By Chan-Joong Kim, Seoul, Korea, 82-2-545-1931, kim.cj@pbworld.com

As is the case in normal business investment, a construction project can be launched after the actual investment is finalized and executed. In many cases, construction investment cost is not calculated and managed in the professional way, however, causing the “failure” of the project because it requires much more capital investment than was forecast in the initial budget. The objective of this article is to introduce some cases of a cost management service that we applied to projects in Korea in order to help those who need better cost management control for their projects. Our projects included department stores, wholesale discounters and luxurious villas.

Initial Planning Stage

One of the tools that can help clients to decide whether they should invest in a project or not is the internal rate of return (IRR) analysis method. If, for example, IRR is the lowest or the period of return is long (worst case), investors examine the business feasibility with a limited budget. For example, a client having invested continuously in an area of about 500,000 square feet per one store decides to invest in another only when the result of IRR (based on the land cost,estimated construction cost, design cost, other service costs and peration cost) is enough to match with the market rate of interest.

Figure 1: Cost estimation at the planning stage.

Normally, in Korea, developers hold separate business feasibility study groups in their in-house organizations, so a construction management (CM) company’s service for the client is limited to providing just estimated costs with planning sketches; however these cost figures are important for deciding the projects’ feasibility. At this stage, the most important work that the CM company could do is to provide a reliable cost estimate based on the preliminary drawing (sketches) information. The challenge, then, is to ensure that the final cost budget falls within the estimated amount made at the planning stage.

The example in Figure 1 illustrates total business cost estimation made at the planning stage.

According to some experts in the field:

• On average there is a 15.5 percent cost gap between the lowest bid cost that cost consultants expect and the lowest bid cost received in an actual situation.
• The error rate of approximate estimation in similar projects was 5 percent and could be up to 11 percent because of wrong application of cost data.

The error rate of the elemental and functional area cost estimations of PB Korea shows less than 5 percent, as illustrated below. The following example of super stores can be a most useful method for estimating similar projects, and it can be used for other projects as well once the database is set up properly.

Basic Procedure Model for Initial Planning Stage

In this example, we were to develop a cost estimate for three buildings as quickly as possible for a big local wholesale discount firm. Each building would be different—similar square footage, but different dimensions, different number of floors, etc.—because their sites were of different sizes and shapes. The phases of our cost estimation model were as follows:

1) We collected and organized the data of a completed project in order to establish a standardized format for calculating cost estimation.

2) We chose the most general number of costs from a detailed quantity survey and cost analysis according to the items below and standardized them. All basic conditions were established according to each elemental material and size, etc.

• Unit construction cost calculation per element:

– Earth work per unit area / volume
– Frame work per unit area / volume (divided into foundation, underground and ground)
– Exterior finish work per unit area
– Interior wall work per unit area
– Roofing work per unit area
– Subsidiary civil engineering work per unit area
– Landscape architecture work per unit area etc.

• Unit construction cost calculation per functional area:
– Store per unit area (underground and ground)
– Parking lot per unit area (underground and ground)
– Machine room per unit area (underground and ground).

Figure 2: Unit cost analysis and standard unit cost of three stores.

The standard unit cost (Figure 2) was calculated on the average of stores A and C because the numbers of security shutters and fire-resistant shutters of Store B differed from those of the other two stores and Store B had different adiabatic methods. Similarly, cost estimations for equipment and electric works were also calculated by the method of unit construction cost per elemental/functional area.
3) The standard unit cost was calculated from the simulation of each model after selecting six standard models (one-story vs. multi-stories, without underground parking vs. with underground parking , etc.) with standard unit cost per elemental/functional area and format for cost estimation. Throughout this process, the general basic construction cost model was confirmed first and then applied to the next project.
4) For every new project, the most similar shaped one of the six standard models was selected on the basis of building outlines, plans and general drawings. Then, after the area or volume per elemental/functional area was estimated, construction cost was calculated with standard unit cost.

Figure 3: Adjustment factor values according to related conditions.

5) To reflect a characteristic of each project, reasonable unit cost wasapplied and modified by adjusting factor values for other conditions except those included in the standard unit cost (Figure 3).
6) After adjusting factor values per project at Phase 5, the remaining expected deficits were included in the abnormal part. By doing this, additional costs caused by abnormal were considered as well. Abnormal is divided into general matters (e.g., set back, removal of existing buildings), special matters (e.g., establish and move viaducts, set up street lights, etc.), and other matters (e.g., legal limits in the approval process).
7) According to the store models selected above, common factors where value engineering (VE) can be applied in the construction, mechanical and electrical works were incorporated into a standard list. This list has been used very often according to a characteristic of each project for the high effect of the initial business stage.
8) Progressively, we analyzed the total cost of completed projects as well as those projects under construction by taking into consideration the fluctuation in construction cost with time. This cost update was made available typically every six months; allowing the selection and adoption of a reasonable initial business cost at any time.
9) Based on the above phase, detailed cost information was provided for the client’s rational decision-making.
10) After the main contractor for a new store was selected and the detailed construction cost was calculated, exact cost data per elemental/functional area was incorporated into a database for new cost estimation with a continuous feedback system.

PB and a quantity survey company refine/confirm the quantities to be calculated, and we apply our model to finalize the construction cost estimate.

Figure 4: Model Application to new project (Assumed for purpose of client's confidentiality)

Figure 5: Comparison of existing method with existing methods per functional area.

One example of methods used for calculating unit cost per functional area in the actual equipment work of Store A is as shown in Figure 4. After classifying each construction item per detailed elemental/ functional area according to integration standard and related conditions, one model applied the most frequently among the six models was selected for the actual project.

Once the site was determined, the proper standard model was applied to the site and the quantity of various functional areas of new buildings was decided according to the concept of standard area or volume. Also, in order to foresee the exact costs of the surveyed quantity, project requirements (such as location and characteristic of site and building requirements etc.)


were considered by a proper method for revising unit cost. After each unit cost was revised, total construction costs were decided and proper revisions for uncertainty of scale were carried out. Moreover, we established each estimation standard per elemental/ functional area and changed related conditions and units to reflect the characteristic of site, which made it possible to calculate the budget more accurately.

Application Result of Basic Model

The result of a recent bidding on a new store of one wholesaler discounter showed a 1.5 percent rate of error between our estimated construction cost and the lowest bid price. The reasons for this difference were that we subtracted the costs of direct order, abnormal and earth work from the budget, including the reduced cost of value engineering. This example demonstrates the high accuracy of our method of cost estimatin g.

The induction effect of this calculation method per elemental/functional area is illustrated in Figure 5 and compared with existing methods.

The cost estimation method described above is very accurate. Despite adjusting factor values and revising uncertainty by itemizing both abnormal and contingency, however, there are still errors because of insufficient data. Also, this is why cost estimation system in Korea has not been used often despite continuous studies for cost estimation. In order to overcome this limit, it is necessary to improve systemic parts such as detailed electric standard code by activity for the purpose of establishing a cost estimation system. However, above all, individual cost specialists must first have the mindset to allow and accept their data to be gathered and recorded, and understand that this effort will bring more advantage rather than a threat to their business.

Responsibilities Throughout Project Development and Construction

Once a client decides to invest after the business feasibility study at the planning stage, the next step is to prepare the design and drawings for bidding, specifications, and progress schedule; and to select a constructor. Cooperating with a design company, the CM verifies construction cost and adjusts it for whole design with the standard made at the budget planning stage in order to avoid unnecessary budget increases later on. Cost management should be controlled under the three factors (scope, schedule, and budget).

During construction, at least once a month, a CM company reports to the client with construction cost predictions after reviewing the reports of contractors. On the report the CM company includes all the main factors that can cause changes to the construction cost, such as period, quality, design change, etc.

The success of a project will be determined at the final adjustment stage. Because there is a difference of interests between the contractor, who wants the maximum construction cost, and a client, who wants to pay as little as possible, both parties hire cost specialists for the exact calculation work. Factors such as quality, period and design change in the construction work must be reviewed. Unfortunately, many local construction companies or clients do not have enough cost experts, so more and more often it happens that they have difficulty in asserting their rights and reaching mutual agreement.

Also, at this stage, since clients generally are holding back considerable sums of money for items such as final invoices, addendum, and retention funds, contractors in a bad financial condition inevitably have to accept a disadvantageous agreement. Therefore, PM’s map out the calculation strategies for contingency from the early stage of works through to completion stage and carry them out. The PMs should be aware of all the related contract clauses exactly. In order to keep down the cost that will be negotiated at the calculation stage, the amount for items with design changes should be defined and invoices should be made as often as possible in advance.

Conclusion