A project can only come to fruition when the necessary materials and labor are put together. These things, however, cost money. This is where cost estimation comes in. Cost estimation helps you determine your project's budget, schedule the work necessary and manage new resources. Cost estimates are also very crucial when it comes to winning new business.
Property owners also use cost estimates to assess the feasibility of their projects before embarking on actual construction. This article will give an in-depth overview of the purpose of cost estimation in construction.
Table of Contents
1. Increased understanding of costs
The purpose of cost estimation is to give project stakeholders accurate information concerning the related project costs. It is easier to make lasting decisions if there is information to back them up. Cost estimation also gives clients value-aided options and helps clients minimize expenses.
People often confuse the term 'estimate' and 'quote.' A quote denotes the exact price the client will pay for a product or service. On acceptance, the service provider is contractually bound to complete the work at that price. On the other hand, an estimate is not contractually binding as the prices change with the project's progress. A cost estimate is divided into direct costs and indirect costs.
Direct costs refer to specific costs meant for a product, department, or project. They are the costs that are immediately linked with the construction of a project. Such prices include labor and materials. These costs are also variable and fluctuate depending on the market conditions. Below are some of the direct costs in cost estimation.
Material and equipment costs
These are the costs of the materials and equipment necessary for a project's success. The costs vary depending on market conditions. Cost estimators also look at historical data and use it to predict expected buying prices.
This refers to the cost of team members working on the project in terms of time and wages. It also includes overtime, labor burden, worker compensation, and employee insurance.
Unlike direct costs, indirect costs are not directly linked to the construction work. They can be either variable or fixed costs. They include transport, administrative, and building temporary structures, permits, design, and legal fees. Overhead costs which cannot be directly charged in a specific project but are necessary to support overall project activities are also grouped as direct costs.
Other costs are capital costs and operation and maintenance costs. Capital costs are the overall construction costs that are necessary for establishing a facility. The operation and maintenance costs are a more significant concern to the owner than the contractor. These are the costs needed for the proper functioning of a building during its lifetime.
Other essential terms in estimation are:
- Contingencies: Even the most accurate estimates have unforeseeable circumstances such as material wastages. Cost assessments have a predetermined sum to cover contingencies.
- Profits: Of course, the contractor adds a margin to the construction costs for profits.
- Escalation: It is vital to account for inflation in long-running projects. Some project clauses have clauses for handling inflation.
2. For funding requirements
It is common in the construction industry for contractors not to receive payment up to three months after construction kicks off. Even with these delayed payments, contractors need to ensure the timely progress of projects by having adequate funding to run the project. Most clients also operate their projects on loans. The client and contractor are, therefore, sometimes forced to look for funding elsewhere. Loan financers ask for construction cost estimates and use them as a criterion whether they should issue loans or not.
The cost estimates are essential in evaluating a project's feasibility. The loan financers also check whether the borrower can achieve what they want to accomplish within the financial constraints set forth.
3. To understand material requirements
Residential, industrial, and commercial projects have unique material requirements. The cost estimator, therefore, has to select the proper materials that fulfill the industry requirements. The estimation process needs a lot of accuracies. The estimator uses the project's drawings and specifications to determine the necessary material quantities to get the project running. Insight into the material requirements also helps in the proper management of the materials. The procurement processes run smoothly, and resource gaps can be filled on time.
4. To aid preconstruction
Preconstruction is the stage in a project before actual construction takes place. This process involves budgeting, planning, and scheduling activities. The projects struggle to get back on track when projected timelines and costs fall outside the estimated parameters. Cost estimations help the plans in preconstruction. They help project stakeholders to make prudent decisions on material availability, material costs, scheduling, project feasibility, and constructability. As the project evolves from concept drawings to actual construction goals, cost estimates simplify identifying cost and schedule goals. The team then checks the project's progress against the milestones set up during preconstruction to ensure everything is on track.
5. To know equipment and tooling requirements
The construction process requires a lot of equipment such as cranes, forklifts, generators, and excavators. Some equipment is consumable in a project. These are electrical tapes, threading oils, bandsaw blades, and drilling bits. Sometimes, if a contractor does not own this equipment, they might need to rent them out.
An estimate jumpstarts a contractor's efficiency in a project. Most of the construction works take place simultaneously, and with a listing of all the items necessary in a project, the owner will have all the equipment listings required. This also improves the profit margins as the contractor's procurement process will be more straightforward with accurate estimates available.
6. To pre-plan labor requirements
A contractor needs a good understanding of all the labor units required for a project. A project has several units that run concurrently with each item in cost estimation having an associated labor unit. The labor requirements are pre-planned depending on the project's specifications. You can develop a work breakdown structure that covers your staff when you have accurate estimates on tasks and resources. It is easier to monitor the team and ensure that they adhere to the expected project timelines.
7. To understand the cost to benefit ratio
A cost-benefit ratio is an indicator that shows the relationship between the foreseeable relative costs and expected benefits. If a cost-benefit ratio is more than one, a project is expected to deliver a high net value to its firm and investors. However, if the cost-benefit ratio is less than one, the costs are more than the benefits, and thus the project should be reconsidered. A proper cost-benefit ratio evaluates direct costs, indirect costs, risks, and opportunity costs; these costs are compared with the direct, indirect, total, and net benefits. Cost estimators calculate the cost-benefit ratio from initial cost estimates developed during the preconstruction stage. The cost-benefit ratio analyzes the overall value for money when undertaking a new project.
8. To understand rebuild costs for a valuation
When you plan to take out insurance for your home, the insurer will likely ask you for rebuilding costs. With the correct expenses, you will be able to get the best insurance cover. An insurance cover is essential because you will have to cover the costs yourself in the event of an unfortunate event. To arrive at the rebuilding costs, you need to perform cost estimates on service installations, demolitions, plumbing and electrics, and other associated costs. Rebuilding costs are usually evaluated lower than your asset's market price as it accounts for factors such as land and location.
9. To compare rates during a tender
Before awarding a contract, a cost consultant must evaluate the fair contract price. In most cases, the influencing factor is the lowest tendered sum. However, the cost consultant must examine the individual estimates in the tender and ensure that the quantities do not differ from the Bill of Quantities values. When a tender is impractically low, the cost consultant can also evaluate if the results are from inexperience or misunderstanding of contract requirements. If the quantities are not as billed, it can lead to many problems for the contractor and client. Using the cost estimates, the client can then award a contract.
10. To control costs
Cost estimation helps in cost control in a project. Cost estimation provides a project baseline for measuring variances from the initial costs. After measuring variances, stakeholders can then make decisions for corrective action to attain minimal costs. Cost control also helps in scope change management. Any changes to the initial costs are recorded to make it easy to continually forecast the expected final costs. This assessment of cost controls helps the project to stay on course and avoid budget overruns.
As you can see, greater insight on cost control improves the tasks and timelines in your project. When the clients understand the reasons behind certain project costs, they are likely to trust your judgment and expertise. They will expect changes as the project progresses, and this results in better working relations. As projects are completed on time and budget, it is easier to win repeat business, create happy customers and get more referrals.
The best way to create accurate estimates is by leveraging previous jobs. Throughout the project, you should be diligent in tracking employee time and costs to measure performance against productivity accurately.