249 – Ranking environmental projects 15: Maintenance costs

Episode 15 in this series on principles to follow when ranking environmental projects. It is about how to account for the maintenance costs that are required if the benefits generated by the initial project are to be maintained in the long run. 

Often, environmental projects need ongoing funding in the long term to preserve or maintain the benefits generated by an initial project. For example, funds may be needed to maintain, repair, or replace equipment or structures; to pay the wages of people responsible for ongoing education, training or enforcement; or for continuing payments to people to ensure ongoing adoption of improved environmental practices. These costs might arise for a few years beyond the end of the initial project, or they might last more-or-less forever.

The required level of maintenance funding can be substantial, potentially exceeding the cost of the initial project, so it’s an important factor that needs to be accounted for when ranking projects. However, it usually isn’t! I’ve never seen any system for ranking environmental projects that does account for it, other than ones I’ve helped develop.

How should it be included? First, define M as the level of maintenance funding that would be required to fully maintain the project’s benefits in the long term. Because maintenance costs tend to be required for a long time, they need to be discounted before they are added up. If M3, for example, is the maintenance cost in year 3, then the total discounted maintenance cost is given by …

pd248e1

where r is the real discount rate.

If maintenance costs have to be continued into the indefinite future, the question arises, how long should the time frame be for calculating M? There is no clear-cut answer to this. The length of time used for the calculations needs to be fairly long, but if it’s extremely long, discounting means that maintenance costs in the distant future are quite insignificant in the present. Also, uncertainty about what might happen in the distant future is very high, so one might judge that it’s not worth factoring in benefits or costs that may never arise in reality. My suggestion is to use a time frame of around 25 years, although I couldn’t argue strongly against a somewhat shorter or significantly longer time frame.

So with discounted maintenance costs included, the formula for the BCR becomes …

pd248e2

There is one final refinement to make to the BCR formula. I included several risks in the benefits part of the equation (PD241), summarised into one risk, R, in the above equation. Of the four risks I included, one of them may also have an impact on the cost part of the equation. This is Rf, the probability that required maintenance funding will not be forthcoming. “Required” in this context means that most project benefits will be lost in the absence of maintenance funding.

Failing to receive maintenance costs has impacts on two of the cost variables, M and probably E. It’s obvious that if no maintenance costs are received, M would be zero. Therefore, we should weight M by the probability that maintenance costs will be received, (1 – Rf).

Compliance costs might occur during the initial project phase, or during the maintenance phase, or both. The component that would occur in the maintenance phase should also be weighted by the probability that maintenance costs will be received, because if they aren’t received, the project will presumably collapse, and there will be no enforcement of compliance. In the version of the equation below, for simplicity I’ve assumed that all compliance costs occur in the maintenance phase. The equation also includes, for the first time since PD241, all of the risks shown separately.

pd248e3

[Rf also includes the probability that a partner organisation will not deliver essential resources that it agreed to provide, resulting in project failure. I’m assuming that a result of that would be that costs E and M would not be incurred.]

Up to now I’ve used M to represent the full required level of maintenance cost. What if some maintenance funding is likely, but it’s expected to be insufficient to fully maintain project benefits in the long term? You might want to adjust three variables. Firstly, you would reduce M to the expected level of funding. Secondly, you might want to reduce Rf to reflect the fact that obtaining the lower level of maintenance funding is easier. And thirdly, the benefits should be scaled down to some degree (by reducing the estimate of W, or reducing [V(P1) – V(P0)]). How much they should be scaled down depend on how sensitive the benefits are to a reduction in maintenance funding. 

For a good project, providing sufficient maintenance funding is likely to increase benefits by more than it increases costs. If it doesn’t, then it indicates that the proposed investment in maintenance is excessive. 

The equation above is the final new version I’ll show in this series (although there are several posts still to come). This version provides a comprehensive, logical, theoretically respectable, and practical equation for ranking projects. It embodies quite a few simplifications, but none that are likely to have more than a minor adverse impact on the ranking results. It avoids a number of other simplifications (and errors) that are likely to have very serious impacts on the rankings.

I’ll come back and summarise the formula and its components and rationale in the last post of the series. Before then, there are a couple of more issues related to costs to cover, and then some high-level issues to discuss, including uncertainty, the issue of using simplifications, and key mistakes to avoid.

Further reading

Pannell, D.J., Roberts, A.M., Park, G. and Alexander, J. (2013). Designing a practical and rigorous framework for comprehensive evaluation and prioritisation of environmental projects, Wildlife Research (forthcoming). Journal web page ♦ Pre-publication version at IDEAS

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