Project Budgeting

Topics
PROJECT BUDGETS

DEVELOPMENT OF PROJECT ESTIMATES FOR BUDGETING

LEVELS OF ACCURACY

OWNER'S ESTIMATE FOR BUDGETING

ECONOMIC FEASIBILITY STUDY

DESIGN BUDGETS

CONTRACTOR'S BID
Project Budgets
The cost of construction work is a major portion of the total cost of
any project.

Much of the construction work on many projects is performed by

subcontractors who are awarded a contract by the general contractor.

This chapter presents an overview of construction costs.

The budget for a project is the maximum amount of money the owner
is willing to spend for design and construction to economically justify
the project.
Project Budgets

Estimating is a prerequisite to project budgeting. Chapter 4 presented

the process of preparing early estimates of projects.

As presented in that chapter, after the base estimate is completed, a

risk assessment must be performed.

The purpose of the risk assessment is to determine an appropriate

amount of contingency funds that should be added to the base
estimate in order to reasonably predict the final cost of the project.

Thus, the budget can be considered to be the base estimate plus

contingency.
Development of Project Estimates for Budgeting
The preparation of estimates, assessing risk, and assigning contingency for budgeting- is
one of the most difficult tasks in project management because it must be done before the
work is started.

It is a process that involves a series of successive approximations beginning with the

owner's feasibility study and continuing through design development and construction.

The preparation of cost estimates for budgeting is important to each party because the
decision to proceed, at each phase in the project, is based on the estimated cost that was
determined in the preceding phase. The owner's organization must determine a realistic
maximum and minimum cost of the entire project, which includes the cost of design and
construction.

The designer's organization must determine the cost of performing design tasks and
producing the contract documents.
The construction contractor's organization must determine the cost of all material,
labor, and equipment to build the project on the job-site.

Each contractor on a project must develop a base estimate, consider risk, and
assign contingency for the work they will be performing on a project.

Project estimating and budgeting begins with the owner during the study of
needs, priorities, and scope.

As discussed in Chapter 3, the project budget is derived from scope definition;

therefore, a special effort should be made early in the development of a project to
define the scope as detailed and accurately as possible.
The owner's organization must prepare estimates to determine the overall project
budget, which includes the approved cost for design and construction.
If the scope is not well defined or the owner's organization does not have the
expertise to perform such an estimate, the owner can enlist a designer to perform
these services on a cost-reimbursable basis.

Because this budget is prepared prior to any detailed design work, it should
include a reasonable amount of contingency funds to allow some flexibility in
decision making during design development.

The designer's organization must prepare a budget based on the estimated costs to
provide design services.
In addition, as a part of the design process the designer must prepare the
estimated construction costs of the various design alternatives that are being
evaluated to meet the owner's needs for the project.

This is necessary before completion of the contract documents.

It is the designer's responsibility to keep design costs and estimated

construction costs within the owner's overall approved project budget.

This requires extensive cooperation and involvement with the owner because
the scope must sometimes be readjusted to meet the owner's approved budget,
or the budget must be readjusted to meet the owner's needs. This decision
must be made by the owner's organization.
Levels of Accuracy
A range of accuracy, usually a plus or minus percentage, should be assigned to any
estimate by the estimator based on his or her best assessment of the project's true cost.

Building projects generally have two types of estimates: approximate

estimates(sometimes called preliminary, conceptual, or budget estimates) and detailed
estimates (sometimes called final definitive, or contractor's estimates).
The level of accuracy of the approximate estimate can vary significantly, depending upon
the amount of information that is known about the project.

With no design work it may range from +50% to -30%. After preliminary design work, it
may range from +30% to -20%. On completion of detailed design work it may range
from + 15% to - 10%.
For building projects, the detailed estimate is prepared by the construction
contractor from a complete set of contract documents prior to submittal of the bid
or formal proposal to the owner.

The detailed estimate is important to both the owner and the contractor because it
represents the bid price, the amount of money the owner must pay for completion
of the project, and the amount of money the contractor will receive for building
the project.

For a building project that has a complete set of well-defined contract documents
and no unusual features, the competitive bidding of numerous contractors will
often result in less than a 1% variation in the lowest two bids.
Owner’s Estimate for Budgeting
Every project must be shown as economically feasible before it is approved by the owner's management.

Economic feasibility is determined by an economic analysis for projects in the private sector or by a
benefit/cost ratio for projects in the government sector.

An economic analysis can be performed once an owner's estimate has been prepared.

Preparation of the owner's estimate requires knowledge and experience of the work required to complete the
project.

Cost information from professionals who are knowledgeable about design and construction is essential.

Cost information for preparation of the owner's budget is usually derived from one of two sources: cost
records from previous projects of similar type and size, or pricing manuals that are published annually by
several organizations.
The other source of cost information is company records from previous projects.

Although the total cost of previously completed projects will vary between projects, unit costs can be
calculated to forecast the cost of future projects.

The term of weighting is commonly used to refer to the procedure of analyzing historical cost data to
determine a unit cost for forecasting future project costs.

A unit cost should be developed that emphasizes the average value, yet accounts for extreme maximum and
minimum values. Equation 5.1 can be used for weighting cost data from previous projects:
Economic Feasibility Study
Regardless of its size or type, a project must be economically feasible.

There are at least two ways to determine economic feasibility, depending on whether the owner is
in the private sector or government sector.

For a private project the economic feasibility can be determined by an economic analysis of the
monetary return on the investment to build the project. For a public government project the
economic feasibility is usually determined by a benefit cost ratio.

There are three methods that are commonly used by the private sector to evaluate the monetary
return on a potential investment: capital recovery, pay back period, and rate of return.

Each method uses the fundamental equations of time value of money.

Design Budgets
The design organization has a difficult task of estimating the cost of providing design services and or
producing contract documents for the project before the design and construction phases begin.

Compensation for design services is usually by one of the following methods: lump-sum, salary cost times a
multiplier, cost plus a fixed payment, or percent of construction.

The method that is used depends on the accuracy of the scope definition that is provided to the design
organization

For projects that have a well-defined scope with no unusual features, and are similar to projects that a
designer has handled in the past, a lump-sum design contract is commoaly used.
Contractor’s Bid

Most of the cost of a project is expended during the construction phase when the contractor must supervise
large work forces who operate equipment, procure materials, and physically build the project.

The cost of construction is determined by the contractor's bid that has been accepted by the owner before
starting the construction process.

The pricing format for providing construction services can be divided into two general categories: fixed price
and cost reimbursable.

Fixed price contracts usually are classified as lump-sum, unit-price, or a combination of lump-sum and unit-
price.

Cost-reimbursable contracts can be classified as cost plus a fixed fee or cost plus a percentage.
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