As water companies wrestle with how to achieve financial efficiencies they need, it is important that they know that the costs they are being charged by suppliers and contractors are in line with the contract and, particularly under cost reimbursable or target cost arrangements, free from any overcharges.
All too often, this need, however, is translated into a, “bum on seat” approach to cost assurance or verification. Resources are allocated to assuring costs on an arbitrary basis and those resources remain employed, regardless of:
- The risks of overcharging
- What they are finding
- What additional value they are adding
This seems a wrong approach and an inefficient way for water companies to spend their customers’ money.
Measuring the value which assurance provides
Like any other activity under AMP6, cost assurance must be seen to be adding value. The amount water companies spend on assurance activities therefore should vary in line with the value it creates. “Value” can be expressed at three different levels:
1.The value of assurance: This is the basic audit work required to provide assurance, regardless of what is found.
2.The recovery of amounts overcharged or the prevention of overcharges: This can be easily measured in pounds.
3.The additional value added by assurance activity: The identification of efficiency savings or potential contract amendments (resulting in sharper client-side commercial arrangements). Again this can easily be measured in pounds.
The amount of work needed at level 1 (basic audit work) will depend on the underlying risk of overcharging. A well-established joint venture with no history of overcharging operating mid Amp will need less audit work than a newly established and unproven JV at the start of the Amp.
The majority of water companies do not, however, measure the value that cost assurance provides. Neither do most water companies understand how much they are spending on cost assurance activities.
Assurance as a variable cost
By creating a measure of the value that cost assurance work delivers, it is a short step to turning a fixed, “bums on seat” cost into a variable cost which is in line with the value it delivers. In my experience, the best way to do this is to create a key performance indicator for level’s 2 and 3 (noted above) which is a multiplier. For example, for every pound spent on assurance, it should deliver £4 in value.
A key performance indicator for level 1, basic assurance is that assurance work should be planned to cover the riskiest suppliers and contracts and that this plan is delivered.
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