Financial Management for Facility Managers

For most Admin and Facility managers like yours truly, Financial Management is a dreaded exercise that is taken up annually when the Budgeting is around the corner. We struggle with Capex., benchmark with previous year or comparable sites, look at dubious forecast plans shared by the line and then come up with Opex budgets. This is followed by an exercise of convincing the CFO’s office and eventually we get done with it, hoping not to be bothered by it, for another year. What comes naturally for some seems a nightmare for us. However, some basic application of tools and techniques that the finance guys use are immensely helpful for us too in predicting the ROI (Return on Investment) and thus justifying our budgeting strategies. There is definitely more to financial planning than allocating the dough in our kitty to our unit’s needs
Assumptions:
I recall a very old fable which revolves around a saying which says that to ASSUME is to make an ASS of U and ME. But as with the case of most planning, financial planning too depends on the assumptions we make for our own function as well the assumptions that the organization is making keeping the FY ahead. The financial performance of any facility broadly defines how well the facility is performing as a financial asset. It is upto the site management to decide what should constitute a good performance as there no applicable thumb rules here. Primarily, it should sync with the facility function at large as well the financial assumptions and forecasts that the organization is making for itself. One should be very careful in fixing these assumptions as a slight deviation in this stage could lead to a huge delta on the year end performance.
Let us look at 3 tools which are easy to comprehend and deploy that can be great help in our planning:
1. Lowest First Cost Analysis
The lowest first cost approach is merely finding the lowest-priced item that meets your specifications at the time you need it. This approach works best for a narrow set of circumstances like below:
 Identical brands and suppliers are available for our need. (Eg: Tissue Papers, Stationery etc)
 Availability and Supply of the said material is not a challenge
 Substitution of one brand for another doesn’t impact the user and is not infra dependent ( A4 Paper, Air freshener canister)
 The maintenance cost or storage cost is minimal or non-existent

In all of the above cases, the lowest first cost strategy is the best choice. However, it is not sufficient for all planning needs. Any need that has a perception based satisfaction can’t be defined for quality and quantity so easily and this strategy won’t function well the moment there are ambiguities in the need specification. That is where people come up with phrases like, for better quality one needs to pay more, etc.
The advantage of this strategy is that it doesn’t usually impact the budgeted expenses adversely. The rate normally rallies around a standard and anomalies are rare. At the same time, the disadvantage is that Life Cycle Cost or Operating Cost on a long term will increase. For example, using the cheapest available A4 paper will be easy on the Operating expense but might result in buying a new printer altogether before the actual Life time of the printer. Buying a slightly better quality paper will help us use the same printer for long and the best quality paper will enhance the printer for much longer.
2. Life Cycle Cost Analysis
Traditionally, Life cycle cost analysis (LCC) is a construction-based decision method, and not an accounting method. There are three major cost categories in a life cycle cost analysis.
1. Initial cost (Cost of acquisition, design, delivery, installation, testing, renovating, relocating, modifying etc. Eg Design cost for a Kitchen Modification and the project cost in commissioning it)
2. Ongoing expenses or what we usually refer to as Operational cost — such as utility, servicing, and maintenance costs that continue as long as the asset is used ( AMC of the kitchen equipment, B check on DG Set etc)
3. One-time future expenses — such as system calibration after commencing operation, and major upgrades or overhauls — that occur infrequently and predictably during the life of the asset ( Software upgrade that we undertake as and when required, Anti-virus up gradation etc)
LCC Analysis accounts for ALL the costs associated with an asset including cost of removal if any, disposal etc. One additional parameter that comes into play in LCC analysis is the aspect of time. Calculating the depreciation where applicable. This approach is hugely helpful when we have the complete utilization forecast. All one needs to do it have a comparable statement of LCC analysis of all available options and the winner will be looking in our face. Predictably, this approach hence is valid for analyzing investments when long-term payback is a major factor. The shorter the asset life, the less useful this method becomes.
When calculating life cycle costs, few factors ought to be considered are:
• Life expectancy of the asset
• Assessment of all costs and discounts, plus tax impact if any
• Capitalization of the costs that are capitalized
• Fair estimate of the inflation and interest rate during the life expectancy of the asset
Because assumptions may vary widely, the best approach is to predict outcomes based on a range, such as an inflation rate of a minimum of 5 percent and a maximum of 8 percent annually.
A great example of effective utilization of LCC analysis is during the installation of an energy management system or a Rain Water Harvest System etc. The cost of an energy management system is added to standard electrical and mechanical equipment costs. To justify the additional cost, the savings that are produced are also quantified and analyzed. Energy management systems and other such products produce cost avoidance or cost savings after the payback period too.
Life cycle costing is also useful for producing documented information about longer-term savings. Most products require some amount of maintenance to operate effectively over the long term. Therefore, such costs must be considered when making a final product decision.
3. Cost-Benefit Analysis
Cost-benefit analysis asks: "Are the benefits of a project worth its costs?" Cost-benefit analysis should be the method of choice if you must compare quantifiable (measurable) parameters with qualitative factors. It is not difficult to see that decisions made on the basis of quantifiable costs or savings (avoided costs) are easier to make. This method is useful when analyzing projects that involve physical improvements to existing infra structure but do not affect the market or asset value of the property as a whole. It can even be used to support trade-offs between cost related and qualitative factors
Not every quantifiable issue relates to cost. For example, specifications for computer systems include many measurable elements that do not relate directly to cost, such as amount of RAM, megabytes of disk space, and the clock speed of a chip etc.
To conduct a numerical comparison of hard and soft costs, you will need to apply relative-weighted numeric values to qualitative factors and to costs. These numbers can be assigned to derive an overall score that indicates how well a given project or proposal fulfills the department or company’s stated objectives.
When you begin any cost-benefit analysis, consider the following issues:
• Specifically, what is the project intended to accomplish?
• What conditions constrain or affect the project?
• What conditions might exist after the project is completed?
• Which conditions are controllable and which are not?
• What performance requirements or time and cost criteria will be used to evaluate effective project performance?
• What is the minimum acceptable level of performance in each category?
Hard Costs and Soft Costs
Hard costs are those associated directly with actual construction, leasing, maintenance, and upkeep. Hard benefits are savings on revenues generated directly from these activities. Soft costs and benefits are those related to the management of construction, leasing, and maintenance and upkeep, such as overhead, fees, and management time. These distinctions are not accounting or budgetary conventions, but may figure prominently in the thinking of executives who may be reviewing the project. As we plan for facilities projects, we should keep in mind that the argument for some costs is more persuasive than for others.
• Most persuasive are hard costs or benefits that can be measured and attributed directly to a specific activity, account, etc
• Also persuasive are hard costs or benefits that can be measured but are not attributed directly to a specific project or customer and therefore are allocated on a prorated basis (for example, overhead costs)
• Less persuasive are tangible but unmeasurable soft costs or savings (for example, projected savings in staff time that cannot be tracked or verified in a practical way)
• Least persuasive are intangible and unmeasurable soft costs or savings (for example, improved quality of service) because evaluations are often subjective or inconsistent
It is more difficult to compare hard (quantitative) costs/savings to soft (qualitative) costs/savings than to compare hard costs and savings to each other. The less measurable something is and the more one mixes bases for evaluation (cost vs. time vs. quality, for example), the more difficult comparison becomes. Consequently, project justifications often present the strongest possible case in cost numbers first and treat other justifications as secondary arguments.
The evaluation process is often structured into three levels:
1. Quantitative vs. quantitative factors
2. Quantitative vs. qualitative factors
3. Qualitative vs. qualitative factors
Facility managers must understand many important financial concepts in order to communicate effectively with senior management. Along with a thorough understanding of the core business, these financial concepts are vital if facility managers are to speak the language of business and gain the confidence of corporate executives as genuine contributors to corporate profitability and well-being.

The article is collection of thoughts from my colleagues, current and old, experiences shared over various forums over the internet and facility management events and other relevant sources like project material, submitted papers etc. Please refer to BOMI International’s course Fundamentals of Facilities management for more details.

Please feel free to use any part or complete article as deemed fit. These thoughts and collation have no copyright whatsoever.