"cost" and "value" loaded schedules
value-loaded schedules
Today, the majority of contracts are written to require the inclusion of “costs” as part of CPM schedules. Before we talk about a specific management techniques related to these costs (i.e. time-cost tradeoff), it is important to understand what types of costs from a “managerial accounting” point of view may be loaded on CPM schedules, and which of these are often required on project schedules.
When construction contracts include “costs” they are not actually referring to the contractor’s cost to build to the project. Surprising? Maybe at first, but once you consider the source of the requirement, this puzzle will become clear. Owners and their Construction Managers typically prepare, bid, and award “fixed price” contracts based on the least total cost of each bid. It is the owners’ cost that is to be included on cost-loaded schedules for fixed-priced contracts, not the contractors’ costs. In fact, the standard fixed-priced contract does not consider (except in aggregate or related to change orders) the estimated, budgeted, or actual costs incurred by contractors and their subcontractors, suppliers, and product manufacturers.
From the view of a fixed-price construction contract, the total fixed price of the contract is called the “value” of the contract. This total value is allocated across each (appropriate) activity in the schedule. As progress on the activity occurs, then the contractor “earns” some portion or all of the value of that activity. Adding the “earned value” of each activity during a given reporting period is the basis for periodic (typically monthly) project payments.
cost-loaded schedules
From the point of view of the construction contractor and subcontractors, however, the awarded contract amount includes: (1) all necessary overhead costs, such as insurance policies, bonds, and home office staff, (2) the profit that the company must make to provided a return on its funds, and (3) contingencies to cover uncertainties regarding the project scope, customer history, or job conditions.
When preparing construction bids, cost estimators make their best educated guess about what the contractor will have to pay to complete that portion of the work. This payment of labor, material, and equipment is the direct cost of the work. Indirect costs include jobsite and home office project supervision, company management offices and salaries, and material wastage. Indirect costs are real dollar costs that the contractor must pay. These costs are those costs that are required to put in place the structures (both physical and virtual) needed to complete the physical construction.
One option for business owners is to put their money in the bank and draw interest on those funds. The profit of the firm is the rate of return that the business owner achieves. If the owner of the construction company is highly profitable it will have a stable workforce and management experienced in the specific type of projects in which the company specializes. I don’t think the reader would disagree when I say that running construction projects is a difficult and risky business. The rate of return, i.e. profit, achieved through creating a construction company must be better than that which could be provided by the bank. Profit, then, can be seen as a way of keeping score. It allows the owner of the construction company to find out if they should continue or just put their money in the bank and draw interest.
The “cost-loaded” schedule required in the construction contract includes the contractors’ costs, subcontracting costs, indirect costs, and profit. The scheduler, working with the cost estimator, should determine how the project’s estimate will be allocated to the CPM schedule activities. This total “budgeted value’” of each of the activities is what will be used to receive payment when the value is earned.
In addition to providing the budgeted earned value to CPM schedule activities the contractor’s costs may also be included in the schedule. Such proprietary information, however, may be something that is not included in the schedule provided by the owner. There are pro’s and con’s to cost and value loading schedules as listed below.
Some advantages to value and cost loading schedules include:
- Make sure the owner pays on time for work accomplished
- Make sure contractor is not charging too much for the work accomplished
- Insure that all parties expect the same level of effort on similar work
- Allows the evaluation of possible changes to the project scope
- Updating earned value is little additional effort if time-based progress is tracked monthly
- Allows analysis of Time-Cost Tradeoff
- Allows analysis of Cash Flow and Financing Requirements
Some disadvantages to value and cost loading schedules include:
- A change of schedule focus from project planning to project control
- The initial schedule may need to be more detailed to effectively allocate costs
- The scheduler’s fee for this effort may not have been included in the initial bid
In the next sections we explore the time-cost tradeoff analysis and cash flow forecasting.