PM101: Scope and Costs

 

Page 2

Follow the money!

Serious, now. The estimate that counts is the one used to decide whether or not to fund your project.

Liars Poker 1

A naive company may engage in some form of “Liar’s Poker” – whichever project claims its benefits for the lowest cost gets the money.

If Larry is desperate for a new facility in Singapore, and goes with an 85% estimate, while Lois, the consummate pro, goes with a standard 100%, and Leon, who was burned last time when late cost cuts made his unit almost inoperable, goes with 110%, who gets the funding?

The best companies play on a level field, with clear scope and execution plans documented, standardized estimate methodologies, and a reliable gauge of contingency, risk and range.

Budget Estimates

Business Decision: Is this where we want to spend our human resources and capital, to prosper the company?

Hurdle: The initial Appropriation will probably authorize only Front End Engineering and Design (FEED) activity, perhaps critical long-lead equipment orders (with negotiated cancellation fees) and perhaps also long-delivery exotic bulk materials.

Realistically, however, even if, say, half of the proposed projects do not pass this gate, once they do, very few authorized projects get shelved. The next phase-gate: full project authorization (after a definitive estimate) is often just a reality check.

Timeframe: Facilities Planning, pre-Project Planning, Initial Process Design.

Scope Basis: In today’s Front End Loading (FEL) conscious environment, one would assume that the quality and detail available prior to authorization has improved over past practices, and this certainly seems to be the case, particularly with regards the process design.

At minimum, a good Design Basis Memorandum and a (preliminary) Project Execution Plan should be documented.

A Design Basis Memorandum (or similar terminology) describes the process alternative selected from among the many screened. It should include Process Flow Diagrams, Stream Lists with material classifications (or at least temperatures and pressures), a heat and materials balance, an equipment list, at least a rough plot plan, including offsite facilities, and preferably a Class of Facility Quality Matrix (also called “Project Functional Analysis”), etc.

A Project Execution Plan is also required. It may be a preliminary first pass at this point, but should include an idea of the owner’s organization, a contracting plan (it may specify that selecting between lump sum and reimbursable contracts will depend on market conditions at the time of bid), and ditto with regards to stick-built versus modular construction, etc.

Methodology: Varies. Curves can be used for appropriation, or more detailed, factored methods. Companies vary in their standards.

Effort: A Class 3, using curves on a well defined scope with applicable data available, might get by with a small team in weeks. A really solid (in-house) Class 2, using factored estimates, has in the past required 1-3% of the total project cost to complete.

Range: A curve generated Class 3 is usually +/- 20%. A really good Class 2 can be +/- 10%.

estimate

Class 3 Estimates

With screening estimates, we were primarily interested in delta costs, but now we want to allocate or budget based on a robust, reliable total cost.

There are two commonly used methods:

(1) Curves

(2) Semi-detailed, or Factored Estimates.

Curves

We covered the curves, earlier. While Class 3 will have an improved scope definition, the same curve methodology as shown for the Class 4 may apply for direct materials and base case labor.

The key here may be applying the (1) labor productivity and (2) “indirects” correctly.

labor productivity 4

1. Labor productivity: Direct labor constitutes a high percentage of the total cost of a project (an average of 15% – 20%, with a fairly large range, depending on the type of project and location).

“Predicting the cost of labor for a given project is a difficult task and has frustrated both Cost Engineers and field supervisors alike”. “Field labor productivity is the single greatest variable in any estimate… and as a result, many estimates of labor man-hours overrun in the field, often with a disastrous impact.” “Because of the obviously close relationship that exists between erection man-hours and the project schedule, more than likely the completion date of the project is extended”.

A scientific approach to labor productivity will benchmark typical projects at location, then adjust. Common adjustments include (1) anticipated shift schedules, <or> (2) anticipated overtime, (3) job size, (4) training / learning curves, (5) congestion, (6) local activity and (7) sub-contract versus direct hire.

Labor 5-1 Labor 5-2

Labor 5-3 Labor 5-4

Labor 5-5

Local activity: “Normally, during times of high economic activity, even the entire local labor force is not sufficient and labor must be brought in. Overall productivity will decline (including that of the local craftsmen). The reasons for this are not clear, since often the imported craftsmen are of average or better quality. The drop… most likely attributed to one of attitude.”

Direct Hire vs. Subcontract labor: “For a number of reasons, on the average the subcontract labor will perform at a 5-10% higher productivity level.”

2. Indirect Costs

Summary Estimates

As you can see from three randomly selected projects (above), from three different decades, normalized to a $500m project: Indirect costs as a function of Direct costs can vary significantly (click on image to enlarge).

Indirect cost items consist of a wide variety, but generally fit into the following:

1. Detailed Engineering (Contractor)

2. Owner Costs

  • Home Office (Basic) Engineering
  • Home Office (Process Design Spec) Engineering
  • Home Office Estimating (Class 5, 4, 3 and sometimes Class 2)
  • Project Management Team
  • (unilateral) Incentive Bonuses

3. Field Labor Overheads

  • Temporary Construction Facilities
  • Construction Consumables
  • Construction Tools
  • Field Supervision
  • Labor Payroll Burden

4. Miscellaneous costs

  • Freight, duties, taxes
  • Insurance
  • Loss on sale of surplus materials
  • Other

5. Ancillary Costs

There are often significant charges against a project appropriation, which are not managed or controlled by the project team, and as such are not examined in any detail, here. It is assumed that these numbers are just added at each appropriation submittal:

  • Catalyst
  • Licensing Fees
  • Expense projects (by others; required by the project objectives)
  • Capital projects (by others; required by the project objectives)

1. Detailed Engineering (Contractor)

detailed engineering

Wow. Here’s a tough one. My sample projects range from 4% to 8% to 16% of TEC for contractor detailed engineering. Clark and Lorenzoni suggest about “10% of the total project costs, with a fairly broad range”, plus “in addition, the contractor’s fee or administrative overhead and profit usually averages 5% (of TEC)”.

And, just maybe, this is a case where the contractor will not low-ball such an estimate…

In the Class 2 section, I will discuss a “unitized” approach.

Otherwise, one may decide to use 15% or 12.5% or even 10% of TEC for a +/- 20% estimate.

2. Owner Costs

Another tough one… but as an owner’s representative you will probably have access to good numbers. Note: these will probably be more generous than the numbers applied to others…

Clark and Lorenzoni do not have much to say about these…

In my sample projects, owner’s costs ranged from 3% to 10% to 13% of TEC. For a +/- 20% estimate, 10% might not be a bad first pass.

3. Field Labor Overheads

construction

Generally Boring… and I do not know of any creative approaches to these, though some must exist. Clark and Lorenzoni suggest that these FLO’s may be 10% – 15% of total project costs, although my selected projects (above) reported less than half those numbers.

(Suggestion: use 8-10% of TEC for FLO’s, and ignore getting into the details, if you are aiming for a +/- 20% estimates; if you need +/- 10% accuracy, then definitely consider the more detailed approaches suggested below)

Details:

Temporary Construction Facilities – usually preparation of laydown areas and especially new “temporary” buildings, plus associated materials handling and storage costs. It is essential to properly sort, protect and store arriving equipment and bulks. Often big productivity gains are achievable for (a) positive materials identification and (b) “bag and tag” of piping items. Such “temporary” buildings often provide usefulness even ten or twenty years after construction… Don’t skimp, here!

Temporary roads, fences, utility lines. Often necessary. As with the above, align with Constructability VIP’s.

Scaffolding. Often a relatively big number, often with opportunities to reduce costs (e.g. make sure you do not build and remove staging, only to construct it again at the same location). Have I mentioned Constructability VIP’s?

Fuels, clean up costs, weld rod, protective clothing. Just get a number for these.

From the masters: (Quote) “There are four basic approaches (to the four FLO items, above). A “super short-cut” approach is to use a percentage of direct labor costs based on past history… Or, develop (an overall) curve. A semi-detailed approach would involve individual curves for each line item. Finally, the detailed approach is based on making a layout and tabulation of requirements from an execution plan.”

Construction Equipment and Tools

Major Construction Equipment. Typically cranes, bulldozers, etc. Here again, a “super short-cut” can be to relate to labor manhours. A more detailed approach would require a prediction of the equipment needs for the project (and rental rates, local approaches via equipment versus a manual approach, etc.). But… these are real needs; the project cannot complete without these, and they are not typically covered in the equipment based direct materials and labor estimates. Have I mentioned a Constructability VIP, or equivalent discussions with construction experts, at this stage?

Minor Construction Equipment. welding machines, air compressors, hand tools, purchased and rented items, maintenance and repair costs. Again, these are not huge sums, just get a number for them.

Field Supervision

“Field supervision includes both the contractor’s permanent staff supervision and all locally hired supervisors and administration and clerical staff. It specifically excludes craft labor and their immediate foreman since these are part of the direct labor costs. Also included would be the cost of operating the field office (telephones, duplication costs, furniture rental, etc.)”

Again, quickie methods against total labor manhours may be sufficient. The insightful will also recognize that more supervision, and better quality supervisors, have a positive impact on overall labor productivity.

Payroll burden.

Know what is in the direct manhours rate, and account for the rest here. Understand local labor agreements, statutory requirement, and training needs.

4. Miscellaneous Costs

The most important concern, here, is to ensure that all of the items listed above are covered. Otherwise some (costly!) item is bound to “fall in the crack”

5. Ancillary Costs

Often, costs accrue to the appropriation request which are outside of the purvue of the Project Team (see above). They are necessary to complete the project, but are typically in the hands of others to execute. The key here is to ensure that at each stage of budgeting, these costs follow along with the project.

 

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