Construction Phase Cost Management  

Introduction

Construction Phase Cost Management comprises two major efforts:

1. bid the project and select a general contractor;
2. oversee/review costs from change orders and contractual claims.

A useful by-product of this stage is that cost data can be collected to inform future cost estimates. The cost manager should remain fully engaged in the project to assist the team in managing the project while also gathering data from bid analysis, the distribution of costs in the Schedule of Values, and the raw data used in change order submissions. This should be captured in a usable format for use in future budget-setting and detailed estimating, as depicted in the cost data loop below.

The Bid Process

The bidding process and the input from the cost manager can vary from very little to substantial, depending on the owner's capabilities and those of other consultants, e.g., an agency Construction Manager. At the very least the final cost estimate should be prepared in such a way as to facilitate comparison of the estimate with the bids received, typically by using the CSI MasterFormat (2020) work breakdown structure. Should a bid "bust" occur, this comparison can reveal what went wrong, for example all of the over-run may be in one trade, possibly indicating lack of competition or specifications that were written too restrictively.

It is also usually a worthwhile step to take the MasterFormat breakdown of the awarded bid and re-engineer that into a GSA UNIFORMAT II work breakdown structure, for use in future budgeting. While some MasterFormat divisions align with UNIFORMAT elements, e.g., HVAC, Plumbing or Electrical, most will need some analysis to properly assign to the UNIFORMAT element. But the information generated in this way, e.g., cost/SF of Superstructure or Exterior Closure, will enhance the accuracy of future budgets and early-phase cost estimates.

Change Order Evaluation

Cost management in the construction phase is critical to bringing a project in on budget. Cost issues from the point of signing a lump sum or GMP contract arise with the issuance of change orders, or contract modifications, against the contract. These are typically for one of the following reasons:

1. initiated by the owner for a change the owner would like to make
2. the result of unforeseen conditions such as below-ground obstructions or unexpected hidden structural issues
3. the result of the contractor issuing a Request for Information (RFI), the answer to which results in a change to the contract drawings or specifications
4. the result of a code interpretation/enforcement by the Authority Having Jurisdiction (AHJ) resulting in changes to scope or design detailing
5. the result of an unexpected occurrence such as natural disaster, organized labor action, suspension of work, or unusual weather resulting in a delay to the project or other cost impact for which the contractor may be entitled to relief

In order to properly prepare an estimate for a change order, the estimator must understand the overall objective, i.e., to reach an agreement with the contractor that (in public sector work) is in the best interest of the government. The lowest possible price does not always meet this objective nor would a "generous" price if that price offers more payment than necessary to include sufficient incentive. The negotiation team must strive for some intermediate point, which is generally regarded as the lowest reasonable price - the amount at the bottom of the price range that the negotiator considers to be fair and reasonable.

To arrive at this price the negotiator must at least partially rely upon an independently prepared government estimate. This estimate must be based on a detailed analysis of the change in requirements and existing job conditions. For the most part, the estimate should be prepared similar to, and take into account, those same conditions and elements occurring in the contract, as each applies to the change order scope. In lieu of better data, the final government estimate for bid evaluation may be used for assistance.

Typically, an independent government estimate (IGE) must be prepared before the contract modification request is sent to the contractor. The same documents the contractor will use to prepare their proposal must be made available to the estimating team.

It is necessary to fully understand the scope change (by, for example, a meeting with the designer and owner and walking the project site) to then prepare an accurate quantity takeoff for each direct item of change (capturing adds and deducts). A cost is then applied to each of the direct items for labor (hours and rates for each trade involved), material and equipment, and sequentially apply appropriate overhead, profit, insurance and bond costs, all in accordance with the terms of the construction contract.

This formal, approved independent government estimate will be used to evaluate the contractor's proposal in determining reasonableness, and therefore must be prepared on a comparable and realistic basis. The estimator should therefore also become familiar with the modification and claim processes as outlined in the contract.

Preparation for Estimating

The estimator must review the change documents received and become thoroughly familiar with the scope and requirements of the changed work. This will perhaps entail detailed comparison, analysis and various discussions with the design team and owner to ensure understanding.

The estimator must determine the existing status of construction and how the changed work will fit into the construction schedule. This will require obtaining progress reports, schedules, and discussion with those closest to the work. This often requires a visit to the construction site, and emphasizes why on large projects it is useful to have a cost estimator on site.

The estimator should become fully aware of the contractor's existing methods, capabilities, and rates of accomplishment. The estimate should not arbitrarily include methods and capabilities different from the way in which the contractor is performing existing work. Unless the Contracting Officer is willing to direct the contractor to another method of performing work and assume the responsibility, the estimator should usually base the change on existing contractor operations for similar work. When work is anticipated to be subcontracted, prepare the estimate to include other indirect costs at the subcontractor level accordingly.

The estimator must obtain valid labor rates that the contractor is incurring and validate material and equipment costs using available commercial sources.

LABOR RATES	Typically available from labor reports or from the contractor upon request. Productivity can be checked from sources such as R.S. Means, which includes crew sizes and typical output per hour for thousands of different activities.
MATERIAL PRICES	What the contractor is expected to pay from typical suppliers of that material, including any discounts. Quotes should be obtained if possible.
EQUIPMENT	The approach to determine equipment rates can be specified in the contract or as required by FAR 31.205-36. Quotes can typically be obtained, but the estimator should recognize the long-term aspect of most rentals (or ownership by the subcontractor), not just the daily or hourly rate for a specific change.

The estimator, through the negotiator, should also attempt to agree tentatively with the contractor on scope and format before preparing the independent estimate. The intent of the agreement is not to influence the contents, price or independency of the Government estimate, but only to eliminate unnecessary wasted effort for both parties. The GSA P120 for example allows for the contractor's proposal to be used (with the costs deleted) as the starting point for the IGE.

Preparing the Estimate

After collecting and analyzing all the information, the estimator must decide upon the presentation format, absent a prior agreement and discussion. Unless otherwise agreed, the format for the estimate will be CSI MasterFormat 2020 with a level of detail as per the available detail on the Construction Documents. General guidance for the calculation of direct costs can be provided as follows:

ADDITIONAL WORK	CHANGED WORK	DELETED WORK
Work items and format should be priced similarly to a new contract as performed by the known contractor. All new work should be priced at the rates anticipated to be in effect at the time the work will be performed. Consider how indirect costs should be applied - for example, if the additional work can be accommodated within the current construction schedule, then no additional general conditions costs for supervision or temporary facility rental should apply.	Separate quantity takeoff for each item directly affected by the change. Ensure comparable scope both before and after the change. Price each item at rates effective at the scheduled accomplishment time. Quantify, price, and total each item of changed original work. Price and total each comparable item of revised work. Obtain net cost (or credit) by subtracting total original work cost from revised work cost. Maintain a comparable scope of items throughout both estimates. Directly estimate net or differential quantity if an item is performed identically before and after, except for quantity revision. Apply overhead and profit rates consistently between original and revised work to avoid complications (referencing the contract for guidance).	Item and format should be priced similarly to a new procurement performed by the known contractor. Utilize rates in effect at the time the work would have occurred. Include the direct cost of the work. Add variable overhead costs, including supervision and temporary facility rental costs if the contract duration will be shortened. Include profit (if the contract allows for recovery of profit on omitted work). Include bond and insurance costs for credit on the deleted work, if contract allows.

Impact considerations of cost on the remaining unchanged work will be discussed forward. Clearly and adequately describe and identify impact related costs as a separate part to each estimate.

Prepare an estimate for a modification in at least as much detail as the bidding estimate. Many instances will require even more detail in order to negotiate the lowest reasonable price. Each modification estimate should include a general summary sheet relating the major categories of cost of the modification, both for decreases and increases. Include the construction plan, descriptions, utilization schedules, and discussion sheets that would aid in understanding and support the estimator's judgments.

The result will generally provide an IGE that can be defended and utilized as a firm basis for negotiation. Any guidance on composition for the contractor is equally applicable to the breakdown required for the government estimate. The government estimate should not rely on past generalized rates and settlements unless actually appropriate to that specific modification.

Estimators should base the estimate on the most dependable information available. The most reliable source is the data actually collected and experienced from the project. Time studies, periodic field visits, the project schedule of values, and log records can provide this data.

Previous modification results as one source of feedback can also provide valuable data. Experienced cost data is often available from past audit reports on other modifications. The contract should also be referenced for the "rules of engagement" i.e. those contract provisions that govern allowable mark-ups for overhead and profit. These rules should be reviewed by the parties and clarified as to their intent at the outset of the project.

The estimate must be prepared in a timely manner. Procurement requirements stress the importance of settlement prior to commencing the work. The estimator must not be the initiator of a cost-plus settlement as a result of delay in preparation. On the other hand, the estimate should not be based on pure judgment when actual data is obtainable. Therefore, the estimator should immediately proceed to obtain the necessary data for the modification estimate and notify the appropriate contract administration specialist of the earliest date that the estimate can be completed. It is generally understood that the larger and more complex the change, the longer the time requirement for the initial preparation of dependable estimate.

Impact Cost Considerations

When a modification is directed, the settlement of that modification includes not only the cost and time change of the work directly affected but also the cost and time impact on the unchanged work. The impact portion on unchanged work of a modification is very difficult to determine. The scope of impact can be very broad, intangible, and susceptible to a large variety of situations.

By far the greatest portion of impact costs results from acceleration or delays. In general, when delay effect can be minimized, impact costs are reduced. It is typically necessary that the claim be reviewed for validity by a team involving all-around expertise.

Impact costs are generally first presented by the contractor as "claimed" impact cost as part of the proposal. The support for such "claimed" cost should also be obtained and include narrative, calculations, and planned rescheduling. To determine the extent of the impact, the existing Critical Path Method (CPM) schedule furnished by the contractor must be developed to reflect actual construction as accurately as possible. The modification work must be superimposed upon the original schedule in such a manner to minimize delay under the given requirements. The revised schedule must then be thoroughly reviewed relative to the existing job plan, particularly as to impacts to the critical path.

This comparative review should indicate those areas that have been affected by the modification. Once identified, each construction task must be analyzed for impact and estimated judgmentally considering the influences caused by the change. Each impact cost claimed should be classified as either factual or judgmental.

Once an item has been determined to be valid as a factual impact, the item cost may be directly calculated. The amount of cost change is either stated on the certification document or can be determined from the scheduled time change of the construction progress plan.

Judgmental costs must be negotiated and be based upon experienced judgments. Judgment or costs can be challenged but cannot be found erroneous if based on reasonable judgments of the conditions. Since judgmental factors appear in the Government estimate and the contractor's proposal, results of negotiations often depend on credibility and clarity of support documentation.

FACTUAL COSTS	JUDGMENT COSTS
Material price escalation	Change of efficiency
Labor wage escalation	Loss of labor efficiency
Equipment rate changes	Disruption to orderly existing processes and procedures
Materials and equipment storage	Inefficiency from rework
Equipment rental/use	Loss of efficiency from rescheduled manpower
Labor cost and subsistence	Impact to morale
Utilization of overhead personnel, materials, and utilities	Inefficiency incurred from resubmittals
Overhead and project office services	Impact of transferred manpower/expertise

When each impacted activity can be analyzed for cost separately, the estimate of impact should be prepared accordingly. However, sometimes the impact items are so interrelated that it is best to develop a detailed plan for accomplishing the total remaining revised contract work.

Each remaining item in this plan would be costed at the productivity and rate in effect at the time the work is to be accomplished and the cost incurred. The same scope of work under the original plan would also be separately costed at the productivity and rates in effect at the originally scheduled time. The net difference from the totals of these two estimates yields the cost of impact.

Whatever the method used, those impacts determined valid must be included and costed by the most accurate method available. The estimator should avoid including questionable impact costs in the initial government estimate unless each has been found to be justifiable.

Note that earned value analysis is a useful tool to determine at any given point in time the financial status of the project and to forecast the likely outcome.

Support for Negotiations

Once the government estimate for the modification has been completed, approved, and delivered to the Contracting Officer or his/her authorized representative, the estimator should continue to support the negotiations. This support is entirely dependent upon the desires of the negotiator. The estimator must become thoroughly familiar with negotiating requirements and techniques before the estimator participates as part of a negotiating team.

Whenever feasible, the estimator should review the contractor's proposal and furnish the negotiator with the resulting analysis. The estimator must review many of the costs presented in the contractor's proposal breakdown for accuracy, reasonableness, and allowability. Of those costs found allowable (see FAR 31.2), each must further be reviewed for applicability for that portion relevant to the particular project. The government should expect to pay for all reasonable costs anticipated to be incurred by the contractor.

Revision of the Government Estimate

As a result of an error, different conditions, or additional information, the government estimate may require revision. It is permissible for government estimates for modifications to be revised either by supplementary sheets or by actually changing the contents of the original estimate pages. The method used will be determined by the extent of the revision and the format utilized. Whichever the method, all revisions to the estimate must be clearly indicated, dated, justified, and approved by the appropriate authority. The appropriate authority is usually considered to be the original estimate approving individual or the individual having authority to approve the modification itself.

Contractual Claims

Every construction contract contains provisions for dealing with "claims" for additional costs or time extensions as a result of the failure of one party to the contract to perform one of its obligations. These typically are time-related and arise when the general contractor forms the opinion that some act or lack of action has caused him a delay on the project. This is a very complex subject and contracts vary in how claims are dealt with, however in essence the delay claimed must be on the critical path, must be notified in writing within a given time period of the delay occurring, and must be the result of the owner or someone acting for the owner (e.g. the architect) failing to fulfill a contractual obligation for the claim to succeed. A claim can be rejected or at least diluted if the contractor is also behind in other areas which are causing a delay in the project (referred to as a concurrent delay) and there are myriad other issues which come into play. It is often necessary to bring in a claims and scheduling expert to sort through all the paperwork and establish the root causes of a delay and the true cost, if any, to the general contractor.

Additional Resources

Associations

• American Association of Cost Engineering International
• Construction Management Association of America
• Project Management Institute
• Royal Institution of Chartered Surveyors

Publications

• Architect's Essentials of Cost Management by Michael Dell'Isola. New York, NY: John Wiley & Sons, Inc., 2002.
• Construction Change Orders: Impact, Avoidance, and Documentation by James J. O'Brien. New York, NY: McGraw-Hill, 2002.
• Construction Claims: Prevention and Resolution, 3rd Edition by Robert A. Rubin, Virginia Fairweather, Sammie D. Guy. New York, NY: John Wiley & Sons, Inc., 1999.
• Construction Contracts: Law and Management by J. R. Murdoch, Will Hughes, John Murdoch. New York, NY: Spon Press, 2000.
• Smith, Currie & Hancock's LLP's Common Sense Construction Law: A Practical Guide for the Construction Professional, 2nd Edition by Robert B. Ansley, Thomas J. Kelleher, Anthony D. Lehman. New York, NY: John Wiley & Sons, Inc., 2004.