LIFE CYCLE COSTING estimates the costs and revenues attributable to a product over its entire expected life

cycle.

The LIFE CYCLE COSTS of a product are all the costs attributable to the product over its entire life, from
product concept and design to eventual withdrawal from the market.

The component elements of a product's cost over its life cycle could therefore include the following.
▪ Research and development costs Design costs
– Cost of making a prototype
– Testing costs
– Production process and equipment: development and investment
▪ The cost of purchasing any technical data required (for example purchasing the right from another
organisation to use a patent)
▪ Training costs (including initial operator training and skills updating)
▪ Production costs, when the product is eventually launched in the market
▪ Distribution costs (including transportation and handling costs)
▪ Marketing and advertising costs
– Customer service
– Field maintenance
– Brand promotion Inventory costs (holding spare parts, warehousing, and so on)
▪ Retirement and disposal costs, ie costs occurring at the end of a product's life, which may include the
costs of cleaning up a contaminated site
Benefit of life cycle costing
1. It helps management to assess profitability over the full life of a product, which in turn helps
management to decide whether to develop the product, or to continue making the product.

2. It can be very useful for organisations that continually develop products with a relatively short life,
where it may be possible to estimate sales volumes and prices with reasonable accuracy.

3. The life cycle concept results in earlier actions to generate more revenue or to lower costs than otherwise
might be considered.

4. Better decisions should follow from a more accurate and realistic assessment of revenues and costs, at
least within a particular life cycle stage.

5. It encourages longer-term thinking and forward planning, and may provide more useful information than
traditional reports of historical costs and profits in each accounting period.
Maximising return over the product life cycle
▪ Design costs out of products
▪ Minimise the time to market
▪ Minimise breakeven time (BET)
▪ Maximise the length of the life span

Cost Demand Revenue Profit

Development ▪ Research and development Nil Nil Loss
stage ▪ Testing cost
▪ Training cost
▪ Sampling cost
Introduction ▪ Manufacturing cost Low Revenue Loss
▪ Distribution cost
▪ High Marketing cost
▪ Inventory
Growth ▪ Manufacturing cost Growing Growing Profit
▪ Distribution cost
 ▪ Marketing cost
▪ Inventory
Maturity ▪ Manufacturing cost High High High
▪ Distribution cost (Maximum) (maximum) profits
▪ Inventory
▪ Marketing cost if long life cycle product.
Decline ▪ Manufacturing cost Decreasing Decreasing Low
▪ Distribution cost profits
▪ Marketing cost
▪ Inventory
▪ Disposal

Life cycle stage Description

Development stage ➢ Potential Customers are Unaware
➢ Design Cost
➢ Research and Development Cost
➢ Testing cost
➢ No production Cost
➢ No closing stock of Finished good
➢ No selling cost
➢ No Revenue
➢ Product will be loss making
Introduction stage ➢ Product is launched
➢ Potential Customers will be unaware.
➢ Heavy marketing cost will be incurred
➢ Production Cost will be incurred
➢ Closing stock of Finished good would exist
➢ Company Try to gain market Share
➢ Product would Start Earning Some Revenue
➢ Product would be loss making
➢ Cost/unit will be high.
Growth Stage ➢ Customer awareness will Increase
➢ Product Revenue will Increase
➢ Number of Customer will Increase
➢ Recovery of Initial Investment will Start
➢ Product will become Profitable
➢ Heavy marketing cost will be Incurred
➢ Closing stock of finished good will exist
➢ Selling and Distribution cost will be Incurred
➢ Demand will Increase
➢ Cost per unit will Reduce
Maturity stage ➢ Demand will be Stable
➢ Demand will be maximum
➢ Revenue will be maximum
➢ Production cost will be Incurred
➢ Selling and distribution cost will be incurred
➢ Closing stock of Finished good will exist
➢ Product modification would be made to sustain Maturity
➢ If product has short life cycle then No marketing cost will be incurred.
➢ If Product has long life cycle then marketing cost will be Incurred.
➢ Further reduction in cost per unit as a result of economies of scale.
Decline stage ➢ No of New substitutes will be Available
➢ Customer will Switch to New Substitutes
➢ Number of Customer Will decrease
➢ Revenue will Reduce
 ➢ Product will become loss making
➢ Company will Stop selling the Product

Question no 1 (life cycle costings)

Solaris specialises in the manufacture of solar panels. It is planning to introduce a new slimline solar panel specially
designed for small houses. Development of the new panel is to begin shortly and Solaris is in the process of
determining the price of the panel. It expects the new product to have the following costs.

Year 1 Year 2 Year 3 Year 4

Units manufactured and sold 2,000 15,000 20,000 5,000
$ $ $ $
R&D costs 1,900,000 100,000 - -
Marketing costs 100,000 75,000 50,000 10,000
Production cost per unit 500 450 400 450
Customer service costs per unit 50 40 40 40
Disposal cost of specialist equipment 300,000

The Marketing Director believes that customers will be prepared to pay $500 for a solar panel but the Financial
Director believes this will not cover all of the costs throughout the life cycle.

Required

Calculate the cost per unit looking at the whole life cycle.