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Capital Management: The Missing Performance Driver

Does your company measure up?

Fortnightly Magazine - September 2005

of corporate governance and management. It involves the complete set of performance-management and corporate-governance processes, including strategic planning, capital allocation, asset management/optimization, and performance measurement/incentives. Four integrated areas should be addressed to achieve top-tier capital management:

  1. Integrated portfolio management processes: the “right” objectives, the “right” amount of capital applied to the “right” parts of the business; 
  2. Strategic management governance model: the “right” responsibilities and accountabilities;
  3. Asset optimization: the “right” decision-making tools at the tactical level; and 
  4. Performance measurement: the “right” measures and incentives.

Few utilities do this well, i.e., planning and managing performance by looking primarily at operational performance and O&M costs, with little emphasis on getting the most out of their capital dollars. The traditional planning and budgeting process fails to drive a comprehensive look at capital needs, links them ineffectively with outcomes, and does not facilitate appropriate tradeoffs at each level of the organization. There typically is a heavy emphasis on budgets, disconnects from strategic plans to resource allocation, poor business unit-level planning, and insufficient emphasis on shareholder value-based measures.

The Corporate-Planning Blues

A recent Accenture survey of corporate executives revealed that close to two-thirds are unhappy with one or more aspects of their corporate-planning processes. The highest level of dissatisfaction was with the disconnect between strategy and capital allocation.

Building these capabilities is not a challenge of infrastructure, or even technology, but rather a challenge to change how we do business and measure performance. It challenges executive accountability and requires analytic rigor. The largest hurdle often is mustering the political will to address processes that hit so close to home for many executives.

When these problems are addressed as part of a broader improvement program, the results can be impressive. Of course, one must remember that while operational improvement programs yield results, these improvements often are relatively short lived. The solutions to sustain the improved results generally are lacking. Ultimately, increasing costs and performance reductions creep back. When corporate performance management strategies are addressed concurrently the result is more long-lasting, yielding more sustainable results and reduced performance volatility.

A key example of this is illustrated by one of the consistent high performers in our analysis, Equitable Resources. While we can debate all the drivers of Equitable Resources' performance results, one thing does stand out. In the mid-1990s, Equitable, suffering under poor performance, moved to incorporate Shareholder Value Analysis (SVA) and increased attention to SVA drivers such as ROIC into its management processes. The result has been an ability to anticipate markets and effectively allocate and reallocate capital in anticipation of market cycles where it has produced optimal returns.

Success: A Focus Away From Operations

For most utilities, the weaknesses in the portfolio management processes reflect their overall governance model. Most utilities historically have had an operational focus, whether on generation or T&D. This operational management style works well in smaller enterprises and under paternalistic regulatory regimes. However, as utilities increasingly are exposed to competitive pressures, lengthened regulatory cycles, and increasing capital demands, decision-making becomes more complex and the focus on shareholder value increases.

We continuously observe this operational