‘Forecasting’ – One of the most important tasks in the life of a construction administration person. A regular forecast informs the management team, and allows correct decision making in the day to day management of a construction project.
The term ‘Successful’ will mean different things to each stakeholder in a project, but in this context, I will define ‘Successful’ as financially successful for the building contractor. Some of this may be obvious, but let’s take it step by step:
- For a project to be financially successful, the contractor must manage revenue and costs, from beginning to completion, including through the defects period.
- To manage revenue and costs, the contractor must know, at any time, where the job is placed currently and where it is heading. Put simply, how much revenue have we received so far, and how much cost have we incurred? Then, how much revenue is forecast still to be received and how much cost is forecast to come.
- And then, what can be done to correct any undesirable movement in costs and or revenue, and potentially improve the financial outcome of the project?
So ‘Forecast’ is the key word (another is ‘accurate’), and a regular forecast is fundamental to success.
Cost Forecasting:
Our next step is to choose the forecasting type or method that a contractor will use. The two methods are ‘Anticipated to Complete’ (ATC) and ‘Estimated Final Cost’ (EFC). I have written a paper outlining the two methods and discussing the pros and cons of each. You can view the paper here. You will meet many people with the view that there is only one method worth using, but I encourage you to broaden your thoughts and examine both. This is definitely NOT a ‘one size fits all’ problem.
So now that we have chosen our method, we can move into the science of forecasting, and yes it is a science. To forecast cost correctly, one has to understand a multitude of factors, such as:
- The budget for the trade – What was allowed, and is the budget reasonable? Was the full scope of work covered in the budget? Have there been any market movements since the budget was developed?
- The selected trade contractor – Is the company well known to the head contractor, and what is the history? Are they good operators, reliable performers, reasonable or unreasonable with variations, good at managing time, adequately resourced, etc.?
- The design and documentation – Is the design standard or unusual? Is the contract documentation complete and unambiguous, etc.?
- The trade program – Is the time adequate?
All of the above factors may have an impact on the cost, and they all need consideration in our forecast.
With the knowledge of these factors, we can forecast (estimate) the cost of the trade work, and we should also provide some contingency against potential additional costs.
Forecasts are adjusted each month:
As circumstances change, the team will adjust the forecast each month to reflect the changes. The big issue is that management will have difficulty coping with an overall forecast which gyrates wildly up one month and down the next. The team should smooth these gyrations by creating some ‘contingency’, and using that to smooth out the peaks and troughs.
In my view, where possible, the forecast cost each month should match the margin at tender time as closely as possible. Any savings in contract lettings and the like, should be used to build a project contingency, and this contingency is then available to take up any additional costs. As the project heads near to completion, the contingency can be progressively released to margin.
Forecast Revenue Also!
Forecasting the cost is only one part of the puzzle – we must forecast project revenue also. This means managing the head contract variations on a timely basis. Submit the variations as soon as possible, follow-up on approvals, and track the ‘anticipated revenue’ for any unapproved head contract variations where work is underway and cost are being incurred.
The last step – Review the Forecast:
Our forecast is of no use to the company without a review. Management should review the forecast each month, analysing what has changed since last month, checking the movement of costs and revenue for each trade, and instructing any actions to be taken.
Lastly:
We will see from the above that forecasting is a science. To be successful, we need to understand the process in great detail. We need to provide training so that our project team has the skills to carry out the process. We need the tools within our job costing software to provide the information needed – actual cost, incurred cost, committed cost, etc. We need a company culture that supports the importance of the forecasting task, and we need to encourage and reward those that excel. Then (and only then), can we have a financially successful project.
Project profitability requires a complete toolkit. We must have appropriate and timely reports, graphs of our cashflow and resources, and other tools to keep us on track. Next month we will examine some of these tools and delve deeper into this forecasting challenge.
Graeme Bottrill
31st October 2022