Part 4: Make sound investment decisions

Reflections from our audits: Investment and asset management.

Public entities have important decisions to make about how they will use funds to invest in assets, to deliver high-quality public services now and in the future.

These decisions are equally important whether investing in financial or physical assets. Investing in physical assets can include renewing existing assets (such as re-surfacing a road), investing in a new asset to provide additional capacity (such as building additional classrooms at a school), or providing new services (such as a new community centre).

Our work has considered what public entities do at the "thinking and planning" stages to make sound investment decisions. We looked at whether public entities were clear about what they wanted to achieve from investments in assets, and whether the cases made for investment were based on reliable data and the right analysis that takes account of the broader economy. We also looked at whether public entities considered overall public value and worked with other public entities to provide services for the long term.

During our work, we identified that few public entities have mature practices for defining the benefits they are seeking from their investments. And few measure those benefits.

Have a sound and compelling case for investment

Any significant investment, whether in financial or physical assets, should be backed by a sound business case. A business case should demonstrate and provide confidence that the investment is aligned to the entity's strategic intentions, how the investment will be achieved, and how value for money will be demonstrated and measured. From time to time, we review business cases as part of our work.

For entities in central government, we expect the requirements of the Treasury's Better Business Case approach to be followed. In our report Investing in tertiary education assets, we noted that tertiary education institutions generally did well in following Better Business Case guidance. To have done better, they would need to consider the whole tertiary sector and public value. This would require a "joined-up" public sector mind-set, which can be hard to achieve when institutional drivers are entity-based.

Other public entities, such as local authorities, are not required to apply the Better Business Case approach. Nevertheless, we would expect the same disciplines to be applied.

Do you have a compelling case for investment?

Consider your strategic intentions

It is important that any business case reflects the strategic intentions an entity or sector is seeking to achieve. In our report Managing the school property portfolio, we looked at the Ministry of Education's investment in school property assets. The Ministry published a school property strategy (for 2011-2021) that was clear about the Ministry's wish to improve learning environments to support educational achievement. The Ministry still has some work to do to align investment and management of school property with the strategy. For example, the Ministry has not yet identified how to measure whether its investment in assets improves learning environments or supports educational goals. We acknowledge the complexity of determining such measures.

Guard against optimism bias

When preparing business cases to invest in assets, entities need to be aware of, and guard against, optimism bias. Business cases need to use the best assumptions, based on objective underlying data and information. In that way, sound decisions can be made about whether the investment should be made.

We found that many business cases for assets in the tertiary education sector were optimistic when forecasting domestic enrolments. Throughout the sector, total forecasts well exceeded the total number of expected domestic students. Although the forecasts for a particular entity could be justified, collectively they could not. Sub-optimal investment decisions could have been made by some entities in the tertiary education sector.

In the recovery from the Canterbury earthquakes, many of the original milestones for rebuilding projects in the central business district (the "anchor projects") were optimistic, and some were unrealistic. Not surprisingly, most of the milestones were missed. This had a damaging effect on the public's and investors' trust and confidence in the re-development of the central business district of Christchurch.

Have you been realistic and used reasonable assumptions?

Plan over the right time frame

Long-term planning is important for prudent investment and asset management to ensure that essential public services will continue to be delivered.

Our work in the health sector since 2009 shows a sector focused on delivering short-term results, but generally not planning for the long term. The sector has a challenging operating environment, increasing demand for services, and financial constraints. Given the challenges, the health sector and each district health board needs to take a longer-term view on capital investment and asset management.12

In our report Managing the assets that distribute electricity, we looked at the way that three electricity distribution businesses were managing their distribution networks. We found that the three companies' focus was largely on the short to medium term. With a longer-term focus, we consider that the three companies could make better-informed decisions about how to manage their networks.

It can be difficult to plan for the future, especially in an environment of increasing complexity and uncertainty. In our view, the best plans cover the entire life of the asset, from identifying the need for the asset, creating the asset, operating the asset, and eventually replacing and disposing of the asset. This gives a complete picture and supports better decisions.

In 2015, Cabinet issued a circular13 setting out expectations for managing investments in assets for all government departments and most Crown entities. The circular requires investment-intensive agencies to have a current long-term investment plan that describes an agency's or sector's "investment journey", in line with its long-term vision and goals. It shows where investment will be made, and how it will occur to support the strategy.

The long-term investment plan covers at least 10 years, and needs to be updated at least every three years. The regular updating of plans is important because as circumstances change, plans for investing in and managing assets may need to change to realise the best value from the assets. The move to longer-term planning is a step in the right direction for entities in central government.

When we looked at Crown-owned companies, we noted that companies such as New Zealand Post and KiwiRail, which have particularly uncertain environments, focused on the future and analysed what it might hold. These companies thought about their purpose and how best to achieve their goals, despite the uncertainties they face.

In 2015, all local authorities had a new requirement to prepare an infrastructure strategy, and include it in their long-term plan. Infrastructure strategies are important because they set out a local authority's vision for asset development and management for at least 30 years.14

Local authorities made a good start in preparing their infrastructure strategies. However, there is room for improvement. We were pleased with the approach taken by the nine local authorities that prepared infrastructure strategies beyond 30 years, and some covered the entire life of their assets. These local authorities took the opportunity to engage in a conversation with their community about the key infrastructure issues and risks facing the district and region.

Have you planned for the entire life of the asset?

Consider overall public value

Some of our reports on investment and asset management showed that individual public entities planned their capital investments well, including sound cases for investment and appropriate risk and investment management strategies. However, these plans often did not consider how the case stacked up when taking account of other public entities in the same sector, or the broader public sector.

If the main focus of investment decisions is overall public value, as a country the more marginal investments should not be made. The result should be that scarce financial resources are directed to those investments that will provide the greatest value to New Zealanders.

The National Infrastructure Unit within the Treasury has published the National Infrastructure Plan 2015: The Thirty Year New Zealand Infrastructure Plan. This plan provides a national view that looks at the infrastructure networks throughout different sectors and the interdependencies between them.

The vision set out in the plan is that "by 2045 New Zealand's infrastructure is resilient and coordinated and contributes to a strong economy and high living standards". It further notes that this means:

  • National decision-making is integrated with regional and local planning and considers the interdependencies between sectors.
  • Separate national, regional, and local entities work together to create an efficient and effective infrastructure network.15

To achieve this vision, further thought is needed on how to co-ordinate the management of New Zealand's infrastructure.

For some public entities, it makes sense to co-ordinate decisions at a national or sector level. For others, it makes sense to focus regionally. In our report District health boards' response to asset management requirements since 2009, we noted that we expected knowledge, linkages, and understanding of assets to be held at the appropriate levels for effective regional and national planning.

There are some examples of shared services and similar arrangements in district health boards. However, too often they operate in isolation, rather than jointly focusing on long-term health services for all New Zealanders.

In our report Review of public sector financial assets and how they are managed, we noted:

The financial assets and associated liabilities of central government should be considered together, with a clear understanding of the risks being taken, how they are being managed, and the opportunities and challenges they create. Wider matters such as how public assets and liabilities interact with, and influence, each other, the Government, the investment industry, and the economy also need careful thought at a whole-of-government level.16
Have you looked at how to join up with others and maximise value?

Work with others throughout the public sector

In making decisions about where to invest money, there are difficult decisions that need to be made about the continued viability of some services, given population trends and the costs of replacing ageing infrastructure. Sometimes, the decisions made by one public entity will affect other public entities. Public entities will need to move beyond simply working together, and explore different solutions to achieve a common objective.

The way central and local government work together to consider the challenges and make decisions is likely to become more rather than less important. Local authorities will need to engage effectively not only with their communities but also with central government about the options, costs, and associated trade-offs.

Central government is likely to increasingly rely on local government to deliver services to meet community needs. However, given affordability constraints, local government is likely to become more dependent on central government funding.

Tairawhiti Roads is an example of central and local government working together. It is a joint venture between the New Zealand Transport Agency and Gisborne District Council and takes a collaborative approach to deliver maintenance, operations, and renewal programmes over the combined state highway and local roading network in Gisborne. It aims to deliver smarter asset management, better decision-making, and cost savings though regional efficiencies.

If the vision set out in the 30-year infrastructure plan for New Zealand is to be achieved, central and local government will need to:

  • find enduring ways of working together;
  • build alignment of their objectives and strategic priorities; and
  • make decisions about co-funding of investments or services.

Know the expected benefits from investments in assets

It is important to document the benefits expected from investments in assets and to have ways of tracking and measuring the benefits as they are realised. This helps with understanding what is desired, and ultimately what is being achieved. Tracking and measuring benefits will provide insights into issues that need addressing or lessons for future investments.

Our work has highlighted three recurring themes that have the potential to undermine any measurement of benefits realised:

  • a focus on asset delivery as the end point of a project or programme;
  • overly ambitious and optimistic estimates of benefits and time-scales, coupled with a lack of external challenge; and
  • complexity and longevity of projects.

To help ensure that benefits are realised, benefits need to be explicit in business cases, but also their tracking and measurement need to be embedded into the usual business processes once the asset is in use.

Have you clearly defined the benefits you are seeking and how you will measure those benefits?

12: Office of the Auditor-General (2016), District health boards' response to asset management requirements since 2009, page 5.

13: Cabinet Office Circular CO (15) 5 Investment Management and Asset Performance in the State Services.

14: Office of the Auditor-General (2015), Matters arising from the 2015-25 local authority long-term plans, pages 35-48.

15: National Infrastructure Unit (2015), National Infrastructure Plan 2015: The Thirty Year New Zealand Infrastructure Plan, Wellington, page 11.

16: Office of the Auditor-General (2016), Review of public sector financial assets and how they are managed and governed, page 4.