Cost Overrun

A cost overrun, also known as a cost increase or budget overrun, is an unexpected cost incurred in excess of a budgeted amount due to an underestimation of the actual cost during budgeting. Cost overrun should be distinguished from cost escalation, which is used to express an anticipatedgrowth in a budgeted cost due to factors such as inflation.

Cost overrun is common in infrastructure, building, and technology projects. A comprehensive study of cost overrun published in the Journal of the American Planning Association in 2002 found that 9 out of ten construction projects had underestimated costs. Overruns of 50 to one hundred percent were common. Cost underestimation was found in each of 20 nations and five continents covered by the study, and cost underestimation had not decreased in the 70 years for which data were available.For IT projects, an industry study by the Standish Group found that the average cost overrun was 43 percent; 71 percent of projects were over budget, exceeded time estimates, and had estimated too narrow a scope; and total waste was estimated at $55 billion per year in the US alone. 

Many major construction projects have incurred cost overruns. The Suez Canal cost 20 times as much as the earliest estimates; even the cost estimate produced the year before construction began underestimated the project's actual costs by a factor of three.The Sydney Opera House cost 15 times more than was originally projected, and the Concorde supersonic aeroplane cost 12 times more than predicted.When Boston's "Big Dig" tunnel construction project was completed, the project was 275 percent ($11 billion) over budget.The Channel Tunnel between the UK and France had a construction cost overrun of 80 percent, and a 140-percent financing cost overrun

Causes

Three types of explanation for cost overrun exist: technical, psychological, and political-economic. Technical explanations account for cost overrun in terms of imperfect forecasting techniques, inadequate data, etc. Psychological explanations account for overrun in terms of optimism bias with forecasters. Scope creep, where the requirements or targets rises during the project, is common. Finally, political-economic explanations see overrun as the result of strategic misrepresentation of scope or budgets.

All three explanations can be considered forms of risk. A project's budgeted costs should always include cost contingency funds to cover risks (other than scope changes imposed on the project). As has been shown in cost engineering research, poor risk analysis and contingency estimating practices account for many project cost overruns. Numerous studies have found that the greatest cause of cost growth was poorly-defined scope at the time that the budget was established. The cost growth, or overrun of the budget before cost contingency is added, can be predicted by rating the extent of scope definition, even on complex projects with new technology.

Professor Bent Flyvbjerg of Oxford University and Martin Wachs of University of California, Los Angeles have shown that big public-works projects often have cost overruns due to strategic misrepresentation—"that is, lying", as Flyvbjerg defines the term. 

Cost overrun is typically calculated in one of two ways: either as a percentage, namely actual cost minus budgeted cost, in percent of budgeted cost; or as aratio of actual cost divided by budgeted cost. For example, if the budget for building a new bridge was $100 million, and the actual cost was $150 million, then the cost overrun may be expressed by the ratio 1.5, or as 50 percent. Reference class forecasting was developed by Flyvbjerg to eliminate or reduce cost overruns and benefit shortfalls.Daniel Kahneman, Nobel Prize winner in economics, calls Flyvbjerg's counsel to use reference class forecasting to de-bias estimates of costs and benefits, "the single most important piece of advice regarding how to increase accuracy in forecasting.

  

Construction Estimating Software

Construction Estimating Software is computer software designed for contractors to estimate construction costs for a specific project. An estimator will typically use estimating software to estimate their bid price for a project, which will ultimately become part of a resulting construction contract. Some architects, engineers, construction managers, and others may also use estimating software to prepare cost estimates for purposes other than bidding.

History

Traditional methods

Construction contractors usually prepare bids or tenders to compete for a contract award for a project. To prepare the bid, first a cost estimate is prepared to determine the costs and then establish the price(s). This involves reviewing the project's plans and specifications to produce a take off or quantity survey, which is a listing all the materials and items of work required for a construction project by the construction documents. Together with prices for these components, the measured quantities are the basis for calculation of the direct cost. Indirect costs and profit are added to arrive at a total amount

Spreadsheets

Estimators used columnar sheets of paper to organize the take off and the estimate itself into rows of items and columns containing the description, quantity and the pricing components. Some of these were similar to accounting ledger paper. They became known as green sheets or spreadsheets.

With the advent of computers in business, estimators began using spreadsheet applications like VisiCalc,Lotus 1-2-3, and Microsoft Excel to duplicate the traditional tabular format, while automating redundant mathematical formulas

Many construction cost estimators (over 55%) continue to rely primarily upon manual methods, hard copy documents, and/or electronic spreadsheets such as Microsoft Excel. While spreadsheets are relatively easy to master and provide a means to create and report a construction cost estimate and or cost models, their benefit comes largely from their ability to partially relieve estimators of mundane calculations. Accuracy, however, is not necessarily improved and productivity is not maximized. For example, data entry remains tedious and prone to error, formula errors are common, and collaboration and information sharing are limited

Commercial Estimating Software

As more and more estimators came to rely on spreadsheets, and the formulas within the spreadsheets became more complex, spreadsheet errors became more frequent.These were typically formula errors and cell-reference errors. Hard-coded formulas in estimating applications were originally created to overcome these errors. The applications also made use of reference databases for costs and other data. As these applications became more and more popular over the years, additional features, such as saving data for reuse and trade-specific calculations, have become available.

Many of these software applications are specific to different construction markets, such as commercial drywall, residential building, remodeling, masonry, electrical, and heavy construction. For example, programs that are designed for building construction, include libraries and program features for traditional builders. In sharp contrast, programs that are designed for civil construction, include libraries and program features for roadway, utility, and bridge builders. In some instances, applications are provided without included resource databases. This requires that the user develop their own resource library; including discipline-specific resources (as an example: for civil infrastructure, mining, mechanical and electrical).

Sophisticated, Cost estimating and Efficient Project Delivery Software systems are also available to integrate various construction delivery methods such as Integrated Project Delivery, Job Order Contracting, and others (IDIQ, JOC, SABER...) simultaneously and securely. These newer Cost estimating and Efficient Project Delivery Software systems, enable estimators and project managers to collaboratively work with multiple projects, multiple estimates, and multiple contracts. A 'short list' of additional capabilities includes the ability to work with multiple cost books/guides/UPBs, track project status, automatically compare estimates, easily copy/paste, clone, and reuse estimates, integrated sophisticated visual estimating and quantity take-off (QTO) tools, including pattern search, automatically link specifications to estimates. Owners, Contractors, and AEs are moving to advanced cost estimating and management systems, and many oversight groups such are beginning to require their use. The level of collaboration, transparency, and information re-use enabled by Cost Estimating and Efficient Project Delivery Software drives 15-25%+ reductions in procurement cycles, six to ten times faster estimating, reduce overall project times, as a significant reduction in change orders and the virtual elimination of contract related legal disputes.

Typical features

Three functions prove to be the most critical when buying cost estimating software:

§ Takeoff software - this provides for measurement from paper or electronic plans

§   Built-in cost databases - this provides reference cost data which may be your own or may come from a commercial source, such as RS Means

§ Estimating worksheets - these are the spreadsheets where the real work takes place, supported by calculations and other features

Other typical features include:

§  Item or Activity List: All estimating software applications will include a main project window

that outlines the various items or activities that will be required to complete the specified project. More advanced programs are capable of breaking an item up into sub-tasks, or sub-levels. An outline view of all of the top-level and sub-level items provides a quick and easy way to view and navigate through the project.

§  Resource Costs: Resources consist of labor, equipment, materials, subcontractors, trucking, and any other cost detail items. Labor and equipment costs are internal crew costs, whereas all other resource costs are received from vendors, such as material suppliers, subcontractors, and trucking companies. Labor costs are usually calculated from wages,benefits, burden, and workers compensation. Equipment costs are calculated from purchase price, taxes, fuel consumption, and other operating expenses.

§  Item or Activity Detail: The detail to each item includes all of the resources required to complete each activity, as well as their associated costs.Production rates will automatically determine required crew costs.

§  Calculations: Most estimating programs have built-in calculations ranging from simple length, area, and volume calculations to complex industry-specific calculations, such as electrical calculations, utility trench calculations, and earthwork cut and fill calculations.

§  Markups: Every program will allow for cost mark-ups ranging from flat overall mark-ups to resource specific mark-ups, mark-ups for general administrative costs, and bonding costs.

§  Detailed Overhead: Indirect costs, such as permits, fees, and any other overall project costs can be spread to billable project items.

§  Closeout Window: Many estimating programs include a screen for manually adjusting bid prices from their calculated values.

§  Reporting: Project reports typically include proposals, detail reports, cost breakdown reports, and various charts and graphs.

§  Exporting: Most software programs can export project data to other applications, such as spreadsheets, accounting software, and project management software.

§  Job History: Storing past projects is a standard feature in most estimating programs.

It is widely confused the terminology between estimators and accountants on the term Margin. In

estimating, margin is expressed as the profit over the total costs of an estimate. This, in financial terms

is often referred to as markup, with margin being expressed as a percentage of the sales value.

Gantt Chart

A Gantt chart is a type of bar chart, developed by Henry Gantt, that illustrates a project schedule. Gantt charts illustrate the start and finish dates of the terminal elements and summary elements of aproject. Terminal elements and summary elements comprise the work breakdown structure of the project. Some Gantt charts also show the dependency (i.e., precedence network) relationships between activities. Gantt charts can be used to show current schedule status using percent-complete shadings and a vertical "TODAY" line as shown here.

Although now regarded as a common charting technique, Gantt charts were considered revolutionary when first introduced.In recognition of Henry Gantt's contributions, the Henry Laurence Gantt Medal is awarded for distinguished achievement in management and in community service. This chart is also used in Information Technology to represent data that have been collected.

Historical development

The first known tool of this type was reportedly developed in 1896 by Karol Adamiecki, who called it a harmonogram. Adamiecki only published his chart in 1931, however, in Polish, which limited both its take-up and recognition of his authorship. The chart is named after Henry Gantt (1861–1919), who designed his chart around the years 1910–1915.

One of the first major applications of Gantt charts was during World War I. On the initiative of General William Crozier, then Chief of Ordnance these included that of the Emergency Fleet, the Shipping Board, etc.

In the 1980s, personal computers allowed for widespread creation of complex and elaborate Gantt charts. The first desktop applications were intended mainly for project managers and project schedulers. With the advent of the Internet and increased collaboration over networks at the end of the 1990s, Gantt charts became a common feature of web-based applications, including collaborative groupware.

Advantages and limitations

Gantt charts have become a common technique for representing the phases and activities of a project work breakdown structure (WBS), so they can be understood by a wide audience all over the world.
A common error made by those who equate Gantt chart design with project design is that they attempt to define the project work breakdown structure at the same time that they define schedule activities. This practice makes it very difficult to follow the 100% Rule. Instead the WBS should be fully defined to follow the 100% Rule, then the project schedule can be designed.

Although a Gantt chart is useful and valuable for small projects that fit on a single sheet or screen, they can become quite unwieldy for projects with more than about 30 activities. Larger Gantt charts may not be suitable for most computer displays. A related criticism is that Gantt charts communicate relatively little information per unit area of display. That is, projects are often considerably more complex than can be communicated effectively with a Gantt chart.

Gantt charts only represent part of the triple constraints (cost, time and scope) on projects, because they focus primarily on schedule management. Moreover, Gantt charts do not represent the size of a project or the relative size of work elements, therefore the magnitude of a behind-schedule condition is easily miscommunicated. If two projects are the same number of days behind schedule, the larger project has a larger effect on resource utilization, yet the Gantt does not represent this difference.

Although project management software can show schedule dependencies as lines between activities, displaying a large number of dependencies may result in a cluttered or unreadable chart.

Because the horizontal bars of a Gantt chart have a fixed height, they can misrepresent the time-phased workload (resource requirements) of a project, which may cause confusion especially in large projects. In the example shown in this article, Activities E and G appear to be the same size, but in reality they may be different orders of magnitude. A related criticism is that all activities of a Gantt chart show planned workload as constant. In practice, many activities (especially summary elements) have front-loaded or back-loaded work plans, so a Gantt chart with percent-complete shading may actually miscommunicate the true schedule performance status.

Example

In the following example there are seven tasks, labeled A through G. Some tasks can be done concurrently (A and B) while others cannot be done until their predecessor task is complete (C cannot begin until A is complete). Additionally, each task has three time estimates: the optimistic time estimate (O), the most likely or normal time estimate (M), and the pessimistic time estimate (P). The expected time (TE) is computed using the beta probability distribution for the time estimates, using the formula (O + 4M + P) ÷ 6.

Activity	Predecessor	Time estimates			Expected time
		Opt. (O)	Normal (M)	Pess. (P)
A	—	2	4	6	4.00
B	—	3	5	9	5.33
C	A	4	5	7	5.17
D	A	4	6	10	6.33
E	B, C	4	5	7	5.17
F	D	3	4	8	4.50
G	E	3	5	8	5.17

Cost Estimate

A Cost Estimate is the approximation of the cost of a program, project, or operation. The cost estimate is the product of the cost estimating process. The cost estimate has a single total value and may have identifiable component values. A problem with a cost overrun can be avoided with a credible, reliable, and accurate cost estimate. An estimator is the professional who prepares cost estimates. There are different types of estimators, whose title may be preceded by a modifier, such as building estimator, or electrical estimator, or chief estimator. Other professional titles may also prepare estimates or contribute to estimates, such as quantity surveyors, cost engineers, etc.

Overview

The U.S. Government Accountability Office (GAO) defines a cost estimate as, "the summation of individual cost elements, using established methods and valid data, to estimate the future costs of a program, based on what is known today." The GAO reports that "realistic cost estimating was imperative when making wise decisions in acquiring new systems." A cost estimate is often needed to support evaluations of project feasibility or funding requirements in support of planning. A cost estimate is often used to establish a budget as the cost constraint for a project or operation.

In project management, project cost management is a major functional division. Cost estimating is one of three activities performed in project cost management.

In cost engineering, cost estimation is a basic activity. A cost engineering reference book has chapters on capital investment cost estimation and operating cost estimation. The fixed capital investment provides the physical facilities. The working capital investment is a revolving fund to keep the facilities operating.

In system, product, or facility acquisition planning, a cost estimate is used to evaluate the required funding and to compare with bids or tenders.

In construction contracting, a cost estimate is usually prepared to submit a bid or tender to compete for a contract award.

In facility maintenance and operation, cost estimates are used to establish funding or budgets.

In an attempt to manage liability risk, some firms avoid the use of the word estimate and instead refer to the estimate as an "Opinion of Probable Cost."

Cost Estimate Types

Various projects and operations have distinct types of cost estimating, which vary in their composition and preparation methods. Some of the major areas include:

§  Construction Cost

§  Manufacturing Cost

§  Software Development Cost

§  Aerospace Mission Cost

§  Resource Exploration Cost

§  Facility Operation Cost

§  Facility Maintenance & Repair Cost

§  Facility Rehabilitation & Renewal Cost

§  Facility Retirement Cost

Cost Estimate Classifications

Common cost estimate classifications historically used are

§  Order of Magnitude

§  Preliminary

§  Definitive

These correspond to modern published classes 5, 3, and 1, respectively. 

The U.S. Department of Energy and many others use a system of five classes of estimates:

Estimate Class	Name	Purpose	Project Definition Level
Class 5	Order of Magnitude	Screening or Feasibility	0% to 2%
Class 4	Intermediate	Concept Study or Feasibility	1% to 15%
Class 3	Preliminary	Budget, Authorization, or Control	10% to 40%
Class 2	Intermediate	Control or Bid/Tender	30% to 70%
Class 1	Definitive	Check Estimate or Bid/Tender	50% to 100%

Methods used to prepare the estimates range from stochastic or judgment at early definition to deterministic at later definition. Some estimates use mixed methods. Cost estimate classifications have been published by ASTM and AACE International. The American Society of Professional Estimators (ASPE) defines estimate levels in the reverse order as 

Level 1 – Order (Range) of Magnitude, 

Level 2 – Schematic/Conceptual Design, 

Level 3- Design Development, 

Level 4 – Construction Document, and 

Level 5 – Bid.>.

” ACostE defines a Class I Estimate as definitive, a Class II Estimate as semi-detailed, and a Class III Estimate as pre-budget. Other names for estimates of different classes include:

Class 1	Class 3	Class 5
Detailed Estimate	Semi-Detailed Estimate	Conceptual Estimate
Final Estimate	Scope Estimate	Pre-Design Estimate
Control Estimate	Sanction Estimate	Preliminary Estimate
As-Bid Estimate		Pre-Budget Estimate
As-Sold Estimate		Evaluation Estimate
CD Estimate	DD Estimate	SD Estimate
		Parametric Estimate
		Rough Order-of-Magnitude (ROM) Estimate
		Very Rough Order-of-Magnitude (VROM) Estimate
		SWAG (Scientific, Wild-Ass Guess) Estimate
		PIDOOMA (Pulled It Directly Out Of My Ass) Estimate

Estimate Quality

Estimate quality refers to the fulfillment of quality requirements for the estimate. This is in accordance with formal quality assurance. There may also be other expectations for the estimate which are not specific requirements, but may reflect on the perceived quality of the estimate. Published quality requirements generally have to do with credibility, accuracy, confidence level, precision, risk, reliability, and validity of the estimate, as well as thoroughness, uniformity, consistency, verification, and documentation.

“The result of bidding without good estimates is certain: jobs that end up with less profit, no profit, or a loss. The bidder ultimately will go out of business; the only question is how long will it take.”

Since a cost estimate is the approximation of the cost of a project or operation, then estimate accuracy is a measure of how closely the estimate is able to predict the actual expenditures for the project or operation. This can only be known after the project is completed. If, for example, a project estimate was $1,252,000 for a specific scope and conditions, and at completion the records showed that $1,172,451.26 was expended, the estimate was 6.8% too high. If the project ended up having a different scope or conditions, an unadjusted computation does not fairly assess the estimate accuracy. Predictions of the estimate accuracy may accompany the estimate. “Estimate accuracy is traditionally represented as a +/- percentage range around the point estimate; with a stated confidence level that the actual cost outcome will fall within this range.” An example for a definitive estimate might be that the estimate has a -5/+10% range of accuracy with a 90% confidence that the final value will fall in that range. “The accuracy of an estimate is measured by how well the estimated cost compares to the actual total installed cost. 

The accuracy of an early estimate depends on four determinants:

(1) who was involved in preparing the estimate;

(2) how the estimate was prepared;

(3) what was known about the project; and

(4) other factors considered while preparing the estimate.”

For the same project, the range of uncertainty about the total estimate decreases, as illustrated in the cone of uncertainty diagram.

Credible cost estimates can be produced by following a rigor of 12 steps outlined by the U.S. GAO. Detailed documentation is recommended to accompany the estimate. “The documentation addresses the purpose of the estimate, the program background and system description, its schedule, the scope of the estimate (in terms of time and what is and is not included), the ground rules and assumptions, all data sources, estimating methodology and rationale, the results of the risk analysis, and a conclusion about whether the cost estimate is reasonable. Therefore, a good cost estimate—while taking the form of a single number—is supported by detailed documentation that describes how it was derived and how the expected funding will be spent in order to achieve a given objective.” This documentation is often titled Basis of Estimate (or BOE). Additional documentation may acompany the estimate, including quantity takeoff documentation and supporting calculations, quotes, etc.

Contingency

A contingency may be included in an estimate to provide for unknown costs which are indicated as likely to occur by experience, but are not identifiable. When using an estimate which has no contingency to set a budget or to set aside funding, a contingency is often added to improve the probability that the budget or funding will be adequate to complete the project. Being unable to complete a project risks public ridicule. See cost contingency for more information. The estimate or budget contingency is not intended to compensate for poor estimate quality, and is not intended to fund design growth, owner changes, or anything else unrelated to delivering the scope as defined in the estimate documentation. Generally more contingency is needed for earlier estimates due to the higher uncertainty of estimate accuracy.

Cost Estimating Methods and Best Practices

Estimating methods may vary by type and class of estimate. The method used for most definitive estimates is to fully define and understand the scope, take off or quantify the scope, and apply costing to the scope, which can then be summed to a total cost. Proper documentation and review are also important. Pricing transforms the cost estimate into what the firm wishes to charge for the scope. Early estimates may employ various means of cost modeling. The basic characteristics of effective estimating include: clear identification of task, broad participation in preparing estimates, availability of valid data, standardized structure for the estimate, provision for program uncertainties, recognition of inflation, recognition of excluded costs, independent review of estimates, and revision of estimates for significant program changes.Application of best practices helps ensure a high-quality estimate. “Certain best practices should be followed if accurate and credible cost estimates are to be developed. These best practices represent an overall process of established, repeatable methods that result in high-quality cost estimates that are comprehensive and accurate and that can be easily and clearly traced, replicated, and updated.”

Tools that may be part of costs estimation are cost indexes. These factors promote time adjustment of capital costs, following changes in technology, availability of materials and labor, and inflation. Due to the inherent unavailability of up-to-date cost literature, several inflation or cost indexes are available

Construction Cost Estimates

Estimates for the cost of facility construction are a major part of the cost estimate domain. A construction general contractor or subcontractor must normally prepare definitive cost estimates to prepare bids in the construction bidding process to compete for award of the contract. Although many estimators participate in the bidding and procurement processes, those are not a necessary function of cost estimate preparation. Earlier estimates are prepared by differing methods by estimators and others to support the planning process and to compare with bids.

Definitive Estimates (Class 1)

A definitive estimate is prepared from fully designed plans and specifications (or nearly so), preferably what are called contract documents (CD). The standard method is to review and understand the design package and take off (or perform a quantity survey of) the project scope by itemizing it into line items with measured quantities. RSMeans refers to this as, "Scope out the project," and, "Quantify." Some jurisdictions or areas of practice define the itemization and measuration in certain terms, such as RICS and may have specific rules for development of a Bill of quantities, or BOQ. The ASPE proposes a best practice standard method for the quantity survey. This includes using the Construction Specifications Institute Uniform Numbering System (MasterFormat) to ensure that all work is accounted for.

Then costs are applied to the quantified line items. This may be called costing or pricing. In estimating for contracting, the cost is what something costs you to build, and price is what you charge another party for building it. RSMeans refers to this as, "Price the quantities." ASPE recommends the "quantity times material and labor costs format" for the compilation of the estimate. This format is illustrated in the handwritten spreadsheet sample. For labor, the estimator should, "Determine basic production rates and multiply them by the units of work to determine total hours for the work." and then multiply the hours by the per hour average labor cost.Labor burdens, material costs, construction equipment costs, and, if applicable, subcontractor costs are also extended on the estimate detail form.Other costs and pricing are added, such as overhead, profit, sales or use taxes, payment and performance bonds, escalation, and contingency.

Courtesy : Wikipedia, the free Encyclopedia