Determining Economic Life of Earth Moving Equipment by

Using Life Cycle Cost Analysis: Case Study

Pedram Kheirkhah Sabet Ghadam1, Mehdi Ravanshadnia2, Saeed Ramezani3

Abstract: The purpose of this paper is to demonstrate how the standard economic life model for equipment replacement can be slightly
modified to determine the economic life of earth moving equipment, taking into account the declining utilization of construction equipment
over its life. Specifically, new construction equipment is highly utilized to meet base load demand while older construction equipment is
used to meet peak demands, such as during the rush hour. The objective of this paper is to determine the economic life of earth moving
equipment using life cycle cost analysis for operation and maintenance (O&M) costs. Nonlinear utilization trend was used to estimate more
accurate operation time in real situations. Economic engineering techniques were implemented for calculating time value of money,
inflation and equivalent annual cost (EAC) of O&M. In addition, SPSS software was used to trend a nonlinear regression for estimating
future costs. Moreover, the data mining evaluation used in the case study made it possible to propose ways to use loader resources more
optimally. The study took place in construction projects with huge volume of earth moving applications in Iran. Meeting the project
schedules required a fleet of 73 loaders. The model of loaders used in this case study was WA-470 Komatsu. The recommendations
resulting from the study were implemented and, substantial savings were reported.

Keywords: life cycle cost, replacement age, economic life, construction equipment, loader, earth moving.

1. INTRODUCTION Firstly, to propose an LCC model for earth moving equipment

Construction equipment is one of the significant resources in
construction projects like dam, highway and railway which involve
huge amounts of earth moving applications. Operation and
maintenance costs of construction equipment make a considerable
amount of the project total cost. Most of these costs have a hidden
nature, like operation, training, software, inventory, test and
support cost. Project managers mostly pay attention to the
acquisition cost, and do not evaluate life cycle cost of equipment in
their account evaluations. However, studying life cycle cost of
equipment as a decision support tool could give the manager the
opportunity to make a more appropriate and accurate decision.
Otherwise, the hidden cost could lead to project loss.
One of the key decision areas in optimizing equipment
maintenance and replacement is determining economic life of
equipment by using life cycle cost analysis (LCCA). Notably in the
air line industry, the life cycle cost of an aircraft can be five times
more than its initial purchase. An advertisement by Compaq
Computer Corp. states that 85% of computer costs are usually
hidden, going to administration (14%), operations (15%), and the
bulk-about 56%-to asset management and service and support
(Campbell and Jardine 2001).
Therefore, life cycle costing is increasingly being used in
construction projects around the world due to several reasons
namely competition, increasing operation and maintenance costs,
and, budget limitations, expensive equipment or systems, rising
inflation, and increasing awareness of cost effectiveness among
product, equipment, and system users.
The major objectives of the present study were:
1 M.Sc. Student, Construction Management, Islamic Azad University
Science and Research Branch-Tehran, Iran; Email:
Pedramphoenix@gmail.com
2 Assistant Professor, Dep. of Construction Management, Islamic
Azad University Science and Research Branch-Tehran, Iran; Email:
ravanshadnia@yahoo.com, www.ravanshadnia.com
3 Research Associate, Maintenance of Logistic Research Center
Institute, Email: ramezani.sr@gmail.com
specifically earth moving plant.
Secondly, to determine economic life of the earth moving
equipment.
Finally, to develop a cost operation regression into nonlinear
trend with a higher R square, to determine economic life of 73
WA-470 Komatsu loaders during a case study.
2. BACKGROUND
LCC is a concept originally developed by the U.S. Department of
Defense (DoD) in the early 1960s to increase the effectiveness of
government procurement (Barringer and Weber 1996). Many
studies have been carried out on optimizing equipment
maintenance and replacement with LCCA. A study on determining
economic life of 2000 Montreal’s bus services led to saving
approximated $4 million per year (Simms et al. 1984). A model
proposed by Shen and Smith (2006) on life cycle cost (LCC)
factors as one of the design optimization criteria used genetic
algorithm (G.A) to optimize functional design and life cycle cost of
mechanical systems. Hinow and Mevissen (2011) chose the right
maintenance strategy by using genetic algorithm and its application
for life cycle cost optimization. To reduce LCC of the construction
project, one way is find out how to provide equipment required for
project implementation by deciding which part of the equipment
should be bought, leased or rented. For this purpose, Ravanshadnia
et al. (2010) presented a multi-stage decision making model.
Besides, some studies have been done in order to estimate life
cycle cost parameters. Seo (2006) presented an approach to
estimate products LCC with hybrid genetic algorithm and artificial
neural network (ANN). Also, There is a lot of research carried out
on LCC of plants and managing their spare parts (Mitchell et al.
2011, Jaafari and Mateffy 1990, Collier and Jacques 1984).
Fleischer et al. (2007) presented a generic and comprehensive
approach for estimating the distribution function of machine
warranty cost. Carpentieri et al. (2007) proposed a model to
determine the optimal spare parts volume in order to minimize the
operating cost and the lost production cost for unavailability. Most
of the research in the field of LCC utilization in civil engineering is
devoted to infrastructure projects like bridge and transportation
projects. Decisions on scenarios for maintaining infrastructures
have to be based on life cycle cost analysis (Kong and Frangopol
2004). A research carried out by Papagiannakis and Delwar (2001)
described the development of a computer model that performs life
cycle cost analysis of road way pavements, analyzing the cost of
both agency and the user. For more realistic life cycle cost
estimation for bridges, Chang and Shinozuka (1996) provided a
frame work which seismic retrofit and damage repair cost have
been considered.
3. LCC AND DETERMINING ECONOMIC LIFE
3.1 Life Cycle Cost Model
Life-cycle costing (LCC) analysis considers all costs associated
with equipment’s life cycle. Accordingly, this article proposes
equation 1 for calculating life cycle cost of earth moving
equipment:
This model is concerned with estimating construction
equipment cost over the life span of the equipment. Thus, the earth
moving equipment life cycle cost is expressed by:
LCCe = VAC + TC + IOC + IC + FC + MCC
(1)
+ RC + GOC + TC + DTC + SCC
Where:
LCCe is the earth moving equipment life cycle cost.
VAC is the equipment acquisition cost.
TC is the tire cost.
IOC is the cost of intermediate overhauls.
LC is the lubricant cost.
FC is the fuel cost.
MCC is the cost of maintenance and checkup.
RC is the repair cost.
GOC is the cost of general overhauls.
TC is the tax
DTC is the downtime cost.
SCC is the cost of sleep capital.
3.2 Economic Life Model
There are two key conflicts in establishing the economic life of
capital equipment:
(1) The increasing operations and maintenance costs of the
aging asset.
(2) The declining ownership cost in keeping the asset in
service, since the initial capital cost is being written off over a
longer time period.
Annual cost
Figure 1: Economic-life problem
These conflicts are illustrated in the Figure 1, in which fixed
costs (such as operator and insurance charges) are also depicted by
the horizontal line. Fixed costs will not affect the economic life
decision, so it can be omitted from the analysis (Jardine and Tsang
2006).
The asset’s economic life is the time at which the total cost is
minimized.
4. DETERMINING ECONOMIC LIFE OF
CONSTRUCTION EQUIPMENT
4.1 Selecting Equipment
Firstly, the equipment is selected and life cycle cost analysis is
used to determine its economic life. To have reliable results
requires that the selected construction equipment be adequate in
numbers. The cost and time data should also be reliable.
4.2 Understanding Organization Information
System
Furthermore, at a minimum, a life cycle costing data bank should
incorporate information such as user pattern records, descriptive
records (hardware and site), cost records, and procedural records
(operation and maintenance). Although data for life cycle cost
analysis can be obtained from many sources, their amount and
quality may vary quite considerably. Therefore, prior to starting a
life cycle cost study, it is important to carefully examine factors
such as data bias, data applicability, data availability, data
comparability to other existing data, data orientation toward the
problem under consideration, and data coordination with other
information. Some of the important sources for obtaining cost-
related data include (Dhillon 1999, Dhillon 1989).
4.3 Collecting Operation Time Data
The calculation using the classic economic life model assumes that
equipment is being replaced with similar equipment. It also
assumes that the equipment is used steadily year by year. Most of
the equipment is not used steadily year to year. New equipment
might be used frequently and, older equipment only to meet peak
demands.
To reach this goal, it must first be established how often the
equipment is used as it ages to find out when it is the best time to
replace aging equipment according to the underlying mathematical
model. The utilization data will trend, and can be described by the
equation of a straight line(Y=a-bX), polynomial or exponential
where Y is hours/year and X is the equipment age.
4.4 Collecting LCC Data
When making decisions about capital equipment whether for
replacement or new acquisition, all associated costs should be
reflected on. In section 3.1 an LCC model was proposed for the
earth moving equipment.
One of the advantages of this model is that since various costs
like oprator wage, overhead, compulsory insurance, inventory and
CMMS-computerized maintenance management system- (Zalud
and Lanc 1972, Green and Knorr 1989) do not have a significant
relationship with equipment age, they are asumed as a fixed cost
and will not be calculated for determing economic life, but those
are part of the budget.
 Nevertheless, it should be noted that there is no universal C1=Operations and maintenance (O&M) cost of a equipment
model for estimating all LCC elements. in its first year of life
Ci=O&M cost of a equipment in its ith year of life, assuming
payable at the start of the year, i=1,2, 3, . . . , n
4.5 Discounted Cash Flow Analysis (Interest, r=Discount factor
Inflation, NPV, Discounted Cash Flow Analysis, Sn=Resale value of equipment of age n years
EAC, Tax) n=Replacement age
C(n)=Total discounted cost for a chain of replacements
4.5.1 Interest and Inflation every n years
Which r=i/1+i in this equation.
When economic calculations are made, it is acceptable to work in To be fair, all possible cycles for the alternatives over the
terms of either nominal dollars-dollars having the value of the year same period of time must be compared.
in which they are spent or received-or in real dollars-dollars having
present-day value-. Provided that the correct cost of capital is used
in the analysis, the same total discounted cost is obtained whether 4.5.4 Equivalent Annual Cost
nominal or real dollars are used. This does assume that inflation
proceeds at a constant annual rate. The economic life model gives a dollar cost that is a consequence
To illustrate the method for obtaining the cost of capital, all of an infinite chain of replacements, or by modification for the first
calculations must be done in present-day. Therefore, the real N cycles. To ease interpretation of this total discounted cost, it is
interest must be calculated according to the following equation; useful to convert the total discounted costs associated with the
If=I+f+I.f. where If is real interest rate, f is inflation rate and I is economic life to an Equivalent Annual Cost (EAC) which is shown
interest rate (Dhillon 2010). in equation 3 (Campbell and Jardine 2001).
n
A+ Ci r i - S n r n
4.5.2 NPV
EAC ( n ) = i =0 ×i (3)
1- r n
In most cases, with replacement problems it is usual to assume that where
interest is payable once per year and so Present Value equation is A=Acquisition cost
used in the present-value calculations (Dhillon 2010). Ci=O&M costs of equipment in its ith year of life, assuming
payable at the start of year, i=1, 2, . . ., n
r=Discount factor
4.5.3 Discounted Cash Flow Analysis Sn=Resale value of equipment of age n years
n=Replacement age
It becomes economically justifiable to replace an aging equipment
C(n)=Total discounted cost for a chain of replacements
with a new one. Since it is usually years between replacements, every n years
rather than weeks or months as it often is for component preventive
replacement. The fact that money changes in value over time must
be considered. This is known as discounted cash flow analysis. The 4.5.5 Tax
Figure 2 shows the different cash flows when replacing equipment
on a 1-, 2-, and 3-year cycle. In most cases, economic life calculations would be conducted on a
before-tax basis. This is always the case in the public sector, where
tax considerations are not applicable. However, in privet sector, tax
must be calculated. Equation 4 shows the form of the EAC model
for after-tax, taking into account corporation tax and capital cost
allowance (Campbell and Jardine 2001).

NPV ( k ) = A 1
td 1 + 2
i (
itA 1 d (1 d )
2 )
k 1

i + d 1+ i (i + d )(1 + i) k
(4)
k
S k (1 t ) (1 t )
+ Cj
(1 + i) k j =1
(1 + i) j 1
where
i=Interest rate
d=Capital Cost Allowance rate
t=Corporation tax rate
Figure 2: Equipment-replacement cycles A=Acquisition cost
Equation 2 can calculate cash flow on n year cycle to decide Sk=Resale price
which of n alternatives would be best (Jardine and Tsang 2006). Cj=O&M cost in the jth year
n NPV(k)=Net Present Value in the kth year
Ci r i + r n ( A - S n ) A(1-d/2)(1-d)k-1 is the nondepreciated capital cost
C1 ( n ) The equivalent annual cost (EAC) is then obtained by
C ( n) = = i =1 (2) multiplying the NPV(k) by the Capital Recovery Factor
1- r n 1- r n
where i (1 + I ) k
(5)
A=Acquisition cost (1 + i )k 1
4.6 Trending Regression Graph
In the next step, the trend for Operating and Maintenance (O&M)
costs must be established. The equation on straight line would be
Y=ax+b where Y=cost/hour, and x=cumulative operation hours.
In most cases, both a linear and polynomial relationship exist
for Y(x). However, a polynomial equation will give a better fit to a
particular series of data. These polynomial equations can be
generated by using a standard statistical package such as Minitab
or SPSS.
loaders were being used according to their ages, and the operation
time in year which was scheduled could be expressed by equation
Y=2863.2e-0.051x. However, in reality owning to reasons which will
be evaluated in the conclusion, loaders older than 4-year performed
less than scheduled operation time in year which is shown in the
Figure 3. Also the real operation time data were trended, and this
equation Y=4000.3e-0.134x can describe it.

Operation hours in year

If the economic replacement age of a loader is set at n years,
then C(n) can be evaluated using the previously cited data and
converting the annual utilization to annual cost by integrating the
cost trend Y(x) over the appropriate utilization range.

4.7 Resale Value in Present Year

To draw the total cost graph, resale value in the present year will
be required. To solve this problem, finding the exact resale values
of equipment based on their ages is vital. So, expert views must be
used through a questionnaire.
Figure 3: Equipment operation time trend
The Figure 3 shows the trend line that was fitted to the
relationship between loaders’ utilization (hours/year) and loaders’
4.8 Determining the Economic Life of Equipment
ages. The reason for this relationship was that new loaders were
highly utilized to meet base load requirements while the older
As mentioned in section 3.2 by using the economic life model, in
loaders were used to meet peak demands.
addition to the results of the pervious steps during the model
process, the economic life is determined.
5.4 Collecting LCC Data
4.9 Sensitive Analysis
In this step, all the costs that were mentioned in the proposed LCC
model (section 3.1) were collected. As the projects that the
Finally, in the last step, a sensitive analysis is carried out for some
company was working on were related to public sector, tax was not
parameters which are identified during the model process, like
considered in the calculation of economic life.
interest rate, inflation rate, before and after tax consideration and
cost parameters in LCC model.
5.5 Discounted Cash Flow Analysis (Interest,
Inflation, NPV, Discounted Cash Flow Analysis,
5. CASE SUDY EAC, Tax)
5.1 Selecting Equipment
In this study, the inflation rate was 9.5 % and the interest rate was
12% because of unstable economics and lots of risk due to the
To implement the step by step framework, a large size construction
changing costs. Then by using the equation in section 4.5.1 the real
company was selected. This company owned several construction
interest became 22.64%.
equipment such as loaders, dozers, trucks, etc. which were studied to
Finding out the real interest rate, all costs were easily
determine the optimal replacement age for earth moving equipment
converted to net present value. Also EAC and total discounted cost
and to minimize total discounted cost. In this case, it was needed to
were calculated by equation 2, 3 in section 4.5.
modify the classic economic model and examine the total cost of the
group of similar equipment rather than individual units. Therefore,
73 WA-470 Komatsu loaders which were being used in construction
5.6 Trending Regression Graph
projects in Iran were selected. This number of WA-470 Komatsu
loaders was adequate for the purpose of the study. In addition, their
A plot of the trend in O&M cost would look like the Figure 4.
cost and time operation data were accessible and reliable.
Each equipment’s O&M cost is represented by a dot on the graph.
Equipment 1-73 is identified in the diagram. The polynomial line
was the trend that has been fitted to the dots. The equation
5.2 Understanding Organization Information System
calculated by SPSS is Y=1.366E-07x3-0.002x2+23.037x+65071.
All of the cost and maintenance data were managed by CMMS
software. The cost and time operation data were used through this
research.

5.3 Collecting Operation Time Data

As mentioned in part 3.3, in the selected construction company,

 Cost per hour

Annual cost
Figure 4: The trend of O&M cost

Figure 6: Optimal replacement age with and without

5.7 Resale Value in Present Year downtime and sleep capital costs

Resale value was calculated by experts’ view with a questionnaire

and the results were used for determining economic life as the 6. COMPARISON OF NONLINEAR VS LINEAR
ownership cost after converting to EAC. REGRESSION

In this study, unlike most studies, two nonlinear regressions were

5.8 Determining the Economic Life of Equipment used to estimate operation time and cost per hour which depend on
equipment age. This issue helps to estimate more accurate
The result of the model showed that the economic life of a WA- downtime and sleep capital costs. As shown in the Table 1, Table 2
470 Komatsu loader was 7-year, with an annual cost (EAC) of and Table 3 the R square factor is higher than linear regressions
109,986 $. This amount would be sufficient to buy, operate, and which gives this opportunity to the manager to make more accurate
sell the loader on a 7-year cycle as the Figure 5 illustrates. This is decision.
the optimal decision. Note that the amount in the annual budget to
fund replacements will be calculated based on the number and age Table 1: SPSS Output, Comparison Exponential vs Linear
of loaders and based on a 7-year replacement cycle. Regression for Estimating the Operation Time
Regression R R Square Equation
Exponential 0.937 0.878 Y=4000.3e-0.134x
Linear 0.854 0.730 Y=-196.0x+3344.9
Annual cost

Table 2: SPSS Output, Polynomial Regression for Cost/Hour

Model summary
R R-Square Adjusted R-Square Std. Error of the estimate
0.888 0.77 0.778 200044.270
ANOVA
Sum of df Mean square F Sig.
squares
Regression 9.52112 3 3.174E12 79.303 0.000
Figure 5: Optimal replacement age Residual 2.561E12 64 4.002E10
Total 1.208E13 67
Coefficients
5.9 Sensitive Analysis Standardized
Unstandardized coefficients
coefficients t Sig.
The results of the sensitive analysis of LCC parameters proved that B Std. Error Beta
economic life increased after omitting downtime and sleep capital Sat 23.038 39.187 0.338 0.588 0.559
cost. As the Figure 6 shows, without considering the downtime and Sat**2 -0.002 0.003 -0.784 -0.581 0.563
sleep capital cost and due to the fact that the real operation time did Sat**3 1.366E-7 0.000 1.351 1.624 0.109
not reach to the scheduled operation time. Economic life of WA- (Constant) 65071.776 132578.357 0.491 0.625
470 Komatsu loader was determined to be 9-year. Notes: The independent variable is sat.
 Table 3: SPSS Output, Linear Regression for Cost/Hour Carpentieri, M., Guglielmini, A. and Mangione, F. (2007). “A life cycle
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0.807 0.652 0.646 252572.478 natural hazard risk.” Journal of Infrastructure systems, ASCE, 2(3),
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