COST OF CONSTRUCTION ESTIMATION (TOPIC 2)

The costs of a constructed facility to the owner include both the initial capital cost
and the subsequent operation and maintenance costs. Each of these major cost
categories consists of a number of cost components.

The capital cost for a construction project includes the expenses related to the inital
establishment of the facility:

 Land acquisition, including assembly, holding and improvement

 Planning and feasibility studies
 Architectural and engineering design
 Construction, including materials, equipment and labor
 Field supervision of construction
 Construction financing
 Insurance and taxes during construction
 Owner's general office overhead
 Equipment and furnishings not included in construction
 Inspection and testing

The operation and maintenance cost in subsequent years over the project life cycle
includes the following expenses:

 Land rent, if applicable

 Operating staff
 Labor and material for maintenance and repairs
 Periodic renovations
 Insurance and taxes
 Financing costs
 Utilities
 Owner's other expenses

The magnitude of each of these cost components depends on the nature, size and
location of the project as well as the management organization, among many
considerations. The owner is interested in achieving the lowest possible overall
project cost that is consistent with its investment objectives.

It is important for design professionals and construction managers to realize that

while the construction cost may be the single largest component of the capital cost,
other cost components are not insignificant. For example, land acquisition costs are
a major expenditure for building construction in high-density urban areas, and
construction financing costs can reach the same order of magnitude as the
construction cost in large projects such as the construction of nuclear power plants.

From the owner's perspective, it is equally important to estimate the corresponding

operation and maintenance cost of each alternative for a proposed facility in order to
analyze the life cycle costs. The large expenditures needed for facility maintenance,
especially for publicly owned infrastructure, are reminders of the neglect in the past
to consider fully the implications of operation and maintenance cost in the design
stage.
In most construction budgets, there is an allowance for contingencies or unexpected
costs occurring during construction. This contingency amount may be included within
each cost item or be included in a single category of construction contingency. The
amount of contingency is based on historical experience and the expected difficulty
of a particular construction project.

For example, one construction firm makes estimates of the expected cost in five
different areas:

 Design development changes,

 Schedule adjustments,
 General administration changes (such as wage rates),
 Differing site conditions for those expected, and
 Third party requirements imposed during construction, such as new permits.

Contingent amounts not spent for construction can be released near the end of
construction to the owner or to add additional project elements.

In this chapter, we shall focus on the estimation of construction cost, with only
occasional reference to other cost components. In Chapter 6, we shall deal with the
economic evaluation of a constructed facility on the basis of both the capital cost and
the operation and maintenance cost in the life cycle of the facility. It is at this stage
that tradeoffs between operating and capital costs can be analyzed.

APPROACHES TO COST ESTIMATION

Cost estimating is one of the most important steps in project management. A cost
estimate establishes the base line of the project cost at different stages of
development of the project. A cost estimate at a given stage of project development
represents a prediction provided by the cost engineer or estimator on the basis of
available data. According to the American Association of Cost Engineers, cost
engineering is defined as that area of engineering practice where engineering
judgment and experience are utilized in the application of scientific principles and
techniques to the problem of cost estimation, cost control and profitability.

Virtually all cost estimation is performed according to one or some combination of

the following basic approaches:

Production function. In microeconomics, the relationship between the output of a

process and the necessary resources is referred to as the production function. In
construction, the production function may be expressed by the relationship between
the volume of construction and a factor of production such as labor or capital. A
production function relates the amount or volume of output to the various inputs of
labor, material and equipment.

Empirical cost inference. Empirical estimation of cost functions requires statistical

techniques which relate the cost of constructing or operating a facility to a few
important characteristics or attributes of the system. The role of statistical inference
is to estimate the best parameter values or constants in an assumed cost function.
Usually, this is accomplished by means of regression analysis techniques.
Unit costs for bill of quantities. A unit cost is assigned to each of the facility
components or tasks as represented by the bill of quantities. The total cost is the
summation of the products of the quantities multiplied by the corresponding unit
costs. The level of detail in decomposing into tasks will vary considerably from one
estimate to another.

Allocation of joint costs. Allocations of cost from existing accounts may be used to
develop a cost function of an operation. The basic idea in this method is that each
expenditure item can be assigned to particular characteristics of the operation.
Ideally, the allocation of joint costs should be causally related to the category of
basic costs in an allocation process. In many instances, however, a causal
relationship between the allocation factor and the cost item cannot be identified or
may not exist.

For example, in construction projects, the accounts for basic costs may be classified
according to (1) labor, (2) material, (3) construction equipment, (4) construction
supervision, and (5) general office overhead. These basic costs may then be
allocated proportionally to various tasks which are subdivisions of a project.

Types of Construction Cost Estimates

Construction cost constitutes only a fraction, though a substantial fraction, of the total
project cost. However, it is the part of the cost under the control of the construction
project manager. The required levels of accuracy of construction cost estimates vary
at different stages of project development, ranging from ball park figures in the early
stage to fairly reliable figures for budget control prior to construction. Since design
decisions made at the beginning stage of a project life cycle are more tentative than
those made at a later stage, the cost estimates made at the earlier stage are
expected to be less accurate. Generally, the accuracy of a cost estimate will reflect
the information available at the time of estimation.

Construction cost estimates may be viewed from different perspectives because of

different institutional requirements. In spite of the many types of cost estimates used
at different stages of a project, cost estimates can best be classified into three major
categories according to their functions. A construction cost estimate serves one of
the three basic functions: design, bid and control. For establishing the financing of a
project, either a design estimate or a bid estimate is used.

1. Design Estimates. For the owner or its designated design professionals, the
types of cost estimates encountered run parallel with the planning and design
as follows:
o Screening estimates (or order of magnitude estimates)
o Preliminary estimates (or conceptual estimates)
o Detailed estimates (or definitive estimates)
o Engineer's estimates based on plans and specifications

For each of these different estimates, the amount of design information

available typically increases.
2. Bid Estimates. For the contractor, a bid estimate submitted to the owner
either for competitive bidding or negotiation consists of direct construction
cost including field supervision, plus a markup to cover general overhead and
profits. The direct cost of construction for bid estimates is usually derived from
a combination of the following approaches.
o Subcontractor quotations
o Quantity takeoffs
o Construction procedures.
3. Control Estimates. For monitoring the project during construction, a control
estimate is derived from available information to establish:
o Budget estimate for financing
o Budgeted cost after contracting but prior to construction
o Estimated cost to completion during the progress of construction.

ESTIMATION OF OPERATING COSTS

In order to analyze the life cycle costs of a proposed facility, it is necessary to

estimate the operation and maintenance costs over time after the start up of the
facility. The stream of operating costs over the life of the facility depends upon
subsequent maintenance policies and facility use. In particular, the magnitude of
routine maintenance costs will be reduced if the facility undergoes periodic
repairs and rehabilitation at periodic intervals.

Since the trade off between the capital cost and the operating cost is an essential
part of the economic evaluation of a facility, the operating cost is viewed not as a
separate entity, but as a part of the larger parcel of life cycle cost at the planning
and design stage. The techniques of estimating life cycle costs are similar to
those used for estimating capital costs, including empirical cost functions and the
unit cost method of estimating the labor, material and equipment costs. However,
it is the interaction of the operating and capital costs which deserve special
attention.

The value of the cost exponent may influence the decision whether extra capacity
should be built to accommodate future growth. Similarly, the economy of scale
may also influence the decision on rehabilitation at a given time. As the
rehabilitation work becomes extensive, it becomes a capital project with all the
implications of its own life cycle. Hence, the cost estimation of a rehabilitation
project may also involve capital and operating costs.

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