recapitalization management - appabokcms.appa.org/pdfs/92-09211608.pdf · component in an attempt...

Recapitalization Management

Douglas Christensen, APPA Fellow

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Recapitalization Management Copyright APPA 2016

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Recapitalization Management

Introduction

The physical assets of a university require capital to create, operating funds to maintain, capitalto replace worn out of obsolete components, and capital funds to dispose of the asset. Theseconcepts are embodied in the total cost of ownership model. This chapter will cover theaspects of recapitalization management using life cycle cost and total cost of ownershipprinciples.

Recapitalization Management Defined

Figure 1. Total Cost of Ownership

Recapitalization is defined in funding terms as periodic recurring costs forreplacement/renewal projects and one-time funding for improvements andprogrammatic projects. These are capital costs associated with thereinvestment of funds in a building or fixed asset. These projects aretypically larger in size than annual maintenance work is, and they ofteninvolve replacing or renewing a building’s major subsystems orinfrastructure areas.

Improvements


Improvement costs are associated with changes or additions to an asset orsystem that are not required from a facility or life cycle perspective but thatincrease the value of the asset. Examples of such modifications include thefollowing:

Code compliance: Installation of new equipment or a new system,such as the addition of a fire sprinkler system;Appearance: Installation of a carpet on an existing floor to provide amore acceptable appearance or improved acoustics; orAddition: Installation of a new building security system or electronickeying system.

Programmatic Upgrades

Programmatic upgrade costs are associated with measures that increasethe value of the asset as a result of changes or modifications to the spaceor subsystems in a building, and are required because of changes in thefunction or use of the facility. Examples include the following:

Installing laboratory equipment such as fume hoods;Upgrading classroom technology capability that requiresadditional infrastructure for information technology and media; orReconfiguring internal space to accommodate new requirements.

Replacement and Renewal

Replacement and renewal costs are related to the known future cyclicrepair and replacement requirements based on the recognized life cycle ofbuilding components. These efforts ensure that the overall facility reachesits planned useful life. This category also includes projects that, as a resultof component or system renewal, require additional measures to complywith current codes or safety regulations or to address obsolescence.Examples of such measures include the following:

Replacement tasks: This effort involves scheduled replacement ofold or obsolete equipment and materials. For example, a building'sfire alarm system has a life cycle of 10 years and the building mayhave a design life of 50 years. Over the design life of the building, thefire alarm system is predicted to be replaced four times. When areplacement fire alarm system is installed, it must incorporate thetechnology that is available at the time of the installation, which maynot be the same technology that was available when the formersystem was installed. Replacement tasks also include thereplacement of obsolete equipment or systems.Renewal tasks: This effort includes periodic but substantial work on a


component in an attempt to restore operating characteristics thatmake the component run like new—for instance, retubing a chillerhalfway through its useful life to improve its performance.Retrofitting tasks: This work is similar to renewal efforts and has theprimary effect of adding economic life or value to the asset. Anexample is a modifying a boiler from coal operation to natural gasoperation.

Life Cycle Principles

Framework, Glossary, and Definitions

The critical issue surrounding Total Cost of Ownership is how it is framedso that it represents the total costs, the terms that are used, and theconsistency and clarity of the definitions. As APPA began its journey onidentifying a life cycle concept, a professional committee was formed tobring the framework, glossary and definitions into a common document.The document is called “Asset Life Cycle Model for Total Cost ofOwnership Management: Framework, Glossary, and Definitions.”

The consistent use of appropriate terminology provides a foundation forthe establishment of robust, scalable, and repeatable processes; bestpractices; and methodologies, standards, metrics, and benchmarks forfacilities and physical infrastructure management. Common terminologyalso enables effective communication among the various decision makers,building managers, operators, and technicians involved with facilities andphysical infrastructure investment and management.

To help foster effective communication among public and private sectororganizations with interests in facilities, infrastructure, and real property, achartered interassociation working group was formed. In June 2002, aDefinitions Committee was established, composed of representatives ofthe National Association of State Facilities Administrators, the Associationof Higher Education Facilities Officers/APPA, the Federal Facilities Council,the International Facility Management Association, Holder ConstructionCompany, and Infrastructure Strategies. Its task was to put forward aframework and a glossary of terms commonly used to communicate aboutfacilities-related issues, from space planning and construction throughoperations and upgrades to demolition and replacement.

This document is the culmination of the Definitions Committee’s work. Theframework, glossary of terms, and associated metrics contained within will


be put forward for adoption or approval by the respective governing bodiesof the participating organizations. It will also be made available to otherorganizations and interested parties.

The Framework

The Asset Life Cycle Model for Total Cost of Ownership Management(Figure 2) defines the cradle-to-grave responsibility for measuring andmanaging a physical asset’s useful life. The framework provides astructure to help property owners, managers, overseers, and othersdetermine and manage the total cost of ownership to best support theirparticular organization’s overall business or mission. In this instance, themodel is a framework for organizing the glossary of commonly used termsand definitions.

Figure 2. Asset Life Cycle Model for Total Cost of Ownership Management

Competencies and Industries

The Asset Life Cycle Model comes from the activities that occur over thelifetime of a physical asset—programming, design, construction,operations, maintenance, repairs, and utilization—and the core skills orcompetencies required to perform these activities. The competencies arefurther aligned with the business areas supporting specialized assetmanagement business processes and practices, referred to as industries.This organization gives focus to the resources and skills required toeffectively manage an asset in any particular phase of its life cycle. Anasset's useful life will be affected by how well the industry or competency is


being performed.

Glossary of Terms

Connected with this research is a glossary. The glossary of terms anddefinitions is organized by industry—space management, project deliverymanagement, operations management, and capital assetmanagement—and competencies. It also identifies metrics and/or costmodels that can be used to measure the level of performance of eachindustry and competency. The definitions for each of the identified termsare derived from earlier work of the participating organizations andmodified by the Definitions Committee.

Metrics

The overall value of this research comes in a summary of what expertsconsider to be important measures and metrics for each competency andfor each industry included in the wheel. Figure 3 is a partial sample of theresearch.

Figure 3. Industry: Space Management

This research sets the stage for the next step to determine best practicesin the field of life cycle management. Figure 4 is a summary of life cyclemanagement broken out by the total cost of ownership main categories.Every asset goes through a cycle: birth, operation and maintenance, and


Every asset goes through a cycle: birth, operation and maintenance, andthe decision to renew, replace, or extend its life. Life cycle principles willguide facility managers in making correct decisions.

Figure 4. Life Cycle Management

Life Cycle Management and Recapitalization

Predict the Life of an Investment

One of the important outcomes from life cycle management is that it allowsmanagement to know the expected life of an asset. This knowledge allowsmanagement and owners to plan its replacement. The goal of life cyclereplacements is to maximize the useful life of the investment and haveresources available at the time of replacement. There are many ways toassess the status of an asset, system, or component. Figure 5 explainshow the industry views condition and replacement.


Figure 5. Assessment Types

Depending on the asset, the following assessments can be made. Eachlevel focuses on how well the assets need to be managed.

Levels 1 and 2: Wait for assets to run their course. No funding isusually tied to the assets, so funding becomes an emergency.Level 3: An analytical approach on how much funding is needed,though the approach does not isolate where to spend the funds.Levels 4 and 5: Condition surveys. This approach usually requires anoutside firm that is hired to look at what needs to be done. The reportestimates the work, usually by building, and gives a set of projectsthat need to be done. Projects are prioritized by importance. Theinstitution justifies the funds and then goes to work getting the needsmet. The bad side of this approach is that in three to five years thereneeds to be another survey of needs and another set of projects. Theconcern with this model is that it is expensive and not all the projectsare done since new priorities show up. Money is wasted.Levels 6 and 7: An initial inventory of the assets that you chose tomanage. There is a one-time cost to establish the inventory, whichwill be managed along with the assets. The inventory also eliminatesthe need for ongoing condition assessments. For Level 6, managerswill collect the data needed to replace the assets and predict thefuture costs of managing the life cycle of the asset. For Level 7,managers will collect all the service requests, preventive maintenanceorders, and other cost information about an asset. The largest amountof savings occurs at this level, because the inventory will show thelifetime costs of owning that asset and suggest when and how to


lifetime costs of owning that asset and suggest when and how tomaximize its return on investment.

Manage the Total Cost of an Investment

Life cycle management principles allow for management to makeintegrated decisions about assets. The goal of any investor is to make surethat the investment is maximized in the life cycle. Sometimes an asset isminimized because the usefulness of the asset was gone before the end ofthe life cycle. For instance, computers usually are not replaced becausethey are worn out, but because their useful life has ended. We make manyof these kinds of decisions all of the time. There are some assets that costso much that we expect years of return on our investment.

Total cost of ownership asset management, where all costs are beingtracked, requires work but will save money. Collecting all of the asset costsin real life allows managers to monitor the cost to maintain an asset. If themonthly or annual maintenance costs start to exceed the value of theasset, you could choose to replace it to save future costs. These methodsare used to maximize limited capital dollars and return the best value to theinvestment.

Managers have a tendency to over-maintain an asset. Some think that alonger life cycle is the best option. If a manager knows the total cost ofowning an asset, it is good management practice to save the maintenanceand further capital investment by replacing the item. This approach shouldbecome a best practice.

Decide to Replace an Investment

The decision to replace an asset, component, or system usually boils downto justification: resources, useful life spent, and real needs. Facilityprofessionals are always making these kinds of decisions. Sometimesthere is pressure to replace something that has not maximized itsinvestment, in order to adopt the latest and greatest piece of technology orthe latest tools. Life cycle management, however, provides managementwith data and information to make better decisions. Because the asset ismonitored from the beginning of its life cycle, the total cost of ownershipdecisions are available during the life of the asset.

Example: An asset costs $10,000 and has a 10-year life cycle. Theinvestment per year is $1,000. If the maintenance cost over the 10 years ismore than $1,000 a month (unless there are known reasons for extraexpenses), this asset is not worth keeping. If at the end of five years thecost to maintain this asset is greater than $5,000, management wouldhave enough data to make a decision about whether to replace it.


have enough data to make a decision about whether to replace it.

Management's role is to keep resource providers aware of needs. Definingthe current capital needs and long-term needs is the responsibility of anyfacility professional. Life cycle management is a tool to help assess assetsand their needs. Any asset that exceeds the cost to maintain it shows upfor review, and allows managers to evaluate its usefulness. When do Ineed to replace the system or asset? Am I spending too much onmaintenance for this asset? What funds do I need in the future? Should Irecommend the same asset when I replace it? Is there a better asset thatwill reduce operating costs? All of these and other questions can beanswered when life cycle management is working.

Figure 6. Historical and Projected 40-year Cash Flow Needs

Figure 6 shows the information from a database inventory. The left side ofthe chart shows the history of funding in green, with a black line thatrepresents the needs for that given year. After reviews and inspection, thegap represents those items deferred. The right side of the chart shows theassets that will be coming up for review. Each column contains all of theassets over the next 40 years, with their cash flow needs. This means thatassets with 10-year life cycles will show their remaining life, the nextreplacement, and the 10-year repetition. This graphic is used to showfuture needs and funding levels. The goal is to provide the level of fundingneeded to manage the recapitalization of the investment made.

Recommendation to Replace an Investment

The recommendation to replace an investment comes from the usefulnessof the asset. Recapitalization management uses the following threedecision criteria to allow the owner to feel that a proper return oninvestment has taken place:Useful Life Spent


This is defined as the remaining life in the asset at the point when theusefulness of the asset does not meet the mission or future vision of theowner. As in the computer example above, the investment may beobsolete before the end of its life cycle.Life Cycle Is Spent

When the life cycle drives the replacement, meaning that risk of failure isclose, then the replacement happens because an asset is worn out and nolife cycle remains. This does not mean that the color has changed, or that itneeds repairs or a retrofit; this means that a similar replacement is neededto maintain the function of the investment. Deferred renewal comes intoplay when managers risk keeping an asset beyond its life cycle. Thisusually results in emergency funding, and the cost of not planning resultsin more expense than needed. Maximizing the life cycle is the job of facilitymanagers.Too Expensive to Maintain Investment Life Cycle

At some point in an asset's life, it becomes too expensive to maintain. Arule of thumb to determine when the asset's maintenance is costing toomuch is to take the value of the asset ($10,000) and the life cycle (10years) and come up with the annual replacement amount needed for thelife of the asset ($1,000). This figure could be adjusted for inflation. Bytracking all of the costs each year that are spent on the asset (servicerequests, preventive maintenance, repairs, etc.), you will get an idea of thecost to maintain it. By accumulating those expenses over the years againstthe amount it takes to replace the item by month, you will soon find out ifthe expense crosses the replacement amount. Very few assets cost moreto maintain than they are worth. The owner needs to determine how muchto spend on maintenance before replacement.

History of the ROI of an Investment

Life cycle management allows facility managers to know the real return oninvestment of a given asset. Measuring the actual life of an asset andknowing all of the costs that it takes to manage that asset are importantinformation and knowledge. Knowing what kinds of assets to recommendfor a new building based on experience and real numbers gives the ownerand the facility manager the best long-term investment it can make.Keeping a history of each asset allows the organization to cut costs, notonly in operations and maintenance but also in capital funding. The assetlibraries are always adjusted by new and improved assets, but the cost ofthe function of the new assets can always be measured against the history.For example, if you had a history of roofs and what a roof costs to buy,


install, operate, and maintain, and you know its actual life based onexperience rather than a manufacturer's recommendation, the wholeprocess of maintenance and funding will benefit from that knowledge andunderstanding. Building a history of critical assets can ensuresustainability for a number of years.

BIM and RecapitalizationBuilding Information Management (BIM) supports the concept of life cyclemanagement. BIM can speed up improvement, retrofit, and replacementprojects, and allows every new project to be better than the last. BIM alsofits into the total cost of ownership model concept by ensuring that theowner is measuring resources properly and managing investmentdecisions correctly. With the BIM focus on the best ROI, the followingAsset Life Cycle Learning graphic reflects the advantages of a having asingle database manage the life cycle of an asset. A closed loop of dataand information centered on the asset allows for better decision making.ROI information drives what the next replacement will be.

BIM promotes improvements, better access for all users, and integrateddecision making. BIM is the future of facilities management.

Figure 7. Asset Life Cycle Learning


Source: BuildSMART, as part of a combined presentation at the APPA2006 annual meeting

Permission: Used with permission from Dana "Deke" Smith, President ofBuildSMART.

The following graphic shows the full life cycle saving that can come from aBIM concept. Since you begin any asset with all of the data andinformation needed, any additional information adds to the value of theprocess. Tracking the total cost of ownership to add to the BIM informationallows facility managers to be prepared to manage and even extend thelife of assets. The savings that BIM provides in the design process willchange the way the operations and maintenance data are captured andused, as well as the way recapitalization can begin to track all the costsrelated to the systems created in the design process.

Figure 8. BIM Life Cycle Business Model

Source: BuildSMART, as part of a combined presentation at the APPA2006 annual meeting

Permission: Used with permission from Dana "Deke" Smith, President ofBuildSMART.

Total Cost of Ownership and Recapitalization


The recapitalization part of total cost of ownership is the management ofdata and information about the asset. What that means is that the Birth andBurial costs, which are non-recurring costs, are kept in the asset databaseas the initial cost of the asset. If you are tracking a system, then that is theasset. If you want to track a building as an asset, you will want to break thebuilding into systems and then total the systems to get a building total. Theoperations and maintenance costs are also tracked against the asset. Ifthere is not an asset database, then some systems track operations andmaintenance costs of the asset in the work management system. Thisinformation could then be made available at recapitalization time.

To be effective, total cost of ownership needs to be managed in a capitalinventory where the cost, life cycle, and recapitalization data are stored. Allasset replacements fall into this cost category.

Figure 9. Total Cost of Ownership

Integrated Decision Making and RecapitalizationWhen buying an asset, certain decisions need to be made. The Birth andBurial decisions focus on how well the new assets will align with themission and vision. Once those decisions are made, there is a set ofdecisions on how to maintain and operate the new assets, and eventuallydecisions on how and when to replace assets at the end of the life cycle.


(This concept was shared in the previous section, “Recommendation toReplace an Investment.")

Facilities portfolio managers and institutional decision makers require acomprehensive asset investment strategy: a set of integrated decisionsthat take into account the needs and priorities for construction andrenovation, the total costs of ownership, and alternative investmentchoices that impact the institution’s basic mission and objectives. However,integrated decision making is not the norm in most institutional andgovernmental environments. More typically, basic funding for operationsand capital budgets is distinct and usually separate, as are decisionsregarding organizational responsibility and staffing.

In colleges and universities, many facilities are custom-designed or built tosuit specialized uses, which are determined by current users orstakeholders who may or may not have a perspective on long-term futureneeds—a circumstance that tends to minimize rather than optimizelong-term flexibility in the use and function of spaces. The decisions todetermine needs, priorities, and the extent of the investment required forfacilities and major equipment are not unique to college and universitycampuses. The same decision-making criteria are applicable to allorganizations responsible for significant facilities portfolios, includingfederal and state agencies, school districts, and many corporations.

What elements are critical for a clear and effective asset investmentstrategy for facilities management? A sound strategy takes into accountcritical factors or decision tools that will help institutional executives andfacilities professionals work together to establish and maintain anorganizational, financial, and cultural environment in which integrateddecision making about facilities is the norm and an environment ofstewardship is the goal. To start, all decision makers should consider somebasic strategic questions before initiating any investment in an institution’sfacilities. The book Buildings: The Gifts That Keep on Taking provides 50basic policy questions that are most commonly asked by those involved inthe decision-making process related to entire capital programs and specificcapital projects.

When taken as a whole, the items in the list can be boiled down to fourquestions—the questions that are the most critical to address as part ofany asset investment strategy:

Why should we invest?What can we afford?Where and when should we invest?How much should we invest?


How much should we invest?

An integrated process takes into consideration the operational costs,programmatic costs, long- and short-term influences, and impacts of eachprospective investment.

Learning Organizations and RecapitalizationWhat is a learning organization? Wikipedia says, “There are varyingdefinitions of a learning organization in published literature, although thecore concept between them all remains clear and has been summarizedby Pedler et al. as, 'an organization that facilitates the learning of all itsmembers and continuously transforms itself.' Senge defines learningorganizations as 'Organizations where people continually expand theircapacity to create the results they truly desire, where new and expansivepatterns of thinking are nurtured, where collective aspiration is set free,and where people are continually learning to learn together.”

How does this definition apply to recapitalization? Recapitalization is thelearning organization for facility managers. If recapitalization managementis working and assets are being tracked for cost and life cycle information,some learning is taking place. What are some of the things that can belearned?

The actual life cycles for assetsIntegrated decision making to help management make the rightdecisions based on total costsAssets that are costing you more to maintain than they are worthFuture cash flow needs for all assets for the long termAssets to recommend using when building new facilitiesCapital priorities for the existing built environmentRequirements for a sustainable environmentResource levels for maintenance and operations (if recapitalizationmanagement is tracking them)Ways to develop a complete master plan that includes replacements,retrofits, and improvementsWays to reduce the overall cost of managing investments.

The goal of a learning organization is to help management make the rightdecision for the future and for everyday activities. Learning organizationsplan for needed resources and for which assets are going to needresources. The chart below shows where the learning organization shouldbe functioning: high return on investment and maximizing the limitedresources given to maintain our stewardships.


Figure 10. Quadrant II Asset Management

There is more to learn as we continue to progress on how to bettermanage the existing built environments. As the role of total cost ofownership is better understood and applied, the growth of BIM and themovement toward life cycle management will give the profession newdirection. Recapitalization management using life cycle and total cost ofownership principles is a platform for change.

ReferencesEmerging Information Technologies for Facilities Owners: Research andPractical Applications. Symposium proceedings, Federal Facilities CouncilTechnical Report no. 144. Washington, DC: National Academy Press.National Institute of Building Sciences, 1090 Vermont Avenue, NW, Suite 700 Washington, DC 20005-4905. (202)289-7800, (202) 289-1092 Fax. www.buildingsmartalliance.org.

Asset Lifecycle Model for Total Cost of Ownership Management. Framework, Glossary & Definitions. A Frameworkfor Facilities Lifecycle Cost Management.

“Buildings...The Gifts that Keep on Taking.” APPA, Alexandria, VA, 2007.

“A Common Vocabulary for Asset Investment Strategy,” March/April 2007, Facilities Manager.


http://www.buildingsmartalliance.org/

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