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Life-Cycle Cost Analysis

All new construction, reconstruction, rehabilitation and maintenance projects should employ some level of economic evaluation to determine the most cost effective method and timing.

The FHWA report FHWA-SA-98-079, Life-Cycle Cost Analysis in Pavement Design defines life-cycle cost analysis (LCCA) as:

“…an analysis technique that builds on the well-founded principles of economic analysis to evaluate the over-all-long-term economic efficiency between competing alternative investment options. It does not address equity issues. It incorporates initial and discounted future agency, user, and other relevant costs over the life of alternative investments. It attempts to identify the best value (the lowest long-term cost that satisfies the performance objective being sought) for investment expenditures.”

LCCA should be used as a decision support tool when selecting pavement type, determining structure and mix type (for flexible pavements), construction methods, as well as maintenance and rehabilitation strategy. Typically, LCCA involves the following basic steps:

  • Make initial strategy and analysis decisions. Certain baseline decisions, estimates and assumptions are needed in order to establish the parameters under which a LCCA can be carried out.
  • Estimate costs. Costs associated with the owning agency and users are calculated for each alternative.
  • Compare alternatives. Comparison usually involves expressing each alternative using a common metric such as net present value (NPV) or benefit-cost ratio (B/C).
  • Analyze the results and reevaluate alternatives. Results should be scrutinized for the most influential costs, factors and assumptions. A sensitivity analysis is often used to do this. Original design strategy alternatives should be reevaluated base on these results analysis in order to improve the cost-effectiveness of each alternative.

The end result of a successful LCCA is not simply the selection of one alternative over the other but the selection of the most cost-effective design strategy for a given situation and a greater understanding of the factors that influence cost effectiveness. The following subsections describe the general steps involved in a LCCA.

Initial Strategy and Analysis Decisions

Certain baseline decisions, estimates and assumptions are needed in order to establish the parameters under which a LCCA can be carried out. These decisions, estimates and assumptions can be broadly categorized as follows:

  • Alternative pavement design strategies. A “pavement design strategy” is the combination of initial pavement design and necessary supporting maintenance and rehabilitation activities. LCCA is most often used to evaluate two or more different pavement design strategies and determine their relative value.
  • Determine performance periods and activity timing. Because LCCA is performed in advance of actual pavement construction, estimates of pavement performance (e.g., how will a pavement deteriorate over time) and maintenance and rehabilitation effort timing (e.g., when should maintenance and rehabilitation activities be scheduled) need to be made so that an appropriate analysis period can be chosen and appropriate cost estimates made. Often, agencies can use past local experience to estimate these parameters.
  • Analysis period. The time period over which alternate design strategies are analyzed. The LCCA analysis period should be sufficiently long to reflect long-term cost differences between alternatives. For instance, if one pavement design alternative requires rehabilitation at the 15-year point and the other requires rehabilitation at the 25-year point, an 20-year analysis period would not provide a fair comparison between the two alternatives since it would include rehabilitation costs for one alternative but not for the other. In general, the selected analysis period should include at least one rehabilitation activity for each alternative. In the above case, a more appropriate analysis period might be 30 years or even 50 years depending upon the rehabilitation activity timing. The FHWA recommends an analysis period of at least a 35 years.

It is important to realize that the nature of these initial decisions, estimates and assumptions can be critical to the outcome of a LCCA. As input parameters are changed, the cost-effectiveness of alternatives will change.

Costs

Agency Costs

Agency costs are all those costs incurred by the owning agency over the life of the project. Items common to all alternatives need not be considered because their costs will cancel one another out. Agency costs include:

  • Preliminary engineering. Costs associated with preliminary items such as feasibility studies of alternative designs, permitting, engineering design and consultation for each alternative. For instance, one alternative may involve significantly more wetland mitigation which could be reflected in additional permitting and engineering costs.
  • Contract administration. Costs associated with contract administration.
  • Initial construction. Construction costs associated with each alternative. For instance, each alternative’s different roadway sections and material quantities should be accounted for in the analysis. Costs which are unique to each alternative should be included in the analysis.
  • Construction supervision. Costs associated with construction inspectors, construction management consultant costs, materials testing costs, or other costs associated with construction supervision.
  • Maintenance costs. Costs associated with maintaining the pavement surface at some acceptable level. Routine reactive-type maintenance cost data are often difficult to obtain. However, these costs are generally small and do not vary greatly from alternative to alternative. They have a negligible effect on NPV and can generally be ignored. When maintenance costs are available for the alternatives considered, they should be incorporated into the life-cycle cost analysis.
  • Rehabilitation costs. Costs associated with each rehabilitation alternative (typically they are resurfacing costs). They are computed in a manner consistent with the initial construction costs.
  • Administrative costs. Any other administrative or overhead costs unique to each alternative.
  • Salvage value. The value of an investment alternative at the end of the analysis period. This is usually included as a negative agency cost (an agency benefit) and is comprised of two major components:
    • Residual value. The net value from recycling the pavement. The differential residual value between pavement design strategies is generally not very large, and, when discounted over long periods of time (e.g., 35 years) tends to have little effect on LCCA results.
    • Serviceable life. The remaining life in a pavement alternative at the end of the analysis period. Serviceable life accounts for the differences in remaining pavement life between different alternatives. For instance, suppose alternative A reaches terminal serviceability at year 30, while alternative B requires a rehabilitation at year 25 that will extend its life for another 10 years. If a 30-year analysis period is used then alternative A has no remaining serviceable life at the end of the analysis period while alternative B has 5 years of remaining service life. This additional serviceable life must be accounted for in LCCA and is usually done so under the “agency cost” category. In this example, alternative B would be credited with a monetary value equivalent to 5 years of service life. Often this is done by calculating this 5 years as a percentage of design life remaining (5 years remaining on a 10-year rehabilitation design life would give 50%) and then multiplied by the cost of alternative B’s rehabilitation at year 25.

Sunk costs are a special category of costs. Sunk costs are those that are irrevocable and should not be used to influence the alternative selection decision. Consider the following example:

A certain pavement design strategy, alternative A, with a NPV of $20 million was selected two years ago and has already has its initial preliminary engineering completed at a cost of $1 million. Currently, a new technology has been approved for use and a second pavement design strategy, alternative B, with a NPV of $15 million is put forward for consideration. The already completed preliminary engineering cost for alternative A ($1 million) is a sunk cost – the money has been spent and is irrevocable. Therefore, in a life-cycle cost comparison comes down to the remaining $19 million for alternative A versus the $15 million for alternative B. There should extra consideration for alternative A just because $1 million (in NPV) has already been spent it. In this case, the lowest life-cycle cost is still alternative B even though $1 million (in NPV) has already been spent on alternative A.

User Costs

User costs are those costs that are accrued by the user of the facility during the construction, maintenance and/or rehabilitation and everyday use of a roadway section. User costs should be included in a LCCA because they tend to be several orders of magnitude larger than agency costs and can often be the major driving force in life-cycle cost. User costs can be divided into two basic categories:

  1. Normal operation. Roadway user costs associated with using a facility during periods free of construction, maintenance, and/or rehabilitation activities that restrict the capacity of the facility. These costs are generally driven by pavement roughness.
  2. Work zone. Roadway user costs associated with using a facility during periods of construction, maintenance, and/or rehabilitation activities that generally restrict the capacity of the facility and disrupt normal traffic flow. These costs are influenced by the level, duration, and character of capacity restriction (e.g., number of closed lanes, length of closure, traffic during closure, amount of stopping and starting, etc.).

Often times, normal operation user costs are assumed to be equal for all alternatives involved and only work zone user costs are analyzed. In general, user costs are an aggregation of three separate cost components:

  • Vehicle operating costs (VOC). Includes all costs associated with operating a vehicle including fuel, oil, part replacement, upkeep and maintenance.Vehicle operating costs will vary depending upon roadway condition (Figure 1 shows the relationship between VOC and roughness for a stretch of roadway in Washington State).
  • User delay costs. The costs associated with highway users’ time. User delay costs help quantify costs associated with slow downs due to construction and maintenance activities and denial-of-use. User delay costs are the most difficult and most controversial life-cycle cost to accurately calculate because they involve assigning a dollar value to individuals’ delay time. Table 1 (from Walls and Smith, 1998[1]) presents typical dollar ranges for different vehicles.
  • Crash costs. The costs associated with highway accidents. Generally crash costs are categorized into fatality, non-fatal injury and property damage only.

Figure 1. Percent Increase in Vehicle Operating Costs (VOC) for Various Vehicle Types as a Function of Roughness. Data are taken from HDM-4 calculations using basic default input values and pavement deterioration models calibrated for Interstate 5 (northbound lanes) pavements between Olympia and Marysville, Washington.

Table 1. Recommended Values of Time (February 2003 Dollars) (from Walls and Smith, 1998[1])
Passenger Cars Trucks
Single-Unit Combination
$11 to $15per hour $19 to $23per hour $24 to $28per hour

Alternative Comparison

Once the performance period, activity timing, and costs associated with each alternative have been established, they must be compared over the chosen analysis period. This is typically done in one of two ways: net present value (NPV) or equivalent uniform annual costs (EUAC).

Net Present Value (NPV)

NPV is determined by discounting all project costs to the base, or present, year (usually the present year, year of construction or year of authorization). Thus the entire project can be expressed as a single base year, or present year, cost. Alternatives are then compared by comparing these base year costs. NPV is a common economic calculation and, for roadways, can be expressed by the following equation:

Equivalent Uniform Annual Costs (EUAC)

EUAC is determined by converting all project costs to a uniform recurring annual cost over the analysis period. Whereas NPV discounts all costs to a single base year costs and then compares these costs, EUAC discounts all projects to a recurring yearly cost and then compares these costs. EUAC is a useful indicator when budgets are established on an annual basis. Typically, EUAC is determined by first figuring the NPV and then using the following formula to convert it to EUAC:

Analysis

Once initial NPV’s have been calculated for all alternatives they should be analyzed to determine the relative effects of inputs, the distribution of likely input values and the probability distribution of resultant NPVs. This analysis helps in determining which alternatives are better in which situations and also where improvements can be made to each alternative to make it more cost effective. Generally, analysis should involve a sensitivity analysis and a risk analysis.

Sensitivity Analysis

Sensitivity analysis involves looking at how variations in key input parameters affect its NPV. For each major input parameter (the determination of which input parameters are “major” or “significant” is somewhat subjective but can include discount rate, traffic volume, hourly value of user delay, agency costs, pavement performance life and rehabilitation costs) all other parameters are held constant while the parameter in question is varied over a reasonable range (either within some percentage of the initial value or over a range of values). The resultant NPVs should give a feel for the impact of input parameter variability on overall LCCA. The major disadvantage to sensitivity analysis is that no credit for the relative likelihood of input values. Therefore, equal weight is given to all input value assumptions regardless of their occurrence likelihood.

Probability Analysis

“Probability analysis” (sometimes called “risk analysis”) is a term that describes an analytical method used to account for the potential variability of input parameters. Basic LCCA analyses that determine life-cycle costs based on the most likely input parameters (e.g., the most likely labor costs, material costs, construction times, rehabilitation intervals, etc.) are called deterministic. Based on the assumed input values there is one and only one output value. Deterministic LCCA does not account for two vital items:

  1. Potential variability of input parameters. Typically, it is not possible to predict the exact value of an input parameter. Therefore, it is better to describe input parameters by a range of probable values rather than one single most likely value. LCCA results based on input parameters described this way will give a range of life-cycle costs.
  2. Likelihood of occurrence for an input parameter value. Although sensitivity analysis can show how the final LCCA result varies as input parameters are varied, it does not account for the relative likelihood of each one of these variations. Therefore, input parameters are best described as a probability distribution, which accounts for a range of values and their relative likelihood. LCCA results based on input parameters described in this way will give a probability distribution of life-cycle costs.

Probability analysis is important to perform because it can a range of potential life-cycle costs and their associated probabilities of occurring. With this level of information, an agency can assess the risks associated with a particular probability distribution of life-cycle costs (e.g., is it acceptable to accept the 20% chance that the project will cost more than $10 million?) and make the most informed decision possible. Furthermore, if probability analysis is not performed and left to an evaluator’s intuition, this type of subjective risk analysis can be wrong for any number of reasons including incomplete data, incorrect data or a poor perception of the risk.

More on Life-Cycle Cost Analysis (LCCA)

For more information concerning LCCA, refer to the following:

  • FHWA life-cycle cost analysis Web site page (www.fhwa.dot.gov.infrastructure/asstmgmt/lcca.htm). Contains free LCCA software and access to FHWA report FHWA-SA-98-079, Life-Cycle Cost Analysis in Pavement Design.
  • The Asphalt Pavement Alliance (APA) Web site (www.asphaltallinace.com). The APA has software conforming to FHWA procedures available for free download.

Summary

LCCA can best be summarized by two paragraphs from Walls and Smith (1998[1]):

“LCCA results are just one of many factors that influence the ultimate selection of a pavement design strategy. The final decision may include a number of additional factors outside the LCCA process, such as local politics, availability of funding, industry capability to perform the required construction, and agency experience with a particular pavement type, as well as the accuracy of the pavement design and rehabilitation models. Chapter 3 of the 1993 AASHTO Pavement Design Guide further discusses such other factors. When such other factors weigh heavily in the final pavement design selection, it is imperative to document their influence on the final decision.

Many assumptions, estimates, and projections feed the LCCA process. The variability associated with these inputs can have a major influence on the confidence the analyst can place in LCCA results. It all depends on the accuracy of the inputs used. The accuracy of LCCA results depends directly on the analyst’s ability to accurately forecast such variables as future costs, pavement performance, and traffic for more than 30 years into the future. To effectively deal with the uncertainty associated with such forecasts, a probabilistic risk analysis approach…as increasingly essential to quantitatively capture the uncertainty associated with input parameters in LCCA results.”



Footnotes    (↵ returns to text)
  1. Walls, J. and Smith, M.R.  (1998).  Life-Cycle Cost Analysis in Pavement Design.  FHWA report FHWA-SA-98-079.  Federal Highway Administration.  Washington, D.C.

 

 

 

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Thanks for sharing Life-Cycle Cost Analysis.