I boosted my estimate for a knockout drum by 10% because I had no way to anticipate the effect of inflation and supply chain delays. Yet, the actual cost exceeded that number — even the extra 10% added by corporate. This wasn’t too much of a surprise; the project was held up for a year and required design changes because production restricted downtime due to the pandemic. That said, estimating is tough even in “regular” times. (I’ve covered several aspects in previous columns, e.g., “Sensibly Estimate Project Time and Cost,” “Come Up with Better Cost Estimates,” and “Pad Your Cost Estimate,”) Let’s look at some facets to consider.
First, corporate budgets generally include a contingency. For instance, if you estimate a project to cost $100,000, given a 20% contingency, the project is budgeted at $120,000. So, if your site has a budget of $5,000,000, you only really have about $4,100,000 to allocate before the contingency. Actually, it’s probably more like $3,000,000–$3,500,000, to leave room for other projects that inevitably will come up.
Obviously, better estimates could free up some money that could go to improving the site. Unfortunately, a lot of this “extra” cash usually funds capacity improvements; infrastructure, routine maintenance, such as the drum project, and even reliability enhancements fight for scraps.
Against this, though, cost estimates aren’t crystal balls and, so, some padding invariably makes sense. Estimates come in low for many reasons (let’s ignore factors like inflation caused by war or a pandemic): exhaustion because engineers are spread too thin to consider risks thoroughly; scope creep or even explosion once stakeholders get their hands on project money; insufficient or poor information; errors in drawings or design; materials of construction chosen based on textbooks rather than corrosion coupons; and, well, I could go on for pages. For external effects like inflation, it’s best to apply an annual index, then correct and beg forgiveness if you’re wrong.
There’s another angle to consider: a labor surplus. If you assign an engineer to one job, another to a second, and so on, what do you do when this work is finished? As a contract engineer, I’ve often run into the situation where I could complete the work faster than the, say, six months assigned for a project. I guess the people in corporate planning weren’t managing hours any better than they were managing budgets.
Let’s consider approaches for managing budgets more effectively without either leaving money on the table or incurring substantial cost overruns. First is dynamic accounting; second is the use of “Cinderella” projects; and third is having a parking lot.
Dynamic accounting isn’t as difficult as it sounds. In its simplest form, someone is responsible for keeping a spreadsheet with two trend-line curves for each project that come together as the work progresses. The leading curve tracks projected costs based on a percentage of the cost of each component (say, a fabricated tank) or estimates of overruns converted to a percentage. The trailing curve is money actually spent based on invoices paid. To keep the system honest requires working directly with contractors.
A “Cinderella” project is one paid for with left-over funds. Such money usually no longer is available when the next budget year begins. Dynamic accounting can ensure there are enough funds for the work. Scheduling is another matter; time available must suffice for the work to be completed or adequately allow for delays.
This is where parking lot projects are necessary. Maybe you don’t have money for the whole project but only for detailed engineering or tie-points or equipment fabrication. Of course, if equipment is built, you must include warehousing and storage costs. Note that rotating equipment requires preparation, e.g., greasing, before storage and then taking apart and cleaning if idle for a long time; this has its own cost. Engineering also may need ongoing attention. For instance, you may want to maintain contact with key people involved in a design so they can be brought in as consultants once money for a project is found.
If managed carefully, you shouldn’t have to contend with too much in lost opportunity costs. If the level is too high, sloppy management usually is to blame. Perhaps your competitors will do a better job and put you out of business.