“Hello, and welcome again to Power Accounting Practices 101. Today’s lesson will be given by Doctor William Atherton, whose latest success was the books for the Darlington nuclear generating station on behalf of Ontario Hydro. Doctor Atherton…?”
“Thank you. Last week, I demonstrated how to determine the real cost of constructing a nuclear generating facility using standard accounting practices. These include, of course, estimating the cost of supplies and labour, determining the rental of equipment and, perhaps the most important consideration, allowing for legal and accounting fees.
But, there are additional, hidden costs which tend to inflate the cost of construction dramatically. These costs, when not fully taken into account, make the bookkeeper in charge look like a jerk, and reflect badly on the accounting profession as a whole. For this reason, today’s lesson will be devoted to these hidden, often unaccounted for costs.
Let us assume that we have determined that the structure in question will take five years to complete, at a cost of $5 billion. The first thing we must consider is the source of initial construction funding. Most likely, since few of us have $5 billion hidden away in our mattresses – I know I don’t – ha ha ha – we should assume that the money needed will have to be borrowed.
Now, let us assume an average rate of interest of 15 per cent per annum, to be paid over a 15 year period. We can assume at least 15 years because it should take the generator at least 10 years of full operation to generate sufficient revenue to pay off this debt.
Thus, allowing for a rate of repayment of interest on the borrowed capital starting after five years, the cost of a $5 billion project balloons to into a $16.25 billion albatross. With a simple calculation, we can see that the initial projected budget has more than tripled. And, this is only the beginning.
Inflation is a hidden cost which many estimators do not take into account, to their ultimate regret. If we were to start construction in 1985, by the time construction was complete in 1990, the cost of labour and production supplies would have increased, perhaps dramatically. To be precise, the amount of labour and supplied a dollar in 1990 could buy would be less than the same dollar bought in 1985.
Since there is no way of knowing just how inflation will affect future costs, a general rule of thumb I use is to add five per cent for every year of production to the original estimate. In our purely fictitious example, we must, therefore, assume an additional expenditure of $1.5 billion.
It would be reasonable accounting practice to suggest, therefore, that a nuclear generator which would, at first blush, appear to cost $5 billion will, in reality, cost closer to $18 billion.
However, the accountant’s responsibility does not end there. In practical terms, a nuclear generating station is rarely finished in the estimated time of production. In fact, I am not familiar with a single instance where this was the case. Delays in production, which occur with alarming frequency in this industry, must be considered, for they can raise production costs stratospherically.
Delays in construction, experience shows, come in two general forms. Labour strikes can shut down production for weeks, sometimes many months. The most destructive delays, though, come through political intervention brought about by public protest. Construction on some nuclear generating stations has been known to be delayed for years, sometimes permanently, because of public pressure on political figures involved in energy policy.
This is an economics class, not political science, so we will avoid the implications of nuclear energy on the general populace. For our purposes, it is only important to be aware of the different ways that production delays will affect production costs.
In the first place, any delay in completion of the facility will mean a delay in revenue, which in turn means that loan repayments will have to be constantly renegotiated. The longer the delay, the larger the interest charges, for which, I don’t think I need remind you, there is no limit.
Further, the longer a facility takes to complete, the more inflation will eat away at the buying power of the dollar. For instance, a delay of exactly one year will mean that the next year’s production costs – for exactly the same work – will be five per cent higher than anticipated, and so on.
In the preceding discussion, I have neglected to take account of the possibility of delay due to negligence, which is rightly the domain of lawyers, not accountants. I simply note its possibility here.
So. A plant which was supposed to be built in five years at a cost of $5 billion, would, if it took six years to construct, cost over $20 billion to build. If it took seven years, it would cost close to $25 billion. And so on.
I would like to end this discussion on a philosophical note. The accounting process I have just described was not created to aid people or governments in determining the legitimate costs of nuclear energy. They were created for the benefit of the power companies, who say they use them to completely confuse those in government or the public who want some accountability in the energy business.
Thank you.”
“I would like to thank Doctor William Atherton, who gave today’s lesson in Power Accounting Practices 101. Next class: intra-governmental spending practices.”