Modeling Life Cycle Costing Accounting Essay


Cost modeling is characterized by how the time value of money is considered and the degree of nonlinearity relating outputs to inputs. In economic theory this relation is typified as "constant returns to scale." In complicated cost modeling, neither of these characteristics is justified and required. First, there are modeling types that use exponential relations and still are linear homogeneous, such as Cobb-Douglas production functions. Second, models may use linear relations but do not exhibit constant returns to scale, like most optimization models. Furthermore, the majority of most nonlinear relations will also lead to nonlinear homogeneous models, with increasing or decreasing returns to scale or more complicated relations. The characteristics of the different models that can be employed in LCC are summarized in the following discussion.

In general, steady-state models are conceptually the simplest ones, owing to the fact that they lack any temporal specification and assume all technologies remain constant in time. Most LCA applications are steady-state models, as are substance flow analysis (SFA) and input-output analysis (IOA) models. This is the approach employed in environmental LCC (Huppes et al. 2004).

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Quasi-dynamic models are time series that are exogenously determined. They are a compromise between steady-state and dynamic models. These models assume that most of the variables remain constant in time, though they allow one or more of them to vary. Most CBA and some IOA models are quasi-dynamic. Conventional and societal LCC are, generally, quasi-dynamic. Dynamic models explain the development of variables over time, with past values determining future ones. For example, economic models may predict investments in the following year based on the profits of this year. In contrast to quasi-dynamic models, these values are derived endogenously. Macroeconomic models often are dynamic models.

For conventional and societal LCC, the use of quasi-dynamic models makes it difficult to directly compare the results with steady-state environmental methods. Therefore, environmental LCC is primarily set up as a steady-state method, designed to be compatible with LCA. Some aspects of societal assessment, the 3rd pillar of sustainability, may be linked to the steady-stare type of modeling as well, though highly relevant items such as income distribution and unemployment rates have a dynamic background. A clear disadvantage of the steady state approach to LCC is for firms in that the quasi-dynamic approach (i.e., conventional LCC) is the relevant way of comparing the cost of options or the attractiveness of investments. However, surveys indicate that some corporations are coupling steady-state environmental assessments and quasi-dynamic LCC.


External costs either are market based or resemble other money flows connected to a product's life cycle (e.g., taxes and tariffs). These should be distinguished from the cost of external effects. Such externalities include concepts such as willingness to pay (for avoiding these effects) or the cost of preventing the effects. Though it may seem like a nuance, external costs are part of the product system and should be considered in all types of LCC, while externalities are extremely uncertain to be monetized in the decision-relevant future and are, therefore, only considered in societal LCC.

2.3.1 Cost, Revenue, and Benefits

Consider the following example as an illustration. In multifunctional refinery production, LCA has 2 options to deal with product flows coming out of the refinery: to split up the refinery virtually, as by economic (or other) allocation, or to subtract the co-products, as by substitution. In cost terms, the economic allocation has an easy equivalent in cost allocation as applied in managerial accounting (cost management; Rebitzer 2005).

The equivalent of LCA-type substitution is subtracting the cost of some other production process having the same output. This method is, at times, applied in national (macroeconomic) accounting, though never in cost management. The substitution equivalent does not exist in LCC. The method applied is that of cost allocation, indicating which part of total cost, including profits, is due to each of the products sold, of course reckoning the cost due to just 1 of the products first. This example illustrates that there are good reasons to explicitly treat both cost and revenues in LCC and to specify how the revenues are dealt with. There seem to be no fundamental problems involved in adding the revenues in the analysis, as long as it is clear how it is being carried out. For very practical reasons, revenues are frequently left out, if they may be assumed to be rather identical for different product systems being compared, or if they are very small as compared to costs.

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2.3.2 Market Prices and Value Added

In national accounting the national product may be determined based on market prices or factor costs. The total of both is the same, though the means of arriving at the total are quite different: adding all expenditure on products, leaving out all intermediate sales, or adding up all factor costs, as payments for capital and labor. In LCC these approaches may be combined. However, under such circumstances it should be clear which method is employed where. From the point of view of a certain firm - and quite similar situations apply to some public organizations costs are reflected in the prices paid for products acquired and in the cost for providing capital goods and labor. When comparing the sales of a firm with the costs of products acquired by it, the difference is the gross value added: that is, the sum of labor costs and capital costs, including profits (excluding value-added tax [VAT] and other taxes). This value added may be left gross, or may be made net, after deduction of what is set aside to compensate for the wear and tear of the capital goods (i.e., depreciation). Capital goods acquired hence should not be lumped to other goods acquired, but should be covered by some measure of depreciation. The cost of borrowing (loans, leases, etc.) should be included as well, as should profits, which remain after deduction of the cost of borrowing. The treatment of depreciation and taxes is a delicate subject, as there are many conventions in different countries. Furthermore, conventional LCC often employs direct cash flows (i.e., without depreciation). In national accounting, these difficulties have been resolved, one way or another.

One way to avoid the aforementioned difficulties in LCC is by not detailing cost from a firm's point of view. Each product system, close to its kernel process, has a limited number of products together delivering the service as specified in the functional unit. Taking the expected market prices of just these products, including the waste disposal services implied in using the product, would provide the total life cycle cost. This simple method has 1 disadvantage in that it does not give insight regarding which factors determine costs, essentially making sensitivity analysis impossible. Furthermore, if alternative technologies are involved those are not yet on the market, it is not possible to use market prices. Then, more detailed in-firm type cost functions are to be used as models for specifying the cost.


The last dimension of LCC concerns the manner in which the different costs, revenues. and benefits are aggregated. Though costs are unambiguously summed, unlike environmental impacts, the selection of the appropriate indicator, (e.g.: net present value) and the decision as to if discounting should be carried out merit consideration. Further' one must also determine if a total cost over the life of the functional unit, or a normalized (e.g., annual) cost, should be employed. The latter is particularly important if 2 alternatives have different lifetimes and/or different operating costs or EoL scenarios. This section will evaluate discounting for each of the 3 types of LCC.

2.6.1 Discounting

The reasons for discounting depend very much on the question to be addressed. In conventional LCC, an individual firm may want to know if a profit can be made on a technology choice. It then at least has to deal with the real cost of borrowing. This market rate reflects the reliability of the firm (though the investment could also be financed out of equity, and then the earnings-price ratio for the sector and firm would define the discount rate). Some firms, such as in the information technology (IT), biotech, or pharmaceutical sectors, may have profit rates on investment above 20%, and hence should reckon with this rate. Typically, the discount rate for private investments is between 5%and 20%, to be decided by the private decision maker. For long-term projects in the public sector, such as utilities, the discount rates can be as low as 2%. For societal LCC, the question is how society would evaluate postponement of costs or benefits. Discounting of the LCC result (note that this is different from discounting cash flows within the calculation procedure) is inconsistent with the steady-state environmental LCC, and, as such, environmental LCC must present its results, for comparison with the long-term effects of LCA, in a time-invariant manner. However, the use of discounted cash flows for money flows occurring at different times within l product life cycle (usually for periods no longer than 5 to 15 years, similar to the depreciation period) is commonly applied and does not violate the steady-state assumption.

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2.6. Long-Term Discounting of Costs and Environmental impacts in Societal LCC

When analyzing the cost of a product system, it is tempting to use one (high) discount rate for economic calculations and another, low one (often 0) for environmental impacts. There are also advocates for a declining discount rate, beginning with an economic one (e.g., 107o) and phasing in, over the economic life, an environmental one (e.g., 0.01%). One should also evaluate, for societal LCC, if discounting should be the same for various environmental impacts. To discuss this issue, which can be elaborated upon in depth (see Howarth 1995, Hellweg et al. 2003)' it is useful to look at some typical environmental impacts that often dominate LCA.

Climate change has a number of outcomes around a most likely middle value, with low probability options in terms of runaway effects. Induced climate changes will last for several centuries, while the influences of climate change, including sea level rise, will last longer. The effects on nature in terms of biodiversity loss will last for as long as it takes to develop new species. A time horizon of a million years seems beyond what anybody would reckon as relevant. However' a time horizon of fewer than 1000 years seems reckless from a concerned point of view. Using a discount rate of 0.17a halves the importance of effects every 700 years. Therefore, the 0.01% rate seems an order of magnitude not to surpass to keep the environmentally concerned stakeholders on board.

Toxicity effects have a profile that is quite high at the outset, then decreases. However, in current timeless fate models within life cycle impact assessments, which also disregard natural background concentrations, heavy metals move to the oceans and remain in solution there for well more than a million years. By adding up the exposure times of individuals, weak effects in reality might still become dominant in the LCA. There is concern that calculating costs now for a future population much further away in time than humankind has lasted (let's say 50000 generations) is senseless due to many uncertainties as indicated in the questions and answers above. For example, with inexpensive solar energy and hyper filtration, the metals in the ocean may be a valuable stock to be mined, with depletion a problem instead of contamination. Using a0.|a/o discount rate will fade out the 1 million years' effects to 0. Therefore, toxicity requires a rate of 0.001Vo. On the other hand, toxicity models in life cycle impact assessment (LCIA) will also have to take time effects such as deposition, which removes toxics from the biosphere, into account in order to appropriately assess long-term environmental impacts.

Within abiotic resource depletion, extracted elements clearly do not remain underground, though they are still part of the mass of the (eco) system. With metals, for instance, there will be 1 part much more highly concentrated than in ores, and 1 part dissipating to very 1ow concentrations. Current depletion scores are very difficult to link to time series. One approach is to couple depletion to the increased energy cost of producing the resource as due to lower concentrations to be mined. as in the environmental priority strategy (EPS) system (Steen 1999a, Steen 1999b't. The weakness of such an approach is that it assumes price levels and technologies to be constant for a long time to come - essentially infinitely. The historical fact of the last centuries has been that technologies have developed rapidly, and have led to

LCC Implementation model (costing procedure) based on Kirk and Dell’Isola 1995)

Case study 1: Development of life cycle costing framework for highway bridges in Myanmar

In general, during the construction planning and design stage, the client or designers might implement the concept of life cycle costing to minimize the structure’s whole life cost without reducing the quality of the structure. In this case study, a highway reinforces concrete bridge was selected because most of RC bridge in Myanmar was implement with LCC method.

A model cost was established for calculation of LCC in this construction bridge.

LCC = Initial Cost +Maintenance Cost + User Cost

In this model, there are some factor was considerate like cost of delay time (CDT), Cost of additional maintenance of the vehicles (CAM) and Cost of additional fuel consumption (CAF). So, road user cost is calculated as:

Road User Cost = CDT +CAF+ CAM

In addition, D. Singh (2005) also state that there are other factor consideration when analysis the life cycle costing of this bridge project like agency costs, performance of facility, maintenance and rehabilitation, social and economic impacts of the system. Sensitivity analysis also used as a evaluate tool to further study the impact of factors for total cost of this bridge project like discount rate, traffic flow, defect occurring frequency and duration of maintenance operation.

From life cycle costing perspective in this case study, we can see that some result like:

Traffic flow duration of repair period will affect the choosing of bridge design and maintenance program.

Lower discount rate will increase the total LCC for traffic flow volume.

Better economic life will increase the LCC facility.

In conclusion, LCC is an important decision support tool to minimize the total cost and selection alternative construction method with those factor considerations in infrastructure development in Myanmar.