As we rapidly approach the start of a new AMP companies are coming to terms with the size of the costs challenge that has been set by Ofwat.
The prospect of a further five years of delivering the 15-25% totex efficiency targets needed to satisfy regulators, investors and customers alike will be keeping many a company executive awake at night. For those companies who led the way in AMP6 and are already delivering upper quartile performance this will feel like an even steeper mountain to climb, as evidence of performance in driving efficiency is reflected in their revised cost base.
Ofwat has also ratcheted up its pressure on costs at a time when the spotlight is on companies to demonstrate how they are protecting water resources and the environment.
As we reach the end of AMP6, the consequences for companies who fail to meet their performance commitments are beginning to crystallise. Investors are concerned about levels of return and the ratings agencies have been increasingly gloomy about the outlook for the sector. However, there are rewards and returns available to those companies who can meet the costs challenges. With Ofwat poised to approve c£50bn of investment in AMP7 the critical question is, how can companies plan to deliver the levels of performance needed?
A new approach
The ‘old’ ways of cost cutting and applying downward pressure on the supply chain will no longer be sustainable. Equally, improvements to design, planning and build activities to deliver ever leaner processes will also now yield a diminished return against a newly revised cost base. In this investment cycle the bold will be rewarded and those who rely on the tried and trusted are unlikely to succeed.
The key to unlocking rewards is companies accessing the wealth of different capitals they have at their disposal. We think of water as an ‘asset capital’ industry, but there are other capitals: intellectual capital, human capital, customer and community trust and goodwill. Only by harnessing the value of these capitals and creating environments that allow disruptive thinking and collaborative working to flourish are we likely to see the potential that totex thinking can bring.
In particular, that means using the opportunities of technology to disrupt traditional thinking around how assets are designed, built, operated and recycled.
If it were easy everyone would be doing it?
Understandably, the water industry has been risk averse for decades given its position as a provider of key public service. In turn, this risk profile has meant proven models that deliver reliable returns have naturally won out at the expense of riskier approaches that may deliver higher returns.
Decades of investment in the processes and systems of working which underpin the traditional asset management model, coupled with people who know and understand the rules and whose careers have been built on success born from this knowledge makes the case for change a very uncomfortable and difficult one.
But it must be made. Stripping costs out of these traditional solutions will not yield the sustainable efficiency needed throughout AMP7 and beyond. The difference will come from whole life solutions that deliver the outcomes customers and Ofwat are seeking, whilst outperforming the target cost and delivering value for investors.
Asset Management teams don’t hold the monopoly on good ideas
It is broadly true that “If you ask the same people the same question, don’t be surprised if you get the same answer”. Without someone or something to disrupt or challenge our thinking we are most likely to come back to solutions that have worked for us in the past. Looking at this through the lens of totex efficiency, can lead to the question “how do I deliver this same solution but for 15% less capex?” This is the wrong question.
Many companies will already be delivering significant savings through driving lean processes, adopting standard products and optimising costs across the supply chain. However, these companies are typically only addressing the capex side of the totex equation, that is building the same for less. The opportunities for innovation and further savings are being limited by an unwillingness to introduce disruptive options at an early stage.
How often are the people who are going to own an outcome, for example treatment works consents, water quality compliance or leakage, involved in designing the solution for improving performance? How about the customers who are being served or impacted by the solution? What about the engineering partners who are going to be asked to design and construct the solution?
It is possible to achieve this. Water Source, a young company from Australia is developing an Internet Connected Water Treatment Works, that can be used to deliver quality water in rural communities at customers’ houses. By starting with thinking what the customer needs first and designing that experience before building the technology solution, it already has water authorities engaged to support its technology. This is the fresh new thinking that is required.
Engaging with a wider range of people through collaborative planning across teams, partners and customers, holds huge potential to disrupt the traditional asset solution process. To be successful, this must also be done rapidly. Companies need to embrace an agile approach to maximise the opportunity for achievement early in the AMP. Speed up time to value and design to evolve are two key agile principles companies should be applying. Only by using disruptive influences, and by using them fast, can water companies hope to unlock affordable, sustainable and resilient solutions that were previously not thought possible and deliver on the opportunities in the coming years.