Whole Life Costing is a critical aspect of the strategic procurement process of complex projects and a key tool for decision-making and budget allocation. The following is an illustrative guide to simplify the process of producing Whole Life Costing for complex public sector procurement projects. (NB the Should Cost model and Whole Life Costing model are two different approaches used in cost analysis. A brief explanation of the differences is provided in this article, or for a more detailed explanation of the Should Cost model, click here).
Whole Life Costing Explained
Whole Life Costing is the process of estimating and evaluating the total costs of a project over its entire life cycle, including the cost of initial procurement, installation, operation, maintenance, along with exit and transition costs (an area that is rarely taken into account and, as a result, can significantly alter the perception of Whole Life Costing).
The objectives of Whole Life Costing are to:
- Ensure that the full end-to-end costs of a complex project are understood and accounted for.
- Facilitate decision-making and budget allocation by providing a comprehensive and accurate picture of the total costs of a complex project.
- Ensure that the project is cost-effective and meets its intended goals and objectives.
- Provide a basis for the effective management of project risks and the identification of cost saving opportunities at each stage of implementation and ongoing life cycle usage.
Taking the impact of Whole Life Costing into account means considering the relative risk of varying depths of due diligence between tenderers, seeking out disparity in expected internal costs based on the internal resources that each tenderer expects you to commit, and identifying the sometimes significant and varied costs that would otherwise not have been included for consideration in the procurement process.
Here are a couple of examples which showcase the potential for varying resource allocation and cost profiles between bids, and why adjustments should be made to properly and fairly compare bids in the tendering process:
Bidder A requires the client to provide 20 man-days of effort to support the delivery of training as part of go live. Bidder B does not require the client to provide any training support as they have included 20 man-days within their resourcing and cost models. The client typically pays £500/day for training resources. The client advised Bidder A that they will add an equalisation of 20 * £500 = £10,000 to the costs submitted by Bidder A. This gives Bidder A the opportunity to either accept this ‘equalisation’, or to increase their submitted costs to include the 20 days of effort if this is a more cost-effective solution (i.e. it will cost Bidder A less than £10,000 to provide the 20 days training). No equalisation is required to Bidder B’s submission as this activity is already included within their tender.
Bidder C requires the client to provide 30 man-days to support User Acceptance Testing (UAT). Bidder D requires the client to provide 50-man days to support UAT; however, Bidder D’s solution is far more complex than that of Bidder C so requires more testing. The client typically pays £350/day for systems testing resources. The client advises Bidder C that it will add an equalisation of 30 * £350 = £10,500 to their submitted costs; and advises Bidder D that it will add an equalisation of 50 * £350 = £17,500 to their submitted costs. The result is that both solutions are fully costed, including the requisite amount of testing for each respective solution.
Tenderers should be fully communicated with during the equalisation process, being informed of the disparities and cost assumptions that will be made to their bids, and provided with every opportunity to offer feedback on those assumptions as this will result in the most accurate information from which to make your informed selection.
Whole Life Costing Approach
The Whole Life Costing approach should be comprehensive, systematic, and transparent. It should take into account all relevant costs, including:
- End-to-end project acquisition costs: The costs of acquiring, installing, and commissioning the project, including business case development, requirements development, early market testing, procurement, internal and external legal, project and professional services resourcing, accommodation, and other applicable overheads. If the project is software related, and includes software licences, then it is important to make sure that the licences are on a like for like basis, i.e. concurrent users or named users.
- Implementation costs: There is often a wide variation in proposed implementation costs between tenders.
- Operating costs: The costs of running and maintaining the project, including energy (often part of ongoing accommodation costs), staffing and supplier support and maintenance costs. Remember that as your needs increase or decrease, this should be factored into the costs of the licensing on a concurrent or named user basis: consideration must be made for whether the software licences allow for not just increasing, but also decreasing the number with appropriate cost reductions, on the basis the licensing terms provide for this.
- Change costs: When dealing with change costs, the mistake often made is that organisations don’t take into account the variances between different rate cards used by tenderers and how these affect their change costs.
- Business change support costs: The implementation of complex projects usually requires some extensive element of your organisation changing how it fundamentally operates on a BAU basis. The costs of ‘bringing people with you’ to help them change their operating practices should not be underestimated. This is a core area; however, it is where we see the suppliers/solution integrators of many complex projects hugely underplay the time, internal and external support resources that are required. Evidence from other client organisations (ideally, at least three) that have undertaken complex projects of a similar size, scale and complexity with that supplier should be elicited. Ask what has gone well, what would they change if they were to undertake a similar project again, and what would they advise an organisation working with this supplier for the first time? Build this into your scoring process.
- Exit and transition costs: Every complex project has a natural end point. Some come to an end earlier – particularly if the implementation of the project doesn’t go well and does not achieve the business outcomes you expected. Consider exit and transition costs in two forms:
- Natural exit and transition. If the project has a specific life cycle (say a software project) of five to ten years, then ensure that as part of your Whole Life Costing, you have included all the exit and transition costs (including termination assistance support from your incumbent supplier, the substitution of any applicable software licences, costs of any decommissioning and so forth).
- Premature exit and transition (early contract termination). If the project turns out not to be fit for its intended purpose, it is entirely possible that a ‘blame game’ will ensue over who holds responsibility for the project not meeting its anticipated goals. The supplier is likely to argue for all the revenue it perceives you have contracted for. From your perspective, if you believe the supplier is largely accountable for the situation you find yourself in, you will probably feel more inclined to argue that not only should you not pay any further project costs to the supplier, but that you actually want a reimbursement along with the recovery of an appropriate proportion of the ‘internal and other’ project costs you have incurred.
- Both early contract termination and natural project conclusion costs can often be accounted for, if the scope of your requirements and use cases to establish fitness for purpose have been clearly quantified and articulated, and the contract terms have been appropriately drafted to assure clarity over the expectations of both the client and the supplier. It is important these costs in both circumstances (with like-for-like assumptions) are built into your Whole Life Costing model.
- Methodology: The methodology for calculating Whole Life Costing should be appropriate for the complexity and scope of the project, and should include the following steps:
- Define the scope of the project and its life cycle, including the start and end dates, and the timeframes for procurement, installation, operation, maintenance, exit and transition.
- Identify all relevant costs, including capital costs, operating costs, exit and transition costs, and allocate these costs to the relevant time periods.
- Use appropriate cost estimation techniques, including detailed engineering cost estimates, bottom-up cost models, or cost databases, to estimate the costs of the project.
- Use sensitivity analysis and scenario planning to evaluate the impact of cost uncertainty and to identify potential cost savings opportunities.
- Use a consistent and transparent basis for pricing, inflation, and exchange rate assumptions, and take into account the cost implications of changes to project scope, requirements, or timelines.
- Documentation: The project’s Whole Life Costing should be documented in a comprehensive, fair, equitable and transparent manner, including a detailed description of the methodology, assumptions, and results, and should be subject to regular review and update as the project progresses.
- Review and approval: The Whole Life Costing should be reviewed and approved by a project steering committee or other relevant stakeholders, and should be subject to independent review and audit to ensure its accuracy, fairness and reliability.
Rules to reference to base your life-cycle costing decisions on
Clause 68 in the 2015 Public Contracts Regulations provides the specific rules you might require to base your life-cycle costing decisions on.
68.—(1) Life-cycle costing shall, to the extent relevant, cover part or all of the following costs over the life cycle of a product, service or works:
(a) costs, borne by the contracting authority or other users, such as: costs relating to acquisition; costs of use, such as consumption of energy and other resources; maintenance costs; end of life costs, such as collection and recycling costs;
(b) costs imputed to environmental externalities linked to the product, service or works during its life cycle, provided their monetary value can be determined and verified.
(2) The costs mentioned in paragraph (1)(b) may include the cost of emissions of greenhouse gases and of other pollutant emissions and other climate change mitigation costs.
(3) The method used for the assessment of costs imputed to environmental externalities shall fulfil all of the following conditions:
(a) it is based on objectively verifiable and non-discriminatory criteria and, in particular, where it has not been established for repeated or continuous application, it shall not unduly favour or disadvantage certain economic operators;
(b) it is accessible to all interested parties;
(c) the data required can be provided with reasonable effort by normally diligent economic operators, including economic operators from third countries party to the GPA or other international agreements by which the EU is bound.
(4) Where contracting authorities assess costs using a life-cycle costing approach, they shall indicate in the procurement documents
(a) the data to be provided by the tenderers, and
(b) the method which the contracting authority will use to determine the life-cycle costs on the basis of those data.
(5) Whenever a common method for the calculation of life-cycle costs has been made mandatory by a legislative act of the EU, that common method shall be applied for the assessment of life-cycle costs.
(6) A list of such legislative acts, and where necessary the delegated acts supplementing them, is set out in Annex XIII to the Public Contracts Directive as amended from time to time.
How is Whole Life Costing different to Should Cost modelling?
The Should Cost model and Whole Life Costing model are two different approaches used in cost analysis. The Should Cost model is used to estimate the reasonable cost of a product or service based on its components, materials, and production processes. The aim of the Should Cost model is to determine the reasonable cost of a product or service based on what it should cost to produce, as opposed to what the market price or supplier quotes. The Whole Life Costing model is used to assess, during a procurement process, the total cost of ownership of a product or service over its entire lifespan, including all direct and indirect costs. The Should Cost model is most useful in negotiating with suppliers and identifying areas where costs can be reduced, while the Whole Life Costing model is useful in selecting the most cost-effective option (in a competitive procurement process) over the entire lifecycle of a product or service.
Whole Life Costing is a critical tool for assessing supplier bids on a like-for-like basis. While this is undoubtedly useful in the private sector, for organisations in the public sector it is essential to ensure that the Whole Life Costing approach is comprehensive, systematic, and transparent, and that the results are subject to independent review and audit to ensure their accuracy and reliability.