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Worked example: Measuring life cycle costing

<aside> <img src="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" alt="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" width="40px" /> In this section we explain how you can use data to measure and monitor progress against the goal of promoting life cycle costing approaches in procurement.

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What is it?

Life-cycle costing, or total cost of ownership refers to the accounting practice of determining the compound cost of an asset. In the context of procurement, buyers use life-cycle costing to evaluate the entire cost of owning something, typically a machine of some kind. So the life cycle costing associated with a piece of equipment might include the original purchase, operating costs, any licensing costs, maintenance costs and disposal costs. Other elements that can be considered are failure costs and the cost of replacing parts.

Life-cycle costing can be applied to construction projects where buyers evaluate the cost of construction and then the cost of managing a building over a given period. This cost value can then be offset against its intended use, so for a school project a ten year life cycle cost can be measured against the number of students that will be educated during those years.

Why do it?

Life cycle costing has a role to play in securing long-term value for a buyer as well as reducing unnecessary wastage, and emphasizes the lifetime value of an asset. Not using life cycle costing leads to a focus on low, immediate costs and not paying attention to elevated servicing or maintenance costs associated with lower quality equipment.Understanding the life cycle cost of an asset has historically been even more difficult because it was hard to record and analyze data correctly. However, advances in computing and analysis capabilities have made it much easier to gather and analyze spending against an asset.

Today governments can more readily gain insights into the total cost of assets over time. This in turn allows buyers to purchase not just an item but a service that supports the use of an item. For instance a construction project might include construction and management of the asset.

Using good procurement and combining it with spending data can give buyers even greater insight into the whole life cycle cost of their assets. The Open Contracting Data Standard can help power such analysis by linking the various stages of the procurement process.

Benefits

Understanding life cycle costing has multiple positive effects for those seeking to procure for better social and environmental outcomes:

<aside> <img src="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" alt="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" width="40px" /> Use the data to demonstrate how you taking value for money seriously, by considering the long term.

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<aside> <img src="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" alt="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" width="40px" /> Rewards suppliers and teams that are committed to delivering a high quality product instead of securing a quick sale.

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<aside> <img src="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" alt="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/be592384-8d76-44a0-8696-1bdc7be9cb38/Icons_Light_Green5.png" width="40px" /> Good information on life cycle costing means using fewer resources for longer, reducing waste.

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Getting started

Having identified an asset you want to measure, you need to combine the data that makes up its cost from multiple sources, but taking care to exclude irrelevant data. For instance, if you are seeking to measure the life cycle cost of a waste collection vehicle, you will want to include the cost of new tires, but not the cost of tires for road sweeping vehicles.

There are a wide range of analysis options in this area. Governments have very broad purchasing requirements from dental tools to defense vehicles and life cycle costing can be applied to most of these categories. Below we outline some of the cost features that you will need to include when conducting a lifecycle cost.

Initial investment:
1. The up front cost of a product.
2. Initial costs can be lessened by using financing options, but these need to be considered across the lifetime of a finance contract and any penalties that might be experienced.
Maintenance:
1. The cost of maintaining an asset can be included in the contract or priced separately
2. Look for reliable evidence of maintenance costs from other users of the same or similar assets.
3. Consider whether there are any restrictions on maintaining a product yourselves, e.g. does using an unqualified engineer to examine a laptop invalidate a warranty?
Licenses:
1. Assets may come with usage licenses or software that is used to run an asset may include a license. Be wary of costs around over usage or limitations on how you can use the software or data you enter into the system.
Staffing:
1. Be mindful of the time and resources required to manage an asset. You may choose to purchase on a supply and maintain basis, in this case it is tempting to believe that there is no staff time to be spent on the asset, but you will still need to manage the contract and monitor and evaluate the supplier’s work. Every asset will consume staff time, be sure to assess this cost conservatively.

Click through to the following sections to find out more about the process and data needed to calculate life cycle costs:

Options for data use

At the beginning of this section, we introduced ten different ways in which you can use data to drive and measure sustainability in your procurement. From these options, we have selected four which can be especially useful for life cycle costing approaches:

Forecast contract impact (Option 4)

In its simplest form a life cycle cost can be derived from historic data on contracts associated with an asset and use this to form an estimate of life cycle costing. For instance, the life cycle cost of a computer server should also include electricity as well as staff time to maintain it. Using the information on contracts can be enough to establish a benchmark for further analysis.

Monitor contract performance (Option 7)

When life cycle costing is established as the method for determining the value of an SPP contract, combining accounts payable data with contracting data is the most accurate way to monitor costs throughout the contract. By linking actual payments, or a share of payments to an asset, it is possible to derive detailed costs for an asset. One way to do this is by tagging payable data with a specific accounting code that ties expenditure to an asset or assets.

Sample indicators

Better data on the way that contracts are marshaled can give buyers real insights into the cost of running a service. This gives governments the ability to make sound investment decisions but also to avoid wasting money on products that don’t deliver value for money for the taxpayer.

Good life cycle data can improve trust in government through thorough reporting of decisions. This can be supported by publicly demonstrating that good investment decisions are being made, sharing data to encourage better purchasing practices, and avoiding reporting about government waste from purchasing the wrong products.

In addition to public statements on policy implementations, the data can be used to generate a viable feedback loop that provides detailed information on the effectiveness of life cycle costing. This includes sharing data on the most costly features of running different types of assets, knowing which data to record before making a purchase decision, and gathering data throughout contracts to better understand whether costs are deviating.