Does Logistics Play a Part in Your Capital Investments?

Roger OakdenGlobal Logistics, Logistics Management, Logistics Planning, Procurement

Capital equipment in your business

Reduce spending in your business.

Are ‘savings’ in maintenance expenditure real savings? In a future time, when the original decision maker has moved to another job, additional expenditure will be required to keep the items or equipment operational.

A recent court case in Australia found an electricity utility guilty of causing a devastating fire that killed a number of people and destroyed homes. In a case last year, the crash of a road tanker caused deaths and fires. In both cases the court identified a lack of maintenance expenditure in both organisations as the cause, driven by the need to increase business profits.

Delaying maintenance of capital items can be a common area to obtain ‘savings’. How can this be? It is because management has not fully accepted a ‘whole of life’ approach when making the buying decision. The outcome is acceptance of traditional accounting practice. The original capital purchase is reflected as an asset in the Balance Sheet, while maintenance is an expenditure line item in the Profit & Loss (P&L) statement – there is no link!

But, the total expenditure for capital items has three inter-related parts:

  1. Total purchase cost of the item or equipment. This is the part that gets all the publicity; the money spent to buy the item – new factory; new machine; new aircraft and so on. The amount spent at this stage can be less than 30 percent of the total costs over the life of the item
  2. Costs incurred over the period of ownership (both operations and support), which is about 60 – 70 percent of total costs and
  3. Disposal cost

So, the cost to sustain a capital investment can be two to three times the initial purchase price. If the capital item is movable, such as an aircraft, there are additional infrastructure investments, which also require lifetime support.

With support costs being critical, Life Cycle Cost (LCC) is an approach to estimating the total cost (both recurring and non-recurring) over the life cycle of an item. The objective is to minimise total lifetime costs through consideration of costs, performance required and level of support, critical resources availability, risks and trade-off.

Design and buying decisions and actual operational expenditure can be at widely spaced intervals. The LCC approach is used to link decisions and future expenditures, because support decisions, once made, can be difficult and costly to change. Estimates commonly quoted are:

  • About 50% of the support decisions need to be made during the concept stage
  • About 20% of support decisions can be changed without considerable effort after the design and development stage
  • About 5% of support decisions can be changed without considerable effort once the capital item is operational

This requires management of the process to reflect the approximate LCC situation at each stage of the implementation life cycle.

Who should be responsible for LCC?

Responsibility for the LCC is not for accountants (their role is to audit the numbers); the range of considerations required to minimise the LCC means it is the responsibility of a logistics professional. In defence, this logistics function is called Integrated Logistics Management (ILS), but in capital intensive business there is not a defined title for the role.

My objective for Logistics is to ‘satisfy customer needs by providing availability of goods and services, through the time-related positioning of internal and external resources, at the lowest total cost’. But this objective is relevant in more than the fast moving consumer goods (FMCG) and consumer packaged goods (CPG) sectors. It should also have visibility in organisations that rely on large capital items to deliver their product or service.

Examples of these organisations are: defence equipment (aircraft and ships),  open cut mines, offshore oil rigs and telecommunication infrastructure. In services there are air and sea ports, utilities (electricity, gas and water) and entertainment complexes.

The objective of inbound logistics in capital equipment organisations is the effective planning in the time period between concept and commissioning of equipment, then following installation and implementation to:

  • Evaluate the consequences of design decisions on the reliability, maintainability and availability of parts, components and equipment
  • Establish schedules with the maintenance group to cover the life cycle, which underpins inventory plans
  • Establish requirements, using at least mean-time between failure analysis (MTBF) for replacement and rotable parts (both on-call and held in inventory). In defence, this action is called Logistics Support Analysis (LSA)
  • Identify and reduce lead times and total landed cost of critical parts
  • Encourage collaboration between logistics, maintenance planning and scheduling and procurement functions and their supporting systems

In logistics support, the main focus is on procurement, project management and inbound logistics. Due to the high capital investment and likely need to operate on a continuous basis, the logistics focus is on availability, reliability and supportability of the equipment and component items that are part of the equipment.

To achieve the goals and objectives, Logistics in a capital intensive environment should be structured to address six areas of responsibility:

  1. Logistics Engineering – establish failure modes and probabilities; consequences of failure with respect to safety, reliability, maintainability
  2. Technical Documentation – repair and operating manuals, maintenance documentation, technical repair standards, drawings, parts lists and usage plans
  3. Inventory management for service parts and indirect materials
  4. Transport and handling of purchased items and service parts
  5. Systems Support – acquire or design and develop the IT and communications systems necessary for logistics support
  6. Training regimes at the operational and support levels

Each of these subsets of logistics contains a planning (thinking and calculating) and physical (doing) function. They can be performed internally by the enterprise, individual tasks contracted out or complete functions outsourced to external specialist service providers.

Maintenance of capital equipment is not an option, but the quantity and costs should be planned to meet corporate objectives. An example is a company where I was employed; it had a policy of running its capital equipment nearly continuously for about five to eight years and then disposing and buying new.

The rationale was that equipment did not require heavy maintenance within the time period and that if disposal and purchase was timed to be in the ‘down period’ of an economic cycle, then purchase prices could be effectively negotiated.

So, in this business total lifetime costs of capital items were an integral part of management decisions. Are they in your business?

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About the Author

Roger Oakden

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With my background as a practitioner, consultant and educator, I am uniquely qualified to provide practical learning in supply chains and logistics. I have co-authored a book on these subjects, published by McGraw-Hill. As the program Manager at RMIT University in Melbourne, Australia, I developed and presented the largest supply chain post-graduate program in the Asia Pacific region, with centres in Melbourne, Singapore and Hong Kong. Read More...