Analyse this

An essential input to any whole life cost analysis is the definition of the life, in years, of the equipment or construction elements to be used. Unfortunately, the data supplied by manufacturers and the industry in general is completely unsuitable for use in an analysis. To answer the question ‘how long will it last?' is as easy to answer as ‘how long is a piece of string?'

It is understandable that manufacturers are reluctant to provide information regarding how long their particular equipment will last beyond whatever warranty they provide. Especially so, given that they will have no idea of the external and internal factors to which the equipment will be subjected. What is disappointing is that few, if any, are able to provide the context within which they developed whatever life expectancy information is available.

Getting the detail right

The acquisition of accurate data concerning the expected life of equipment, materials and other components will be the most difficult activity within any analysis. The ‘life' can be described by different members of the project team in different ways. Among these are: design life, service life, economic life, useful life and technological life. Three of these are defined as follows:

• economic life - the estimated number of years until that item no longer represents the least expensive method of performing the functions required of it;
• technological life - the estimated number of years until technology causes an item to become obsolete;
• useful life - the estimated number of years during which an item will perform the functions required of it in accordance with some pre-established standard.

These headline statements are meaningless without some form of context. For example, does ‘design life' mean that the business requirements served by the equipment disappear at the end of the designed life? Or that the equipment fails to meet the minimum service level at that time? But what happens to the business requirement?

Manufacturers and standard texts such as CIBSE's Guide to ownership, operation and maintenance of building services often quote a range for the life of certain types of equipment. For example, calorifier and heat exchanger life is quoted as 20-25 years. Such ranges are of no use in a whole life cost analysis.

If we look at the whole life capital cost of a calorifier and heat exchanger costing £10 000 and with 15, 20 and 25 year life respectively to replacement, its net present value over a 45 year costing period is: £23 182 for a life of 15 years; £18 602 for a life of 20 years and £14 776 for a life of 25 years. Not a good start to an economic evaluation.

Even where a single value is given, it can be difficult, if not impossible, to understand the context and environmental conditions under which that value is given. For example, a water pump is unlikely to have as long a life when used in a hard water area as the same pump, used and maintained in exactly the same way, in a soft water area. Mechanisms such as deterioration modelling can throw light on this.

Maintenance and energy

Costs of the maintenance of building engineering services and the price of energy are component parts of a building's life cycle costs. The long-term nature of the impact of good and bad maintenance does not assist in proper analysis of benefits. The variety of maintenance providers and policies do not make the collection and analysis of this management information easy.

The reason for the lack of emphasis on maintenance costs is that management can vary them without immediately obvious effects. In contrast, utility costs can only be varied by positive action that has a tangible effect - such as reducing or increasing lighting levels.

It is also usual for the maintenance and operations budget (OpEx) to be dealt with separately from the capital budget (CapEx). CapEx has an immediate effect on the balance sheet but OpEx is spread over many years so much less attention is paid to the long-term cost of OpEx expenditure.

Over the life of the analysis the combined revenue cost of utilities and maintenance can easily exceed the original capital expenditure. For example, it has been estimated that a highly serviced healthcare facility could spend the OpEx equivalent of the capital cost every three to five years.

Table 1, previous page, shows quite clearly the difficulty that will be experienced in undertaking a whole life cost analysis relying on rule of thumb data. The difference between the lower and upper costs for offices is in the order of 1:400 - a range providing a high degree of inaccuracy.

Another example of the distance between CapEx and OpEx in the electrical industry is the installation of power and lighting cable. The Copper Development Association has produced several examples where it has proven economical to increase the conductor size of cable above the IEE minimum recommendations. The reduced energy loss thus achieved over the study period more than compensates for additional capital expenditure. The same proposition applies to high efficiency motors, lighting systems and transformers.

Utility usage

The occupation pattern expected in the facility has some considerable influence upon the utility costs. Some buildings operate 24 hours a day such as hospitals, data processing centres and residential buildings. Some offices have significantly extended hours (06:00-22:00 h) but it must be ascertained whether all or part of the buildings are being operated for these periods.

Table 2, previous page, gives some indication of the level of utility cost to be expected. As with all rules of thumb, these should be used carefully if at all. It is certain that utility costs, especially energy, will generally continue to increase over the years.

In its publication Fuel poverty in England - the government's action plan, DEFRA quotes a 13% increase in the price of electricity and a 4% rise in the price of gas between 2001 and 2010 in real terms. This is broken down into a 2% rise in electricity prices between 2001 and 2005 and a 10% rise between 2005 and 2010. For gas there is a 15% rise between 2001 and 2005 and a 10% fall between 2005 and 2010. Prediction of energy costs is essential to a reasonably accurate analysis and is an area that should be subjected to sensitivity analysis and regular review.

Taxation and tax credits

Taxation and tax allowances are dealt with in the same way as any other cost.

Depreciation is an artificial expense that allows a company to spread the capital cost of an asset over a period of years for tax purposes. These annual costs will result in a lesser tax burden of diminishing value over the allowable period.

In a whole life cost analysis the "tax credit" can be used as a series of lump sum incomes. Enhanced Capital Allowances (ECAs) enable a business to claim 100% first-year capital allowances on their spending on qualifying plant and machinery.

Businesses can write off the whole of the capital cost of their investment in these technologies against their taxable profits of the period during which they make the investment. This can deliver a helpful cash flow boost and a shortened payback period.

There are three schemes for ECAs: energy-saving plant and machinery; low carbon dioxide emission cars and natural gas and hydrogen refuelling infrastructure; water conservation plant and machinery.

In whole life cost terms, capital income now has a higher net present value than the same income in future years. Under the ECA scheme the income can be accrued immediately (see table 3, above).

Using the percentages given in table 3 and a discount rate of 3·5% (Treasury rate), the comparison of whole life costs is shown in table 4, above. As can be seen, the alternative - where a full reclaim is allowed - has a lower whole life cost than the base case - where a diminishing percentage is allowed. This means that the equipment against which the ECA is claimed would have close to a 13% lower net present value. The ECA can be claimed against the price paid for a new product and the costs associated with its installation.