© HVR Consulting Services Ltd HVR CONSULTING SERVICES LIMITED DISCOUNTING EFFECTIVENESS A DEMONSTRATION by D. Daniel & D. Faddy A paper for the 20 th International.

© HVR Consulting Services Ltd

HVR CONSULTING SERVICES LIMITEDHVR CONSULTING SERVICES LIMITED

DISCOUNTING EFFECTIVENESSDISCOUNTING EFFECTIVENESS

A DEMONSTRATIONA DEMONSTRATION

byby

D. Daniel & D. FaddyD. Daniel & D. Faddy

A paper for the 20A paper for the 20thth International Symposium on Military International Symposium on Military Operational ResearchOperational Research


BackgroundBackground

At ISMOR 18 we presented a methodology for At ISMOR 18 we presented a methodology for discounting effectiveness in cost-effectiveness discounting effectiveness in cost-effectiveness studies.studies.

We proposed that effectiveness should be We proposed that effectiveness should be discounted for obsolescence. This is not discounted for obsolescence. This is not measurable directly but is closely correlated to measurable directly but is closely correlated to historic cost escalation. historic cost escalation.


Factors taken into account in our proposed Factors taken into account in our proposed methodologymethodology

Gradual transition from old capability to Gradual transition from old capability to new as new systems are introduced.new as new systems are introduced.

Alternative procurement options may have Alternative procurement options may have quite different entry into service dates.quite different entry into service dates.

Although performance may stay constant Although performance may stay constant over a systems lifetime, capability against over a systems lifetime, capability against advancing threat technology declinesadvancing threat technology declines..


The Case StudyThe Case Study

Various options replace a portfolio of Various options replace a portfolio of legacy equipments.legacy equipments.

Original study derived comparative Original study derived comparative effectiveness measures by simulation for effectiveness measures by simulation for all transitional mixes.all transitional mixes.


Real Life ComplexityReal Life Complexity

Some Options were mixes of systems.Some Options were mixes of systems.

New systems had very different earliest New systems had very different earliest entry into service dates.entry into service dates.

Study spanned 30 years. Study spanned 30 years.


Option 1 - Replace by 1 SystemOption 1 - Replace by 1 System

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Legacy 1

Legacy 2__


Option 2 – Replace by 2 SystemsOption 2 – Replace by 2 Systems

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Option 2 Equipment 2

Legacy 1

Legacy 2


Initial DemonstrationInitial Demonstration

Simplified Model, given effectiveness measures for Simplified Model, given effectiveness measures for transitional yearstransitional years

MMdjdj= M= Mjj(1-t)(1-t)j-kj-k

Where:Where:

MMdjdj= the discounted effectiveness at year “j”,= the discounted effectiveness at year “j”, j= 0 (1) 29j= 0 (1) 29

MMj j = effectiveness at year “j”= effectiveness at year “j”

t t = discount factor for obsolescence= discount factor for obsolescence

k k = datum year in which the assessment scenario takes = datum year in which the assessment scenario takes place.place.


Examples of Military equipment Cost Examples of Military equipment Cost EscalationEscalation

-2.5% to +2.5%-2.5% to +2.5% essentially zero escalation,essentially zero escalation,

e.g. rifle, SSKe.g. rifle, SSK

+2.5% to +7.5%+2.5% to +7.5% moderate escalation,moderate escalation,

e.g. APC, MBTe.g. APC, MBT

+7.5% to +12.5% +7.5% to +12.5% typical escalation,typical escalation,

e.g. tactical transport a/c, SSNe.g. tactical transport a/c, SSN

More than +12.5%More than +12.5% exceptional escalation,exceptional escalation,

e.g. fighter aircraft, attack helicopterse.g. fighter aircraft, attack helicopters


Rates used in TrialRates used in Trial

7.5% used for all legacy systems and one 7.5% used for all legacy systems and one replacement systemreplacement system

12.5% used for “advanced and later” 12.5% used for “advanced and later” replacement systemreplacement system


Choice of datum yearChoice of datum year

Scenarios for original study were set in Scenarios for original study were set in year 14.year 14.

Threat is assumed to increase with the Threat is assumed to increase with the pace of technologypace of technology

Hence legacy equipment in earlier years Hence legacy equipment in earlier years will be more effective than measured in will be more effective than measured in the scenario year.the scenario year.


Undiscounted effectivenessUndiscounted effectiveness

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Discounted resultsDiscounted results

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Option buys 15 years advantageOption buys 15 years advantage

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Consequences of DiscountingConsequences of Discounting

Discounting not going to change ranking Discounting not going to change ranking order of options in this case.order of options in this case.

In sensitivity tests the most cost effective In sensitivity tests the most cost effective option was option was less sensitive less sensitive to change.to change.


Single Super Power DominanceSingle Super Power Dominance

May subdue arms race.May subdue arms race.

Need to question relevance of Need to question relevance of discounting for obsolescence that may discounting for obsolescence that may have temporarily disappeared.have temporarily disappeared.


General lessons from HistoryGeneral lessons from History

Whenever arms race restarts it does so:Whenever arms race restarts it does so:

eithereitherWith emergence of novel threat, With emergence of novel threat,

accelerating obsolescence.accelerating obsolescence.

ororWith aggressive catching up period which With aggressive catching up period which

re-establishes the long term trend.re-establishes the long term trend.


Demonstrating more Comprehensive ModelDemonstrating more Comprehensive Model

MMtotaltotal = = MMstst + + MMctct

Where:Where:

MMst st = M= Mss(n(nstst/N/Nss) & M) & Mct ct = M= Mcc(n(nctct/N/Ncc))

andand

nnst st is number of new systems in service in year “t”is number of new systems in service in year “t”

NNss is number of new systems in final fleet is number of new systems in final fleet

nnctct is number of current systems at year “t”is number of current systems at year “t”

NNcc is number of systems in the current fleetis number of systems in the current fleet


More complex example - undiscounted More complex example - undiscounted effectivenesseffectiveness

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Option 3 - Original Method

Option 4 - Original Method

Option 3 - Simplified

Option 4 - Simplified Method


More complex example - discountedMore complex example - discounted

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Discounted Option 3 - Original Method

Discounted Option 4- Original Method

Discounted Option 3 - Simplif ied Method

Discounted Option 4 - Simplif ied Method


ConclusionsConclusions

Only tentative, based on one test.Only tentative, based on one test.

Can give insight into need for mid-life Can give insight into need for mid-life updates.updates.

Gives different view on sensitivity test.Gives different view on sensitivity test.

Opportunity to provide whole life Opportunity to provide whole life effectiveness profile very simply.effectiveness profile very simply.

© HVR Consulting Services Ltd HVR CONSULTING SERVICES LIMITED DISCOUNTING EFFECTIVENESS A DEMONSTRATION by D. Daniel & D. Faddy A paper for the 20 th International.

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