which is relatively simple to calculate and also the environmental and social costs which are more difficult to quantify and assign numerical values. Typical areas of expenditure which are included in calculating the whole-life cost include, planning, design, construction and acquisition, operations, maintenance, renewal and rehabilitation, depreciation and cost of finance and replacement or disposal.
The primary benefit is that costs which occur after an asset has been constructed or acquired, such as maintenance, operation, disposal, become an important consideration in decision-making. Previously, the focus has been on the up-front capital costs of creation or acquisition, and organisations may have failed to take account of the longer-term costs of an asset. It also allows an analysis of business function interrelationships. Low development costs may lead to high maintenance or customer service costs in the future.
station it is possible to calculate the environmental impact
of making the concrete
containment, the water required for refining the copper
for the power plants and all the other components. Only by undertaking such an analysis is it possible to determine whether one solution carries a lower or higher environmental cost than another.
Almost all major projects have some social impact. This may be the compulsory re-location of people living on land about to be submerged under a reservoir
or a threat to the livelihood of small traders from the development of a hypermarket
nearby.
In this way, the whole-life costs and benefits of each option are considered and usually converted using discount rate
s into net present value
costs and benefits. This results in a benefit cost ratio for each option, usually compared to the "do-nothing" counterfactual. Typically the highest benefit-cost ratio option is chosen as the preferred option.
Historically, asset investments have been based on expedient design and lowest cost construction. If such investment has been made without proper analysis of the standard of service required and the maintenance and intervention options available, the initial saving may result in increased expenditure throughout the asset's life.
By using whole-life costs, this avoids issues with decisions being made based on the short-term costs of design and construction. Often the longer-term maintenance and operation costs can be a significant proportion of the whole-life cost.
Other issues which influence the lifecycle costs of an asset include:
Although the general approach to determining whole-life costs is common to most types of asset, each asset will have specific issues to be considered and the detail of the assessment needs to be tailored to the importance and value of the asset. High cost assets (and asset systems) will likely have more detail, as will critical assets and asset systems.
Maintenance expenditure can account for many times the initial cost of the asset. Although an asset may be constructed with a design life of 30 years, in reality it will possibly perform well beyond this design life. For assets like these a balanced view between maintenance strategies and renewal/rehabilitation is required. The appropriateness of the maintenance strategy must be questioned, the point of intervention for renewal must be challenged. The process requires proactive assessment which must be based on the performance expected of the asset, the consequences and probabilities of failures occurring, and the level of expenditure in maintenance to keep the service available and to avert disaster.
(TCO)" when applied to IT hardware and software acquisitions. Use of the term "TCO" appears to have been popularised by Gartner Group
in 1987 but its roots are considerably older, dating at least to the first quarter of the twentieth century.
It has since been developed as a concept with a number of different methodologies and software tools. A TCO assessment ideally offers a final statement reflecting not only the cost of purchase but all aspects in the further use and maintenance of the equipment, device, or system considered. This includes the costs of training support personnel and the users of the system, costs associated with failure or outage (planned and unplanned), diminished performance incidents (i.e. if users are kept waiting), costs of security breaches (in loss of reputation and recovery costs), costs of disaster preparedness and recovery
, floor space, electricity, development expenses, testing infrastructure and expenses, quality assurance
, boot image control
, marginal incremental growth, decommissioning, e-waste handling, and more. When incorporated in any financial benefit analysis (e.g., ROI
, IRR
, EVA
, ROIT, RJE) TCO provides a cost basis for determining the economic value of that investment.
Total cost of ownership is also common in the automobile
industry. In this context, the TCO denotes the cost of owning a vehicle from the purchase, through its maintenance, and finally its sale as a used car. Comparative TCO studies between various models help consumers choose a car to fit their needs and budget.
TCO can and often does vary dramatically against TCA (total cost of acquisition), although TCO is far more relevant in determining the viability of any capital investment, especially with modern credit markets and financing. TCO also directly relates to a business's total costs across all projects and processes and, thus, its profitability
. Some instances of "TCO" appear to refer to "total cost of operation", but this may be a subset of the total cost of ownership if it excludes maintenance and support costs.
Understanding and familiarity with the term TCO has been somewhat facilitated as a result of various comparisons between the TCO of open source and proprietary software. Because the software cost of open source software is often zero, TCO has been used as a means to justify the up-front licensing costs of proprietary software. Studies which attempt to establish the TCO and provide comparisons have as a result been the subject of many discussions regarding the accuracy or perceived bias in the comparison.
Total cost of ownership
Total cost of ownership is a financial estimate whose purpose is to help consumers and enterprise managers determine direct and indirect costs of a product or system...
over the life of an asset
Asset
In financial accounting, assets are economic resources. Anything tangible or intangible that is capable of being owned or controlled to produce value and that is held to have positive economic value is considered an asset...
. Also commonly referred to as "cradle to grave" or "womb to tomb" costs. Costs considered include the financial cost which is relatively simple to calculate and also the environmental and social costs which are more difficult to quantify and assign numerical values. Typical areas of expenditure which are included in calculating the whole-life cost include, planning, design, construction and acquisition, operations, maintenance, renewal and rehabilitation, depreciation and cost of finance and replacement or disposal.
Financial
Whole-life cost analysis is often used for option evaluation when procuring new assets and for decision-making to minimise whole-life costs throughout the life of an asset.It is also applied to comparisons of actual costs for similar asset types and as feedback into future design and acquisition decisions.The primary benefit is that costs which occur after an asset has been constructed or acquired, such as maintenance, operation, disposal, become an important consideration in decision-making. Previously, the focus has been on the up-front capital costs of creation or acquisition, and organisations may have failed to take account of the longer-term costs of an asset. It also allows an analysis of business function interrelationships. Low development costs may lead to high maintenance or customer service costs in the future.
Environmental and social
The use of environmental costs in a whole-life analysis allows a true comparison options, especially where both are quoted as "good" for the environment. For a major project such as the construction of a nuclear powerNuclear power
Nuclear power is the use of sustained nuclear fission to generate heat and electricity. Nuclear power plants provide about 6% of the world's energy and 13–14% of the world's electricity, with the U.S., France, and Japan together accounting for about 50% of nuclear generated electricity...
station it is possible to calculate the environmental impact
Environmental impact assessment
An environmental impact assessment is an assessment of the possible positive or negative impact that a proposed project may have on the environment, together consisting of the natural, social and economic aspects....
of making the concrete
Concrete
Concrete is a composite construction material, composed of cement and other cementitious materials such as fly ash and slag cement, aggregate , water and chemical admixtures.The word concrete comes from the Latin word...
containment, the water required for refining the copper
Copper
Copper is a chemical element with the symbol Cu and atomic number 29. It is a ductile metal with very high thermal and electrical conductivity. Pure copper is soft and malleable; an exposed surface has a reddish-orange tarnish...
for the power plants and all the other components. Only by undertaking such an analysis is it possible to determine whether one solution carries a lower or higher environmental cost than another.
Almost all major projects have some social impact. This may be the compulsory re-location of people living on land about to be submerged under a reservoir
Reservoir
A reservoir , artificial lake or dam is used to store water.Reservoirs may be created in river valleys by the construction of a dam or may be built by excavation in the ground or by conventional construction techniques such as brickwork or cast concrete.The term reservoir may also be used to...
or a threat to the livelihood of small traders from the development of a hypermarket
Hypermarket
In commerce, a hypermarket is a superstore combining a supermarket and a department store. The result is an expansive retail facility carrying a wide range of products under one roof, including full groceries lines and general merchandise...
nearby.
Project appraisal
Whole-life costing is a key component in the economic appraisal associated with evaluating asset acquisition proposals. An economic appraisal is generally a broader based assessment, considering benefits and indirect or intangible costs as well as direct costs.In this way, the whole-life costs and benefits of each option are considered and usually converted using discount rate
Discount rate
The discount rate can mean*an interest rate a central bank charges depository institutions that borrow reserves from it, for example for the use of the Federal Reserve's discount window....
s into net present value
Net present value
In finance, the net present value or net present worth of a time series of cash flows, both incoming and outgoing, is defined as the sum of the present values of the individual cash flows of the same entity...
costs and benefits. This results in a benefit cost ratio for each option, usually compared to the "do-nothing" counterfactual. Typically the highest benefit-cost ratio option is chosen as the preferred option.
Historically, asset investments have been based on expedient design and lowest cost construction. If such investment has been made without proper analysis of the standard of service required and the maintenance and intervention options available, the initial saving may result in increased expenditure throughout the asset's life.
By using whole-life costs, this avoids issues with decisions being made based on the short-term costs of design and construction. Often the longer-term maintenance and operation costs can be a significant proportion of the whole-life cost.
Asset management
During the life of the asset, decisions about how to maintain and operate the asset need to be taken in context with the effect these activities might have on the residual life of the asset. If by investing 10% more per annum in maintenance costs the asset life can be doubled, this might be a worthwhile investment.Other issues which influence the lifecycle costs of an asset include:
- site conditions,
- historic performance of assets or materials,
- effective monitoring techniques,
- appropriate intervention strategies.
Although the general approach to determining whole-life costs is common to most types of asset, each asset will have specific issues to be considered and the detail of the assessment needs to be tailored to the importance and value of the asset. High cost assets (and asset systems) will likely have more detail, as will critical assets and asset systems.
Maintenance expenditure can account for many times the initial cost of the asset. Although an asset may be constructed with a design life of 30 years, in reality it will possibly perform well beyond this design life. For assets like these a balanced view between maintenance strategies and renewal/rehabilitation is required. The appropriateness of the maintenance strategy must be questioned, the point of intervention for renewal must be challenged. The process requires proactive assessment which must be based on the performance expected of the asset, the consequences and probabilities of failures occurring, and the level of expenditure in maintenance to keep the service available and to avert disaster.
IT industry usage
Whole-life cost is often referred to as "total cost of ownershipTotal cost of ownership
Total cost of ownership is a financial estimate whose purpose is to help consumers and enterprise managers determine direct and indirect costs of a product or system...
(TCO)" when applied to IT hardware and software acquisitions. Use of the term "TCO" appears to have been popularised by Gartner Group
Gartner
Gartner, Inc. is an information technology research and advisory firm headquartered in Stamford, Connecticut, United States. It was known as GartnerGroup until 2001....
in 1987 but its roots are considerably older, dating at least to the first quarter of the twentieth century.
It has since been developed as a concept with a number of different methodologies and software tools. A TCO assessment ideally offers a final statement reflecting not only the cost of purchase but all aspects in the further use and maintenance of the equipment, device, or system considered. This includes the costs of training support personnel and the users of the system, costs associated with failure or outage (planned and unplanned), diminished performance incidents (i.e. if users are kept waiting), costs of security breaches (in loss of reputation and recovery costs), costs of disaster preparedness and recovery
Disaster recovery
Disaster recovery is the process, policies and procedures related to preparing for recovery or continuation of technology infrastructure critical to an organization after a natural or human-induced disaster. Disaster recovery is a subset of business continuity...
, floor space, electricity, development expenses, testing infrastructure and expenses, quality assurance
Quality Assurance
Quality assurance, or QA for short, is the systematic monitoring and evaluation of the various aspects of a project, service or facility to maximize the probability that minimum standards of quality are being attained by the production process...
, boot image control
Boot image control
A boot image control strategy is a common way to reduce total cost of ownership in organizations with large numbers of similar computers being used by users with common needs, e.g. a large corporation or government agency...
, marginal incremental growth, decommissioning, e-waste handling, and more. When incorporated in any financial benefit analysis (e.g., ROI
Return on investment
Return on investment is one way of considering profits in relation to capital invested. Return on assets , return on net assets , return on capital and return on invested capital are similar measures with variations on how “investment” is defined.Marketing not only influences net profits but also...
, IRR
Internal rate of return
The internal rate of return is a rate of return used in capital budgeting to measure and compare the profitability of investments. It is also called the discounted cash flow rate of return or the rate of return . In the context of savings and loans the IRR is also called the effective interest rate...
, EVA
Economic value added
In corporate finance, Economic Value Added or EVA, a registered trademark of Stern Stewart & Co., is an estimate of a firm's economic profit – being the value created in excess of the required return of the company's investors . Quite simply, EVA is the profit earned by the firm less the cost of...
, ROIT, RJE) TCO provides a cost basis for determining the economic value of that investment.
Total cost of ownership is also common in the automobile
Automobile
An automobile, autocar, motor car or car is a wheeled motor vehicle used for transporting passengers, which also carries its own engine or motor...
industry. In this context, the TCO denotes the cost of owning a vehicle from the purchase, through its maintenance, and finally its sale as a used car. Comparative TCO studies between various models help consumers choose a car to fit their needs and budget.
TCO can and often does vary dramatically against TCA (total cost of acquisition), although TCO is far more relevant in determining the viability of any capital investment, especially with modern credit markets and financing. TCO also directly relates to a business's total costs across all projects and processes and, thus, its profitability
Profit (accounting)
In accounting, profit can be considered to be the difference between the purchase price and the costs of bringing to market whatever it is that is accounted as an enterprise in terms of the component costs of delivered goods and/or services and any operating or other expenses.-Definition:There are...
. Some instances of "TCO" appear to refer to "total cost of operation", but this may be a subset of the total cost of ownership if it excludes maintenance and support costs.
Understanding and familiarity with the term TCO has been somewhat facilitated as a result of various comparisons between the TCO of open source and proprietary software. Because the software cost of open source software is often zero, TCO has been used as a means to justify the up-front licensing costs of proprietary software. Studies which attempt to establish the TCO and provide comparisons have as a result been the subject of many discussions regarding the accuracy or perceived bias in the comparison.
See also
- Benefits Realisation ManagementBenefits Realisation ManagementBenefits realisation management is the explicit planning, delivery and management of whole life benefits from an investment. An investment is only successful if intended benefits are realised and BRM supports key choices and actions to achieve this success...
- InfrastructureInfrastructureInfrastructure is basic physical and organizational structures needed for the operation of a society or enterprise, or the services and facilities necessary for an economy to function...
- Asset managementInfrastructure asset managementInfrastructure asset management is the integrated, multi-disciplinary set of strategies in sustaining public infrastructure assets such as water treatment facilities, sewer lines, roads, utility grids, bridges, and railways. Generally, the process focuses on the later stages of a facility’s life...
Further reading
- Riggs, James L., (1982), Engineering economics. McGraw-Hill, New York, 2nd edition, 1982.
- Norris, G. A. (2001): Integrating Life Cycle Cost Analysis and LCA, in: The International Journal of Life Cycle Assessment, Jg. 6, H. 2, p. 118–120.
- Schaltegger, S. & Burritt, R. (2000): Contemporary Environmental Accounting. Issues, Concepts and Practice. Sheffield: Greenleaf Publ.
- Kicherer, A.; Schaltegger, S.; Tschochohei, H. & Ferreira Pozo, B.: Eco-Efficiency. Combining Life Cycle Assessment and Life Cycle Costs via Normalization, International Journal of LCA, 2007, Vol 12, No 7, 537-543.