Importance Of Cost Control In Construction Projects

Importance Of Cost Control In Construction Projects The purpose of this report is to explain the importance of cost control in construction projects and its function. The Cost Control is an important process in construction project. It is widely practiced by contractors and needs to carry out throughout the life of project. The main objective of cost control of a project is to gain the maximum profit within the designated period within the budget. To monitor and control actual expenditure against the estimated project budget. The project budget is represented by the tender price / contract sum. According to Nunnally (1998), cost control of a project involves the measuring and collecting the cost record of a project and the work progress. It also involves the comparison of actual progress with the planning. The main objective of cost control of a project is to gain the maximum profit within the designated period and satisfactory quality of work. A systematic procedure of cost control will give a good result in collecting important data in estimating and controlling of the cost of the coming projects in future. After preparing the reports based on the actual costs, it is important to distribute the remaining budget for the future periods and estimate or re-estimate the cost of the work yet to be completed. Any new information must take into account since the commencement of contracts. It is important to ensure that there should not be any under claim or over claim of the work done. This is required to maintain a steady cash flow. Also it helps the client and the contractor to manage their expenditure and income. The cost control techniques generally used in construction projects are: Cost Value Reconciliation, Control of Project Cash flow, Break  ¿Ã‚ ½ Even Analysis, Budgetary Control, and Contractors cost Control, Cost Comparison, Schedule Control and Asset Register 2. INTRODUCTION The cost control is a process that should be continued through the construction period to ensure that the cost of the building is kept within the agreed cost limits. The cost control can be divided into major areas: the control of cost during design stages and the control of cost by the contractors once the construction project has started. According to Nunnaly (1998), cost control of projects involves the measuring and collecting the cost record of a project and the work progress. It involves the comparison of actual progress with the planning. The main aims of the cost control: a) To gain the maximum profit within the designated period within the budget. b) To keep the total expenditure within the amount agreed by client, frequently based on approximate estimate of cost prepared by the quantity surveyor in the early stages of the design process. There is a need for strict cost discipline thought all stages of design and execution to ensure that the initial estimate, tender figure and final account sum all are closely related. c) To give the building client good value for money  ¿Ã‚ ½ a building which is soundly constructed, of satisfactory appearance and well suited to perform the functions for which it is required, combined with economical construction and layout. d) To achieve a balanced and logical distribution of the available funds between the various parts of the building. The cost controlling system we can use as a tool for estimating the new projects based on previous experience. To win a new project As a quantity surveyor for a construction company to research this project, I have started with reading text books to get theoretical understanding of the subject. Thereafter I have discussed the technique of cost control with my colleague and managers to get practical knowledge of this application. 3. WHAT IS COST CONTROL? Controlling how much is spent on a certain item on project. Anything above a certain amount needs approval of higher authority The process of controlling the expenses of cost in a project, from the starting of client ¿Ã‚ ½s idea to the completion and final payment on site An active process to control the causes of the cost changes, to document those cost changes, and to monitor cost fluctuations within the project 4. STATEMENT OF FACTS IN COST CONTROL According to Nunnally (1998), cost control of a project involves the measuring and collecting the cost record of a project and the work progress. It also involves the comparison of actual progress with the planning. The main objective of cost control of a project is to gain the maximum profit within the designated period and satisfactory quality of work. A systematic procedure of cost control will give a good result in collecting important data in estimating and controlling of the cost of the coming projects in future. 5. THE PURPOSE OF COST CONTROL To monitor and control actual expenditure against the estimated project budget The project budget is represented by the tender price / contract sum. 6. THE IMPORTANCE OF COST CONTROL There has in recent years been great need for an understanding of construction economics and cost control, particularly during the design stage of projects. The importance of this due largely to the following:- * The increased pace of development in general has resulted in clients being less likely to tolerate delays caused by redesigning buildings when tenders are too high. * The clients ¿Ã‚ ½ requirements today are more complex than those of their Victorian counterparts. A more effective system of control is therefore desirable from inception up to the completion of the final account, and thereafter during cost-in-use. * The clients of the industry often represent large organizations and financial institutions. This is a result of takeovers, mergers and some public ownership. De-nationalization has often meant that these large organizations remain intact as a single entity. There has thus been an increased emphasis on accountability in both the public and the private sectors of industry. The efficiency of these organizations at construction work is only as good as their advisers. * Contractor ¿Ã‚ ½s profit margins have in real terms been reduced considerably during the past decade. This resulted in their greater cost-consciousness in an attempt to redress possible losses and remain competitive. * There has, in general, been move towards the elimination of waste, and a greater emphasis on the efficient use of the world ¿Ã‚ ½s scarce resources. This has necessitated a desire for improved methods of forecasting and control of costs. * There is a general trend towards greater cost-effectiveness, and thus a need to examine construction cost, not solely in the context of initial costs, but in terms of whole-life costs. * World recession has generally produced a shortage of funds for capital purposes and construction in general. This has been coupled with high inflation and interest charges, resulting in an increase in the cost of construction. Although the relative costs compared with other commodities may be similar, the apparent high costs have resulted in greater caution, particularly on the part of clients. 7. POST  ¿Ã‚ ½ CONTRACT COST CONTROL Project cost control commences at project inception stage by the client. Thereafter costs are controlled continuously and at every stage of the project up to finalization of the construction contract. 8. THE PROJECT BUDGET For cost control on a project, the construction plan and the associated cash flow estimates can provide the baseline reference for subsequent project monitoring and control. For schedules, progress on individual activities and the achievement of milestone completions can be compared with the project schedule to monitor the progress of activities. The final detailed cost estimate provides a baseline for the assessment of financial performance during the project. To the extent that costs are within the detailed cost estimate, the project is considered to be under financial control. Overruns in particular cost categories signal the possibility of problems and give an indication of exactly what problems are being encountered. Expenses oriented construction planning and control focus upon the categories included in the final detailed cost estimation/cost plan prepared by the contractors. For cost control monitoring purpose, the original detail cost estimate is typically converted to a project budget, and the project budget is used subsequently as a guide for management. Specific items in the detailed cost estimate become job cost elements. Expenses incurred during the course of the project are recorded in specific job cost accounts to be compared with the original cost estimate in each category. In addition to costs, information on material utilization and labor inputs and productivities within each cost code is also typically monitored in the project budget. With this information, actual materials usage and labor employed can be compared to the expected requirements. As a result, cost overruns or savings on particular items can be identified as due to changes in unit price, labor productivity or in the amount of material consumed. The number of cost code associated with a particular project can vary considerably. For contractors, on the order of four hundred separate cost accounts might be used on a project. In developing or implementing a system of cost accounts / cost codes an appropriate numbering or coding system is essential to facilitate communication of information and proper aggregation of cost information. Particular cost accounts are used to indicate the expenditures associated with the specific projects and to indicate the expenditures on particular item throughout an organization. Cost coding is also used for comparing the budget with actual expenditure, which is typically referred to as cost/value reconciliation. Sample of material requisition form showing the cost code with the allowance and remaining allowanceSample of project budget summary 9. TECHNIQUES AND WAYS FOR CONTROLLING COSTS The most important of all the cost control techniques is to appoint a small team of qualified and experienced people well versed in the financial management team to manage the daily finances of the company in a very professional and systematic manner. The cost control software can be helpful in doing the work in comparatively less time and with more accuracy. A. COST VALUE RECONCILATION The cost and value of the project must be reconciled and monitored regularly. This allows a contractor to manage and control actual against estimated expenditure. This will also allow the contractor to monitor costs and value movement and importantly also monitor profit levels. For the purpose of cost control, it is not sufficient to consider only the past records of costs and revenues incurred in a project. Good project commercial managers should focus upon future revenues, future costs and technical problems. For this purpose, traditional financial accounting schemes are not adequate to reflect the dynamic nature of building project. Accounts typically focus on recording routine costs and past expenditures associated with activities. W.H.Lucas and T.L.Morrison,  ¿Ã‚ ½Management Accounting for construction Contracts, Management Accounting, 1981, PP- 59  ¿Ã‚ ½ 65. Sample of a typical cost/value Reconciliation B. CONTROL OF PROJECT CASH FLOW A positive cash flow is critical to any business. On building projects cash flow is typically generated from the periodic payment for works completed, i.e. interim payments. Cash flow forecasts are unusually prepared and based on the program of works for internal purposes and for use by the client. Sample cash flow forecast C. BREAK _- EVEN ANALYSIS A break even analysis determines the point at which one method becomes superior to another method of accomplishing some task or objective. Break even analysis is a common and important part of cost control. Example:- One illustration of break even analysis would be compare two methods of road construction for a road that involves a limited amount of cut-and-fill earth work. It would be possible earthwork by hand or by bulldozer. If the manual method were adopted, the fixed costs would be low or nonexistent. Payment would be done on a daily basis and would call for direct supervision by a foreman. The cost would be calculated by estimating the time required and multiplying this time by the average wages of the men employed. The men could also be paid on a piece-work basis. Alternatively, this work could be done by a bulldozer which would have to be moved in from another site. Let us assume that the cost of the hand labor would be $0.60 per cubic meter and the bulldozer would cost $0.40 per cubic meter and would require $100 to move in from another site. The move-in cost for the bulldozer is a fixed cost, and is independent of the quantity of the earthwork handled. If the bulldozer is used, no econ omy will result unless the amount of earthwork is sufficient to carry the fixed cost plus the direct cost of the bulldozer operation. Breakeven Example for Earthwork Excavation If, on a set of co-ordinates, cost in dollars is plotted on the vertical axis and units of production on the horizontal line parallel to the x  ¿Ã‚ ½ axis. If variable cost per unit output is constant, then the total cost for any number of unit production will be the sum of the fixed cost and the variable cost multiplied by the number of units of production, or F+NV. If the cost data two processes or methods, one of which has higher variable cost, but lower fixed cost than the other are plotted on the same graph, the total cost lines will intersect at some point. At this point the levels of production and total cost are the same. This point known as the  ¿Ã‚ ½breakeven ¿Ã‚ ½ point, since at this level one method is as economical other. Referring the above Figure the breakeven point at which quantity the bulldozer alternative and the manual labor alternative become equal is at 500 cubic meters. We could have found this same result algebraically by writing F+NV = F ¿Ã‚ ½+NV ¿  ½, where F and V are the fixed and variable costs for the manual method and, F ¿Ã‚ ½ and V ¿Ã‚ ½ are the corresponding values for the bulldozer method. Since we all values are known except N, we can solve for N using the formula N = (F ¿Ã‚ ½  ¿Ã‚ ½ F) / (V-V ¿Ã‚ ½) D. BUDGETARY CONTROL Budgets are used for planning and controlling the income and expenditure in many different organizations. It is through the budget that a company ¿Ã‚ ½s plans and objectives can be converted into quantitative and monetary terms. Without these a company has little control. The budget may represent a total sum divided among a number of subheadings or work packages. It is important that the various sub headings include a timescale, since the expenditure by both the contractor and the client needs to be matched against income or the availability of funds. While the contractor will have a work program for the project and this can be costed, the procedure may be disrupted by delays on the part of all those involved and through changes (variations) to the original scheme. This information will give a rate of expenditure and a rate of income throughout the project, and by deducting income from expenditure the amount of capital required at the different times can then be calculated. The contractor will need to aggregate this information from all projects in order company position the company position. For budgeting purpose these data are prepared in advance of work being carried out on site. The information will also be collected after the execution of the works in order to establish the  ¿Ã‚ ½as done ¿Ã‚ ½ position and to facilitate a comparison with the budget. This known as budgetary control. In common with other control techniques, budgetary control is a continuous process undertaken throughout the contract duration. When variances from the budget occur, the contractor will need to assess the reason for them. E. CONTRACTORS COST CONTROL The contractor, having priced successfully enough to win the contract through tendering, must now ensure that the work can be completed for the estimated costs. One of the duties of the contractor ¿Ã‚ ½s quantity surveyors is to monitor the expenditure and advice site management of action that should be taken. This process also includes the costs of subcontractors, since these forms a part of the main contractor ¿Ã‚ ½s total expenditure. The contractor ¿Ã‚ ½s surveyors also comment on the profitability of different site operations. Where loss-making situations are encountered, decisions need to be taken to reverse this position if at all possible. The fact that estimators can be wide of the mark when estimating, even with common items, the contractor would seek reason for such a wide variation between costs and prices. This will be done for two reasons; first, in an attempt to recoup some of the loss; second, to avert such errors in future work. This situation may have arisen for one of the following reasons. * The character of the work is different from that envisaged at the time of tender. * The conditions for executing the work have changed. * Adverse weather conditions severely disrupted the work * There was inefficient use of resources. * There was excessive wastage of materials. * Plant had to stand idle for long periods of time. * Delays had occurred because of a lack of accurate design information F. COST COMPARISION In practice it is always difficult make to comparison between costs and valuations, since either the full items of expenditure are unavailable or the valuation has only been approximately prepared. However, the contractor does need to determine which contracts are profitable and which are not, and also to determine which operations gain or lose money. The information which is the generated may be used to form the basis of contractual claims or to assist in future tendering and the contractor ¿Ã‚ ½s selection of projects for which to tender. Both the actual profit and percentage on cost can be calculated from the given table. This offers the contractor an indication of the financial Trent, although in order to measure this realistically these figures need to be compared with their respective budgets. It is unclear from these data alone whether the contract was successful. By inference it can be suggested that the project reached its most successful stage in terms of profit alone at month 7. The profit  ¿Ã‚ ½expenditure ratio, however, had been decreasing since the commencement of the contract. This is also typical feature of fixed price contracts if the anticipated profit has been disturbed evenly throughout the project. Towards the end of the contract the project was probably losing money. For example compare the expenditure with the valuation for the month 9. This may suggest that work has been deliberately overvalued during this early stage. Month (Valuation  ¿Ã‚ ½ expenditure) G. SCHEDULE CONTROL In addition to cost control, commercial managers must also give considerable attention to monitoring schedules. (E.g. variation schedules) Construction typically involves a deadline for work completion, so contractual agreements will force attention to schedules. More generally, delays in construction represent additional costs to the client due to late facility occupancy or other factors. Just as costs incurred are compared to budgeted costs, actual activity durations may be compared to expected durations. In this process, forecasting the time to complete particular activities may be required. The methods used for forecasting completion times of activities are directly analogous to those used for forecasting. For example, a typical estimating formula might be : Df = Wht Where Df is the forecast duration, W is the amount of work, and ht is the observed productivity to time t. As with cost control, it is important to devise efficient and cost effective methods for gathering information on actual project accomplishment. Planned Vs Actual Expenditures H. ASSET REGISTER A part of Cost control techniques maintain and updating the register of the company ¿Ã‚ ½s inventory of assets, e.g. plant and equipment. The inventory should list all of the items that have been purchased by the company, their date of acquisition, initial value, current value (approximate), and/or depreciation, age and expected renewal date. The location of the asset and, if appropriate, the manufacturer ¿Ã‚ ½s serial number should be included. This register will remain an active document and be constantly updated. The inventory provides an accurate checklist for insurance purpose and to substantiate claims should these be necessary. The asset register can also be employed for taxation purposes in respect of depreciation and replacement funding. It acts as a financial register for the company ¿Ã‚ ½s assets. 10. ILLUSTRATIONS (TABLES AND GRAPHS) A. PROPORTION COMPLETION Vs EXPENDITURE FOR AN ACTIVITY B. PLANNED VS ACTUAL PROGRESS OVER TIME ON A PROJECT C. COST CODE SAMPLE D. VARIATION SCHEDULE SAMPLE E. LIGHT FITTINGS TRACKING SCHEDULE 11. CONCLUSION The main objective of cost control is to minimize and reduce the project costs. Cost control is necessary for all types of project disregarding its sizes. Most of the contractors have their own cost control system. The amount of detail and time interval between cost control reports must be considered, which is different according to level of management for which they have prepared mostly, it will be on monthly basis. After preparing the reports based on the actual costs, it is important to distribute the remaining budget for the future periods and estimate or re-estimate the cost of the work yet to be completed. Any new information must take into account since the commencement of contracts. It is important to ensure that there should not be any under claim or over claim of the work done. This is required to maintain a steady cash flow. Also, it helps the client and the contractor to manage their expenditure and income. The cost control techniques generally used in construction projects are: Cost Value Reconciliation, Control of Project Cash flow, Break  ¿Ã‚ ½ Even Analysis, Budgetary Control, and Contractors cost Control, Cost Comparison, Schedule Control and Asset Register.