Sustainable Infrastructure Financial Management (Learning Curve)

1. Engineers and accountants have spilled a lot of ink trying to put together a sustainable framework for infrastructure management. Public finance and economics are issues for every country. In Australia, the entrenched political culture of municipal governance has made it hard for decision-makers to effectively manage public assets. Consultant Leo Gohier says the same type of political culture exists in Canada. “It’smostlyfuelledbytheshort-termviewofconstituentsandthe relatively short term that officials are in office,” says Gohier. “This makes it difficult for society as a whole to make proper decisions on long-term infrastructure within a four-year context.” While the situation in Australia is ever-changing, and by no means disastrous, it can teach Canadian managers a lesson in what not to do. It’s important to take steps to avoid forcing future generations to pay for services current taxpayers are using—something reflected in the new accounting standards emerging from the International Financial Reporting Standards (IFRS) for the public sector. 
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3. The IFRS states, “The depreciation basis must reflect the pattern of consumption of future economic benefits or service potential embodied in the asset. Not all assets lose their service potential in a Sometimes the fastest way from one point to another is not a straight line. 
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5. How 50 percent can equal 75 percent Accountants use the X-axis and straight-line depreciation while engineers use the Y-axis and the degradation curve. Accountants measure useful remaining life and engineers measure condition. 75% 50%Life Condition Degradation Curve SL Depreciation 36 ReNew Canada September/October 2008 www.renewcanada.net
6. 2. uniform (straight-line) way.” In fact, very few assets, if any, actually physically deteriorate in a straight line. (It should be noted that we are only talking about the physical life of an asset at this point. The useful life of an asset does deteriorate in a linear fashion, while the economic life of an asset does not. It’s important to clearly identify what “life” is being measured and why.) To avoid unfunded depreciation and its ripple effect into future generations, Canadian accountants need to embrace asset management-based accounting for infrastructure as practiced in Australia and, to a greater extent, New Zealand, with accounting guidance from IFRS. Right now, they’re treating major economic assets like office furniture, when they really need to apply decision-making tools like risk analysis, data trending and forecasting, discounted cash flow analysis and life-cycle cost analysis. There’s a lack of accountability and nowhere near enough corporatization (not privatization) of key asset management functions.They can also incorporate tools like Private Finance Initiatives (PFIs), another form of public-private partnerships (P3s) where local governments use private sector management and expertise to deliver public infrastructure and other services. The Australian Accounting Standard Board (AASB 116) has adopted many of these standards. But they’re not following through properly. Audit results for 2006- 2007 out of local Australian governments, particularly the Auditor General’s offices in Queensland and Victoria, show that, in some cases, the definition and methodology used in valuing and depreciating infrastructure assets were incorrect. More importantly, no significant supporting evidence is given to justify key assumptions in the valuation processes, in particular, road pavements. However, it must be recognized that this is a complex issue; it’s difficult to use science to predict the future since infrastructure assets are long-lived—no data can be collected on the future because it hasn’t happened yet. That said, conducting regular condition assessments on major economic assets such roads, water, and sewers, and setting service levels will give managers a better chance at achieving sustainability. Those local Australian governments that aren’t working with a correct definition of “fair value” and are applying an overly simplified straight-line depreciation method to infrastructure assets may not be collecting the correct data. Leo Gohier says, “The counter-argument is that the start-point and end-point are the same, in that the start point is when the asset is new and the end-point is when the asset has no residual value.” He says that, in terms of intergenerational fairness, it could Those local Australian governments that aren’t working with a correct definition of “fair value” and are applying an overly simplified straight- line depreciation method to infrastructure assets may not be collecting the correct data. September/October 2008 ReNew Canada 37www.renewcanada.net
7. 3. These are the author’s personal opinions and do not reflect those of his employer. Nor is the author making inferences about how infrastructure assets are managed. The author bases his opinions on his involvement in the pilot implementation of capital asset accounting as a project manager for the City of Hamilton and the Ontario Benchmarking Initiatives (OMBI). be argued that straight-line depreciation is fine if the asset’s useful life is one generation or less. “However,” adds Gohier, “that’s rarely the case, so it is better to use a more reasonable assumption than a straight line for a deterioration curve.” The stable condition state method—also beingusedintheUnitedStates—isnot the most reliable estimate of future economic benefit or service potential. In the absence of cash inflows and an active market for assets like roads and bridges, condition-based depreciation is the best approach. It’s more likely to produce a lower annual depreciation rate than the simplified straight-line method in the early stages in an asset’s life, while the depreciation rate rapidly increases in the latter half of the asset’s life. Also, the depreciable amount is reduced by the residual value which is easier to forecast based on the asset condition state. What’s needed is an asset consumption model that can predict the effective age of successive capital improvements on a declining balance ratio (or factor) correlated to an assessed condition index. Since condition assessment is the only basis from which to determine service potential, it limits the risk of asset impairment when used as a factor to discount current replacement cost. It’s, therefore, a valuable tool for the public sector asset to use in determining their carrying amounts for financial reporting. This will no doubt create a strategic context in which the roles of both accountants and engineers are clearly defined, each profession providing the checks and balances needed to ensure sustainable management of community infrastructure— and delivering data to accurately inform and educate policymakers. 
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9. Silbert Barrett is working as a research analyst with the City of Toronto, Transportation Services while pursuing a graduate degree in Engineering and Public Policy(MEPP) at McMaster University. 38 ReNew Canada September/October 2008 www.renewcanada.net