Align asset management decisions with strategic objectives

Smart is more than merely money: Pull non-financial information into your decision-making process.

By Andrew Kosnaski

For many decision makers faced with making important strategic decisions on alternatives, reliance on traditional metrics such as net present value (NPV), internal rate of return, discounted payback and, in some cases, sensitivity analysis, often is supplemented with an ad hoc consideration of difficult-to-quantify elements fundamental to the decision at hand. Qualitative information for a number of reasons, often is difficult to “draw in” to the strategic decision-making framework, so it’s often glossed over, relegated to an appendix or, worse, ignored. However, most business decisions, especially in the electric utility sector, often have significant, non-quantifiable benefits that in many cases are fundamentally linked with the entity’s strategy and shouldn’t be ignored. One way to combine quantitative and qualitative dimensions into a structured framework is what I call the “Decision Dimensions” approach to strategic decision making. It’s a fundamental departure from the normal focus on NPV and other financial metrics, and one that can be directly mapped to key elements of a firm’s strategy to help facilitate the alignment of business decisions and strategy.

Who’s keeping score?

The Decision Dimensions approach is centered around the notion of the scorecard, which can be color-coded to show how each alternative fares in terms of the metrics deemed to be important. For illustration, consider a scorecard that could be used for assessing the strategy around a hypothetical coal-fired power plant called the Marcus Evans Fossil Plant. The plant has no pollution controls, burns Illinois Basin coal and is located in a position of strategic importance to the stability of the transmission grid. Regulatory uncertainty with respect to the regulation of hazardous air pollutants, the Clean Air Transport Rule and potential carbon regulation have forced decision makers to reevaluate the importance of the Evans plant.

As the scorecard illustrates, decision makers have deemed the decision to have six fundamental dimensions, and each is made up of its own constituent dimensions that are weighted and summed to produce the final score.

As the scorecard illustrates, decision makers have deemed the decision to have six fundamental dimensions, and each is made up of its own constituent dimensions that are weighted and summed to produce the final score. For example, the Economics dimension score is a function of the effect of each alternative on the present value of revenue requirements, the near-term rate effect, the effect on fuel rates and the effect on the company’s free cash flow. In this example, the best alternative is deemed to be the plant’s retirement and replacement with natural-gas-fired capacity at another site.

What’s a decision weigh?

The Decision Dimensions approach works primarily through the concept of the facilitated workshop. From the identification of key fundamental strategic principles to the assignment of their weights to capture their relative importance, facilitated workshops bring key decision makers and strategic thinkers together to discuss what’s important and whether any particular strategic goal is more important than another in the near term and worthy of greater weighting in the analysis.

Reliability often can be summarized in operational metrics such as the equivalent forced outage rates.

– Andrew Kosnaski

For example, a firm might have a dual strategic direction of reducing its carbon footprint while at the same time, expanding into other areas of the value chain such as data networks or retail natural gas service, all while keeping rates to its existing customers steady in real terms. However, it might choose to focus on achieving one of these goals more rapidly than the other, so Decision Dimensions that supported the emphasized goal would be weighted more heavily than others until the strategic focus shifts and weights would be reassigned.

One of the key benefits of the workshops is that the they can help align members of the leadership team, because there often can be differing opinions on what aspects of a firm’s strategy are more deserving of emphasis at a given time than others. The workshop also helps decision makers understand exactly how tactical or logistical actions are directly linked or can be directly linked to achieving the strategy, which has important benefits in developing well-rounded enterprise leaders. The weights assigned to each dimension would by dynamic so that changes in strategy or focus would be captured by changes in weights assigned to dimensions.

Quantified by experts

Some of the dimensions in the scorecard example seem amenable to quantitative assessment using traditional techniques, whereas others don’t. For example, while reliability often can be summarized in operational metrics such as the equivalent forced outage rates, there might be other elements, such as the ability to load follow or fast start, that might not be as easy to quantify, especially when each alternative has capabilities in these areas, only to different degrees. This is where the facilitated workshop again is used — only this time, instead of seeking executive agreement on the proper alignment of decisions with strategy, the workshop is focused on using subject matter experts to assign scores to elements of the dimensions that aren’t easily quantified. The technique is sometimes referred to as expert elicitation and has a long history in the decision-making sciences. Expert elicitation can be defined as a systematic approach that seeks to synthesize the subjective judgments of experts on a subject in which significant uncertainty exists, either from insufficient data or when data might not be physically possible or cost-effective to gather.

It seeks to leverage the unpublished knowledge and wisdom contained in the minds of those experts based on their accumulated wealth of experience and expertise and their familiarity with published knowledge and available data relevant to the decision.

For example, the Environmental Protection Agency often is called upon to make important decisions with national implications in the presence of uncertainty. In an effort to better capture this uncertainty, the EPA has been at the forefront of the development of expert elicitation as a process, which they define as the systematic process of formalizing and quantifying, in terms of probabilities, expert judgments about uncertain quantities. In fact, the EPA’s Science Policy Council formed an Expert Elicitation Task Force in 2005 to conduct a thorough investigation of how the method could be used to support its regulatory and non-regulatory analysis and decision making. The task force published a white paper, which contains a wealth of information for those interested in the technique, as well as an extensive literature review for those interested in more detail. Expert elicitation is widely used in the fields of climate change, climatology, the prediction of events such as earthquakes and in risk analysis. Its techniques can be adapted for use in our Decision Dimensions framework simply by properly framing the questions that need to be answered, by assembling a team of unbiased technical experts who will be called on to participate in the elicitation, and by proper facilitation of the session to limit some of the known pitfalls of expert elicitation. In this way, qualitative information — such as how well the plant has performed or how advanced the technology is, or even how easily the commodity price risks of each alternative can be measured — can be quantified in a formalized fashion and combined with quantitative data such as NPV, effect on PVRR and carbon emission intensity, to produce a final scorecard in which each alternative is scored along the relevant Decision Dimensions measurement in a structured, transparent and difficult to “game” framework that can be presented to decision makers to aid in their decisions.

The goal of the Decision Dimensions framework isn’t to replace the judgment of executives or tie their hands. Rather, it’s to enhance the suite of traditional metrics — which can be limited in scope and, most often, financial in nature — available to support decision making and give executives the comfort that alternatives are being evaluated consistently and transparently in a structured framework with clear links to the firm’s strategic goals and objectives.

Andrew Kosnaski is vice president of system planning and is responsible for generation planning activities, including capacity expansion, at the Tennessee Valley Authority. E-mail him at adkosnaski@tva.gov.