making sense your project cost estimate

8/8/2019 Making Sense Your Project Cost Estimate

1/5

John C. Lagace Jr.Commonwealth Engineeringand Construction Co.

I

f your estimate for a projects capi-tal cost is too high or too low, incom-plete or wrong, a poorly developed

scope is the mostly likely cause. Inalmost all cases, project cost estimat-ing is more accurate than the scopeused to develop the estimate. (To de-

velop a good project scope, please referto Get Your Scope Straight for ProjectSuccess, CE, February, pp. 3638). Yetgood scope definition is only part ofthe answer.

What happens in estimating?A project estimate is a series of activi-ties building on each other. Scope development, or defining what

will be done, by series of specific en-gineering documents Estimating or gathering cost data

and applying algorithms to deter-mine costs based on experientialfactors

Applying risk-management meth-ods to better define a cost basis formajor impact items

Developing a contingency based onthe above

Each step depends on the prior steps.In practice, project estimating is moreaccurate than scope development be-cause if we can think of something, wecan usually place an accurate value onit based on experience. Most inaccu-rate estimates are caused by things weforgot to include, things we decided toleave out, wishful thinking, and thingsin the realm of known unknowns.

Zeroing in on the uncertaintyA study undertaken in 2000 [1] lookedat 24 variables and 84 contractors anddetermined that the following sevenfactors are relevant to producing a goodproject cost estimate. In order from

most to least influential, they are:

Project complexity Technological requirements Project information Project team requirements Contract requirements Project duration Market requirements

Even small projects can be very com-plex. In some cases, a project mayhave multiple stakeholders, each

with a differing view of the project re-sult. Managing multiple stakeholderscomplicates a project.

Technology requirements createcomplexity. Consider new technolo-gies that may not be familiar to you,such as continuous emission monitors(CEMs) for flares, or technology forreducing NOx emissions or sulfur infuels. Smaller companies without anenvironmental knowledge-base canbe frustrated getting up to speed onthese technologies, and that increasesyour projects complexity.

The next item of importance is proj-ect information. A good part of this re-quirement lies in scope definition, dis-cussed in the article referred to above.

A good estimate is not possible withoutgood input, and a bad scope documentcannot reasonably be expected to leadto a good project.

Project-team requirements may ormay not influence your estimate much.Is your team local, or are you relyingon distant team members with infre-quent meetings? Is your team commit-ted, or are you sharing members who

have other important duties? You wantto know who will be on your team, andto be sure of their commitment, so youcan have confidence in them. Try to in-fluence the makeup of the team so thatyou do have confidence and get them tooffice together for good communica-tions people on the team should belocated near each other.

Timing is importantProject timing might be a problem if

you are handed an old project and aretold to do it at last years estimatedcost. A lot can change in a year. Metaland energy prices especially, havemoved steadily upward. Look over theold project and re-estimate these itemsbefore committing to old cost numbers.

Look at schedule impacts, too, as cur-rent deliveries of pumps and vesselscan take longer than your old plan an-ticipated. Some projects are currentlypaying premiums for shorter deliver-ies. Not only must the old numbers bebrought up-to-date, but forward esca-lation will need to be added, too.

Cost estimatorsProject-cost estimators look at the fol-lowing things to develop the cost ofyour project, and each of these can bea source of uncertainty: Items that must be purchased, and

how much they cost. (equipment,bulk materials and proratables)

The sales tax rate and applicability(sales tax)

Delivery costs for equipment andmaterials (freight)

Feature Report

54 CHEMICAL ENGINEERING WWW.CHE.COM AUGUST 2006

Making Sense of YourProject Cost EstimateUsing different estimation levels,

determined throughout the engineering

phase of a project, can save time

and avoid surprises when it comes time to bid

Engineering Practice


2/5


3/5


4/5


5/5

Engineering Practice

58 CHEMICAL ENGINEERING WWW.CHE.COM AUGUST 2006

be produced by factoring from the costof a known unit of a given cost, instal-lation date, capacity, and location.

For example, you might say, a simi-lar project back in 1990 that was halfof this capacity and was built in theNorthwest instead of Gulf Coast costus $48 million, so this one is about:

$48,000,000 .fe .fl . (2.0)0.6 =$76,000,000where:

fe = factor for 15 years of escalation(in this example,fe = 1.1)

fl = factor for location adjustment (inthis example,fl = 0.949 because itscheaper to build in the new region)

(2.0)0.6 = capacity factor to the 0.6power (0.6 is a commonly assumed ex-ponent for total plants. Tables can befound for various equipment types.)

The estimate mean value is $76 mil-lion with a range of + 50% (or $38 mil-lion) and 30% (or $22.8 million). Payparticular attention to the +50% sideof the number; this is the upper 95%confidence limit. There is only a 5%chance of exceeding $114 million, butthere is a 50% chance of going over $76million. In fact, it is an even bet that

the project will exceed $76 million.Preliminary estimate (+35%/25%): A preliminary estimate is used to com-pare competing project options. In agated-project process1, alternativesare compared using project-economicindicators, such as net-present value(NPV). NPV requires installed costand annual operating/maintenancecosts for its evaluation.

A few engineering deliverables, typi-cally by process engineers and pipingdesigners are sufficient for this levelof estimate. A plot plan, PFDs, sized-equipment list, and a preliminary motorH.P./electrical-load list are enough.

Budget estimate (+25/15%):An esti-mate of this level is often used for de-tailed studies or for project funding au-thorization. This level estimate requiressignificant preliminary engineering byall disciplines. Refer to the cost estimatematrix (Table 1) for details of engineer-ing deliverables required. For our $76

million example project, we might ex-pect to spend 2% to 5% of the total engi-neering for the estimate deliverables.

Everything is estimated from thisinformation using a conceptual esti-mating program, and there are manygood software programs available. Wemay have a good idea of site prepara-tion costs, labor rates and engineer-ing costs, and use these in place ofsoftware-produced results. The con-tingency at this level of estimate willbe high to cover things we know ofbut could not include, such as under-ground obstructions or enough insula-tion and tracing. Typically defined atthe end of a project, they simply are

not known at this point and we willuse factors2 to create a dollar valuefor these things. With a good softwareprogram, if we tell it that a new DCSor substation is needed, it will esti-mate those items based on the motorand other power loads and the instru-mentation required. If we proceed toauthorize the project with this esti-mate, we would find that while we areonly likely to exceed the upper limit2.5% of the time (5%/2), we have a 50%chance of exceeding the mid point.

Definitive estimate (+10/5%): The

definitive bid is used for lump-sumbids and funding authorization. Asthe estimate matrix shows, a lot of en-gineering is required to produce thisquality of estimate. Figure on being75% to 90% complete with engineer-ing in order to have the informationrequired. You are essentially completewith engineering at this stage.

What estimate level to pay for?I cant answer this question for you. Ican, though, give you some opinionsto help orient you. In general, the es-timate mean value will not change

very much if your scope is good. Theestimate bands, or uncertainty willimprove however, as the engineeringis closer to complete. It is my opinion that a good +25/

15% estimate can be a useful autho-rization estimate. If you are certain

of your scope, the estimate will beon target and the appropriate con-tingency level will make it manage-

able to within 10%, which is what a+15%/10% estimate achieves

We spend too much time micro-man-aging costs on small jobs and wastemoney doing so. Small capital jobscan be lumped into one pool of fundsand managed so that the pool doesnot exceed its funding. The cost tomicro-manage 1,000-hour engineer-ing jobs exceeds the value it returns

Final thoughts on contingencyContingency, as discussed above, is alist of knowns and known unknowns

that you are aware of, dont expect tohappen, but could happen. You esti-mated that local productivity is 80%but it can be as low as 70%, so youwill cover this in the contingency. Ifyou build in the Gulf Coast area dur-ing hurricane season, you might wantto add the cost of battening down thehatches and stopping work for three tofour days to your contingency allow-ance. If there is a pending labor strike,add some contingency for loss of time,possible extra security, and so on. Con-tingency is not the sum of all knowns

and known unknowns, but a percent-age to cover the statistical likelihoodthat some on the list will come true.Many Monte Carlo packages exist tohelp you determine an appropriatecontingency percentage based on youranalysis of how good your scope is inmost areas.

Edited by Gerald Ondrey

References1. Construction Management and Economics,

Routledge, Vol. 18, No 1, January 1, 2000.

AuthorJohn Lagace is director

of process engineering forCommonwealth Engineeringand Construction Co. (10255Richmond, Suite 300, Hous-ton, Tex. 77042. Phone: 713-979-2769; Fax: 713-784-8984;Email: [email protected]),and has over 30 years of expe-rience in polymers, chemicalsand petroleum-oil refining.He was formerly with Shell,

Exxon and S&B Engineers and Constructorsin various technical and management positionsand has extensive overseas experience from anowners perspective, having lived in Saudi Ara-bia and Malaysia. Lagace holds a B.S. in chemi-cal engineering from the Lowell TechnologicalInstitute (now the University of Massachusetsat Lowell) and a M.S. in chemical engineeringfrom The Pennsylvania State University. Lagaceis a registered P.E. in Texas.

1. A gated-project process is a sequential methodol-ogy used by management to evaluate a project atcritical points to determine whether to commit ad-ditional funding to it or to cancel it.

2. Factored estimates depend on databases ofexperience to predict things, such as how muchinsulation and tracing will be required. Factorsbeing factors, the estimator and engineer must col-laborate to determine if the resultmakes sense.Consider personnel-protection insulation as wellas hot-cold insulation.

making sense your project cost estimate

Documents