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Project Cost Control for Heavy and Highway Contractors

Posted: December 6, 2016 | Blog

Introduction

Heavy/highway contractors frequently depend on pay items to judge the progress of their projects. However, that may only be part of the picture. To be complete and effective, a construction job should be subdivided into paid and non-paid items—or direct and indirect costs, as they are sometimes labeled.

Indirect Costs

Some indirect items are obvious—insurance, superintendent, job trailer, telephones, photos, etc. These are essentially indirect costs because they produce no work. They are often paid out of the difference between the cost and unit prices of the direct work items. Generally, contractors take the total cost, including direct and indirect costs, and mark it up to their bid price. From that price, they work backward to determine how much markup to apply to each direct cost item in order to cover the indirect costs plus overhead and profit.

Direct Costs

Direct cost items include specific tasks such as excavation, embankment, culverts and concrete placement. Unlike their indirect cost counterparts, these costs are directly related to the pay items. What is not so obvious, however, is the relationship between paid and non-paid direct items. For example, a bridge may have pay items for concrete in footings, piers and decks. These costs are based on the amount of placed concrete. The owner only pays for the concrete once it is poured and accepted.

The work, however, consists of many individual tasks. These tasks may be completed over the course of several weeks and budgeted as individual items by the estimator. Concrete in footings may involve form fabrication, form erection, prefabricated rebar purchases, rebar placement, waterstop placement, concrete purchases, form materials purchases, concrete placement, form removal and concrete finishing. Usually, the form erection and strip operations are combined into a single item, since a crew generally removes the form from one site and installs it in another. The rebar installation is sometimes included in erect and strip forms because the same crew performs both tasks. (It should be tracked separately if separate crews perform it.)

Cost Breakdown

In determining how to break down the cost items in such a job, remember that the cost control system design should do three things:

1. measure the effectiveness of the construction processes compared to the estimated cost
2. determine productivity and unit cost that may be useful information for future bid estimates
3. determine earned value for revenue recognition and over/under billing analysis

The first measures how much money the company is earning on the job and at what rate. The second provides useful benchmarks for future estimating. The third is required for proper accounting of work in process. For any of these measurements to be useful, field agents must be properly instructed and the information must be viewed as a tool, not a club. In too many cases, owners and senior managers are so critical of substandard work that field agents distort their personnel time and quantities of work figures to “make the numbers.” This generally results in unreliable data.

Unreliable Data

The consequences of unreliable data are threefold, at minimum:

• Unreliable estimates lead to inaccurate reporting of earned revenue;
• Flawed measure of productivity and job progress; and
• Estimators won’t consider historic information because it does not accurately represent the cost of the work.

Experienced estimators often review old estimates because they know how the costs were derived. Cost reports from the field may not always be trustworthy, since the estimator cannot always be sure if the costs were properly reported. To solve this problem, cost control systems must be carefully designed so the activities are descriptive, clearly defined and properly grouped. A hand-off from the estimator to the field staff also helps ensure that the agents know how the job was estimated and how budgeted costs were covered. Field reporting and costs also need to be monitored and reviewed for accuracy. When a field task is erroneously omitted from the estimate, it should be tracked, not buried, to avoid future problems and record distortions.

Accurate Billing Codes

Try to avoid nebulous item descriptions such as “Miscellaneous Hand Excavation.” Without a proper explanation, a superintendent or foreman will probably charge any hand excavation to this item. In this scenario, hand excavation was probably billed elsewhere as part of “fine grading.” This sort of confusion invites coding errors, which create unreliable cost records. To avoid this issue, use precise descriptors.

Another common problem stems from attempting to separate items that are typically performed together, which generally does not work. For example, suppose a single crew loads and hauls excavated material and places it as compacted fill. The owner could have three separate pay items—excavation, hauling and embankment. Breaking it out by pay item is not practical. Let’s consider the truck cost breakdown in this sample project. While the trucks are loaded, time is billed to excavation. Then, the drive time is charged to hauling and the dumping time is charged to the embankment, right? Not likely!

In this example, the contract may have three separate pay items but it should have only one cost item. For cost purposes (and revenue recognition), the item excavation and embankment should have a unit price that encompasses the composite of all the bid items for excavation, hauling and embankment. For billing purposes, the pay estimate should reflect three separate items with, perhaps, three separate units of measure. This method provides a reliable measure of actual cost against earned budget (assuming the reported quantities are reliable), because there is no guessing or cost allocation across multiple items. The control is that the final excavation payment quantity is the most that can be included in the job cost system.

Item Groupings

Another useful technique is proper grouping of items in the job cost control system. For example, in the bridge footing scenario, suppose the estimator assumed that one set of forms would be fabricated and then used twice. The form fabrication is considered 100% complete when the forms are ready for use. Installing and preparing the forms for concrete, installing rebar and installing waterstop are other separate operations, no doubt measured in square feet of contact surface. Concrete placement is generally measured by cubic yards and should agree with the owner’s pay quantity (though it may not because of concrete wastage, normal delivery sizes, etc.).

Software Options

The cost control system must be designed to separate billings from production. Why? Because they are often not in sync, and result in erroneous analysis that does not reflect actual production. So, it is necessary to consider the accounting software options necessary to accomplish the above analysis. Simple systems frequently view the budget for each item as a lump sum. That may be adequate for items not directly related to pay items. Dewatering, for example, although sometimes paid by the thousand gallons, is really a time-based operation. The number of gallons pumped may not significantly impact the total cost. Therefore, this item could produce less than the required budget because of a quantity underrun. However, some systems would view the budget for this item as a lump sum amount, even though the quantity is payment based.

In providing cost control systems that track unit price work, the contractor must consider the potential for budget variance related to quantity. Trying to track such work when the quantities vary significantly can be a chore if the projected budget is not automatically adjusted and manual changes must be continuously made to properly reflect the variances. (Some systems do accommodate this need.)

Another feature to seek out is a method for comparing billings to cost. In the above examples, a many-to-one relationship between payment and cost items would provide a reasonable means to accomplish a proper analysis. Some systems do this easily, while others make it very difficult.

To be effective, heavy/highway contractors’ project cost control systems must meet certain criteria. First, computer systems must be able to accommodate the proper analysis for the contractor to remain informed. Second, the field reporting procedures must be clearly understood by field agents, so time and quantities are reported correctly. Finally, management must be vigilant in monitoring cost and quantity variances so the reported information is reliable.