Effective asset management starts with good assets

PEMAC Former Director Leonard G. Middleton - In the CBQ
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From a long career in engineering, project management, maintenance, reliability, and asset management, here are some of my observations and related thoughts. My experience has taught me that there is a very direct link between effective asset acquisition (project selection and execution), and effective asset operation (asset operations and maintenance) in providing value to the organization.

Initial step in improving performance in asset intensive organizations

From the ISO-55000 standard, an asset “has potential or actual value to an organization”, and asset management is “coordinated activity of an organization to realise value from assets.”

From an organizational strategy viewpoint, an organization’s physical assets are the physical embodiment of their actual asset management strategy. Confusion and credibility problems can occur when the clear statements made by those physical assets are in conflict with the organization’s stated asset management strategy.

Assets have a significant impact on revenue derived from Operations and on O&M (Operations and Maintenance) costs for the life of the asset. Once an asset is in physical form, it can be difficult to improve revenues and O&M costs significantly.

Getting it right at the beginning is a much more effective use of limited resources (capital, people, and timeliness of opportunities), than trying to manage the deficiencies from substandard physical assets. In many cases if not done right, the assets remain in the compromised state, as it is often not technically, or economically, or politically feasible to address the deficiencies.

It may not be technically possible to physically change the asset to reduce the deficiencies significantly. Given the required amount of time and money (CAPEX and lost revenue) to implement, it may not be possible to put together a compelling business case for further change. Furthermore, organizations and the individuals who manage them do not like to admit they have made mistakes in the initial project, so the political will to identify errors and make significant changes rarely exists.

To provide the greatest organizational value, assets need to be suited for their intended use. Functional requirements for physical assets should include required quality standards and operating rates, as they impact revenue. Requirements should also include allowances in operations scheduling for scheduled maintenance, and identify and specify requirements for reliability and maintainability, as they affect output, revenue, and maintenance costs.

Importance of physical assets to organization

Changes to physical assets may be made to address a combination of regulatory requirements, strategic objectives, or to improve business performance. Improvements to business performance can include improvements in customer perceived quality of product or service offering (improving marketability or margin). It can also include Economies of Scale with increases to production or service volume resulting in higher profitability, or Economies of Scope with flexibility in volume or customization of service or product offering potentially reducing costs or improving customer service related to variable market volume or offering. Or it may be improvements to financial performance through reducing labour costs, variable costs, or overhead costs.

In asset intensive industries, effectiveness of capital investment is often measured through ROA / RONA (Return On Assets / Return On Net Assets). To increase overall ROA, a new initiative requires greater return than the average organizational ROA, while remaining within the organizational risk tolerance.

For projects, if we visualize the cumulative cash flow versus time during project execution and through the operating phase, it has the traditional project execution “S” curve with the gradual increase in spending as more resources get added and more work gets done, through to a higher “cash burn rate” during execution, then tapering off toward project completion. The project deliverables then get put into service potentially with a gradual ramp up through commissioning, finally going into full rate of operations generating cash based upon revenue generated and the related O&M costs. The slope of the cash flow versus time during the operating phase, is the project return versus time, and is greatly impacted by the project deliverables. Eventually the project break even point will be reached when the money invested in the project deliverables is recovered by the cash flow generated through the operation phase.

When things go wrong with project execution, often the impact is to the budget or the schedule, and it is obvious when the budget or schedule compliance is not met. Hence project managers focus closely to manage both budget and schedule. Depending upon the severity of the non-compliance, it can be a short-term issue in managing cash flow until the project deliverables pay back the investment.

Often the bigger long-term lifecycle issue is project deliverables. If the return versus time related to the deliverables is lower than forecast, then it will delay the project payback and this may not be obvious immediately, but only investigated after some time has passed. This lower return will continue for the duration the assets remain in that suboptimal configuration. Unlike the short-term impact of project budget and schedule non-compliance, this can be a permanent state, as operational or procedural changes can only go so far, and require intense management focus. The magnitude of operational improvements is constrained by the capability of the assets.

A common contradiction in asset management strategy is where an organization is aspiring to be a “world class” operation, but the dominant selection criteria for suppliers and service providers is “low bid”. In that situation, the aspiration is unlikely to be achieved. When making investments, the focus should be on value relative to cost, not just cost alone. Short-term focus on project related costs only and not value, can compromise the level of benefits from the project deliverables, and reduce the ROA.

In one severe case observed, a client made such poor decisions in vendor selection and project execution, that the site never operated above 70% of plant design nameplate. That resulted in an extremely poor operation and a poor return on their investment.

Recommendations for assets to provide more value to organization: Be smart in selecting and investing in physical assets

Use a structured evaluation process and include scoring for key organizational priorities. Strategic objectives, mandatory requirements, risk, and required timing / urgency / dependencies, as well as the financial measures should all be considered. The focus is on reducing subjectivity in selecting investment initiatives, and focusing on organizational values. Where appropriate, focus on increased revenue, as cost reduction can occur during operation, only if the assets are appropriate to their intended use.

Identify all dependencies of initiatives as the benefits are unlikely to be fully achieved without implementing them all. An example is implementing transactional software (ERP, CMMS, etc.) to achieve significant benefits, assuming a change in processes to achieve those benefits, not just automating existing transactional processes which only reduces incremental labour costs. Without the investment in redesigning processes and training in the new processes or software, it is unlikely to achieve the desired benefits on transactional efficiency only, and therefore unlikely to provide the required return on investment.

Identify all resources required for success of initiatives including changes to OPEX and required CAPEX to achieve specified benefits, and the value of in-house resources (quantity and skill) required. Initiatives that use in-house resources should not skew evaluation against those using outside resources. Those in-house resources could provide value to the organization doing other work, if they were not doing project related work.

Perform incremental analysis of initiatives and evaluate changes to potential benefits of incremental increases of the investment. Determine if the additional expenditure will increase the overall ROA of the initiative. For example, a one percent increase in CAPEX may increase the return by a significant amount, and well below the point where diminishing returns come in. Incremental analysis is counter to the common practice of constraining costs to the point where it often reduces the value from the deliverables thereby reducing the resulting ROA. This adverse result may occur through not fully understanding where the benefits come from and what dependencies are required to achieve the full benefit. Often in these situations it is assumed the benefit is achieved without making the full investment. Understand that the law of diminishing returns works at both extremes. As you decrease costs past a point, the value of the benefit you forgo, may be much greater than the money saved.

Involve the end-users in development and evaluation of initiatives to get their knowledge and perspectives in defining the issues that need to be addressed and the development of effective solutions. Their involvement in identifying the issues and potential solutions will improve their buy-in on the chosen solution, which can greatly increase the success of the initiative. This may require additional effort by project and engineering technical resources to effectively communicate with non-technical end-users.

Be smart in project execution

Use the resources needed to effectively execute. Using competent and motivated resources with available time allocated to effectively support the project, are critical for success. A competent project manager capable of managing the critical project execution aspects, including risk, project planning, people management, time management, and adapting to unexpected events, and with sufficient time allocated to manage all their roles, is also critical for project success. It is not unusual for members of the project team to need to manage multiple tasks or projects, but there must be enough time allocated to manage all the required work.

Involve end-users in the project execution team to make better decisions using their different perspectives and increased knowledge base, combined with that of the project team specialists. Similar to the discussion above on selecting initiatives, their involvement also improves buy-in with the end user group who can have much to say about how successful the project was. This too can require additional effort and time from the project technical specialists to effectively communicate with the non-technical people.

Plan well, and watch for and manage deviations from the project plan. Effective project planning is fundamental to good project management, and the capability of the project manager is critical to its success. One of the truisms of project management is “we do not plan to fail, but may fail to properly plan”.

Improve cash flow during Start-up by planning the ramp-up phase effectively. During start-up, it needed the resources prepared and available for use. These include documents (current drawings, manuals, SOPs, maintenance tactics, job plans, BoMs / spare parts lists, etc.), supporting spares and special tools. And have trained competent resources to operate and maintain project deliverables to support optimal ramp-up.

Check how smart the investment was

Evaluate project deliverables, after the assets have been in service for sufficient time for proper performance evaluation. Evaluate the deliverables performance relative to what the project initiative promised. Evaluation should include all actual one-time project related costs, both CAPEX and OPEX during the early operating phase. Sometimes OPEX is used to address project deficiencies that were not resolved during the project phase, and should be included in project costs to determine what the actual investment was as part of evaluation for consistency in evaluation between projects.

Use performance of project deliverables as a critical measure of project success (O&M costs, quality, output, etc.). Weight its performance high within the organization for its long-term value generation and impact on lifecycle costs, relative to shorter-term impact of project budget and schedule compliance. Effective project deliverables can over time offset the impact of the budget and schedule non-compliance. A project with poor project deliverables done on time and on budget, remains a bad project with its negative long-term impact.

Review the structured evaluation process to ensure the priorities are correctly reflected in the scoring, including dependencies. Determine if the right projects are being approved, and that lower priority projects are not approved over higher priority projects. Adjust scoring and weighting systems to improve evaluation process results, as required.

The bottom line is that the organizational culture needs to be embedded with the philosophy that addressing assets at the beginning, will achieve the best performance for the organization. This is especially important at the top of the organization where investment decisions are typically made, but where potential outcomes and how the value is provided may not be fully understood.

Leonard G. Middleton is a Former Director of PEMAC, www.PEMAC.org.

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