Whilst the imperative to deliver programmes within a reduced capital budget is clear, it must be recognised that capital expenditure will only make up part of the total lifetime costs of the asset, whether that be transport infrastructure, a software implementation or a new office block. The challenge is balancing short term imperatives to reduce costs now, versus creating much higher longer term liabilities. Recognising this issue and establishing a framework and toolset to identify and optimise the trade-off between capital and operational expenditure can be of significant financial value, reducing the running costs and delivering major improvements in the underlying sustainability of an organisation.

Introduction

Whole life costing is about assessing the costs of your proposed asset throughout its entire life cycle, and using that insight to optimise the design so as to minimise the total lifetime cost, i.e. through design, construction, operation, maintenance, renewal and eventual replacement or decommissioning. Significant cost savings can be achieved if consideration of whole life costs is built into the design and build from the start. The analysis of whole life costs is also a key driver in enhancing organisational sustainability both directly through reduced material use and waste, more efficient logistics, and by establishing an explicit framework for lifetime review against which sustainability can be assessed.

Whole life costing is a central tenant of financial and procurement best practice, as articulated by HM Treasury, OGC, NAO and BSI guidance to name but a few. Whilst many organisations act on this, particularly in the public sector, there are many that fail to move beyond a traditional focus on minimising up-front capital costs. This article looks at bringing together whole life costing and sustainability principles in a single approach, designed to aid and focus option decision making in a pragmatic way such that lifetime costs are reduced and sustainability enhanced. Before looking at why there is a reluctance to allow whole life costing to drive decision making, or the specifics of the tool, it is worth reviewing what whole life costing and sustainability means.

Whole Life Costing

The British Standard ISO 15686 – 5 defines Whole Life Costing as a 'methodology for the systematic economic consideration of all whole life costs and benefits over a period of analysis, as defined in the agreed scope'. A key distinction is made between life cycle cost (LCC) and whole life cost (WLC). The former is concerned with the direct costs from construction to end of life. The whole life costs calculation adds to this the non-construction costs (e.g. land), income from the asset (not revenue) and externalities such as CO2 emissions. The key is to be inclusive and broad in scope, and most importantly for the whole life costs to drive decision making. The diagram below summarises this definition.

Moorhouse whole life costing

As noted at the beginning, the principles of whole life costing have not been fully adopted across business. There are many reasons for this including:

the typical separation of capital and operational management, in business and programme management;
the inherent uncertainty about predicting far future costs, leading to a focus on short term capital costs. This often means being precisely wrong, rather than approximately right;
doubt on how to undertake a whole life costing analysis, and a lack of organisational drive to do so;
an intense scrutiny of project spend, and budget. A fear of goingover budget, to the exclusion of all else, even if the specific whole life costing amendments have a massive ROI, and finally;
a misguided belief that WLC policies have been implemented - do not confuse adding together in a report the various costs over the whole life of the asset, with proactively using the principles to drive scope, design, and procurement.

We should note that a whole life costing approach is not always appropriate. Where the capital costs represent a very high percentage of total lifetime costs, or where there is little ability to flex design (eg regulatory restrictions) a whole life costing exercise will add less value, but may still add rigour to the overall cost management.

In our experience, many projects and programmes do not have a design philosophy of minimising whole life costs, or designing to increase sustainability. Design will often be based on “standard norms” and in such cases these concepts are at best bolt-ons rather than the fundamental core to the programme. Implementation will be localised and ad-hoc, driven by the professional nature of individuals in the programme team.

The UK markets are littered with examples of large projects that could have benefited from using whole life cost thinking. The UK's nuclear power stations are just one. Designed and built in the 1950s and 60s, they were not built with ease of maintenance or decommissioning in mind. The cost of decommissioning, currently estimated to be circa £73bn, is undoubtedly much higher than if the design and budgeting approach had included consideration of whole life costs and particularly decommissioning activity.

Sustainability. Sustainability is a long established concept, but one rapidly growing in prominence and importance, becoming a matter of government policy, business competitive advantage, professional excellence, and many would argue individual responsibility. It has numerous categorisations, some of which are shown below.

Moorhouse sustainability categorisation

Whole life costing plays a significant role in supporting economic and natural resource sustainability goals, and provides a useful backbone against which to explore and assess the whole life sustainability of any programme and the subsequent outputs.

It is imperative that you understand your key stakeholders perspectives. A stakeholder paying for the build only will have a different view to one paying for operational costs over ten years, or the eventual decommissioning. Aligning objectives and approach right at the beginning of the project lifecycle will allow structural, contractual and funding decisions to be aligned to whole life cost reduction principles. The result - focussed, intelligent decisions about whether to spend more now to save more in the future, and still meet everyone's needs.

A systematic approach, such as the Moorhouse tool, will allows swift comparison of identified options, around three core components:

Conventional, direct financial life cycle costs analysis, based on definitions and criteria in the HM Treasury Green Book;
Separate calculation of the externalities, ie carbon dioxide equivalent (CO2e) emissions, both direct and indirect.
A sustainability analysis framework, based on a qualitative assessment of the many elements of sustainability, for example scoring each element of sustainability from very high positive to neutral to very high negative, and then translating this into a score of 4 to -4.

Complete the above for each identified option and compare; varying performance levels if appropriate, and selecting the lowest whole lifecost option; but recognise constraints arising from funding sources, minimum service requirements, and legal obligations; and capture and assess uncertainty and risks inherent in the above assessment.

To some degree the exact definition of sustainability is not important, as long as the definition used is consistent, inclusive and clear. The graphic below shows the seven sustainability themes, and the summary sustainability scores for a baseline design and then the variance of three options from the baseline.

Moorhouse sustainability themes

A major UK infrastructure project Moorhouse recently worked on has embraced whole life costing, such that the principles are embedded in the overall sponsor requirements, and a detailed tool as described above is being used to aid the design option selection. In order to establish whole life costing as a core management ethos and toolset a number of steps were necessary. First, to understand the case for whole life costing and ensure the buy-in of the impacted functions (finance, engineering, operations etc). Then establish a clear framework and definition of WLC and sustainability, with a simple, flexible tool to assimilate, assess and report of each WLC analysis. Ensure clear standards and best practice checklists are in place, supplemented by appropriate organisational education, awareness, and training. Finally, establish ongoing reporting and portfolio analysis to maximise the benefit realised, and integration into business as usual.

The portfolio level is key, where there are a significant number of opportunities to either reduce whole life costs, or reduce capital costs. The portfolio approach can be used to select the right combination of investment decisions so as to optimise the end result, to meet the corporate risk appetite, funding constraints and other priorities.

For example, it may be appropriate to select some design options that reduce capital costs at the expense of increased lifetime costs, as that releases capital for using on other design decisions that have a higher lifetime cost return. Each opportunity identified that reduces the WLC, in return for a higher up front CapEx is an incremental investment decision.

One approach is to review each individually, locally and consider the investment return eg NPV and % return hurdle. A more optimised solution is to simultaneously review and approve options to reduce WLC and CapEx, in order the finesse the overall impact on the programme. This active management of the portfolio of options to amend the balance of CapEx to WLC will deliver greater benefits to the overall programme than simply allowing each project manager/engineer to make individual discrete decisions.

Moorhouse capital costs diagram

Whatever the approach, it should ensure appraisal effort is commensurate with the potential benefits of the appraisal, has a clear base case, and a manageable number of options to assess.

Conclusions. There is significant value to be realised through the implementation of a whole life costing approach to major projects and programmes through lower costs and enhancement to the sustainability of the organisation. This increases medium and long term competitiveness and value for money, reducing reputational risk, and of course helping to deliver the ultimate ambition of economic, environmental and social sustainability.

The application of a whole life costing tool, integrated into a simple sustainability assessment framework, facilitates this process, and allows the proactive approach to reducing whole life costs. To create the most beneficial impact, whole life costing and sustainability must be tackled early in the programme, and a macro, cross-programme view must be taken. Finally, in terms of structure, it is recommended that the whole life costing and sustainability approaches briefly described above are built into programme PMO's and overall business portfolio management processes; and that the barriers between capital spend and operations are broken down.