Chapter 10: Life Cycle Costing Flashcards
Traditional approach
Costs such as research and marketing incurred this year would be charged against this years profits even though the products that they relate to have not yet started generating revenue.
Profits by accounting period may not give a very good indication of the profitability of individual product lines over their entire lives.
Life Cycle approach
Selling price is set to maximise profits over the entire life cycle. Costs and revenues are assigned to products rather than time periods.
Profitability of a product can be assessed taking all the costs into consideration.
Shorter product life cycle
With the shortening of product life cycles and the ever increasing need to earn profits with limited resources, understanding the overall profitability of products over their lifetime becomes crucial.
Life Cycle costing for planning, control and decision making
Hint: Thinking about ALL costs incurred, linked costs, committed costs and design phase
-All costs can be taken into account when working our cost per unit and its profitability. Assists in setting selling prices and support decision making
-Attention to all costs will help reduce the cost per unit and will help achieve a target cost
-Many costs are linked. Example: More attention to detail can reduce manufacturing and warranty costs. More training can reduce machine maintenance costs.
-Costs are committed and incurred at different times. A committed cost is a cost that will be incurred in the future based on decisions that we have already made.
-Designing out costs - consider costs at all stages of product life cycle including end of life costs.
Calculating life cycle costs
Identify all costs incurred in each stage.
Establish total cost
Divide by the budgeted units
Impacts of life cycle costs - economies of scale
A business benefits due to the size of its operations. As the business increases its production capacity it will benefit from a number of efficiencies.
Example:
-Reduced material cost due to bulk buy discounts received with higher purchasing power.
-Reduced production costs because a higher number of units are produced in the machine running time.
-Advertising costs shared over higher number of units, therefore unit cost is lower
-Division of labour - business can benefit from division of tasks to allocate workers to specific tasks and benefit from increased efficiency.
-Technical E.O.S - benefit from new production techniques and advanced equipment as the business grows.
Unit costs should start to fall
Impacts of life cycle costs - mechanisation
The ability to mechanise production will reduce production time and cost.
Impacts of life cycle costs - Learning effect
Becoming faster at a task or activity when gaining experience of doing it.
