Contingency and Project Budgeting WTD Management Team
September 11, 2012 Background Project Control asked to verify whether or not WTD capital projects take twice as long and cost twice as much as anticipated BFO hired to study in depth, WTDs historical capital project performance Findings from Analysis of completed WTD capital projects initiation - projects take 120% longer and cost 71% more than budgeted baseline - projects take 61% longer and cost 32% more than budgeted average capital project takes 10.5 years to complete Behind the Analysis Initiation: Baseline:
public sector budget process forces publication of premature information do not account for future cost of doing business, technology, complexity managed solution concept, only the name and outcome remain the same Baseline: historically set prior to sufficient engineering (30% predesign vs. baseline) emphasis on PMI beginning to improve performance (projects are long term) Do not follow industry standards for estimating, budgeting contingency or presenting cost ranges Culture of budgeting lowest most optimistic cost, not most probable WTD capital project driver appears to be scope/quality, not budget or schedule Average project takes two years to start after approval What Are The Implications Of The Analysis and Findings?
Externally suggests WTD can deliver more projects than actual performance leaves impression that most capital projects are over budget can erode public trust Internally not achieving lowest most optimistic cost equates to a continuous budgeting effort do not proactively manage capital plan, instead react to the rate and cope continually delaying and/or postponing projects exacerbates the problem What Steps Can Be Taken To Improve Project and Program Budgeting?
Modify estimating and budgeting practices, target more likely project cost revise contingency policy to be closer to industry standards ensure estimated construction cost is reflective of actual bid amount (project budgets are based upon construction estimate) incorporate and accept cost ranges per AACE 18-97R update estimating manual, consistent format incorporate range estimating practices rebaseline when necessary (trending) Contingency Defined Contingency
cost or time reserve used to manage identified risks or known-unknowns integral part of the risk management process and a necessary part of the capital project budget provides a means to mitigate the risk of uncertainty and unforeseen events within the project scope that are inherent in capital projects generally included in most estimates, and is expected to be expended controlled by the project manager Contingency cont. WTD Issues
often misunderstood appears to have become catchall, not a managed tool hides or masks many problematic issues used to fund work outside original scope of project has become a fund for known elements, not easily estimated. current example: siphon inlet/outlet structures ancillary structures mitigation 25% pipe upsizing contingency being used faster than policy suggests faster usage masks increasing costs and scope Most WTD Capital Projects Effectively Start with No Contingency Management Reserve Management Reserve
cost or time reserve that is used to manage unidentified risks or unknown-unknowns provides a means to mitigate the risk of uncertainty and unforeseen events outside the project scope management reserve is controlled by someone outside the project team Current WTD Contingency Policy
Origins date back to the 2004 accomplishment rate assumed rate, 82% actual rate achieved, 66% Concern that Council would react to low performance and approve future budget requests proportionally Current WTD contingency policy went into effect in 2005 WTD 2005 Contingency Policy
Contingency: When entering contingency, use the percentages listed below -- this means PMs will revise contingency during each phase of the project. The Portal has two places to enter contingency project and construction. In both cases, contingency will be loaded in the close-out year of each project. If your project does not have a construction component, use the project contingency only. The contingency will be based on total project costs. PMs should get approval from their Section Manager and the Finance Section for exceptions to this policy. Example: Project X is currently in predesign with all activity to be complete in Further, the total project cost is $10 million, of which $5 million is for construction. The total contingency is $2,000,000 ($10M*.20) of which $500,000 (.1* $5,000,000) is construction contingency and $1,500,000 ($2,000,000 - $500,000) is project contingency to cover the unknowns and unexpected events. These amounts would be entered in 2008 only. Estimate Classification for Process Industries AACE Project WTD Total Project Construction Class Definition Analog Contingency Contingency Contingency Class % Planning 30% 20% 10% Class % Pre-Design 20% 10% 10% Class % Design 15% 5% 10% Class % Construction 10% 0% 10% Please keep in mind when putting your budget together that there is $10 million in program contingency available for projects if the need arises during the year. This authority can be transferred to a project up to 15% of total project costs without exceptional reporting requirements. 2005 Policy Effects Intended Effects Unintended Effects
helped eliminate best case, padding, hoarding mentality contained within annual project budgets placed contingency in last or out year since 2005, accomplishment rate averaging over 90% Unintended Effects reducing contingency levels below industry standards resolved annual fiscal objective, but sacrificed overall project budgets Project Budget/Contingency Example Planning Level Budget Estimate Example Contingency Variance versus Recommended Practice Green/Yellow/Red Reporting
Contingency Reporting Contingency Schedule Cost Cost Contingency Depleted / Budget Increase Time Implementing Change Begins by Revising Contingency Policy/Practices
Construction Contingency design contingency (allowance) pricing or market conditions construction contract change orders (10% per Con ) all are known-unknowns Project Contingency intended to cover the costs of identified risk register items not all risks are funded, portion determined by project team only covers risks associated with chartered scope of work only used when a planned risk materializes, known-unknown Management Reserve (Flexible Spending Ordinance) encompasses issues that were unforeseen and not expected seldom used, at discretion of WTD management/finance referred to as unknown-unknowns Budgeted Construction Costs Need to Reflect Actual Bid Amount
Estimated construction costs should reflect expected final construction costs. significant known-unknown construction costs cannot be defaulted to project contingency misleading and underscores total construction and project costs Allied costs, sales tax, construction change and other modeled costs all calculated as a percent of construction budget low construction estimate effectively underfunds all other aspects of project budget AACEi Recommended Practice 18-97R (Association for the Advancement of Cost Engineering International) 18-97R (2011 update) Handout Cost Estimate Classification Matrix (page 2) Estimate Input Checklist and Maturity Matrix (page 9/10) Accuracy Range versus Range Estimating accuracy range is +/- a percentage based upon design definition range estimating determines the probability of a cost overrun and determines the required contingency needed in an estimate to achieve a desired level of confidence uses statistical modeling such as Monte Carlo simulation Draft WTD Contingency and Accuracy Range Matrix
WTD Matrix Combines: WTD Phases WTD Deliverables WTD Gates AACE Estimate Classifications AACE Degree of Project Definition AACE Accuracy Ranges WTD Contingency Categories and Recommended Amounts design, pricing, change order and project WTD Draft Contingency Matrix Project Budget/Contingency Example Planning Level Budget Estimate Example Range Estimating Monte Carlo simulation new tool within WTD
statistical tool that shows the probability or confidence level of an estimated cost being achieved the contingency which is determined is total required contingency does not reflect management reserve, the discretionary amount added to an estimate for possible scope changes or unknown future events which cannot be anticipated by the project team Rebaseline Definition and acceptable use being developed by CPMWG
Not a dirty word or concept Does not equate to a clean slate Used when changes to the scope are necessary or the result of a desired business decision Approval comes from management Estimating Guidelines
Formatted into two chapters: Chapter 1 For internal use. Describes the what, why and how of WTDs project budgeting process(es) Chapter 2 For internal and/or external estimating staff concentrates on capital construction estimating describes required level of detail, order and formats introduces requirement to present estimates in WBS format Change Can be Difficult
WARNING!!!! WARNING!!!! WARNING!!!! WARNING!!!! WARNING!!!!! Revised approach would be phased in, not implemented all at once Reaction likely to be that suggested costs are too high Revised method splits the difference between budgets and actuals If scope increases are not deflected/avoided, costs will be higher Project expansion through scope changes/increases or business decisions must be accompanied by a rebaseline event Conclusion / Questions
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