Architects

Essentials of

Cost

Management

Michael D. DellIsola, PE, CVS

John Wiley & Sons, Inc.

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Architects

Essentials of

Cost

Management

Architects

Essentials of

Cost

Management

Michael D. DellIsola, PE, CVS

John Wiley & Sons, Inc.

Copyright 2002 by John Wiley & Sons, Inc., New York.All rights reserved.

No part of this publication may be reproduced, stored in a retrievalsystem or transmitted in any form or by any means, electronic,mechanical, photocopying, recording, scanning or otherwise, except aspermitted under Sections 107 or 108 of the 1976 United StatesCopyright Act, without either the prior written permission of thePublisher, or authorization through payment of the appropriateper-copy fee to the Copyright Clearance Center, 222 Rosewood Drive,Danvers, MA 01923, (978) 750-8400, fax (978) 750-4744. Requests tothe Publisher for permission should be addressed to the PermissionsDepartment, John Wiley & Sons, Inc., 605 Third Avenue, New York,NY 10158-0012, (212) 850-6011, fax (212) 850-6008, E-Mail:PERMREQ @ WILEY.COM.

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CONTENTS

Foreword ix

Acknowledgments xiii

1Introduction 1

Terminology 4Cost Management Considerations 5Cost Management Methodology 12

2Building Economics 17

Breakdown of Construction Costs 18Cost Components 22Distribution of Hard Costs 25Factors That Influence Building Costs 28Conclusions 47

v

Contents

3Cost-Estimating Methodology 49

Establishing Standard Formats 50Identifying and Managing Cost Drivers 73Estimate Preparation Principles 81Cost-Estimating Methods 96Dealing with Escalation and Contingencies 115Risk Management and Range Estimating 119Special Estimating Challenges 123Value Management 125Life-Cycle Costing 141Conclusions 160

4Cost-Estimating Tools 161

Interpreting Cost Information 161Using Cost Indexes 163Referencing Published Cost Information 184Developing and Maintaining CostData Files 184Doing Computer-Assisted Estimating 191Conclusions 193

5Cost Management Methodology 195

Integrating the Cost Management Process 196Planning, Programming, and Budgeting 202Budgeting Methods 212Managing Costs during Design 238

vi Contents

Implementing Construction PhaseCost Management 262Understanding the Impact of DeliveryMethods on Cost Management 274Conclusions 292

References 295

Index 299

Contents vii

Foreword

Few things can be more devastating to an architec-tural practice than a major project cost overrun. Aclient is probably lost, profits evaporate as thedamage is contained and corrected, and the firmsreputation is irreparably damaged for many years tocome.

Despite all this, not a lot has been done toimprove the professions capabilities in estimatingand managing costs creatively. Certainly there is a lotof product dealing with the estimating of construc-tion costs and extensive published and automateddatabases, with exhaustive up-to-date cost informa-tion, all supplemented by a wide variety of auto-mated estimating programs. But, is this all reallyuseful to the profession?

It has always seemed to me that trying to sell,train, or persuade architects to become constructionestimators, was a misdirected effort. Most architects

ix

Foreword

by their nature are more focused on concepts thandetails. Rather, what is needed is a new approach todealing with costs during design which is notfocused on detail, but on design concepts.

It all comes down to how we actually look atcosts. To many, there is only one way they can beviewedbuilding costs equate to an aggregation ofexhaustive detail, beginning with the cost of labor toinstall, materials required, equipment needed, over-heads and profits to be absorbed, and so on. Thus,from this perspective, the only way to estimate costsis to determine the quantities and values of thesebasic ingredients from the bottom up. Unfortu-nately, this is not the way a building design evolves.In fact, it is quite the reverse. A written statistical anddescriptive program leads to a highly creative transla-tion into a schematic/conceptual design, which isonly then followed by the definition of systems,components, and products required to fulfill theconcept.

While the seeds of a buildings final cost aresowed in the initial program, it is really during theconceptual design that the template is established. Itis exactly at this point and the immediate phase ofdesign, that the architect must concentrate his or herefforts in establishing and setting the framework forongoing cost control.

At long last, a book has been written that will helpevery architect in this endeavor. It provides back-ground in understanding the fundamentals of build-ing economics, that is, exactly what are the mainconceptual drivers of construction cost. For thoseunfamiliar with the UNIFORMAT, it explains theuse of this powerful framework for checking andestablishing budgets, preparing conceptual esti-

x Foreword

mates, controlling costs through design and con-struction, and recycling cost experience for futureuse creatively on other projects.

It has been my pleasure to have worked with theauthor, Michael DellIsola, during my years atHanscomb and before. During his career he hasdone a great deal to promote the concepts of life-cycle costing, value-enhanced design, and responsi-ble cost management to the architectural profession.

I commend this book to you and I trust that it willserve you well.

Brian BowenPresident (retired), Hanscomb Inc.

Atlanta, GA

Foreword xi

Acknowledgments

This book presents the subject of cost managementwith an emphasis on the early planning and designphases of project delivery and with a focus on theimportance of integrating cost management into thedesign process. Building economics and cost esti-mating are presented as key subjects. The book alsoincludes important subjects integral to cost manage-ment including value management/engineering,life-cycle costing, sustainability, risk management,and the impact of new delivery methods on costmanagement.

I believe that effective cost management and high-quality design are not contradictory subjects. In thelong run, effective cost management may in fact bene-fit the quality of design. This is an important issue fordesigners and architects alike.

Numerous individuals and organizations partici-pated in the development of material utilized in thisbook and provided important information and exam-

xiii

Acknowledgments

ples. In particular, Hanscomb Inc., my employer fornearly 15 years, generously supported the develop-ment of this book, contributed projects from whichmaterial was drawn, and provided a positive environ-ment for the books development.

For many years Hanscomb has actively developedcost management workbooks and seminar materialfor such organizations as Pennsylvania State Univer-sity, the American Institute of Architects, and theGeneral Services Administration of the federal gov-ernment, to name a few. Much of the material con-tained in this book was originally conceived in theseworkbooks and seminar materials, with special creditto Brian Bowen, former president of Hanscomb andan industry leader in cost management.

It would not have been possible to prepare thistext without the continuing support and encourage-ment of my family. This includes my brothers, Aland Anthony; my sister, Ann; my sons, Michael,Drew, and John; and especially, my wife of manyyears, Debbie.

xiv Acknowledgments

Architects

Essentials of

Cost

Management

Acknowledgments xv

Owners are demanding that designers and buildersrelate more strongly to their financial and economicobjectives and demonstrate more effective cost man-agement in the delivery of projects. Regardless ofindustry, location, or financial situation, ownersexpect their design and construction team to manageproject costs in an accurate and responsive manner.Architects, as leaders and managers of the designprocess, are also expected to take a leadership role inthe cost management process.

Owners expect that an accurately defined budgetwill be prepared early in a project and, subsequently,that the project will be completed to required scope,quality, and performance, all within that budget.Owners invariably consider cost to be a high-priorityissue and often a differentiating aspect of perceivedsuccess or failure, regardless of the quality or otherattributes of the built facility. Often, meeting a bud-get is necessary to financially justify a project.

During the past decade, organizations includingthe American Institute of Architects (AIA), A/E/CSystems, Georgia Institute of Technology, Pennsyl-vania State University, The Design-Build Instituteof America, and the U.S. General Services Adminis-tration have supported the development of method-

1

Introduction 1

ology, seminars, and other educational programs onthis subject. Numerous papers, workbooks, and sev-eral textbooks have been written on the subject of costestimating and cost management. Furthermore, orga-nizations including The Construction SpecificationsInstitute, The American Society for Testing andMaterials (ASTM), The National Institute of Stan-dards and Technology (NIST), and The NationalInstitute of Building Sciences (NIBS) have cooper-ated on efforts to define and describe cost-estimatingand document-management formats.

This book, The Architects Essentials of Cost Manage-ment, reviews, collects, and expands on these effortsto present an organized approach to cost manage-ment for architects and designers, in the followingformat:

Chapter 1 introduces the topic. Chapter 2 discusses building economics, which

include components that make up constructioncost, major factors influencing cost, and newindustry trends to consider.

Chapter 3 deals with cost-estimating method-ology and presents suggested formats, probablecost drivers, basic estimating principles, andrecommended estimating methods, as well asadvanced techniques associated with life-cyclecosting and value management.

Chapter 4 summarizes available cost-estimat-ing tools, both in published form and throughcomputer systems; how to develop and main-tain cost data files; how to work with costindexes; and offers some suggestions on deal-ing with computer-assisted estimating.

Chapter 5 suggests a cost management meth-odology, with a focus on the essentials to be

2 Introduction

applied. Subjects include budgeting and costplanning, cost management during design andconstruction, and the potential impacts of alter-nate delivery methods on cost management.

What in fact are the essentials of cost manage-ment? The methodology is not complex in concept;in practice it is very simple, comprising only threesteps:

1. Accurately define scope, user/owner expecta-tions, and budget from the outset.

2. Assure that scope, user/owner expectations,and budget are all in alignment.

3. Maintain a balance and alignment throughcompletion of the project.

Graphically, this relationship is depicted in Figure 1.1.Experience has clearly shown that projects must

start right to have a reasonable chance of finishingright. That said, for numerous reasons, it seems to beextremely difficult to invest the time and effortrequired to start projects correctly. Typically, this isnot one persons fault per se; it is simply a result ofthe impatience that is common to our industry.

Introduction 3

Figure 1.1 Relationship of scope, expectations, and budget.

There is often a rush to get a project started, to com-mit funds, to gain a leg on the competition, and tocommit resources.

Alignment problems are caused by disconnectsamong scope, expectations, and budget. One lessonwe have learned over the past several decades is that itis extremely difficult, time-consuming, and conten-tious to try to design our way out of alignment prob-lems. The message is simple: The design process shouldnot be a solution for alignment problems.

Initial alignment problems usually result fromincomplete or ineffective planning and program-ming, from inconsistencies in requirements, or fromsignificantly flawed conceptual approaches. To solvethese problems, planning and programming levelsolutions are required. When alignment problemssurface during the design process, that is the time torecognize that the project will likely requirereplanning and reprogramming, not just redesign.This is not just semantics, but a clear statement thatdesign should follow adequate planning and pro-gramming.

Terminology

In our industry, there are few absolute rights andwrongs in use of terms and accepted standards, anddefinitions vary considerably. However, to facilitateclear communication it is important to use basic def-initions and terminology consistently. To that end,in this book, we will apply the following definitions:

Scope. Essentially, scope defines the howmuch portion of the process, to include themeasurable and quantifiable aspects of thefacility: measures of program, building geome-try, and facility performance.

4 Introduction

Expectations. A working definition of this term isdifficult to achieve, as it is subject to judgment.That said, essentially, we can define expecta-tions as the how good component of the pro-cess, the resulting quality and performance theclient anticipates. These expectations includeaesthetics, quality, systems performance, facil-ity performance, project delivery, and externalrequirements.

Budget. Budget addresses the what will it costportion of the process. A comprehensive bud-get, especially from the owners point of view,should include not only the initial procure-ment, but also the total owning costs of thefacility, which are composed of initial costs,future onetime costs, facility annual costs, andfunctional use costs.

Figure 1.2 assigns these definitions to a hierarchy.Keep in mind that these definitions may vary fromproject to project and that consistency is moreimportant than precision.

Cost Management Considerations

Implementing a successful cost management meth-odology requires utilizing appropriate standards,concentrating efforts for maximum effectiveness,and being consistent. Some key considerations inthis regard presented in this book are:

Instituting standard formats. A standard format isessential to effectively communicate informa-tion from project phase to phase and from pro-ject to project. The most common format,MasterFormat, is based on trades/crafts andmaterials, and works well for prescriptive speci-

Introduction 5

fications. But MasterFormat is less useful forcomparing competing design alternatives andtracking historical data. Instead, UNIFORMAT,a system originally developed in the 1970s andupdated in the last few years, is an elemental orsystems-based format that is more effectivewhen dealing with the issues of design phasecost management. Therefore, UNIFORMATis strongly encouraged in this book for use as aprimary format. (Chapter 3 presents a detaileddiscussion of recommended formats.)

Focusing on cost drivers. It is critical to concentrateon the true cost drivers for any project; there

6 Introduction

Figure 1.2 Hierarchy of scope, expectations, and budget.

simply is not enough time to sweat all thedetails from a cost perspective. Often, relativelyminor decisions can cause substantial rippleeffects or may force other decisions not antici-pated. Effective cost management requires hav-ing a big picture focus, using Paretos 20percent 80 percent principle of cost distribu-tion, as presented in Figure 1.3. (VilfredoPareto, an Italian economist of the late nine-teenth and early twentieth centuries, developedthe principle of The Maldistribution of Costs,which essentially stated that in any item madeup of a large number of components, a verysmall number would contain the vast majorityof cost.) This rule is a common thread in costmanagement approaches.

Introduction 7

Figure 1.3 Paretos principle of cost distribution.

Emphasizing early design process. Effective costmanagement requires focusing on the plan-ning, programming, and early design decision-making process where change can usually beaccommodated without major disruption tothe project. Often, by the design developmentphase, significant change causes major disrup-tion. This is not to imply that cost managementduring design development or during the prep-aration of construction documents is not impor-tant, but that the level of focus should be sub-stantially narrowed by design development;otherwise, the cost to implement change will beprohibitive. Figure 1.4 diagrams the relation-ship between time and change; this will be fur-ther emphasized in Chapter 5, where costmanagement philosophy is discussed.

Paying attention to the relationship between qualityand cost. The relationship between quality andcost is not linear. If it were, decisions would bemuch simpler to make, in that increases ordecreases in cost would follow comparableincreases or decreases in quality: a 25 percent

8 Introduction

Figure 1.4 Relationship between time and change.

increase in quality or performance wouldalways be accompanied by a 25 percent increasein price. Unfortunately, the fact is that buildingsystems and components can exhibit sharpskews, where modest increases in quality canresult in substantial increases in cost. Whenconfronted with these selections, great careshould be taken to select an appropriate levelof quality. Unnecessary added quality mightcome at a prohibitive cost.

Considering life-cycle costs. Because spendingmore initially might result in beneficial paybackover the life of the project, future cost implica-tions should also be considered. Likewise, anunnecessary investment in quality or perfor-mance may have an extremely poor payback.For any system there is probably a best life-cycle choice, that is, there likely is a systemchoice with superior economic performance.This relationship is presented in Figure 1.5.Chapter 3 describes life-cycle costing and valueengineering and demonstrates how they can beuseful tools in the overall cost managementprocess. Emphasizing life-cycle costs, as opposedto initial costs, is an important aspect of thisbook.

Identifying and managing risks. Every project deci-sion contains risk; but from a cost perspective,some decisions are much riskier than others,requiring sharper focus on contingency plan-ning and identifying alternate approaches thathelp to mitigate the inherent risk. Figure 1.6provides a simplistic comparison of how single-point estimates can have significantly differentrisks. Later, in Chapter 3, risk management is

Introduction 9

10 Introduction

Figure 1.5 Relationship between quality and cost.

Figure 1.6 Single-point estimate comparisons.

discussed in greater detail, to provide guidancefor how to identify significant risks and todetermine potential cost implications. Many ofthe 2080 decisions are risk-related; there-fore, accurate and sensitive cost managementshould be responsive to risk issues.

Using historical cost information wisely. Historical costinformation can be obtained from a variety ofsources: experienced staff, published cost data,information from other organizations, andowner-provided cost data. Early cost estimatesmay be largely based on historical cost, while laterestimates may be priced in detail from a completequantity survey. Regardless of where cost infor-mation comes from, great care should be takento ensure that sources are reliable and thatcomparables are in fact comparable. It isextremely important to clearly understand thetechnical basis, market conditions, timeframe,and exclusions/inclusions associated with histori-cal cost information. A factor as seeminglystraightforward as method of measurement canbe a source of dramatic error if it is not inter-preted in a consistent manner. Though experi-ence proves that establishing budgets andenacting controls solely on the basis of historicalcosts can lead to severe project problems, there isno rational excuse for not maintaining accuratehistorical data on in-house projects. To helpwith that endeavor, this book will present meth-ods and techniques for gathering and storing his-torical project information.

Estimating costs effectively. There is no substitutefor sound cost estimating, whether providedfrom internal sources or outside consultants or

Introduction 11

constructors. Furthermore, the accuracy of anyestimate is only as good as the information onwhich it is based; this is also true of the assump-tions that invariably must be made from thoseestimates, especially for early-stage estimates.Experience dictates taking these steps toimprove the accuracy and validity of estimates:(1) clearly document the estimate; (2) promotea clear understanding among all parties ofanticipated level of detail and format; (3) assurebuy-in by all parties involved in the estimate;(4) properly evaluate market factors, contin-gencies, and major risks; and (5) allow adequatetime both in terms of the calendar and level ofeffort required to prepare an accurate estimate.Chapters 3 and 5 describe a methodology andtechniques for including estimating into theoverall cost management process.

Cost Management Methodology

Cost estimating is a tool; cost management is theapplication of that tool within an overall projectmanagement structure. Effective cost managementenables all involved in a project to respond to projectchallenges and to understand the interrelationshipsthat result from various decisions about costs. Effec-tive cost management is achievable for most organi-zations if they have a clear objective to align scope,user/owner expectations, and budget from the outsetand over time. Here are the basic steps necessary toimplement and maintain a cost management pro-cess, as differentiated from simple, reactive cost esti-mating:

12 Introduction

1. Develop the proper budget. A proper budget is onethat is connected to scope and expectations.This requires the conversion of the facilityprogram to a Cost Plan prior to initiatingdesign. This effort entails converting programrequirements to facility requirements andassuring that user/owner expectations of qual-ity and performance are reflected in specificfacility materials and systems assumptions thatdrive the Cost Plan. The Cost Plan is the basisof a design-to-cost approach and connects thebudget to a specific program, user expecta-tions, and scope. This approach may representa substantial change for designers. Preparingcost plans is discussed in Chapters 3 and 5.

2. Use the Cost Plan to apportion the overall budget bymajor components and disciplines. Ensure thateach participant in the design process has aclear understanding of his or her respectivebudget and the key parameters for measuringthe individuals discipline.

3. During design development, monitor individualtechnical decisions for their effect on project cost.Decisions affecting cost typically are madeincrementally as the design evolves; therefore,as these decisions are made, their consequences(economic and otherwise) should be clearlyunderstood by the designers, builders, andowner/user staff. Update the Cost Plan peri-odically to reflect these changes between mile-stone estimates. At major milestones, preparenew estimates and modify the baseline CostPlan accordingly.

4. During the process, make intelligent trade-offs as nec-essary between aspects of scope, quality, and perfor-mance to maintain the project within the overallbudget. Track critical measures and parameters

Introduction 13

of scope and user/owner expectations as indi-cators of progress. Deviations from plannedamounts may indicate potential cost prob-lems. Adjust contingencies relative to currentdesign development and outstanding risks. Asan integral part of the process, select the par-ticular delivery method to be utilized for con-struction. Continue this process through thedesign phase, preparing milestone estimates tofully update the Cost Plan.

5. Use benchmarking as a technique for comparing andcontrasting the project with other projects already con-structed.

6. Use life-cycle costing and economic analysis as toolsfor determining long-term costs, operations sustain-ability, and, potentially, functional staffing. Ownersexpect their designer, consultants, and buildersto be fully aware of economic consequences.These issues are discussed in Chapters 3 and 5.

7. Consider value management/engineering as anotherimportant tool for improving the cost managementprocess. Too often in the past, value manage-ment has been applied too late, and with insuf-ficient sensitivity to issues that drive theproject and are important to the owner. Chap-ters 3 and 5 present techniques that have beensuccessfully applied to formal value manage-ment sessions involving the design team,owner staff, constructor staff, and outsideexpertise as necessary. These sessions, whichprovide creative input and a comprehensivereview of all decisions, become progressivelymore detailed as the design develops, culmi-nating in a prebid constructibility review.

8. Throughout construction, review and assess changes,and address potential schedule/cost issues. Once con-struction is complete, assess the project for performance

14 Introduction

relative to expectations, catalog historical data, andbenchmark the project against comparable projects.

Applying these techniques will help to assure thatscope, expectations, and budget remain alignedthroughout the life of the project and that ownerdemands for more effective cost management will besatisfied.

Introduction 15