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Example of Life cycle costing problem


Energypac 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.

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 and comment on the suggested price.

Answer:
                                                                                               $'000
R&D (1,900 + 100)                                                                  2,000
Marketing (100 + 75 + 50 + 10)                                                 235
Production (1,000 + 6,750 + 8,000 + 2,250)                         18,000
Customer service (100 + 600 + 800 + 200)                             1,700
Disposal                                                                                     300
Total lifecycle costs                                                                22,235
Total production ('000 units)                                                         42
Cost per unit                                                                       $529.40

The total lifecycle costs are $529.40 per solar panel which is higher than the price proposed by the marketing director. Solaris will either have to charge a higher price or look at ways to reduce costs.

It may be difficult to increase the price if customers are price sensitive and are not prepared to pay more. Costs could be reduced by analysing each part of the costs throughout the life cycle and actively seeking cost savings. For example, using different materials, using cheaper staff or acquiring more efficient technology.

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