Step Of Implementing The Activity Based Life Span Costing Model Accounting Essay



Life-cycle costing is an accounting method where expenses are allocated over the life of the product. In another meaning, it is also an assessment of the costs of a good or service over its entire life cycle. When evaluating alternatives projects, life-cycle costing is a concept of including acquisition, operating and disposal costs. It encourages an organization to conduct long-term planning focused on total cost which includes operational and support costs and also increase expenditure during planning and development stages where at the same time reducing subsequent operational costs. This life-cycle costing concept was developed by the United States Department of Defense during the early 1960s in order to make the government's purchasing system more efficient. In addition, product life cycle costing has been important in a governmental contracting because the government is concerned with the entire cost of a product or program. Furthermore, this concept is important in a number of commercial industries, such as mining or forestry. Material resources in those industries have a potentially finite life and many management decisions on such matters are contingent on the life of the resources. Not only that, an organization use life-cycle costing to keep tracks the costs attributed to each products and services from start to finish and therefore this method will anticipates costs at various phrases of the lifetime of a product or service.

Literature Reviews (Case Study)

Step of implementing the activity based life span costing model case study

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This analysis of step is based on the case study that I got for the life cycle costing model about supplying the vessel in the North Sea. At first step, we will need to create an activity hierarchy and network. When the hierarchy of activity is made, an activity network is formed. The circular nodes in the network are called activities while the diamond shaped nodes are design decision nodes. The letter in the decision nodes represents the different design scenarios. The second step should be identifies the resources that is used for manufacturing the product. The third step will be identify and order all the resource driver and activity driver and find the intensities. We should find out the important resource drivers like the direct labor, number of components and running hour. Based on my case study, they also include the fuel consumption driver too since they are doing the supply vessel in the North Sea. Based on my case study journal for this activity carried out, the direct labor is used to capture the maintenance and services activities performed by the crew and workers at the shipyards. If the shipyards are efficient and less have problem they doesn't need to keep services it thus it can help to reduce the direct labor cost of the worker and crew. Beside that they can choose different alternative of the workers as some of the country labor price is cheap example the labor from the Vietnam or Indonesia worker. Number of component is usually to capture the cost of replacing the component or the raw material that being used in the process of manufacturing. The type of component is highly dependent based on what type of fuel that is being used for the machinery , therefore the type of fuel used In the case study also important too although different type of fuel maybe cost differently . The fourth step should be identifying the relationships between activity drivers and design changes. They can compare the cost of the activities by using the historical data as it is more convenient. The historical data can be set as benchmark for the cost of the resource that will be needed. The historical data are obtained by asking the crew on FAR Scandia, Bjarne Nygaaren ( Farstad Shipping ASA, Alesund ) and Jim watt ( Farstad Shipping Ltd, Aberdeen). The last step will be compute the cost , energy consumption and waste generation of the consumption activities. There are 2 types of assumptions - user defined and predefined.

There are a few user predefined assumptions which are:

a) The historical data are used as a good guideline for the future development. We

assume the future will proceed similarly as the pass, which is common in all

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forecasting (Allvine, 1996)

b) Real revenues and cost are assumed constants

The maintenance program for the vessels is followed accurately so that the jobs in the

maintenance program are done as listed. The model, however allows some variability

(+- 10 per cent)

c) The technical condition of machinery and hull remain constant as long as maintenance

and service programs followed. Thus cost due to aging will not exist. Since only the

first ten years of the life span were considered, this assumption has very little influence

on the results. For the vessels older than 20years, it will be different.

The result of using the life cycle costing method

The result and the discussion are divided into 4 parts. First step to use the result to check the model. If the forecast distributions are abnormal (bell-shaped is normal) means that there is amount of uncertainty is distributed very unequally. The second step will be predicting and tracing critical success factors of future costs and revenues by finding out which single cost and revenue drivers contribute the most to the life-span profitability. The revenue drivers are the daily revenue, crew cost, Fuel related cost drivers, running hours and inv.overhead and interest rate. From figure 10, we can see that the main cost and revenue drivers are more or less the same as for the PSV as the whole, except the fuel related cost drivers have left out when determining the profitability for the shipowner. The next step would be identifying the critical success factor for the shipowner . The reason for the unreliable information of the critical success factor is because of they are very dominant based on figure 13. To eliminate this problem, all the critical success factors already identified are eliminated such as Daily Revenue, Interest Rate, Crew costs, Fuel Related driver, Annual running hours, all the different maintenance and service intervals, reimbursement for the usage of Norwegian seamen and insurance. Finally, we need to investigate the design scenario of this model. It is about investigating the MGO system and IF40, MGO affects mainly on cost of fuel consumption and I the cost of the consumption of the maintenance activities. in figure 12 the probability distribution for the aggregated saving of using IF40 is presented.IF40 is only expected to be more cost effective however the fuel consumption and running hour play important role too. From the shipowner's perspective, however using the IF40 is highly unprofitable since the consumption of the machinery increase while the benefits of the lower fuel prices cannot be harvested since the fuel is provided by the charterer. Figure 14 pinpoint most important maintenance cost factors. In summary, for the shipowner MGO is the best in most of the cases. The only cases where IF40 would benefit the shipowner are when the vessel is on line -chartering and the IF40 price is expected to be reasonable.

Analyses of the life cycle costing method

To reduce the cost of the manufacturing process, at first we need to indentify the problem statement that happens in the manufacturing. There will be 3 questions that will appear when they wanted to indentify the problem, first how can the amount of off-hire be reduced? Second is how can the amount of the life span cost be reduced? Third is how can profitable contracts being acquired? To reduce the cost, it can be applied by the tracing of significant cost contributor by determine the critical success factors- enable improvement through redesign of a product.

Effects of life cycle costing model on the strategic performance of the company

Activity-based life costing system utilizes an environmental impact indicator that always yields a comparable result. Besides that, activity life cycle based is based on the effective ABC method which is conjunction with total quality management (TQM), it is become more effective and yet still maintain the quality. Other than that, it performs assessments of all products and the entire organization in the same model and at the same time. The assessment can ensure that the products quality is important to them and it is maintain all the time, efficiency of the organization also will be monitor for the time being with the assessment. It is also the only method that can credibly handle overhead. It is a good system that will handle company resource and the efficiency of the company will remain, it will not degrade the company strategic performance I believe.

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Advantages and Disadvantages of Life-cycle costing (LCC) model

The advantages of life-cycle costing are that:-

a) It helps to compare and evaluate alternatives projects financially even if they have

different timing and magnitude of costs and savings.

b) It also provides the management with a more complete financial picture by

considering first cost, and all costs that incur and benefits over the entire lifetime of

the project.

c) Not only that, LCC enables the management to compare the different combinations

measures and choose the one that will maximize the savings and financial return.

d) Life-cycle costing also allows the financial benefits to be presented in the proposal.

For example, the net present value (NPV), internal rate of return (IRR), and cash


e) Lastly, it reduces the investment risk by projecting a more complete picture of the


On the other hand, the disadvantages of life-cycle costing are that:-

a) It is costly and time consuming when the organization use life-cycle costing model

b) The accuracy of data is doubtful.

c) In order to get the input data, it will always be challenging.