Using Cost Accounting Documents in Construction Claims and Litigation

By

William SchwartzkopfSage Consulting Group

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Goal of Most Construction Disputes:

• Receive Additional Compensation OR

• Avoid Paying Additional Amounts

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Reason For Dispute

• One or More Parties Incurred Cost Overrun

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How Does A Party Know It Has Been Damaged?

• Cost Report Shows Overrun• Expended More Funds

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What is the Purpose of A Damage Award?

• “To place the nonbreaching party in the same position it would have been absent the breach by the other party.”

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Preliminary Damage Analysis

• Cost Accounting Records• Original Estimate• Where Are the Overruns?• When Did the Overruns Occur?• Linking Causation to Overruns

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Causation

• What Caused the Overrun?• Who is Responsible for the Cause?• How is the Cause Linked to the Overrun?

Merely Having Overruns (i.e. Actual Damages) Is Not Enough to Allow

Recovery

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Damage Calculation

Goal: To Arrive At the Most Accurate Determination of Actual Damages Suffered as a Direct Result of the Other Party’s Breach

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Methods of Damage Calculation

• Actual Cost Method• Estimated Cost Method• Total Cost Method• Modified Total Cost Method• Quantum Meruit

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Actual Cost MethodFormula: Actual Extra Equipment Costs Caused by Breach

+ Actual Extra Material Costs Caused by Breach + Actual Extra Labor Costs Caused by Breach

+ Overhead and Profit Total Actual Damages

• Preferred Method• Analysis of Overruns and Underruns• Determine Linkages• Application to Some, but Not All, Elements of a

Claim• Law or Contract May Require Use of Actual

Cost Method

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Estimated Cost MethodFormula: Estimated Extra Equipment Cost Caused by Breach

+ Estimated Extra Material Cost Caused by Breach + Estimated Extra Labor Cost Caused by Breach + Overhead and Profit

Total Costs Recoverable

• Variety of Supporting Data• Examination of Underlying Assumption• Analysis of Other Projects Performed by the

Contractor

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Total Cost MethodFormula: Total Actual Costs

+ Overhead and Profit

- Contract Amount Total Costs Recoverable

• Generally Disfavored Method – Courts vs. Board of Contract Appeals

• Four-Part Test:– Impossible or highly impractical to determine the losses

with a reasonable degree of accuracy– Contractor’s bid or estimate was realistic– Contractor’s actual costs were reasonable– Contractor was not responsible for the cost overrun

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Modified Total Cost MethodFormula: Total Actual Costs - Bid

Errors - Costs caused by Contractor - Costs caused by other Non-Owner parties + Overhead and Profit

- Contract Amount Total Costs Recoverable

• Adjust Cost for Contractor Problems– Estimate Errors– Construction Errors– Weather and other Natural Causes– Subcontractor and Supplier Problems

• Must Meet Same Four-Part Test as Total Cost

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Quantum Meruit

• A Theory of Recovery, not a Method of Calculation• Allows Recovery of Actual Value of Goods or Services;

Not their Contract Price. Actual value Not Necessarily cost

• Recovery of Costs Incurred in Completing Work that Is outside the Scope of the Original Contract

• Changes Can Be a basis for Quantum Meruit Recovery• Recovery of Damages Resulting from Owner’s Breach

of a Contract Terminated Before Job Completion• Contractor Cannot Be in Breach and Must Have

Substantially Performed

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Causal Link:Connecting Responsibility to Damages

• Damages presented with best approximation using as much actual cost data as possible with each separate item of cost examined by the judge/arbitrator to arrive at a fair result.

• The total cost method and its variations are disfavored and generally permitted only when contractor clearly proves injury and no other method is more reliable in estimating the losses.

• Sufficient evidence must be presented to make a fair and reasonable approximation of damages.

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Types of Claims

• Added Work• Changed Work• Disrupted Work• Extended Duration

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Added Work

• Additional Units• Force Account• Estimated Cost

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Changed Work

• Causes– Directed Changes– Defective Specifications– Differing Site Conditions

• Results in:– Added Work– Deleted Work– Change in Quantity

• Types of Damages– Direct Costs– Indirect Costs – e.g., Overhead– Lost Productivity– Additional Profit

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Disrupted Work• Causes

– Excessive Changes– Late Changes– Sequencing– Weather– Access– Stop Work Orders

• Results in– Lost Productivity – More Manhours

• Types of Damages– Added Labor– Added Equipment Costs– Added Small Tools and Supplies– Profit and Overhead

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Extended DurationTypes of Extended Duration• Project Is Longer• Working Days vs Calendar Days• Fixed Completion Date• Causes

– Access– Added Work– Changes– Weather

• Damages– Time-Related Clauses– Escalations

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Types of Damage

• Labor Cost Overrun• Equipment Cost Overrun• Material Cost Overrun• Subcontractor Cost Overrun• General Conditions Costs• Home Office Overhead

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Types of Labor Cost Damage

• Direct Labor Overrun– More hours to perform more work– Discretely accounted for through time tickets

• Wage Escalation (higher rate per hour)• Premium Time Costs• Loss of Productivity

– More hours to perform same amount of work

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Factors Affecting Labor Productivity

• Overtime• Disruptions• Weather• Lack of Capable Laborers• Change in Sequence• Trade Stacking• Restricted Site Access• Shift Work• Shop Drawing Review• Learning and Experience Curves• Effect of Changes on Labor Productivity

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Calculation of Loss of Productivity

• Measured Mile Calculations• Comparison with Similar Projects• Industry Standards• Experts and Consultants• Total Cost Method• Modified Total Cost Calculations• Productivity Analysis

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Cost Accounting Data is KEY

• Good Cost Accounting Helps Determine the Amount of Overrun and Pinpoint the Causes

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Cost Report Entry

Cost Code Description Est. Cost Cost to Date

3300 PCC Paving $70,000 $50,000

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Cost Report With Independent VariableCost Code Description Cost Units

3300 PCC Paving Est. $70,000 35,000

To Date $50,000 20,000

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Cost Report With Unit Cost

Cost Code Description Cost Units Unit Cost

3300 PCC Paving Est. $70,000 35,000 $2.00

To Date $50,000 20,000 $2.50

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Cost Report With Unit Cost

Cost Code Description Cost Units Unit Cost

3301 PCC Paving Est. $70,000 35,000 $2.00

To Date $90,000 55,000 $1.64

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Cost Report Modified for Change Orders

Cost Code Description Cost Units Unit Cost

3302 PCC Paving Original $70,000 35,000 $2.00

Current $110,000 70,000 $1.57

To Date $90,000 55,000 $1.64

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Cost Report Incorporating Manhours Cost

CodeDescription Cost Manhours Units Manhours

/ UnitUnit Costs

3303 PCC Paving Est. $70,000 4,000 35,000 .1143 $2.00

Current $110,000 8,000 70,000 .1143 $1.57

To Date $90,000 5,500 55,000 0.10 $1.64

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Cross Checks on Labor Cost

• Quantity Overruns• Material Cost Overruns• Change in Equipment/Labor Ratio• Change in Subcontracts

Cross Check on Labor Cost–Case Study

• Building Inc alleged labor productivity losses resulting from excessive owner changes. The cost reports showed:

Labor Budget asAdjusted for Changes Actual Overrun

Concrete $125,000 $393,000 $268,000Finish Carpentry $ 23,795 $303,348 $279,553

TOTAL $148,795 $696,348 $547,553

Material Budget asAdjusted for Changes Actual Overrun

Concrete $217,527 $359,876 $142,349Finish Carpentry $137,894 $407,863 $269,969

TOTAL $355,421 $767,739 $412,318

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Measured Mile –Exhibit 1122,452 manhours were spent by a contractor paving two similar stretches of roadway, Road A and Road B. The owner’s changes were limited to Road B, and required a more labor-intensive method of construction. The contractor used the same labor force and equipment, and encountered the same weather conditions on both roads.

Measured Mile = Road A Impacted Area = Road BManhours 55,000 Manhours 67,452SY Produced 170,000 SY Produced 154,322Hours/SY 0.324 Hours/SY 0.437Increase in Unit Labor Rate = 0.437 – 0.324 = 0.114Quantity Affected by Changes 154,322

Manhours Increase Due to Changes = 0.114 x 154,322 = 17,524Labor Cost Per Manhours $23.40Total Additional Labor Cost 17,524 x $23.40 = $410,068.48

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Measured Mile –Exhibit 2In this hypothetical, the contractor segregated the equipment costs expended on each of the two roadways that were being paved, Road A and Road B. The owner’s changes were limited to Road B, and required a more equipment method of construction. The contractor used the same labor force and types of equipment, and encountered the same weather conditions on both roads.

Measured Mile = Road A Impacted Area = Road BManhours 55,000 Manhours 67,452SY Produced 170,000 SY Produced 154,322Hours/SY 0.324 Hours/SY 0.437Increase in Unit Labor Rate = 0.437 – 0.324 = 0.114Quantity Affected by Changes 154,322

Manhours Increase Due to Changes = 0.114 x 154,322 = 17,524Labor Cost Per Manhours $23.40Total Additional Labor Cost 17,524 x $23.40 = $410,068.48

Additional Equipment Cost Using Total Time on Project

Equipment Monthly Ownership Rate

Months On Project Total Ownership Cost

CAT 225 8,800 10 88,000

CAT 633 18,400 8 147,200

CAT 950 12,300 12 147,600

Dump truck 5,300 12 63,600

Total Ownership Cost Workdays On Project Total Per Workday (Total ¸ Days)

88,000 217 405.53

147,200 173 850.87

147,600 260 567.69

63,600 260 244.62

Cost Per Workday Delay Days Extended Equipment Ownership Costs (Cost × Days)

$405.53 11 4,460.83

$850.87 18 15,315.61

$567.69 26 14,760.00

$244.62 26 6,360.00

TOTAL $40,896.44

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Additional Equipment Cost Using Daily Equipment Rates

Equipment

Idle/Unproductive

Hours

Hourly Standby Ownership Rate

Extended Equipment

Ownership Cost (Hour × Rate)

CAT 225 85 $43.00 $ 3,655CAT 633 141 $88.00 $12,408CAT 950 196 $60.00 $11,760Dump truck 208 $27.00 $ 5,616TOTAL $33,439

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Additional Equipment Costs Using Differential Costs (Method 1)

Equipment Months On Project Units Of Work Equipment Costs Per Unit

Ownership Costs Recovered

(Months × Units × Cost/Unit)

CAT 225 10 3,000 2.5 $ 75,000CAT 633 8 4,500 3.5 $126,000CAT 950 12 7,000 1.5 $126,000Dump truck 12 7,000 0.75 $ 63,000

Total Ownership Cost Ownership Costs Recovered Extended Equipment Cost

$ 88,000 $ 75,000 $13,000

$147,200 $126,000 $21,200

$147,600 $126,000 $21,600

$ 63,600 $ 63,000 $ 600

TOTAL $56,400

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Additional Equipment Costs Using Differential Costs (Method 2)

Equipment Hourly Ownership Rate

Productive Hours Ownership Costs Recovered

CAT 225 50 1,651 $ 82,550CAT 633 105 1,243 $130,515CAT 950 70 1,884 $131,880Dump truck 30 1,872 $ 56,160

Equipment Actual Costs Incurred Ownership Costs Recovered

Ownership Costs Not Recovered

CAT 225 $ 88,000 $ 82,550 $ 5,450CAT 633 $147,200 $130,515 $16,685CAT 950 $147,600 $131,880 $15,720Dump truck $ 63,600 $ 56,160 $ 7,440TOTAL $45,295

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Home Office Overhead

• Extended Overhead vs. Unabsorbed Overhead

• Fixed Costs vs. Variable Costs

• The Eichleay Formula

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The Eichleay Formula

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Variations in Quantity• Unit price contracts often allow for

adjustment in the unit price if the quantity of work is increased or decreased to a certain degree:– “Substantial inequity”– Increase or decrease of more than 25%

• Adjustments allowed only if the increased or decreased costs were caused by the quantity difference itself.

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Example of a Contract or Claim

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Summary of Amounts Due Contractor

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Exhibit 1Calculation of Remaining Contract Balance Due

Exhibit 2Increase in Labor Burden Due to Extended Project Duration

Because of increases in state and federal UCF, FICA, and workers’ compensation, on labor expended after November 30, 2010, the labor burden was 27.94%, an increase of 10.26%. This is calculated as follows.

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17.68%

Total 11/30/2010 Labor Net of Burden

Total Labor – Total 11/30/2010 Labor

Total Burden Cost – Burden as of 11/30/2010

Exhibit 3Labor Escalation – Part 1

Using the original distribution, the actual manhours of 122,452 are distributed using the estimated percentage distribution. This compared with the actual distribution.

This project was delayed as shown on the Schedule Analysis. As a result, much of the labor was expended during higher wage rate periods. The original labor distribution was taken from the estimate, as shown below.

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18,367 73,471 30,163 0

2008 2009 2010 2011

2008 2009 2010 2011

Exhibit 3Labor Escalation – Part 2

The labor escalation for this project is calculated as follows:

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    2008 2009 2010 2011

Anticipated hours based on original schedule

 

18,367 73,471 30,614 0

Labor hours actually expended

 

0 10,360 68,736 0

Hours escalated from prior period

 

8,007 15,095 66,000 33,350

Total hours to be escalated to next period rate

 

10,360 68,736 33,350  

Period differential  

0.50 0.75 1.00  

Escalated wages  

5,180 51,522 33,350               Total Escalated Wages       $ 90,052 Labor Burden (at Original Rate) 17.68%   $ 15,926             Total Wage Escalation Claim     $ 105,978

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Exhibit 4Acceleration Costs – Premium Time

Summary of Costs:Premium Portion $66,566.24Burden at 17.68% $11,768.91

Total Premium Time Cost Claim $78,335.15

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Exhibit 5Productivity Loss - Measured Mile – Part 1

Total Actual Manhours 122,452Change Order Hours Added to Contractor Work

Change Order No. 1 451Change Order No. 2 1,451Change Order No. 3 6,790Change Order No. 4 9,417Change Order No. 5 6,157Change Order No. 6 6,941

Subtotal 31,206Additional Manhours Pending Change 3,455Additional Manhour Unit Price Adjustment 479Total Change Order Hours (35,140)Actual Hours for Base Contract Work 87,312Estimated Hours Base Contract Work (63,200)Unproductive Hours 24,112Hourly Billing Rate – Original Contract $23.40Lost Productivity Cost Claim $564,220.80Predicted Productivity Loss-Measured Mile 25%Actual Productivity Loss 27.6%

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Exhibit 5Productivity Loss - Measured Mile – Part 2

Measured Mile Determination Unit Productivity - Unit Productivity x Number of Units = Impact

(Impacted Period) (Unimpacted period) (During Impacted Period)

Productivity = cost in $ or manhours ÷ units produced

Productivity of concrete work in Impacted Area A was $2.50/unitProductivity of concrete work in Unimpacted Area B was $2.00/unit

Measured mile predicts 25% loss

Small Tools Costs

• Small Tools Costs are a function of labor. Therefore, if a contractor is entitled to compensation for extra labor, it is also entitled to compensation for extra small tools:

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Small Tools Costs

Small tools rate:

Actual Small Tools Cost Actual Productive Labor

= $99,106 $1,484,825

= 6.67%

Additional labor due to lost productivity totaled $591,205

Impact to small tools: $591,205 x 0.067 = $39,433

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Exhibit 6Calculation of Extended Overhead Costs Using Eichleay Method

200920102011

200920102011

Exhibit 6Calculation of Extended Overhead Costs Using Eichleay Method

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