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Capital Management: The Missing Performance Driver

Does your company measure up?

Fortnightly Magazine - September 2005

spending directly or indirectly is affected by these policies, and historically, policies have been treated predominantly as only a technical, rather than a commercial, consideration. Technical management can be a differentiating capability by treating policy development and execution with a "commercial lens," complete with business cases, to translate corporate philosophies on risk and performance into tactical execution.

Most capital-intensive industries embrace asset optimization decision making at the tactical level. For example, when Chevron discovered that it was spending more than its competitors to execute major projects, it developed a rigorous process to manage all capital investments. The Chevron Project Development & Execution Process (CPDEP, nicknamed "Chip-dip") contains five very well-defined phases. The first three are designed to ensure that an organization fully evaluates a project's worthiness. In a 1998 interview, Vice Chairman Jim Sullivan observed that without sufficient "front-end loading" focused on evaluation "you might select the wrong project, and even if you build it well, it will still be the wrong project." Today CPDEP provides a common language across Chevron, and engineers at all levels of the organization are trained on the methodology that can be applied, with different levels of rigor, to all projects, from a $500,000 "in-kind" equipment replacement to a $1 billion deepwater platform.

Several North American T&D utilities are starting to embrace asset optimization, and it has become institutionalized at many UK and Australian utilities. These companies have seen sustainable reductions of total expenditures (cap-ex and op-ex) in the range of 10 to 15 percent (which are frequently re-invested back into the business) from:

  • Significantly improved T&D infrastructure decision-making, leading to higher returns through capital efficiencies, or additional outputs for the money spent;
  • Enhanced integration of capital, op-ex, revenue, outage, and resource planning-leading to better overall optimization and lower costs of rework;
  • Development of commercially aware policies that are also operationally efficient, providing significant cost reductions to both capital and operating spend at the same levels of risk; and
  • Potential standardization of materials, yielding significant cost reductions in the supply chain area.

Performance Measurement

Performance measurement is the final, and most important, piece of the puzzle. An effective measurement scheme serves as the glue holding the processes together and helps drive maximum value creation. Performance accountability often is insufficient across an organization. Metrics typically do not:

  • Support end-to-end process performance accountability;
  • Capture key value drivers; or
  • Support individual objective management.

Performance measurement involves a rigorous process to roll down metrics in an integrated, progressive manner from strategy throughout the organization, ultimately to individual incentives. In the process, metrics must clarify organizational boundaries and responsibilities down to the individual level. Metrics should be linked to all dimensions of SVA and ROIC, with the typical focus on EPS reduced. And the metrics should be designed top-down.

While utilities are dedicating significant attention to restructuring their balance sheets and pursuing operational improvements, little attention is being paid to the overall capital management and decision-making models. The pieces of an effective process invariably exist within a utility, but few companies excel at all dimensions. And even fewer effectively integrate the processes.