Lifecycle costing is one of the product costing methods that looks at the phases or stages of the product lifecycle. Today’s global market is ever-changing and the internet of things influenced by social media has already revolutionized the way customers’ used to buy. There are a number of Smartphone brands out in the market, and every brand launches a new series of Smartphones every now and then. These brands put a lot of money into research and development, designing, and production of the products. Estimation of costs incurred over the whole lifecycle of the product is a key and we normally call it as Lifecycle costing. So what is Lifecycle Costing Method?
Definition of Lifecycle Costing
“Lifecycle costing is the accumulation of a product’s costs over its whole life, from designing to decommissioning.”
A product goes through five stages of a lifecycle; the costs incurred through each stage are different. If the management has hands-on information about the costs from inception to the disposal stage of the product, it will be in a better position to reduce these costs. Target costing approach doesn’t consider the costs incurred on research or disposal costs of the manufacturing facility. The lifecycle costing method considers the costs associated with the whole lifecycle of the product.
According to Berliner and Brimson, almost 80% of the costs incurred can be determined by early decision-making processes.
Five Phased of Product Lifecycle
Basically, we can understand the concept of Lifecycle costing by understanding product lifecycle phasing or stages. A product goes through five phases in its lifetime.
Pre-Production and Design Phase
In this phase, normally each entity incurs a large proportion of costs before they introduce the product to the market. These costs include manufacturing set up costs, research and development, designing, feasibility, and acquisition of other resources. A Smartphone is a perfect example of a product where the pre-production or design costs are a large portion of the total product costs.
Introduction to Market Phase
When we launch the product to the market, the implementation of marketing strategy is the key to its success. Pricing, promotion, and placing decisions play a key role in the successful launch of any product. These steps, however, incur extensive costs, usually on marketing and advertising.
If the product launch is successful, the product will see rapid growth in this stage. The marketing and advertising costs will continue to incur. Furthermore, place expansion and small after-sale services might also become part of product lifecycle costing in this phase. The profits start increasing as the sales increase.
In this stage of the product lifecycle, initially, the sales will be higher and then will stay constant over a short period before declining. In addition, the profits will also be high initially at this stage. The costs incurred in this stage are mainly after sale and services costs. Marketing and advertising costs depend on the marketing strategy of the company. The management might decide to spend in aggressive marketing to extend the maturity phase of the product. This will keep the sales constant and will give the company ample time to recover its fixed costs.
In this phase, the sales of the product start declining. The costs are also cut short to maximize profits. The company focuses on the niche selection of customers in this stage. The marketing and advertising costs are drastically cut down. The main costs associated in this phase are the costs of after sale and service departments. Also, the research and development costs start for the replacement product in this phase. As the customers provide valuable feedback, the company collects hands-on information from services departments; the idea phase for the new product starts simultaneously in this stage.
For successful implementation of Lifecycle costing method, there three key points:
- Able to minimize the design and pre-launch costs
- Allow to launch the product to the market in time
- Enable to increase the length of the product lifecycle
Benefits of Lifecycle Costing Method
- This approach gives management information about the costs of a product throughout its life i.e. from inception to finish.
- Lifecyle costing takes into account the costs incurred in the research and development phase which traditional costing methods ignore.
- It provides a clear indication of the profitability as the costs of disposal or dismantling of the manufacturing set up are also accounted for in this method.
- It provides management with a phase to phase break down of the costs incurred, which enables management to take corrective actions at any stage of the product lifecycle.
- With the implementation of this method companies tend to become more aware of the societal impact of the product e.g. the environmental effects of dismantling a manufacturing facility.
- This technique calls for participation from all departments of the company which results in better decision making.
Limitations of the Lifecycle Costing
- The Lifecycle costing approach might make management rush for the product launch.
- The management under this approach tries to extend the lifecycle of the product which may result in extensive costs and affect the overall portability of the product.
- If the product launch is failed, it is difficult to recover the full lifecycle costs as the pricing decisions are already taken.