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The reason for producing any estimate of cost and time for a project is to predict 4.1 RG"fI n i n g t h G
the final total cost and completion date as accurately as possible so that the client . . .
knows what to expect. To achieve this, all risks which might affect the cost or O r i g i n a l Q ST 1171316
progress of work must be identified and allowed for in the estimate. Some may
be eliminated or reduced and some are outside the control of the project
management, but all of them should be considered. Ignoring or excluding a real
risk, because for instance it is outside the control of management, can deceive
everyone involved.
Clients usually require a first estimate early in proposals for a project, when there
may be many uncertainties arid some may be very large in their possible effects.
The requirement to estimate cost despite having only limited data early highlights
a problem common to all estimating - how should uncertainty be allowed for ?
Research has shown that many client organisations, including some with a 4.2 E s t i m a t i n g
sophisticated policy on project risk management or who employ risk , . • .
management consultants, keep the estimating function separate from the risk 9 n O T1SK a n a i y S I S
management function. This situation prohibits estimating realism and limits the
success of theriskmanagement process.
• The percentage figure is, most likely, arbitrarily arrived at and not
appropriate for the specific project.
• There is a tendency to double-count risk because some estimators are
inclined to include contingencies in their 'best' estimate.
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RISK IN ESTIMATING
4.3 Risk Risk allowances comprise contingencies and tolerances. The use of these two
,, words varies in practice, but we distinguish between them as follows.
allowances
• Contingencies - allowances added to an estimate to represent the best
judgement of undefined or uncertain items of work which it is considered
should be provided for.
• Tolerances - the range of values above and below the estimated project
cost, duration or performance within which the final value is likely to fall.
Contingencies are 'areas of space' in an estimate which help a project manager
to meet the project cost, time and performance objectives, as they face exposure
to project risk and uncertainty [50]. Separate contingency allowances should be
provided for each specific item of work which is undefined or uncertain, to
provide the basis for budgeting and control.
Tolerances are derived from two sources: firstly the accuracy of estimating the
costs and durations of activities; secondly the uncertainty due to the identified
risks. The result is estimates in terms of ranges of values, not single values.
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ENGINEERING CONSTRUCTION RISKS
• Risk exposure - the amount of risk still not allowed for financially.
Any estimate should state the items excluded from it, and ideally should indicate
the resultingriskexposure.
Ideally the amounts of contingency and tolerance that are set at the identification 4.5 Reduction
and appraisal stages of a project should be high enough to give a reasonable
upper limit for the project. Then as risks and uncertainties are removed or stage-by-stage
reduced the contingency and tolerances should reduce [51,52]. Fig. 8 shows the through a project
so-called torpedo or projectile effect of risks on cost predictions.
This diagram illustrates the value of range estimating. This is one of the concepts
which we recommend to politicians and their advisers for inclusion in the
procedures for sanctioning and controlling public works projects.
Feasibility study
Maximum
A
c
o
I Most
CO likely
o
o
B
o
CD
O)
CO
TD
CD
imal
w5
Minimum
C Fig. 8. Probability distributions of cost
estimates stage-by-stage through a
Feasibility study Tendering Claims settlement project. Probabilities and
uncertainties in cost prediction vary
from stage-to-stage. The diagram
illustrates continually lessening
Time
uncertainty in predicting final cost
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RISK IN ESTIMATING
The types of cost estimate needed by clients will differ according to individual
organisation requirements. We consider that the following are essential for
predicting and controlling the cost of projects.
Typically relatively little data is available for the feasibility studies of a project.
Decisions at this stage are therefore exposed to maximum levels of uncertainty.
Without expenditure to obtain data, risk cannot be considered in a systematic
way.
An estimate compiled with such limited data is generally called a 'ball-park' figure.
Deriving it is best based on a combination of experienced engineering and
estimating judgement, drawing on previous project data where available.
Once a project has been shown to satisfy the client's feasibility criteria, it may
then be considered for inclusion in the capital budget plan. The business must
formulate a capital investment programme, which requires a forward view of
capital demand. At this stage clients are generally willing to spend more to define
the scope of possible projects and to pay for preliminary design work in order
to obtain the basis for more accurate estimates.
Again it should be emphasised that the feasibility estimate may dominate this
definition of scope. This estimate may have been presented as a single figure for
budgeting purposes. Preferably it should be prepared on a range basis to indicate
uncertainty. The capital figure which may then be used for a budget is then a
management decision, dependent upon market factors and corporate
philosophy. However the range estimate provides decision makers with a more
realistic view of potential project costs.
This estimate provides the basis for the commitment of resources to the project.
At this phase the scope of the project should have been defined and a significant
part of the design completed. Risk can then be considered in a systematic way,
with a well-defined risk analysis and risk management strategy.
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ENGINEERING CONSTRUCTION RISKS
the perceived uncertainty remaining at the time and should not be an arbitrary
percentage figure.
When the project is completed there should be an analysis of its actual cost, time 4 10 Audit
and performance. This should detail all expenditure and the reason for each item.
It should list all those identified risks that did occur and show their effects, and estimate
the same for those which occurred but were not previously identified. Since it is
impracticable to try to be completely accurate, the results of the review should
still be regarded as estimates.
The data obtained is very valuable for the development and control of subsequent
projects and should be added to other historical data to aid estimating
judgements. It can provide a basis for assessing project management
performance. It is also valuable for training estimators.
To a limited extent these may be traded by the project manager as the project
evolves. For example, acceleration in programmes can be bought, and cost saved
or delay avoided by accepting work which does not meet specification on
non-essential items. The extent to which these can be traded may change during
a project, and so may the relative importance of cost, time and quality.
Techniques of the type described have been developed with the aims of reducing
underestimates, providing greater appreciation of the impact of potential risks,
and establishing methods of quantifying the effects of risks. During the research
we have encountered arguments that the data or time needed to prepare a
realistic estimate are not available in the early stages of the project, and that
despite the best efforts of project managers this situation will recur in the future.
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RISK IN ESTIMATING
If so, the project managers have to ensure that the limitations of such estimates
are emphasised throughout the organisation. Increases in cost when the project
is more clearly defined are the usual result, and a project may need to be
re-appraised to review its viability.
Rgfgfgpf^g^ 48. J. R. Healy. Contingency funds evaluation. Trans. Am. Assoc. Cost Engnrs, 1982,
B3.1-B3.4.
49. UMIST. A guide to cost estimating for overseas construction projects. Project Management
Group, UMIST, for the Overseas Development Administration, 1989.
51. N. M. L. Barnes (S. H. Wearne (Ed.)). Control of engineering projects. Thomas Telford,
London, 1989, chap. 4.
52. J. Morris (N. M. L. Bames (Ed.)). Financial control. Thomas Telford, London, 1990, chap.
4.
53. K. T. Yeo. Project cost sensitivity and variability analysis. Int. J. Project Manage., 1991, 9,
May, 111-116.
54. W. R. Quems. What is contingency anyway? Trans. Am. Assoc. Cost Engnrs, 1989,
B9.1-B9.5.
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