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C C P : C e r t i f i e d C o s t P r o f e s s i o n a l
CCP Training Course
Prepared By
Mohamed ElSaadany
B.Sc., PMP, CCP, RMP
Section 1 : Cost Chapter 1 : Cost Elements
Sec 1
Cost
1
Section 1 : Cost Chapter 1 : Cost Elements
Chapter 1
Cost Elements
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Section 1 : Cost Chapter 1 : Cost Elements
Cost Structuring
Sort the cost elements into direct costs, indirect costs, fixed costs, and variable costs.
Cost element structure “CES” will help to understand how they influence activity cost
and to get a better understanding of how they can be controlled.
Cost Structuring
Direct Costs
Indirect Costs
Fixed Costs
Variable Costs
Costs expended solely to complete the asset.
Ex: concrete, labors, non reusable forms, and permit fees.
Costs support the work but associated with others, hence allocated
with some percent. Ex: Head office costs and gasoline.
Must be provided independent of the volume of work, either
direct or indirect. Ex: Permit fees and head office costs.
Must be provided dependent of the volume of work, either direct
or indirect. Ex: Labors and gasoline.
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Section 1 : Cost Chapter 1 : Cost Elements
Cost Accounting
• The historical reporting of disbursements and costs and expenditures on a project.
• Basic Steps: (1)Recording, (2)Classifying, and (3)Summarizing.
• Classification can be done using the code of accounts, ABC, or WBS
• Code of Accounts: Used to classify all recorded cost elements and also known as “
chart of accounts”. It’s configured to support the recording of cost data in the
general ledger.
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Section 1 : Cost Chapter 1 : Cost Elements
Cost Management
1. Estimating: Predicts the quantity and cost of resources needed to
accomplish an activity or create an asset.
2. Cost Trending: Howexpenditures are trending relative to physical
accomplishments.
3. Cost Forecasting: Predictions of the cost at completion for cost elements
in progress
4. Life-Cycle Costing (LCC): Once the asset is created, it enters the
operations and maintenance (O&M). The CES for this phase will be
around maintenance and disposal
5
Section 1 : Cost Chapter 2 : Pricing
Chapter 2
Pricing
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Section 1 : Cost Chapter 2 : Pricing
Price
Price is the cost at which something is bought or Sold. In real world price and
cost can be used interchangeably.
Pricing Strategies
• Type I is to win the project and execute it profitably. Bid price is determined
according to the actual project cost.
• Type II refers to a new industry that a company is trying to get a foothold into.
In this “must-win” situation, price is determined by the market forces.
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Section 1 : Cost Chapter 2 : Pricing
Business and Economic Ratios
1. Simple ROI “Return on Investment” :
ROI = (Gains – Investment Costs)/Investment Cost
Ex: gains = 11’000, Cost= 9’500
ROI = (11,000 – 9,500)/9,500 = 15.8 %
2. Complex ROI:
ROI = Average yearly profit / (Original investment + Working Capital)
3. RAI “ Return on Average Investment“ :
RAI = Average yearly profit / (average outstanding investmentl)
4. ROS “Return on Sales” :
ROS = Net Profit after taxes / Sales
5. ROA “Return on Assets” :
ROA = Earnings before interest and taxes / Net operating Assets
6. Gross Profit Margin Ratio
GPMR = Gross Profit / Total Sales
8
Section 1 : Cost Chapter 2 : Pricing
Break Even Analysis
Definition: Level of sales At the point where total costs equal total revenue
Terms:
• Selling Price (SP): The price of each unit.
• Variable Costs (VC): Costs that vary in proportion to sales levels.
• Contribution Margin (CM): Sales revenues less variable costs (SP – VC).
• Fixed Costs (FC): Costs remain constant.
• Units (X): Number of items sold or produced.
Equation: SP(X) = VC(X) + FC i.e X = FC / (SP-VC) = FC / CM
Example: Each unit selling price is $4, unit cost is $2, and the fixed costs for the
period are $600. What is the break-even point in units and in sales revenue?
4(X) = 2(X) + 600  X = 300 units
Or: X = 600 / (4-2) = 300 units
Break-even sales revenu = $4 x 300 = $1’200
9
Section 1 : Cost Chapter 3 : Materials
Chapter 3
Materials
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Section 1 : Cost Chapter 3 : Materials
Materials Competition
Materials compete on cost, availability, service life, weight, corrosion/wear resistance,
machinability, weldability, and other ease-of-fabrication criteria.
Materials Handling Principles
• Movement over the shortest distance.
• Terminal time should be in the shortest time (containers / pallets).
• Eliminate manual handling when mechanized is feasible.
• Avoid partial transport loads since full loads are more economical.
• Materials should be identifiable and retrievable.
Materials Handling Decisions
1. Material to be handled: Clay in loaders, structural steel by crane, liquids in pipelines.
2. Production system type: Job shop or batch process and continuous process .
3. Facility type: Low ceiling height, rectangular area, open area.
4. Materials handling system costs: Initial Cost, lifecycle costs, disposal costs.
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Section 1 : Cost Chapter 3 : Materials
Types of Materials
1. Raw Materials:
Materials utilized in a production or fabrication process The most basic.
Ex: Raw materials such as coal, limestone, and iron ore.
2. Bulk Materials:
Materials readily available with minimal lead times for order and delivery.
EX: Sheet steel, steel bars, steel pipe, and structural steel members.
3. Fabricated Materials:
Bulk materials transformed into custom-fit items for a particular product or project.
Ex: Steel pipe transformed by fabrication into custom dimensions for particular use.
4. Engineered/Designed Materials:
Materials require substantial work in order to attain their final form.
EX: Pumps, motors, boilers, chillers, fans, compressors, transformers, and
motor control centers.
12
Section 1 : Cost Chapter 3 : Materials
Materials Purchase and Management
• Materials Quality:
Poor quality materials can result in product defects leading to increased costs.
Higher-quality materials in excess of requirements will lead to excessive costs.
• Materials Traceability & Vendor Surveillance:
Vendor surveillance may require periodic inspection at the vendors’ location.
Materials traceability is accomplished by means of mill.
• Materials Quantity:
Materials storage is a further burden that can exceed the value of the materials.
Insufficient inventories may create dangers of “stock-outs” interrupting process.
To balance these demands, determine economic order quantity (EOQ) number.
13
Section 1 : Cost Chapter 3 : Materials
Materials Purchase and Management
• Economic Order Quantity EOQ:
Where: EOQ is the optimal order quantity (not function of item cost) , D is annual
demand, S is storage costs, and P is purchase order costs which is setup cost
(ordering, shipping, handling) not the cost of goods. It’s a fixed cost and not per unit.
Ex: If your company has a requirement for 20’000 units per year, where the unit cost
is $130, order cost for a purchase order is $200, and storage cost is $8
EOQ = 2 x 20’000 x 200 / 8 = 1000 units
EOQ = (2 x D x P) / S
• Reorder point RP:
RP = (O x R) + I
Where: RP is reorder point, O is order time, R is production rate, and I is minimum
inventory level or safety stock.
Ex: Assume that you need 40 units per day, the lead time for an order is 5 days, and
the safety stock level is 100 units.
RP = (5 x 40) + 100 = 300 units.
14
Section 1 : Cost Chapter 3 : Materials
Plant Material Management
• Definition: Materials that are not incorporated into product or project. Instead assist
in production operations. Ex: Oils, greases, solvents, and spare parts.
• Specialized Plant Materials: Such as replacement parts may be available only from the
original equipment manufacturer (OEM) and require significant lead time. Try to
maintain an inventory & networking with others willing to lend in case of emergency.
• MSDS & Hazard Communication: MSDS must be readily available and accessible to
those dealing with hazardous materials as required by (OSHA).
• Waste Materials: (1)Original materials cost, (2)Handling costs, (3)Disposal costs.
• Surplus materials: This is usually due to (1)Excessive order, (2)Change in material
requirements, (3)Incorrect quantity information.
15
Section 1 : Cost Chapter 4 : Labor
Chapter 4
Labor
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Section 1 : Cost Chapter 4 : Labor
Labor Classifications
• Direct Labor: Involved in the work activities that directly produce the product
• Indirect Labor: Needed for activities that do not become part of the final installation,
product, or goods produced, but that are required to complete the project.
• Overhead Labor: Labor portion of costs inherent in the performing of a task that is not
a part of the work, and therefore must be allocated as a business expense
independent of the volume of production.
17
Section 1 : Cost Chapter 4 : Labor
Developing Labor Rates
• Time Units: Year = 12 months, Week = 5 days, Day = 8 Hours, Year = 52 Weeks
• Base Wages: Amount that will go directly to the employee (usually per hour).
• Fringe Benefits: Paid time off PTO (Sick time, vacation, holidays) + Medical/Life Insurance.
• Example:
Base wage = $60’000/year = 60’000 /(52x5x8) = $28.8 / hour
PTO: Considering yearly (5 days sick, 10 vacation, 10 holidays)
Sick time = 28.8 x 5 x 8 = $1’154 / year
Vacation = 28.8 x 10 x 8 = $2’308 / year
Holidays = 28.8 x 10 x 8 = $2’308 / year
PTO = $5’770 / year
Working hours / Year = (52x5x8) – (5x8 + 10x8 + 10x8) = 1880 hrs
PTO = $5’770 / 1880 = $3.07 / hr
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Section 1 : Cost Chapter 4 : Labor
Developing Labor Rates
Medical Insurance / Government Benefits
Considering the following:
• Medical insurance= 400/month = 400 x 12 / 1880 = $2.55/hr
• Retirement contribution (> 401K) = 300/month = 300 x 12 / 1880 = $1.91/hr
• Government mandated benefits (US Only) are
 6.2% retirement = 6.2% x 28.85 = $1.79/hr
 1.35% retirement medical = 1.35% x 28.85 = $0.39/hr
 1 % state unemployment = 1% x 28.85 = $ 0.29/hr
Total medical insurance = 2.55 + 1.91 + 1.79 + 0.39 + 0.29 = $6.93/hr
Total Benefits = 3.07 + 6.93 = $10/hr
Total wage = 28.85 + 10 = $38.85/hr
Benefits adder = 10 / 28.85 = 34.7 %
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Section 1 : Cost Chapter 4 : Labor
Developing Labor Rates
• Fully Loaded Rate (Billing Rate):
It’s the base salary + adders + overhead + profit. On time & material basis, owner
pays for worker job only and doesn’t pay for sick leaves, vacations, holidays.
• Indirect Labor:
1. Direct estimate of the indirect staff required.
2. Using historical data (ex: 25% or 30% of direct labor cost).
• Overtime:
When calculating Overtime, (PTO, insurance, and some governmental programs) are
not added to overtime. Some other governmental retirements such as social security
and Medicare are usually added to overtime.
20
Section 1 : Cost Chapter 4 : Labor
Weighted average Rates (Crew Composition)
Example: If working 10 hrs/day for two weeks, 10 hours for two Saturdays.
Normal time: 40 hrs x 2 weeks x $23.83 x 9 workers = $17’158
Overtime : $18.33 x 1.5 = $27.5/hr with benefits adder (say) 7.5% = $29.56/hr
(5 days x 2 hrs + 8 hrs Saturday ) x 2 weeks x $29.56 x 9 workers = $9’577
Double Time: $18.33 x 2 = $36.66/hr with benefits adder (say) 7.5% = $39.41/hr
(2 hrs Saturday ) x 2 weeks x $39.41 x 9 workers = $1’418
21
Section 1 : Cost Chapter 4 : Labor
Factors Affecting Productivity
• Will union or non-union craft labor be used?
• Is sufficient labor available locally?
• If the area is remote, do workers have to be bused in?
• What will the weather conditions be like (hot, cold, rainy, etc.)?
• Are there any local holidays?
• Are temporary living quarters needed?
• Is overtime necessary to attract workers?
• What are the standard work hours and work days?
22
Section 1 : Cost Chapter 5 : Engineering
Chapter 5
Engineering
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Section 1 : Cost Chapter 5 : Engineering
Product, Project, and Process Development (1/2)
• Pure / Basic Research: Work without a specific particular end product such as
examining the interactions of different chemical compounds.
• Applied Research: The attempt to develop usable products or add new feature-sets
to existing products. It’s carried out by the organization producing the product.
• Computer-Aided Design/Engineering CAD/CAE: Utilization of computerized work
stations and software to develop and analyze a product, project, or process design.
• Computer-Aided Manufacturing CAM: CAD/CAE ported directly into CAM software.
Design is directly sent to machines like CNC Computer-numerically controlled.
24
Section 1 : Cost Chapter 5 : Engineering
Product, Project, and Process Development (2/2)
• Prototypes: Developed prior to large-scale production to (1)test designs and also to
(2)test customer reaction. Prototype development is expensive, but is less expensive
than discovered after numerous units are in customer hands.
• Patents & Trade Secrets: Organizations wishing to emulate patent’s provisions will
develop different approach different or pay to the patent holder. (In USA 17 Years).
• Product Liability: Those injured by a product can seek compensation for their
damage. The tort law in this area has evolved over decades from a concept of
“buyer beware” to a concept of “seller beware”.
25
Section 1 : Cost Chapter 5 : Engineering
Product, Project, and Process Design (1/2)
• Standardization: The attempt to base product designs. The advantages are lower
costs, shorter time, and maintenance personnel are more familiar. The disadvantage
that If there is a flaw, it will be spread over a wide variety of products.
• Process Selection: Relates to production methods, continuous and discrete.
1. Continuous production methods such as petrochemical plants, power plants and
manufacturers with assembly-line methods. It’s less expensive in the long run.
2. Discrete production such as pre-cast concrete plant, or structural steel fabrication
shop. It has a higher labor factor. Favored where labor costs are less expensive.
Some products will envelope both methods sometimes by the same firm.
26
Section 1 : Cost Chapter 5 : Engineering
Product, Project, and Process Design (2/2)
• Manufacturability: Slight modifications in a design that promote ease of product
assembly without affecting the product. Designs should be:
1. Forgiving of minor inaccuracies
2. Easy to fabricate,
3. Based on efficient utilization of labor, materials, and equipment
• Constructability: The Counterpart of manufacturability applied to constructed
projects to pinpoint problems before designs are developed to the point where
changes create significant delays and associated costs.
• Make-or-Buy Decision: Which items should be subcontracted out and which should
be made in-house. Do organization’s quality and cost on an item can compete with
outside suppliers. If trade secrets are involved, the decision will typically be to make
the item, The goal is to enhance overall quality at a lower cost.
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Section 1 : Cost Chapter 5 : Engineering
Engineering Production / Construction (1/2)
• Production Health & Safety: An accident results in the loss of a trained worker and
an interruption in the process. Systems must be selected that reduce/eliminate the
potential of accidents.
• Facility Layout: Decisions as to arrangement, including equipment location, labor
location, and services location. Layout decisions should always consider the
potential impact of additional demand therefore considering future expansion.
• Assembly And Flow Process Charts: Assist in planning the facility layout. They help
to analyze production operations in terms of operations sequences performed,
distances between operations, and operation time requirements.
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Section 1 : Cost Chapter 5 : Engineering
Engineering Production / Construction (2/2)
• Quantitative Analysis In Facility Layout.
1. Linear programming is a mathematical technique that is widely used in finding
optimal solutions to problems.
2. Monte Carlo techniques can be used to simulate wait time for a crane in a
plant and its cost impact. Data can be generated via computer programs with
random number generators.
• Reengineering: Redesign of process to achieve improvements such as cost, quality,
service, and speed. Ex: Let your supplier monitor your inventory of their supplied
items. Reengineering focuses on the optimization of the total organization, rather
than sub-optimization of individual departments. Moreover, reengineering focuses
on the “whys” of an action or process as opposed to the “hows”.
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Section 1 : Cost Chapter 6 : Equipment
Chapter 6
Equipment, Parts, and Tools
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Section 1 : Cost Chapter 6 : Equipment
Equipment Value Categories
1. Replacement Cost New
• Reproduction Cost: The cost new of an identical item.
• Replacement Cost: The cost new of an item having the same or similar utility.
• Fair Value: Cost new of an item considering similar items cost, and taking into
account utility and all standard adjustments and discounts to list price.
• Sources of Data:
• Manufacturers price lists
• Sales representatives
• Manufacturers or dealers quotations
• Past transactions invoices and purchase orders
• Journals and trade shows literature
31
Section 1 : Cost Chapter 6 : Equipment
Equipment Value Categories
2. Market Value
• Fair Market Value-in-Place: Value expected between a willing buyer and a willing
seller, both not under any compulsion and taking into account installation and
the contribution of the item to the operating facility.
• Fair Market Value-in-Exchange: Value expected to be exchanged in a third-party
transaction between a willing buyer and a willing seller, both not under any
compulsion, also referred to as retail value
• Orderly Liquidation Value: Probable price for all assets from an orderly
liquidation, given a maximum six months to conduct sale and adequate funds
available for the remarketing campaign, also referred to as wholesale value.
• Forced Liquidation Value: Value of equipment that can be derived from a
properly advertised and conducted auction where time is of the essence, also
referred to as “under the hammer” or “blow-out” value.
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Section 1 : Cost Chapter 6 : Equipment
Equipment Value Categories
2. Market Value
• Salvage Value/Part-Out Value: Value of equipment that a buyer will pay to a
seller, recognizing the component value of parts of the equipment that can be
used or resold to end-users, usually for repair or replacement purposes.
• Scrap Value: Value of equipment that relates to the equipment’s basic
commodity value. For example, dollars per ton of steel or pound of copper.
• Sources of Data:
• Sales advertisements for used equipment
• Used equipment dealers
• Used equipment quotations in previous transactions
• Market data publications
• Auction “sales catalogs” available from auction companies
• Past sales results from one’s own firm.
33
Section 1 : Cost Chapter 6 : Equipment
Equipment Value Categories
Market Value Example:
Orderly Liquidation Sale = Purchase price at auction = $5,500
De-installation, rigging, shipping, and delivery to warehouse = $600
Cost of money (90 days to sell, 10% rate ) = 3 x $6,100 x 10% = $154
Overhead (20%) = $5,500 x 20% = $1,100
Profit (20% of purchase price plus de-installation ) = $6,100 x 20% = $1,220
Min. desired selling price = $5,500 + $600 + $154 + $1,100 + $1,220 = $8,574
Retail Asking = Ask advertise for sale = $9,800
Fair Market Value-in-Exchange = Take (sale to end user) $8,600
Buyer (end user) pays sales tax (6%) $516, Delivery $600, Installation and
debugging $1,400
Fair Market Value-in-Place = $8,600 + $516 + $600 + $1,400 = $11,116
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Section 1 : Cost Chapter 6 : Equipment
Equipment Value Categories
Cost Adjustments : To normalize data, the following considerations should be addressed
• Different years of manufacture
• Utilization (amount of wear/use)
• Condition
• Different attachments, drive motors, etc.
• Location of the sale (market area vs. a remote area)
Condition Terms and Definitions Example:
• Excellent (E): New condition, no defects, and may still be under warranty.
• Good (G): Good appearance, may recently overhauled but no repairs required.
• Average (A): Operating 100 %, but may need repair or replacement in the future.
• Fair (F): High utilization, defects are obvious and will require repair soon.
• Poor (P): Not operational, requires repair, or overhaul before it can be used
35
Section 1 : Cost Chapter 6 : Equipment
Equipment Value Categories
Data Filing Systems : Most firms file data using one of four methods
1. Standard Industrial Classification (SIC) code where data is stored in broad
industry category codes, such as #34-machine tools, #44-marine, etc. This
method is quite effective when utilizing an electronic database.
2. List data by equipment class and type, such as crane, trailers, or bulldozer.
3. Lists equipment by industry category, such as construction, mining, or aircraft.
4. Manufacturer’s name, such as Caterpillar construction equipments, Boeing
commercial aircraft, and IBM-computers, etc.
36
Section 1 : Cost Chapter 6 : Equipment
Equipment Residual Values:
Residual Value Curve:
1. Normal Curve: long-lived equipment, usually L-Shape.
2. Disrupted-Market: Usually U-Shape, results from equipment
shortage or regulatory pressures causing suddenly deviation.
3. Regulatory Change Curve: Illustrates sudden impact on market
value that regulation can cause
4. High Obsolescence Curve: Illustrates impact of technological
obsolescence such as computers and high-tech equipment.
37
5. New Tax Law / High Inflation Curve: Tax laws
and inflation can cause a normal residual curve
to rise in a short time.
Section 1 : Cost Chapter 6 : Equipment
Variables That Affect Residual Value (1/4)
1. Initial Cost: For residual purposes, the estimator should consider hard costs only.
Hard cost includes the cost new + items necessary to make it operate such as
motors, electricals, and controls. Soft costs should not be included such as
foundations, freight, debugging, taxes, and installation.
Example: A transaction valued at $2.1 million. Subsequent investigation found that
basic cost of the machine was $1.5 million, the soft cost was $600’000.
Residual curve indicated 30 percent of the new cost.
Total Cost: $2.1 million x 30% = $630,000
Hard Cost: $1.5 million x 30% = $450,000
Difference = $180,000
This difference could present a future shortfall.
In some instances, such as a lease or financing or life-cycle costing, soft costs should
be considered in determining residual values.
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Section 1 : Cost Chapter 6 : Equipment
Variables That Affect Residual Value (2/4)
2. Maintenance: It can affect the useful life of equipment. In calculating a residual
value, estimators must consider how the equipment will be maintained and/or the
maintenance provisions in the lease.
3. Use, Wear, and Tear: Equipment in harsh service versus mild service can be
substantial. Ex: hopper used in grain service lives 40 to 50 years. However, if used in
salt service, their useful lives can be as short as 15 years.
Some types of equipment, such as aircraft, define use in hours of utilization and
cycles (takeoffs and landings); other transportation equipment defines use in miles
per year. Most mechanical equipments tend to wear out at around 10,000 to 20,000
hours. At these milestones, usually some form of rebuild is required.
4. Population: This gives statistical significance to the residual value, because the value
will be based on a large sample.
39
Section 1 : Cost Chapter 6 : Equipment
Variables That Affect Residual Value (3/4)
5. Age: Equipment presented as new in January 2003 could have a 2001 or 2002 build
date. Both are new with the same condition but the price is different.
6. Economy: A used truck in a robust economy may be sold for lower price and longer
time in a recession. Cost of money should also be calculated in the overall cost.
7. Changes in Technology: An analysis of technological changes occurring over the past
20 years shows that future advances in technology were generally known at the time
of lease origination. time necessary to “fix” an image from minutes to seconds.
8. Foreign Exchange: Changes in foreign exchange value could affect selling / residual
value, causing them to suddenly drop or increase. Strong foreign currency may rise
the price of foreign equipment, which in turn, may pull residuals up, and vice versa.
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Section 1 : Cost Chapter 6 : Equipment
Variables That Affect Residual Value (4/4)
9. Tax Law: Sometimes tax laws can affect new equipments price, hence affecting used
equipment price.
10. Legislation/Regulation: Regulations may impact values in positive ways, however,
the impact is often negative.
11. Equipment Location: Does the equipment required to be delivered to a prime
market location or will it have to be sold in a remote area?
12. Method of Sale: Price of cash sales will not be like installment sales.
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Section 1 : Cost Chapter 7 : Economic Costs
Chapter 7
Economic Costs
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Section 1 : Cost Chapter 7 : Economic Costs
43
Types of Costs
1. Opportunity Cost: Foregone benefit by choosing one alternative over another. A
company has 3 investments options with ROI = 1.37, 1.34, 1.32. The opportunity cost
of choosing the 1.34 is 0.33 loss for not exploiting the higher ROI investment.
2. Sunk Costs: Funds already spent by past decisions. Since these expenditures are in
the past, they should not influence current decisions.
3. Book Costs: Original cost less any depreciation. They do not represent cash flow and
thus are not taken into account for economic decisions. If market price is lower than
the original price, price will be carried at the lower of cost or market value.
4. Incremental Costs: When comparing between many alternatives, cost differences
between them are called incremental costs. Ex: If two units have annual costs of
$1,500, $1,800, then incremental cost difference is $300.
Section 1 : Cost Chapter 7 : Economic Costs
44
Changes In Costs (1/2)
1. Inflation: A rise in the price level that does not occur by itself but must have a
driving force behind it. There are four effects that can result in inflation:
I. Money supply: Influenced by central bank operations. A loosening of monetary
policy will increase the flow of money, which means increased money is
chasing the same amount of goods. This bids up price resulting in inflation.
II. Exchange rates: They influence price of imported goods. If the import is a basic
industrial commodity, utilized in several products, this will lead to inflation.
III. Demand-pull inflation: When excessive quantities of money are chasing a
limited amount of goods resulting in what is essentially a “seller’s market” as
sellers receive premium prices
IV. Cost-push inflation: It takes place when product producers encounter higher
costs and then push these costs along to others in the production chain
through higher prices.
Section 1 : Cost Chapter 7 : Economic Costs
45
Changes In Costs (2/2)
2. Deflation: A fall in the general price level for goods. The same factors of money
supply, exchange rates, demand-pull, and cost-push factors operate but in the
opposite direction with a resultant decrease in prices.
3. Escalation: A technique to accommodate price increases or decreases during
contract life. A clause is incorporated into the contract so that the purchaser will
compensate the supplier in the event of price changes. Without such clauses,
suppliers would include contingency amounts that might not used. The supplier
would gain from this windfall while the purchaser would be the loser.
4. Currency Variation: A significant cost impact both on those inside the country as
well as those outside the country. Protection can be accomplished through:
1. Currency futures hedging or
2. Valuing contracts against very stable currencies.
Section 1 : Cost Chapter 7 : Economic Costs
46
Governmental Cost Impacts (1/2)
1. Taxes: Ex: Income taxes, property taxes, inventory taxes, employment taxes, and
sales taxes. In the case sales taxes, the firm acts as the tax collector for the
government adding the sales tax and collecting it from customers. Some countries
have a value-added tax (VAT) applied to the added value. Therefore, if a firm took
$100 worth of raw materials and produced a product valued at $250, the (VAT)
would be applied to the $150 difference or value added by the firm.
2. Effective & Marginal Tax Rates:
• Effective tax rate (Average tax rate) = (Tax Liability / Total Taxable Income).
• Marginal tax rate is the tax rate on the next dollar of taxable income. For
financial decision-making, marginal tax rate is a key element because the firm is
concerned with the tax impact of additional income.
Section 1 : Cost Chapter 7 : Economic Costs
47
Governmental Cost Impacts (2/2)
3. Investment Tax Credits : To encourage economic activity, governments may give
firms tax credits ‫اعفاء‬‫ضريبي‬ based on location, equipment type, or certain public goals
such as equipment that reduces energy consumption.
4. Depreciation and Depletion:
• Depreciation: Governmental entities allow depreciation to encourage investment
in equipment. Depreciation is a non-cash expense that reduces taxable income. It
provides an incentive for firms to invest in new plant and equipment based on
original equipment costs (inflation cannot be taken into account for these
purposes). The rationale underlying depreciation is that physical assets lose value
over time due to such factors as deterioration, wear, and obsolescence.
• Depletion : Analogous to depreciation but for natural resources. Thus, owners of
a stone quarry or an oil well can take depletion allowances based on the
percentage of the resource used up in a given time period.
Section 1 : Cost Chapter 7 : Economic Costs
48
Depreciation Techniques (1/2)
1. Straight-Line Depreciation : D = (C - S) / N
Where: D = depreciation charge, C = asset original cost, S = salvage value, and
N=asset depreciable life (years).
Ex: Asset with a $8’000 original cost, 5-years life, and $400 salvage value.
D = ($8’000 – $2’000) / 5 = $6’000 / 5 = $1’200
2. Double-Declining Balance Depreciation (DDM): D = ( 2 / N ) (BVt-1)
Where: D = depreciation charge, C = asset original cost, BV = Book value at given
year, and N = asset depreciable life (years).
Ex: For the previous example,
Year Calculation Dep. Amount Allowable Dep. Book Value
1 (2/5) x (8000) $3’200 $3’200 $4’800
2 (2/5) x (4800) $1’920 $1’920 $2’880
3 (2/5) x (2880) $1’152 $880 $2’000
Total - $6’272 $6’000 -
Section 1 : Cost Chapter 7 : Economic Costs
49
Depreciation Techniques (2/2)
3. Sum-of-Years Digits Depreciation (SOYD): Dr = (C - S) x [ (N-r+1) / ((N(N + 1) /2 )]
Where: Dr = Depreciation charge for the rth year, C = asset original cost, S = salvage
value, N = remaining asset depreciable life (years), r = rthyear.
Ex: For the previous example,
4. Modified Accelerated Cost Recovery System Depreciation (MACRS):
• Unique to the United States Tax Code.
• Based on original asset cost, asset type, asset recovery period.
5. Units of Production Depreciation:
• Utilized when depreciation is more accurately based on usage instead of time.
Year Calculation Dep. Amount
1 (8000 – 2000) x (5/15) $2’000
2 (8000 – 2000) x (4/15) $1’600
3 (8000 – 2000) x (3/15) $1200
4 (8000 – 2000) x (2/15) $800
5 (8000 – 2000) x (1/15) $400
Section 1 : Cost Chapter 7 : Economic Costs
50
Economic Analysis Techniques
Time Value of Money:
In order to compare different alternatives on the same basis, these cash
amounts of income and expenditures must be set to equivalent terms.
Section 1 : Cost Chapter 7 : Economic Costs
51
Economic Analysis Techniques
1. Net Present Worth Method (NPW):
Ex: Unit A price=$10’000, life=4years, salvage=0, Annual maintenance = $500/year.
Unit B price=$20’000, life=12year, salvage=$5’000, maintenance costs are Year1=0,
Year2=$100 and increase by $100/year. The firm’s cost of capital is 8 percent.
Solution:
• Life is different and the common multiple is 12 years
• NPW(A)= 10’000 + 10’000/1.084 + 10’000/1.088 + 500 x [(1.0812-1)/(0.08x1.0812)]
= 10’000 + 7350.3 + 5402.7 + 3768 = 26’521
• NPW(B)=20’000+ 100 x [ (1.0812 -0.08x12-1)/(0.0812 x 1.0812)] – 5000/1.0812
= 20’000 + 3463 - 1985.6 = 21’277.82
Decision: Select unit B that has the least cost.
Section 1 : Cost Chapter 7 : Economic Costs
52
Economic Analysis Techniques
2. Capitalized Cost Method: A = P x I
Capitalized cost (CC) represents the present sum of money that needs to be set
aside now, at some interest rate, to yield the funds required to provide the
service.
Example:
A bridge is built for $5,000,000 and will have maintenance costs of $100,000
per year. At 6 percent interest, what is the capitalized cost of service?
Solution:
Maintenance Capitalized Cost = ($100,000) / 0.06 = $1’666’667
Section 1 : Cost Chapter 7 : Economic Costs
53
Economic Analysis Techniques
3. Equivalent Uniform Annual Cost or Benefit (EUAC/EUAB): (P-S)(A/P,I,n) + SI
The comparison may be made on the basis of equivalent uniform annual cost
(EUAC), equivalent uniform annual benefit (EUAB) or on the EUAB-EUAC difference.
Example : Unit A has an initial cost of $20,000 and $3,000 salvage value, while Unit
B has an initial cost of $15,000 and $2,000 salvage value. Unit A has a life of 10
years, whereas Unit B has a 5-year life. Cost of capital is 10 percent.
Solution:
EUACA = P (A/P,I,n) – S (A/F,I,n) or you can use the formula above
= 20’000 x0.1 x 1.110 / (1.110 - 1) - 3’000 x0.1 / (1.110 -1 )
= 3254.9 – 188.24 = $3066.67
EUACB = 15’000 x0.1 x 1.15 / (1.15 - 1) - 2’000 x0.1 / (1.15 -1 )
= 3429.37 – 327.59 = $3629.37
Decision: Select unit A that has the least annuity.
Section 1 : Cost Chapter 7 : Economic Costs
54
Economic Analysis Techniques
4. Rate of Return Analysis (ROR):
Many organizations often set hurdle rates (benchmark rate of return) that a capital
investment decision must achieve to be acceptable. In the case where investment
funds are limited, projects with the highest ROR values can be selected.
Example : Unit A cost of $20,000 and Unit B of $10,000 and each 1-year life.
Incremental benefit of $15,000 for A compared to B. Organization hurdle rate is 20%.
Solution:
NPW (A vs B) = 20’000 – 10’000 = $10’000
P = F / (1+i)n  (1+i)n = F/P
(1+i)1 = 15’000 / 10’000 = 1.5  1+i = 1.5
i= 0.5  ROR = 50%
Decision: As long as ROR > 20%, investment is OK.
Section 1 : Cost Chapter 7 : Economic Costs
55
Economic Analysis Techniques
5. Benefit-Cost Ratio Analysis Method:
If B/C > 1 then project is viable. If comparing projects, take the highest B/C ratio.
Example : A Benefits= $1’500’000 and Cost= $1’200’000. B Benefits= $2’000’000 and
cost= $1’700’000
Solution: B/CA = 1.25 B/CB = 1.17
Decision: Take the highest B/C which is for A
6. Payback Period Method:
• Period of time necessary for the benefits to pay back the associated costs.
• Differences in the timing of cash flows are not considered nor are benefits and
costs beyond the payback period.
• Example: Investment of $4,000 with benefits of $800 per year would have a
payback period of 5 years ($4,000/$800 = 5 years).
Section 1 : Cost Chapter 8 : ABC Management
Chapter 8
A c t i v i t y - B a s e d
C o s t M a n a g e m e n t
56
Section 1 : Cost Chapter 8 : ABC Management
57
Overhead Expenses Are Displacing Direct Costs
• Over the last few decades, overhead expenses
have been displacing the recurring costs.
• Organizations have visibility of direct costs, but not have any insights into overhead
or its reasons. ABC/M can help provide for insights.
• Most of people believe that overhead expenses are displacing direct costs because
of technology, equipment, automation, or computers.
• The primary cause for the shift is the increasingly offering of variety of products,
using more types of sales channels, and servicing different types of customers. This
creates complexity which results in more overhead expenses to manage it.
• ABC/M does not fix or simplify complexity, but points out where the complexity is
and where it comes from.
Section 1 : Cost Chapter 8 : ABC Management
58
Expressing Activities And Tracing Expenses
General Ledger ABC/M
Transaction-centric Work-centric
Uses chart of accounts Uses chart of activities
What was spent What it was spent for
Records the expenses
Calculates the costs of
activities and unit cost
Organized around cost
centres to accumulate
transactions into their
accounts. But this
format is deficient for
decision support
Describes activities using
an “action verb- adjective-
noun” format, such as
inspect defective
products, open new
customer accounts
Section 1 : Cost Chapter 8 : ABC Management
59
Drivers triggers
• It’s what would make activity cost increase or decrease
• Ex of activity is “Analyze claims”, Ex of Driver is “Number of claims analyzed”.
Cost Re-Assignment Network
ABC re-assigns 100 % of the costs into the final products, service lines, and customers. In
short, ABC connects customers to the unique resources they consume. ABC cost re-
assignment network consists of the three modules connected by cost assignment paths.
1. Resources: The capacity to perform work. Ex: salaries and materials. They are traced
to work activities to convey resource expenses into the activity costs.
2. Activity Module: It’s where work is performed. It contains the structure to assign
activity costs to cost objects
3. Cost objects: At the bottom of the cost assignment network, represent outputs and
services where costs accumulate. Ex: Products, service lines, and customers. The
customers are the final-final cost objects.
Section 1 : Cost Chapter 8 : ABC Management
60
Using Attributes of ABC
• One role for calculating costs is to identify which activities are :
1. Not required and can be eliminated (Ex: Duplication of effort)
2. Ineffectively accomplished and can be reduced
3. Required to sustain the organization (not be possible to reduce or eliminate).
4. Discretionary and can potentially be eliminated (Ex: Annual employees’ picnic).
• Traditional methods do not provide any way to tag/highlight individual costs. ABC/M
allow managers to differentiate activities from one another.
• Example of tags are:
 very important / required / postponable.
 High-value-adding / low-value-adding.
 Exceeds / meets / below customer expectation.
• Multiple attributes can be applied.
Ex: performance (vertical axis) and importance (horizontal axis).
Section 1 : Cost Chapter 8 : ABC Management
61
Local vs. Enterprise-Wide ABC/M
• A common misconception is that ABC/M system must be enterprise-wide. However
In practice, the majority of ABC/M is applied to subsets of the organization for
process improvement rather than revenue enhancement.
• The local model is used for tactical purposes, often to improve productivity. In
contrast, the enterprise-wide model is often used for strategic purposes because it
helps focus on where to look for problems and opportunities.
• Also, enterprise-wide models are popular for calculating profit margin at all levels.
• Commercial ABC/M software now enables consolidating some, and usually all, of the
local, children ABC/M models into the enterprise-wide, parent ABC/M model.
Section 1 : Cost Chapter 8 : ABC Management
62
Applications Of Local ABC/M
• The objective of local ABC/M models is not to calculate the profit margins; it is to
compute the diverse costs of outputs to better understand how they create the
organization’s cost structure.
• An interesting application is when marketing department is trying multiple tools,
such as newspapers, radio, television, tradeshows, Websites, ...etc.
ABC/M calculation determine the costs versus benefits of all the channel
combinations to rank in order which are the least to best return on spending.
Why ABC/M ?
• In the past, most organizations were reasonably profitable. They could make
mistakes, and their adequate profitability would mask the impact of their wrong or
poor decisions. However, error margin today is slimmer. Businesses cannot make
many mistakes as in the past and remain competitive or effective.
• Mature users try to integrates ABC/M output data with their decision support
systems, such as their cost estimating, predictive planning, budgeting, activity-based
planning (ABP) systems, customer relationship management (CRM), and balanced
scorecard performance measurement systems.
Section 2 : Cost Estimating Chapter 9 : Estimating
Sec 2
Cost Estimating
1
Chapter 9
Estimating
2
Section 2 : Cost Estimating Chapter 9 : Estimating
Introduction
• Why Estimating:
1. Determining the economic feasibility of a project,
2. Evaluating between project alternatives
3. Establishing the project budget
4. Providing a basis for project cost and schedule control
• Estimating Steps:
1. Understand scope of the activity to quantify the resources required,
2. Apply costs to the resources
3. Apply pricing adjustments
4. Organize the output in a way that supports decision-making.
• Estimate Accuracy:
• Each subsequent decision-making point (whether project should be
continued) requires cost estimates of increasing accuracy.
• Estimating is an iterative process that is applied in each phase of the
project life cycle as the project scope is defined, modified, and refined.
3
Section 2 : Cost Estimating Chapter 9 : Estimating
Estimate Classifications
4
Section 2 : Cost Estimating Chapter 9 : Estimating
Estimating Methodologies
5
A. Conceptual B. Deterministic
Project
Definition Level
Low level of Project Definition
High level of Project
Definition
Independent
Variable used in
estimating algorithm
Not direct measure of units
Direct measure
Item x unit cost
Effort
Significant effort in data
gathering and cost analysis.
Preparing estimate itself takes
little time sometimes an hour.
Large effort, sometimes
weeks or even months.
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
• Used for class 4 or 5 (sometime for class 3)
• Referred to as order of magnitude (OOM) in reference to the wide range of
accuracy.
• May be used for project screening, feasibility evaluation, initial budget.
• Common used methods are:
1. End-Product Units Method
2. Physical Dimensions Method
3. Capacity Factor Method
4. Ratio / Factor Method
5. Parametric Method
6
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
1. End-Product Units Method:
• Used when enough historical data available from similar projects such as
electric plant and its capacity in kilowatts, a hotel and the number of guest
rooms, or a hospital and the number of patient beds.
• Ex: A 1’000 guest rooms hotel was completed for $67,500,000. Therefore,
the cost of the 1,500 room hotel is $101,250,000 ($67,500/1,000 x 1,500).
• This meets the needs of the feasibility study, however it has ignored several
factors like scale, location, or timing. Cost indices can be used for adjustment.
2. Physical Dimension Method:
• Use length, area, volume, … etc as the driving factor such as building area in
m2 or pipeline length in m.
• Ex: 2900 m2 warehouse was built for $623’500. A new ware house of 3’600
m2. The expected cost will be $623’500 / 2900 x 3600 = $774’000
• We have ignored quality specifications between the two warehouses.
7
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
3. Capacity Factor Method:
• It relies on the nonlinear relationship between capacity and cost.
• $B = $A (CapB / CapA)e. Where B is the facility being estimated, “e” is the
exponent or proration factor, typically lies between 0.5 and 0.85
• If e is less than 1, capacity increases by a percentage (say, 20 percent), the
costs to build the larger facility increase by less than 20 percent.
• Capacity factor also referred to as the “scale of operations” method or the
“six tenth’s factor” method due to the common reliance on e = 0.6
• With e = 0.6, doubling the capacity increases costs by approximately 50 %
and tripling the capacity increases costs by approximately 100 %.
• As e tends towards a value of 1, it becomes more economical to build two
facilities of a smaller size than one large facility.
8
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
3. Capacity Factor Method:
• Example: 100’000 BBL/day hydrogen peroxide unit to be built in Philadelphia
and completed in 2004. We have recently completed a 150,000 BBL/day
plant in Malaysia with a final cost of $50 million in 2002. Our recent history
shows a capacity factor of 0.75 is appropriate.
• Solution: $B = $50 x (100/150)0.75 = $36.89 M
• Example: Assume adjustment for scope(-10M) for piling, location(1.25)
higher cost, timing(1.06) multiplier, and additional cost for pollution(5M).
• Solution:
$50 - $10 piling not required = $40 M
$40 x 1.25 location = $50 M
$50 x 1.06 timing = $53 M
$B = $53 x (100/150)0.75 = $39 M
$39 + $5 Pollution Cost = $44 M
9
Steps
1. Deduct costs N/A in new plant
2. Adjust location and escalation
3. Apply capacity factor
4. Add additional costs required
for the new plant
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
4. Ratio Factor Method:
• Used when cost can be estimated from a primary component cost, This is
often referred to as “equipment factor” estimating.
• Estimate is often a feasibility estimate (Class 3). Then may be used to justify the
funding required to produce a budget estimate (Class 3).
• Factors may estimate Total Installed Costs (TIC) or Direct Field Cost (DFC) for
the Inside Battery Limits (ISBL) facilities, however sometimes appropriate
factors are used to estimate the costs of the complete facilities.
• Hans Lang (1947):
Total plant $ = total equipment $ x equipment factor.
Factors based on process type (Solid Process Plant 3.1 , Solid-Fluid Process
Plant 3.63, Fluid Process Plant 4.74 ). Lang’s factors cover ISBL & OSBL costs.
Ex: A fluid process plant with estimated equipment cost = $1.5M
Total plant cost = $1.5M X 4.74 = $7.11M
10
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
4. Ratio Factor Method:
• W. E. Hand(1958):
• Elaboration for Lang’s method proposing factors for type of equipment
such as vessels or heat exchangers. Hand’s factors for equipment
excluding instrumentation range from 2.0 to 3.5 and if including
instrumentation they range from 2.4 to 4.3 . Hand’s factors estimated
DFCs and excluded indirect field costs (IFC), home office costs (HOC), and
the costs for outside battery limit (OSBL).
11
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
4. Ratio Factor Method:
• W. E. Hand(1958):
12
Section 2 : Cost Estimating Chapter 9 : Estimating
1. Equipment cost x factor
2. Sum to calculate DFC
3. DFL (labor) = 25% x DFC
4. IFC = 115% x DFL
5. HOC = 30% x DFC
6. Commissioning = 3% x DFC
7. Sum
8. Contingency = 15% x Sum
9. Total
A. Conceptual Estimating Methodologies
4. Ratio Factor Method:
• Arthur Miller (1965):
 Miller recognized impact of (1)Size, (2)metallurgy, (3)operating pressure).
 When size gets larger, amount of corresponding materials (foundation,
support steel, piping, instruments) does not increase at the same rate. Thus,
as equipment size increases, value of the equipment factor decreases.
 A similar tendency exists for metallurgy and operating pressure.
 Miller suggested that these three variables could be summarized into a single
attribute known as the “average unit cost” of equipment.
 Average unit cost = Total cost of equipment/number of equipment items
 There’s a statistical correlation between increasing average unit cost of
equipment and decreasing equipment factors that if the average unit cost of
equipment increases, then the equipment factor is scaled smaller.
13
Section 2 : Cost Estimating Chapter 9 : Estimating
A. Conceptual Estimating Methodologies
4. Parametric Method
• A correlation between physical or functional characteristics of a plant (or
process system) and its resultant cost [NASA].
• Capacity factor & equipment factor are simple examples of parametric
estimates; however sophisticated parametric models involve several variables .
• Developing a parametric model involves the following steps :
1. Cost model scope determination: End use, physical characteristics.
2. Data collection: Quality of model can be no better than quality of data.
3. Data normalization: Escalation, location, site conditions.
4. Data analysis: Series of linear and non-linear regression analysis will be
run to determine the best algorithm (model).
5. Data application: User interface that accept user inputs then calculate
costs and display results. Spread sheets is an excellent tool.
6. Testing: Test the result validity and accuracy.
7. Documentation: User manual.
14
Section 2 : Cost Estimating Chapter 9 : Estimating
B. Deterministic (Detailed) Estimating Methodologies
• Strategy: Each component of scope is quantitatively surveyed and priced.
• Class: Support final budget authorization, contractor bid tenders, cost control
during project execution, and change orders (Class 3 : Class 1 estimates).
• Minimum required engineering data: Drawings, diagrams, data sheets, layouts,
plot plans, and specifications.
• Pricing data should include:
• Completely detailed estimate: All costs are detailed including DFC, IFC, HOC,
other costs for both ISBL and OSBL facilities.
• Semi-detailed estimate: Costs for the ISBL process facilities are detailed, and the
costs for the OSBL facilities are factored.
• Forced-detailed estimate: Detailed takeoff quantities are generated from
preliminary drawings (incomplete design ).
15
Section 2 : Cost Estimating Chapter 9 : Estimating
1. Vendor quotations 2. Recent purchase orders 3. Current labor rates
4. Subcontract quotations 5. Project schedule 6. Construction plan
B. Deterministic (Detailed) Estimating Methodologies
• Detailed Estimate Steps:
1. Estimate basis and schedule: Review organization procedures and formats,
identify estimating resources and techniques, prepare estimate schedule.
2. Direct field cost (DFC) estimate: Review scope, perform takeoff including
material and labors, then summarize estimates.
3. Indirect field cost (IFC) estimate: Apply in-direct wages and allowances,
apply indirect factors (if applicable).
4. Home office cost (HOC) estimate: Detailed work-hours estimate for
administration / Engineering disciplines then applying wages , factors if any.
5. Sales tax/duty estimates
6. Escalation estimates: Based on project schedule.
7. Project fee estimate (for contractors): Depending contracting strategy.
8. Risk analysis/contingency
9. Review/validate estimate
16
Section 2 : Cost Estimating Chapter 9 : Estimating
B. Deterministic (Detailed) Estimating Methodologies
• Notes for estimating
• Formal vendor quotes are preferred; however sometimes time constraints in
do not permit. In this case, pricing may depend on informal quotes from
vendors like phone discussions, recent purchase orders, capacity factored
estimates from similar equipment, or from parametric pricing models.
• Check equipment list against flow diagrams to ensure all items are identified.
• Ensure that cost of equipment accessories (trays, baffles, ladders) included.
• Freight costs for equipment can be significant. Identified them explicitly.
• Identify required vendor assistance / support costs
• Major spare parts need to be accounted for and included.
• Prepare equipment installation costs.
• Consider costs for calibration, soil settlement, special internal coatings,
hydrotesting and other testing.
17
Section 2 : Cost Estimating Chapter 9 : Estimating
Take-Off:
• It’s quantifying project material & labor. The term take-off is also used to refer to
BOQ. This involves examination of drawings to count each item then quantities
are summarized then costed resulting in project direct field costs.
• Guidelines for preparing an efficient take-off include the following:
• Use pre-printed forms, abbreviate consistently, measure carefully.
• Convert imperial (feet/inch) to decimal.
• Do not round or convert units until final summary.
• Identify drawing/section numbers on take-off forms for future checking.
• Be alert for notes shown on drawings, changes in drawings scale.
• Care to quantify labor operations that may not have material component.
Costing Vs. Pricing:
• Costing is applying unit costs to quantities, usually in the form of labor hours,
wage rates, material costs, and perhaps subcontract costs.
• Pricing, on the other hand, is adjusting costs to allow for overhead and profit.
18
Section 2 : Cost Estimating Chapter 9 : Estimating
Estimating Allowances
• Included in an estimate to account for the predictable but un-definable costs like:
1. Design allowances: To account for continuing design that occurs after
placement of a purchase order. From 2 to 5 % of engineered equipment cost.
2. Material take-off allowances: To cover the cost of undefined materials while
estimating. For example, concrete accessories not included in drawings. From
2 to 15 % of discipline costs.
3. Overbuy allowances: For inventory losses due to damage, cutting waste,
misuse of materials, theft, etc. From 2 to 10 % of discipline material costs.
4. Shipping damage: Usually covered by insurance if detected upon arrival at
site. This allowances are to cover losses that are not covered by insurance.
5. Undefined major items: A particular area of scope may not have progressed
in design but its cost must be included in the estimate.
6. Miscellaneous allowances: Like hand/machine excavation, formwork
accessories, steel connections (bolts & gaskets), piping hangers and guides.
19
Section 2 : Cost Estimating Chapter 9 : Estimating
Factors Affecting Estimate Accuracy
• Level of project definition (Better definition is superior than detailed estimate).
• State of new technology in the project
• Quality of used cost information
• Estimator experience and skill
• Estimating techniques employed
• Level of effort budgeted to prepare the estimate
• Desired end use of the estimate.
20
Section 2 : Cost Estimating Chapter 9 : Estimating
Contingency Reserve
• Definition: Amount added to the estimate to achieve a certain probability
• Contingency Includes: Estimating errors, Incomplete design, Conceptual estimating
for some items, wages variability, labor availability, lower productivity & skills, and
inflation of material and equipments costs.
• Contingency doesn’t Include: Scope changes, disasters & force majeure, strikes,
excessive unexpected inflation, and excessive unexpected currency fluctuations.
Risk Analysis
• Risk Analysis Types:
1. Strategic Risk Analysis Models: Evaluate the level of project definition and
project technical complexity in determining the overall risk to project cost.
2. Detailed Risk Analysis Models: Evaluate the accuracy range for individual or
groups of estimate components in determining the overall risk to project cost.
Both generate probability distributions for the expected final cost outcomes
which are used to determine amount of contingency (difference between
selected funding value and original point estimate).
• Example: Original estimate = $23.3. Probability of not exceeding this value is 20 %
• If We need to achieve 50 % probability,
we would fund project at $25.4M,
Contingency added = $2.1M = 9 %
• If we wanted 70 % probability ,
Fund at $26.6M, contingency = $3.3M
• Note: Contingency does not increase accuracy, however, reduce the level of risk
21
Section 2 : Cost Estimating Chapter 9 : Estimating
Structuring The Estimate
• Project Breakdown System (PBS):
• A numbering system used to identify each cost center
• It must reflect the project execution and the way costs can be collected.
• The matrix of the WBS and RBS forms the project breakdown system (PBS) and
the intersection points are called cost centers.
• Cost code of the labor to pour concrete in the main building: 01-02-C-2-003-1
22
Section 2 : Cost Estimating Chapter 9 : Estimating
Area Building Function Discipline Resource
01
Onsite
01
Admin
A
Engineering
01
Earthwork
001
Labor
02
Offsite
02
Workshop
B
Construction
02
Concrete
002
Material
Cost / Schedule Integrating (1/2)
1. One-to-one approach: Breakdown the estimate to the level of schedule activities.
Problems of this approach:
• Not feasible.
• Activities are subject to more change than cost codes.
• Tracking bulk material costs by activity is difficult and costly.
• Costs are often not incurred at the same time as activities.
2. Integrating at a sufficient level of detail: Keeping both structures identical to a
certain level of WBS then diverge to meet each structure’s control needs.
23
Section 2 : Cost Estimating Chapter 9 : Estimating
Cost / Schedule Integrating (2/2)
• Schedule provide dates that are essential to calculate escalation, cash flow, … etc.
• Estimate provides labor hours essential to determine durations & resource loading.
• Cost reporting system needs to be correlated with schedule progress.
• Cost / schedule breakdown not necessarily compatible, however, aligned at a level.
• Estimate is very sensitive to schedule. Changes to plan may significantly affect cost:
1. Unit material costs are schedule dependent for impacts of inflation and
seasonal variations.
2. Unit labor hours are schedule dependent for seasonal labor availability,
climate, and schedule impacts due to execution plan changes.
3. Wage rates are also sensitive for impacts of inflation, seasonal variation, and
execution plan changes (affecting overtime and/or shift premiums).
• Some costs are dependent on when they occur in the calendar year. Labor
productivity can be adversely affected by weather.
• Shortening project duration may cause overtime, shift premiums, … etc.
24
Section 2 : Cost Estimating Chapter 9 : Estimating
Estimate Review
• Review Types:
1. Team Review:
• Check the math of estimate
• Check basis of estimate (BOE)
1. Design: scope, assumptions, equipment list, drawing list, and specs.
2. Planning: Milestones, resources, calendar, and overtime/shifts use.
3. Cost: Pricing sources, quotes, purchases, allowances, and escalation.
4. Risk: How contingency was determined.
• Check following “Estimating Department” guidelines:
Methods, techniques, procedures, formats, factors, and allowances.
2. Engineering Department Review:
• Check completeness of engineering deliverables (Drawings, specs, lists)
• Check basis of estimate (BOE): Design, cost and risk.
3. Project Manager Review
4. Management Review
5. Review By Others
25
Section 2 : Cost Estimating Chapter 9 : Estimating
Chapter 10
Process Product Manufacturing
26
Section 2 : Cost Estimating Chapter 10 : Process Production
Operating Cost Estimates
• Can be performed on (1) a daily, (2) unit of production, or (3) annual basis.
• Annual is preferred because:
1. It considers seasonal variations.
2. It is readily adapted to less-than-full capacity operation.
3. It readily includes the effect of periodic large costs (scheduled maintenance,
vacation shutdowns, catalyst changes, etc).
4. It is directly usable in profitability analysis.
5. It is convertible to the other bases, daily cost and unit-of-production.
• A basic flow-sheet of the process is vital to preparation of an estimate. To properly
prepare an operating or manufacturing cost estimate, a prepared estimating form
should be used to assure that the estimate is performed in a consistent manner
and to avoid omitting major items. The estimating form acts as a checklist and as a
device for cost recording and control.
Section 2 : Cost Estimating Chapter 10 : Process Production
27
Production Cost Estimating Form
Section 2 : Cost Estimating Chapter 10 : Process Production
28
Production Cost Estimating Form
Section 2 : Cost Estimating Chapter 10 : Process Production
29
Cost of Operations At Less Than Full Capacity
• It’s necessary to perform estimates at full plant capacity and at conditions other
than full capacity. Performing an estimate only at full design capacity does not
consider unscheduled downtime, market fluctuations in product demand, time
required to develop markets for a new product, ... etc.
• When you consider cost effects of operation at less than full capacity, you take into
account the fixed, variable, and semi-variable costs:
1. Fixed Costs: Such as depreciation, property taxes, insurance.
2. Variable Costs: Such as raw materials, utilities, chemicals, and catalysts.
3. Semi-Variable Costs: Such as direct labor, supervision, general expense, and
plant overhead.
• Royalties may be variable, semi-variable, fixed, or even a capital expense. If paid in
a lump sum should be capitalized. If paid in equal annually are fixed costs. If paid
as a fee per unit of production or sales are variable costs. If paid at a rate per unit
of production that declines as production increases are semi-variable.
• Packaging may be variable or semi-variable depending on the situation.
Section 2 : Cost Estimating Chapter 10 : Process Production
30
Cost of Operations At Less Than Full Capacity
• F : Fixed expense
• V : variable expense
• R : Semi-variable expense
• C : Total operating cost
• S : sales income
• N : income to achieve
minimum ROI
• n : Semi-variable fraction
at zero capacity
Section 2 : Cost Estimating Chapter 10 : Process Production
• Variable expense declines to 0 at zero-capacity, fixed expense is constant, and semi-
variable expense at zero-capacity is (20 to 40) % of its value at full capacity.
• (A) Shutdown point (shut down rather than operating at lower rates)
• (B) Breakeven point (Income = total operating cost )
• (C) Minimum return Point.
31
Raw Material Costs
• It can constitute a major portion of operating costs. Hence , a complete list of all
raw materials must be developed considering the following:
1. Unit cost rates and units of purchase (tons, m3, item, etc.)
2. Quantity required per unit of time and/or unit of production
3. Quality of raw materials (concentration, acceptable impurity levels, etc.)
4. Availability in markets.
• Raw materials obtained in-house are not purchased, however, don’t neglect their
cost because they represent a cost to the company. In addition, internal company
freight, handling, and transfer costs must be added.
Section 2 : Cost Estimating Chapter 10 : Process Production
By-Product Credits & Debits
• By-products, including wastes and pollutants, must be considered in the estimate.
• These costs may be credits (if salable or usable) or debits (if wastes or unsalable).
• Cost of treating these products (including equipments) must be included in the
estimate.
32
Utility Costs
• It’s necessary to determine the requirements of utility costs such as plant lighting,
sanitary water, etc.
• Electric rates in the past were stable for many years, this is no longer true, and the
estimator must obtain current rates from the utility companies.
• Natural gas prices depend on quantity required.
• For steam costs, it depends on fuel cost, boiler water treatment, operating labor,
maintenance, etc. Black suggested that steam costs is 2 to 3 times the cost of fuel.
• Water costs are highly variable depending upon the water quality and quantity
required. Purification costs, if contamination occurs before disposal, must also be
included, as must cooling costs if the process results in heating of process water.
• Fuel costs vary with the type of fuel used and the source of supply. Also, consider
the type of firing equipment required and to required fuel storage facilities.
• Utility consumption generally is not proportional to production due to economies
of scale and reduced energy losses on larger process units.
Section 2 : Cost Estimating Chapter 10 : Process Production
33
Labor Costs
• A detailed staffing must be established which indicates: (1) Skill or craft required,
(2) labor rates, (3)supervision required, (4) overhead personnel required.
• Labor costs can be estimated from company records, union wage scales, salary
surveys of various crafts and professions, or other published sources.
• Further, when estimating around-the-clock, 168-hr/wk operations, allowance must
be made for the fact that a week includes 4.2 standard 40-hr weeks.
• An alternate method of calculating labor requirements, if sufficient data are not
available, is to consider a correlation of labor in work hours per ton of product per
processing step. This relationship, which was developed by Wessel :
Section 2 : Cost Estimating Chapter 10 : Process Production
34
Supervision And Maintenance Cost
• Supervision costs established in details. If not possible, 15:20 % of direct labor cost.
• Maintenance labor costs are often estimated as a percentage of depreciable capital
investment per year. For complex plants and severe corrosive conditions 10 : 12 %
or higher. For simple plants with noncorrosive conditions 3 : 5 %.
• Maintenance costs are semi-variable (35 : 40 % direct labor, 7 : 8 % direct
supervision, 35 : 40 % materials, 18 : 20 % contract maintenance.
• As the project evolves toward a final staffing plan, factors can be replaced with
numbers generated from the staffing table.
Section 2 : Cost Estimating Chapter 10 : Process Production
Percent of
capacity
Maintenance cost as %
of cost at full capacity
100 % 100 %
75 % 85 %
50 % 75 %
0 30 %
• When operating at less than 100 % of capacity,
maintenance costs increase per unit of production as
shown in table:
• Maintenance generally increases with age of equipment.
35
Operating Supplies And overhead Costs
• Operating supplies: They are a relatively minor cost of operations. It Includes
miscellaneous items, such as lubricating oil and wiping cloths. Ranges from a few
percent to 20 % of payroll depending upon plant complexity, for example, 6 % in a
coal preparation plant, 20 % in an oil refinery. Better to use past projects records.
• Overhead (burden costs):
• Such as workers’ compensation, pensions, insurance, paid vacations and
holidays, social security, unemployment taxes and benefits, profit-sharing
programs, and a host of others.
• These costs varies from industry to industry, and company records are the best
measure of their magnitude. However, in the absence of company data, payroll
overheads may be roughly estimated at 25 : 40 % of ( direct labor + supervision
+ maintenance labor costs).
• Operating company testing and research laboratories is another overhead
expense which must be included in the estimate. It’s best estimated based upon
company experience or as a percentage 3 : 20 % of direct labor costs.
Section 2 : Cost Estimating Chapter 10 : Process Production
36
Royalties And Rentals:
• Royalties may be variable, semi-variable, fixed, or capital costs (or a combination of
these), and the same is true of rental costs.
• Royalty expenses, in the absence of data, are treated as a direct expense and may
be estimated at 1 : 5 % of the product sales price.
Section 2 : Cost Estimating Chapter 10 : Process Production
37
Contingencies:
• Cost estimate should include contingency to account for undetermined costs.
• Contingency allowance applies both to direct and indirect costs.
• It ranges from 1 : 5 % depending upon uncertainty in data used.
• Hackney has suggested the following guidelines:
1. Installations similar to those currently used by the company for which standard
costs are available: 1 %
2. Installations common to the industry, for which reliable data are available: 2%
3. New installations that have been completely developed and tested: 3 %
4. New installations that are in the development stage: 5 %
General Works Expense (Factory Overhead)
• It represents the factory indirect cost and depends on investment and labor.
• It does not include general expense (marketing/sales cost, administrative expense).
• Black’s suggested that :
Factory overhead = (Investment x investment factor)+ (Labor x labor factor).
In this case, labor is total annual cost of labor, including direct operating labor,
repair/maintenance, supervision, and labor for (loading, packaging, shipping).
• Black’s suggested factors as in the table:
Section 2 : Cost Estimating Chapter 10 : Process Production
38
• For preliminary estimates, indirect
overhead costs may be 40 : 60 % of labor
costs or 15 : 30 % of direct costs.
• Humphreys suggested 55 % of ( operating
labor, supervision, maintenance labor) for
the mineral industries.
Depreciation
• Not a true operating cost, but considered to be an operating cost for tax purposes.
• Depreciable portion = Initial investment – (working capital + salvage value). In
theory, working capital, salvage value can be recovered after plant shut down.
• Taxing authorities permit the use of any generally accepted method of depreciation
calculation provided that it is applied in a consistent manner to all investments
• In 1981 in the U.S., accelerated cost recovery system (ACRS) was mandated by law.
• In 1986, ACRS was replaced by modified accelerated cost recovery system (MACRS).
• Most industrial firms utilize accelerated depreciation. This deferring ‫يؤجل‬ taxes to
the latest possible date. However, for preliminary estimates, straight-line is used.
• Straight-line depreciation: D = C / Y , where D is annual depreciation, C is
depreciable portion, Y is asset life in years.
• Double-declining balance method: D = 2 (F-CD) / n , where F is initial asset value,
CD is cumulative depreciation charged in prior years, n is asset life in years.
• Sum-Of-Years-Digits Depreciation: D = C x [ 2(n-Y+1) ] / [ n(n+1) ] , where C is
depreciable portion, n is asset life in years.
Section 2 : Cost Estimating Chapter 10 : Process Production
39
Chapter 11
Discrete Product Manufacturing
40
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Operations in Discrete Manufacturing
• Six major groups of component operations are presented in the following table.
41
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Discrete Manufacturing Philosophies (1/2)
• Computer-aided process planning (CAPP):
• Automatically generate process plan to produce the component from drawings.
• It includes operation parameters/sequence & optimize time, costs, and quality.
• Approaches: (1)Variant approach (searches a database for similar parts and
modifies the closest similar), (2)Generative approach (starting from scratch).
• Concurrent Engineering: Approach to the concurrent design of products and their
manufacture. This cause designers to consider all elements of product life cycle.
• Group Technology:
• Identify and exploit sameness of component parts and manufacturing process.
• Approaches: (1)Similar design features, (2) Similar processing operations.
• Just-in-Time: Raw materials are delivered when required, thus, inventory costs are
theoretically zero. It’s related to “pull” system (parts are not produced until ordered).
• Lean Manufacturing: Shorten lead times, reduce costs/waste. (continuous improvement )
1. Reducing waste (scrap), improving yields, new products from waste materials.
2. Improving employee performance, skills, and satisfaction via training / recognition
3. Improve processes, process rates, and capabilities.
42
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Discrete Manufacturing Philosophies (2/2)
• Material Requirements Planning (MRP):
• It uses bills of material, inventory and open order data, and master production
schedule information to calculate requirements for materials.
• Supply Chain Management:
• Complex products require different components from a variety of suppliers.
• Supply chain management involves the assurance that the parts will arrive
from the suppliers when required to avoid production stoppages.
• It also requires the involvement of suppliers in the design process to eliminate
inefficient / unnecessary operations and components.
• It involves information on delivery status, financial flow of credit, and payment
schedules as the materials move through the various stages of supply chain.
• The goals are to reduce inventory, time-to-market, costs, and improve quality.
• Total Quality Management:
A leadership philosophy, organizational structure, and working environment
that fosters ‫تعزز‬ a personal accountability and responsibility for the quality and
a quest ‫السعي‬ for continuous improvement in products, services, and processes.
43
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Basic Cost Relationships
• Prime cost = direct cost of (material, labor, engineering) + direct expense
• Manufacturing cost = prime cost + factory expense
• Production cost = manufacturing cost + administrative expense
• Total cost = production cost + marketing, selling, and distribution expense
• Selling price = total cost + mark-up (profit and taxes)
• Prime cost is also called direct cost, manufacturing cost is also called factory cost.
44
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Cost Estimating For Discrete Manufacturing
• Direct and Indirect Costs:
• Ex: Copying of a report on a copy machine
• Costs: paper cost, toner cost, machine rate costs, operator cost, and staple cost.
• Direct labor cost is operator cost (Wage + benefits).
• Direct material costs is paper and toner.
• Staple Costs are so small, so it’s included as part of the indirect burden costs.
• Machine cost (capital & operating) indirect cost, applied directly to the product.
• Energy consumed, purchasing costs, and installing costs are direct costs, but
considered as indirect costs as the machine is used for not only one report.
• Other indirect costs are those which cannot be directly tied to the product such as
supervision, administrative salaries, maintenance, material handling, and legal, etc.
• In large companies, indirect costs also include items such as basic and applied
research and development, however, it must be recovered on the current products
being produced and so it’s considered indirect burden costs for current products.
45
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Cost Estimating For Discrete Manufacturing
• Cost Estimating Example: (1/2)
46
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Cost Estimating For Discrete Manufacturing
• Cost Estimating Example: (2/2)
47
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Note that 20% of selling price = [20/(100-20)] % of Total Cost = 25% of Total Cost.
Break-Even Analysis
I n t ro d u c t i o n
• Two critical issues must be considered: (1)Cost base, (2)Various break-even points.
• Cost bases are:
1. Time base: Determines production time at specific break-even point, and this is
what can be controlled at the plant level.
2. Quantity-based: Determines production quantity at specific break-even point for
marketing, sales, and top management to forecast yearly sales. It provides little
assistance at plant management level where quantity is specified by customer.
• Variable cost in quantity-based system is fixed in time-based system, and vice-versa.
• Increased quantities are desired in the quantity-based system.
• Decreased times are desired in the time-based system.
48
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
C o s t B a s i s :
A. Quantity-based system: (Fixed Time)
• Fixed Costs: Costs not vary with production quantity such as property taxes,
administrative salaries, research and development expenses, and insurance.
• Variable costs: Costs that vary with production quantity, such as direct material
costs and direct labor costs.
• Semi-Variable Costs: Costs that are not fixed or variable like maintenance cost.
B. Time-based system: (Fixed Quantity)
• Fixed costs: Costs that do not vary with time such as the direct material costs.
• variable Costs: Costs that vary over time such as property taxes, administrative
salaries, research and development expenses, and insurance.
• Direct labor may be fixed or variable costs depending upon policies used.
49
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
B r e a k - Ev e n P o i n t s :
A. Shutdown Point (SD): Quantity/time where manufacturing costs equals revenues.
B. Cost Point (C): Quantity/time where total costs equals revenues.
C. Required Return Point (RR): Quantity/time where revenues equals total costs plus
required return.
D. Required Return after Taxes Point (RRAT): Quantity/time where revenues equals
total costs + required return and the taxes on the required return.
N o t e s :
In the production quantity-based system : Breakeven points increase in quantity as one
proceeds from the shutdown point to the required return after taxes point, which
implies higher production quantities are desired.
In the time-based system: Breakeven points decrease in time as one proceeds from the
shutdown point to the required return after taxes point, which indicates the
importance of decreasing production time to increase profitability.
50
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
E x a m p l e :
Anew job is being considered in the foundry ‫.المسبك‬ The order is for 40,000 castings,
and the tentative price is $ 3.00/casting. The pattern will be designed for 4 castings
per mold, and the pattern cost has been quoted at $ 10,000. The molding line is the
rate controlling step in the production process in this particular foundry, and the
production rate is 125 molds/hr.
Solution:
Estimated time for the production of the 40,000 castings would be determined by:
(40,000 castings)/(4 castings/mold x 125 molds/hr) = 80 hr
51
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
Solution :
52
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
Solution: A . Production Quantity-Based Calculations
1. Shutdown Point
Revenues = Production Costs
3X = Material Costs + Labor Costs + Tooling Costs + Plant Overhead Costs
3X = 1.50X + 0.33X + 10,000 + 8,800  3X = 1.83X + 18,800  X = 16,068 units
2. Cost Point
Revenues = Total Costs
3X = Production Costs + Overhead Costs
3X = 1.83X + 18,800 + 12,000  3X = 1.83X + 30,800  X = 26,324 units
3. Required Return Point
Revenues = Total Costs + Required Return
3X = 1.83X + 30,800 + 9,600  3X = 1.83X + 40,400  X = 34,530 units
4. Required Return After Taxes
Revenues = Total Costs + Required Return + Taxes for Required Return
3X = 1.83X + 40,000 + 9,600 x (TR/(1-TR))
3X = 1.83X + 40,400 + 6,400  X = 40,000 units
53
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
Solution: A . Production Quantity-Based Calculations
Conclusion:
1. If Q < 16,068 , don’t accept order as manufacturing costs not recovered.
2. If 16,068 < Q < 26,324, manufacturing costs recovered, but not all overhead costs.
3. If 26,324 < Q < 34,530, all costs recovered, but not all required return recovered.
4. If 34,530 < Q < 40,000, costs & RR recovered, but not all of taxes recovered.
5. If Q > 40,000, required return will exceed the desired required return after taxes.
54
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
Solution: B . Time-Based Calculations
1. Shutdown Point
Revenues = Production Costs
120,000 = Material Costs + Labor Costs + Tooling Costs + Plant Overhead Costs
120,000 = 60,000+165Y+10,000+110Y  120,000 = 70,000 + 275Y  Y = 181.8 hrs
2. Cost Point
Revenues = Total Costs
120,000 = Production Costs + Overhead Costs
120,000 = 70,000 + 275Y + 150Y  120,000 = 70,000 + 425Y  Y = 117.6 hrs
3. Required Return Point
Revenues = Total Costs + Required Return
120,000 = 70,000 + 425Y + 120Y  120,000 = 70,000 + 545Y  Y = 91.7 hrs
4. Required Return After Taxes
Revenues = Total Costs + Required Return + Taxes for Required Return
120,000 = 70,000 + 545Y + 120Y + [ 120Y x (TR/(1-TR)) ]
120,000 = 70,000 + 425Y + 120Y + 80Y  Y = 80.0 hrs
55
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Break-Even Analysis
Solution: B . Time-Based Calculations
Conclusion:
1. If Time > 181.8 , don’t accept order as manufacturing costs not recovered.
2. If 181.8 > Time > 117.6, manufacturing costs recovered, but not all overhead costs.
3. If 117.6 > Time > 91.7, all costs recovered, but not all required return recovered.
4. If 91.7 > Time > 80, costs & RR recovered, but not all of taxes recovered.
5. If Time < 80, required return will exceed the desired required return after taxes.
56
Section 2 : Cost Estimating Chapter 11 : Discrete Production
Time-based method can answer questions
such as what is the effect of a 4 hour delay.
@ 80 Hrs
Profit = Revenues – Costs
Profit = $120,000 - $70,000 - 425$/hr x 80hr
Profit = $16,000
Profit after taxes = 0.6 x $16,000 = $9,600
@84 Hrs
Profit = $120,000 - $70,000 - 425$/hr x 84hr
Profit = $14,300
Profit after taxes = 0.6 x $14,300 = $8,580
Section 3 : Planning & Scheduling Chapter 12 : Planning
Sec 3
Planning & Scheduling
1
Chapter 12
Planning
2
Section 3 : Planning & Scheduling Chapter 12 : Planning
Planning Definition
Influencing the future by making decisions based on missions, needs, and
objectives. It is the process of stating goals and determining the most effective
way of reaching them.
Planning steps
1. Setting objectives
2. Gathering information
3. Determining feasible alternative plans
4. Choosing the best alternative
5. Communicating the plan
6. Implementing the plan
7. Adjusting the plan to meet new conditions as they arise
8. Reviewing the effectiveness of the plan
3
Section 3 : Planning & Scheduling Chapter 12 : Planning
Importance of Planning
1. Superior growth in productivity rates
2. Activities are monitored and controlled using the plan as a reference baseline
3. Experience feedback increases company knowledge base and lessons learned
4. Without commitment, company is continually wasting time and money
Planning Tools
1. Gained Experience
2. Handbooks and software programs
3. Company policies, standards, and procedures
4. Model plans and templates
5. Checklists
6. Historical databases
7. WBS, RBS, and cost Accounts
4
Section 3 : Planning & Scheduling Chapter 12 : Planning
Major Elements of Planning (1/2)
1. Summarizing Goals and Scope of Work:
Goal should be clearly understood and agreed upon. The most effective tool
in ensuring all work scope is planned is work breakdown structure (WBS).
2. Time Planning:
A. Develop Summary Schedule
B. Dividing into component parts
C. Sequence activities (CPM is one of best methods to use)
D. Assign activity durations
E. Determine total time
F. If total time exceed available time, reevaluate and take actions to meet
3. Cost Planning:
• Total cost must be partitioned using cost breakdown structure CBS.
• It’s not possible that costs be parallel to activity breakdown, however, it
could be done to a certain level which is the control account.
5
Section 3 : Planning & Scheduling Chapter 12 : Planning
Major Elements of Planning (2/2)
4. Resource Planning:
Includes personnel, equipments, tools, and materials.
5. Quality Planning:
A. Undertaking’s requirements (goals)
B. How to communicate requirements to responsible for achieving them0
C. Plan for training responsible persons
D. Find a way of measuring successful achievements
6. Review:
Making early assessments of required reports, meetings, presentations, and
project documents.
7. Planning for Change:
Plans must be flexible to allow for changes at any point.
Effective plan is still function even when extreme changes occur.
6
Section 3 : Planning & Scheduling Chapter 12 : Planning
Planning in Construction Industry
• Many of construction cost overruns can be attributed to poor planning
• Reasonable planning can save up to 40%
• Why construction seems to be lagged ‫متباط‬‫ئ‬ in planning?
A. Planning time is often limited
B. Staff resources are spread over several projects
C. Lessons learned cannot be applied directly to new projects
Contingency Plan Forms:
1. Develop alternative plan to be implemented when adverse situation arises
2. Address budget and schedule reserve for unfavorable variances
7
Section 3 : Planning & Scheduling Chapter 12 : Planning
Chapter 13
Scheduling
8
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Scheduling Definition
Scheduling is the process that converts the project work plan into a road map, that if
followed, will assure timely project completion.
Scheduling Benefits
1. Provide basis for management
2. Improve communications
3. Facilitate coordination
4. Effectively use resources
5. Develop baseline to monitor and control the work
6. Integration of budget, costs, and resources
7. May be used as basis for payments application
9
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Schedule Development
1. Bar Chart Method:
• Preparation steps:
(1)Specify execution approach, (2)Segment into activities, (3)Estimate time for
each activity, (4)place activities in time order, (5)Satisfy completion date.
• Advantages of bar chart: simple to read
• Disadvantages of bar chart: manual procedure and cannot show relationships
2. Critical Path Method (CPM):
• Using arrow diagramming methods or precedence diagramming method
• Advantages: (1)Determine short time of project, (2)Identify critical activities,
(3)Show available float for each activity
3. Program e Evaluation and Review Technique (PERT):
• Computerized Probability analysis for calculating most likely durations for each
activity and for overall project.
• Pert is indeterminate process for activity and project duration (output is range),
while CPM is a deterministic process.
10
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Arrow Diagramming Method (ADM)
• Arrow tail is activity beginning (i-node), arrow head is activity end (j-node)
• Activity ID consists of tail and head (i-j)
• Sequencing rules:
1. No activity can start before completion of its predecessor. If it has to occur,
this activity must be divided into two activities.
2. Neither arrow length nor its direction has meaning.
3. Duplication of activity ID is not permitted.
4. Dummy activities are zero duration, however, used to show relationships.
Precedence Diagramming Method (PDM)
• Activities are represented by nodes and relationships are represented by lines.
• Most benefit is the ease off applying overlapping techniques such as lag values,
constraints, and relationships (SS, FS, FF, SF).
Work Breakdown Structure (WBS)
• Definition: A tree structure of further breakdowns of work scope into component
parts for planning, assigning responsibility, managing, controlling, and reporting .
• It allows project details to be summarized in certain levels for analysis and control.
11
i j
Activity (i-j)
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Scheduling Techniques (1/3)
• Activities begin on the morning of the scheduled start date, and end in the evening
of the scheduled finish date.
• Milestones occurs in the evening of day that its predecessor finish on.
• Forward Pass (calculation of ES, EF):
• ES of first activity = 1
• EFA= ESA+ DA -1
• ESsucc = EFPred + 1
(where EFpred is the largest when several predecessors).
• Backward Pass (calculation of LS, LF):
• LF of terminal activity = LF of this activity (or as per contract)
• LSA = LFA – DA + 1
• LFPred = LSsuc -1
(where LSsucc is the smallest when several successors).
12
1 5 5
Activity A
75 3 77
Activity A
79 81
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Scheduling Techniques (2/3)
• Overlapping Relationships (Forward Pass ):
• SS: ESsuc = ESpred + N
• FS: ESsuc = EFpred + N + 1
• FF: EFsuc = EFpred + N  Then, ESsuc = EFsuc – D + 1
• Overlapping Relationships (backward Pass ):
• FF: LFpred = LFsuc - N
• FS: LFpred = LSsuc - 1
• SS: LSpred = LSsuc – N  Then, LFpred = LSpred + D -1
• Float
• Free Float (FF) = Essuc - EFpred - 1
Where ESsuc is the smallest ES when several successors
• Total Float (TF) = LS – ES = LF – EF
• TF is shared by activities in a chain, however, FF belongs solely to the activity.
• If TF=15 in a chain, and the first activity used all of them , then TF = Zero.
13
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Scheduling Techniques (3/3)
• Critical Path:
• Longest chain or chains with smallest TF
• There will be at least one continuous chain through the network.
• Constraints:
1. Start On
2. Finish On
3. No Earlier Than (NET): (Start / Finish No Earlier Than )
4. No Later Than (NLT) : (Start / Finish No Later Than )
14
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Scheduling Levels
1. Level (1) – Milestones Level Schedule:
• May include begin project, design complete, purchase major equipment,
mobilization, … etc.
• Top management is usually interested in milestone level schedule.
2. Level (2) – Project Summary Level Schedule:
• Include summary of engineering, procurement, major equipment fabrication
and delivery, major structures, installation, start-up, and commissioning.
• As the detailed schedule is developed, it must be summarized to replace the
independently developed project summary and milestone schedules.
3. Level (3) – Project Detailed Schedule:
• Display the lowest level of detail necessary to control the project
• It supports determining and assigning resources
4. Level (4) – Short Interval Schedule:
• Also known as short-cycle schedule. From 2 to 6 weeks look-ahead schedule
for planning, reporting, review assignments of current week work plan.
• Best use for communicating planning requirements to those performing work.
15
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Schedule reporting
1. Early Start Dates Report:
A listing of activities sorted by early start dates.
2. Total Float Report:
Activities are sorted by total float in ascending beginning with values of TF = 0.
The report first lists all activities that are on the critical path (TF = 0).
3. Precedence Report:
A listing by activity early start dates. However, it identifies all predecessor and
successor for each activity. This report is used by planners for debugging .
Schedule Plots
1. Logic Diagrams: Network diagram that shows activity relationships .
2. Time-scaled Logic Diagram: It shows activity relationships and displays the
activities in their scheduled place in time.
3. Early Start Date Schedule (Bar Chart): Bar charts without logic relationships shown.
It’s used more frequently by supervision and management to track work.
16
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Managing Changes In Schedule
• Schedule Updating:
Through updating you can forecast any schedule slippage or delay, and hence,
bring the project back on schedule and correct the changes.
• Reasons for Schedule Updating:
1. Reflect current project status
2. Keep the schedule as an effective management tool
3. Document performance
4. Documentation to plan for changes and support delay analysis
5. Let both contractor and owner aware of changes / delays as they occur and
how this affect completion date to allow them take corrective actions.
• Updating Intervals For Managing Changes:
It coincides reporting periods. At least monthly, and may be weekly.
17
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Managing Changes In Schedule
• Updating Procedures:
1. Gather info
2. Identify and plan for changes affect duration, logic, scope, … etc.,
3. Recalculate project schedule
4. Perform analysis and prepare reports for management review.
5. Evaluate and adjust the updated schedule according to management’s and
supervision’s review and direction.
6. Issue updated schedule to all interested parties.
18
Section 3 : Planning & Scheduling Chapter 13 : Scheduling
Section 4
Progress & Cost Control
1
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Chapter 14
Progress Measurement
A n d E a r n e d Va l u e
2
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Measuring Work progress (1/2)
1. Units completed Method (Production):
• Applicable to tasks that involve repeated production of easily measured work.
• Ex: Wire pulling in linear meters. of wire pulled.
2. Incremental Milestones (Rules of Credit):
• For control account that includes subtasks and must be handled in sequence.
• Segmenting into subtasks and assigning each a “credit” increment of progress.
• Ex: Installing a major equipment (15% supply, 50% installation, 15% test, .. etc)
• Percentage chosen is normally based on No. of work hours required.
3. Start / Finish Method:
• Applicable to tasks that lack definable intermediate milestones or those for
which the effort/time required is very difficult to estimate.
• (50-100): 50% at start, 100% at completion. It’s reasonable for short duration
and lower value tasks.
• (20-100): Reasonable for long duration and higher value tasks.
• (0-100): Reasonable for very short tasks.
3
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Measuring Work progress (2/2)
4. Supervisor Opinion:
• Supervisor makes a judgment of percent complete.
• It’s a subjective approach and should be used only for minor tasks.
5. Cost Ratio Method:
• Applicable for long period/continuous tasks which are estimated and budgeted
on allocation of dollars$ and work hours rather than on basis of production.
• Ex: Project management work, quality assurance, and contract administration.
• Percent Complete = (Actual work hours to date) / (Forecast at completion).
6. Weighted or Equivalent Units:
• Applicable for a long period task that is composed of two or more overlapping
subtasks, and each with a different unit of work measurement.
• Ex: Structural steel erection (in table)
Earned TonsBeam = 0.11x520x(45/859)= 3
% complete = 82.5 / 520 = 16.1 %
Beams Equivalent ton = 0.11x520= 57.2 ton
One Beam equivalent tons = 57.2 / 859
= 0.666 tons / beam
4
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Earned Value For Fixed Budgets
• Introduction:
• It’s not allowable for total budget to be changed. Hence, when quantity is
changed, the unit price will be adjusted to maintain the price fixed.
• Earned Value EV = Percent complete % x control account budget
Or can be calculated as EV = Units completed x Unit Rate new
• Earned Value System
• BCWS : Budgeted work hours or $
• BCWP : Earned work hours or $
• ACWP : Actual work hours or $
• Variance :
• SV = BCWP - BCWS
• CV = BCWP - ACWSP
• Performance Indices:
• SPI = BCWP / BCWS (If SPI > 1, the project is ahead of schedule)
• CPI = BCWP / ACWSP (If CPI > 1, the project is under budget)
5
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Earned Value For Fixed Budgets
• Productivity:
• Comparing actual productivity (work-hours/unit) with the figures used in
planning and budgeting the work.
• A comparison of earned to actual work-hours evaluates productivity if actual
quantities of work exactly equal those budgeted. Since this is rarely, another
mechanism is needed to evaluate productivity which is Credit work hours.
• Credit work-hours (CWH) = Budgeted productivity work-hour unit rate
(WH/unit) x number of units completed.
• Since actual units may vary from the budgeted (estimated) units, CWH may be
either greater or less than the EWH, and the CWH equals EWH only if
budgeted and actual quantities of work are equal.
• A Productivity Index (PI) may be calculated as
PI = (sum of credit work-hours) / (sum of actual work-hours)
6
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Example
7
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
Budgeted New
Quantity (Tons) 800 1’000
Unit Rate: ($/Ton) or (WH/Ton) 20 16
Total Budget $ 16’000 $ 16’000
If actual quantity was 250 tons, and actual work hours = 4’500
EV Calculations:
EV = Q act x Budget unit rate new
= 250 x 16 = 4’000
OR:
EV = % complete x Total Budget
= (250/1000) x 16’000 = 4’000
CPI= 4’000/4’500 = 0.89 (over budget)
CWH Calculations:
CWH = Q act x Budget unit rate Budgeted
= 250 x 20 = 5’000
PI = 5’000 / 4’500 = 1.11
Note that maximum CWH will be equals
to 1000 x 20 = 20’000
Summary
8
Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
WH Budgeted WH Allocated
WH new
Q Budgeted Q new
Unit Rate
(Budgeted)
Unit Rate
(new)
Q
Actual
CWH EWH
CPIPI
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CCP Material

  • 1. C C P : C e r t i f i e d C o s t P r o f e s s i o n a l CCP Training Course Prepared By Mohamed ElSaadany B.Sc., PMP, CCP, RMP
  • 2. Section 1 : Cost Chapter 1 : Cost Elements Sec 1 Cost 1
  • 3. Section 1 : Cost Chapter 1 : Cost Elements Chapter 1 Cost Elements 2
  • 4. Section 1 : Cost Chapter 1 : Cost Elements Cost Structuring Sort the cost elements into direct costs, indirect costs, fixed costs, and variable costs. Cost element structure “CES” will help to understand how they influence activity cost and to get a better understanding of how they can be controlled. Cost Structuring Direct Costs Indirect Costs Fixed Costs Variable Costs Costs expended solely to complete the asset. Ex: concrete, labors, non reusable forms, and permit fees. Costs support the work but associated with others, hence allocated with some percent. Ex: Head office costs and gasoline. Must be provided independent of the volume of work, either direct or indirect. Ex: Permit fees and head office costs. Must be provided dependent of the volume of work, either direct or indirect. Ex: Labors and gasoline. 3
  • 5. Section 1 : Cost Chapter 1 : Cost Elements Cost Accounting • The historical reporting of disbursements and costs and expenditures on a project. • Basic Steps: (1)Recording, (2)Classifying, and (3)Summarizing. • Classification can be done using the code of accounts, ABC, or WBS • Code of Accounts: Used to classify all recorded cost elements and also known as “ chart of accounts”. It’s configured to support the recording of cost data in the general ledger. 4
  • 6. Section 1 : Cost Chapter 1 : Cost Elements Cost Management 1. Estimating: Predicts the quantity and cost of resources needed to accomplish an activity or create an asset. 2. Cost Trending: Howexpenditures are trending relative to physical accomplishments. 3. Cost Forecasting: Predictions of the cost at completion for cost elements in progress 4. Life-Cycle Costing (LCC): Once the asset is created, it enters the operations and maintenance (O&M). The CES for this phase will be around maintenance and disposal 5
  • 7. Section 1 : Cost Chapter 2 : Pricing Chapter 2 Pricing 6
  • 8. Section 1 : Cost Chapter 2 : Pricing Price Price is the cost at which something is bought or Sold. In real world price and cost can be used interchangeably. Pricing Strategies • Type I is to win the project and execute it profitably. Bid price is determined according to the actual project cost. • Type II refers to a new industry that a company is trying to get a foothold into. In this “must-win” situation, price is determined by the market forces. 7
  • 9. Section 1 : Cost Chapter 2 : Pricing Business and Economic Ratios 1. Simple ROI “Return on Investment” : ROI = (Gains – Investment Costs)/Investment Cost Ex: gains = 11’000, Cost= 9’500 ROI = (11,000 – 9,500)/9,500 = 15.8 % 2. Complex ROI: ROI = Average yearly profit / (Original investment + Working Capital) 3. RAI “ Return on Average Investment“ : RAI = Average yearly profit / (average outstanding investmentl) 4. ROS “Return on Sales” : ROS = Net Profit after taxes / Sales 5. ROA “Return on Assets” : ROA = Earnings before interest and taxes / Net operating Assets 6. Gross Profit Margin Ratio GPMR = Gross Profit / Total Sales 8
  • 10. Section 1 : Cost Chapter 2 : Pricing Break Even Analysis Definition: Level of sales At the point where total costs equal total revenue Terms: • Selling Price (SP): The price of each unit. • Variable Costs (VC): Costs that vary in proportion to sales levels. • Contribution Margin (CM): Sales revenues less variable costs (SP – VC). • Fixed Costs (FC): Costs remain constant. • Units (X): Number of items sold or produced. Equation: SP(X) = VC(X) + FC i.e X = FC / (SP-VC) = FC / CM Example: Each unit selling price is $4, unit cost is $2, and the fixed costs for the period are $600. What is the break-even point in units and in sales revenue? 4(X) = 2(X) + 600  X = 300 units Or: X = 600 / (4-2) = 300 units Break-even sales revenu = $4 x 300 = $1’200 9
  • 11. Section 1 : Cost Chapter 3 : Materials Chapter 3 Materials 10
  • 12. Section 1 : Cost Chapter 3 : Materials Materials Competition Materials compete on cost, availability, service life, weight, corrosion/wear resistance, machinability, weldability, and other ease-of-fabrication criteria. Materials Handling Principles • Movement over the shortest distance. • Terminal time should be in the shortest time (containers / pallets). • Eliminate manual handling when mechanized is feasible. • Avoid partial transport loads since full loads are more economical. • Materials should be identifiable and retrievable. Materials Handling Decisions 1. Material to be handled: Clay in loaders, structural steel by crane, liquids in pipelines. 2. Production system type: Job shop or batch process and continuous process . 3. Facility type: Low ceiling height, rectangular area, open area. 4. Materials handling system costs: Initial Cost, lifecycle costs, disposal costs. 11
  • 13. Section 1 : Cost Chapter 3 : Materials Types of Materials 1. Raw Materials: Materials utilized in a production or fabrication process The most basic. Ex: Raw materials such as coal, limestone, and iron ore. 2. Bulk Materials: Materials readily available with minimal lead times for order and delivery. EX: Sheet steel, steel bars, steel pipe, and structural steel members. 3. Fabricated Materials: Bulk materials transformed into custom-fit items for a particular product or project. Ex: Steel pipe transformed by fabrication into custom dimensions for particular use. 4. Engineered/Designed Materials: Materials require substantial work in order to attain their final form. EX: Pumps, motors, boilers, chillers, fans, compressors, transformers, and motor control centers. 12
  • 14. Section 1 : Cost Chapter 3 : Materials Materials Purchase and Management • Materials Quality: Poor quality materials can result in product defects leading to increased costs. Higher-quality materials in excess of requirements will lead to excessive costs. • Materials Traceability & Vendor Surveillance: Vendor surveillance may require periodic inspection at the vendors’ location. Materials traceability is accomplished by means of mill. • Materials Quantity: Materials storage is a further burden that can exceed the value of the materials. Insufficient inventories may create dangers of “stock-outs” interrupting process. To balance these demands, determine economic order quantity (EOQ) number. 13
  • 15. Section 1 : Cost Chapter 3 : Materials Materials Purchase and Management • Economic Order Quantity EOQ: Where: EOQ is the optimal order quantity (not function of item cost) , D is annual demand, S is storage costs, and P is purchase order costs which is setup cost (ordering, shipping, handling) not the cost of goods. It’s a fixed cost and not per unit. Ex: If your company has a requirement for 20’000 units per year, where the unit cost is $130, order cost for a purchase order is $200, and storage cost is $8 EOQ = 2 x 20’000 x 200 / 8 = 1000 units EOQ = (2 x D x P) / S • Reorder point RP: RP = (O x R) + I Where: RP is reorder point, O is order time, R is production rate, and I is minimum inventory level or safety stock. Ex: Assume that you need 40 units per day, the lead time for an order is 5 days, and the safety stock level is 100 units. RP = (5 x 40) + 100 = 300 units. 14
  • 16. Section 1 : Cost Chapter 3 : Materials Plant Material Management • Definition: Materials that are not incorporated into product or project. Instead assist in production operations. Ex: Oils, greases, solvents, and spare parts. • Specialized Plant Materials: Such as replacement parts may be available only from the original equipment manufacturer (OEM) and require significant lead time. Try to maintain an inventory & networking with others willing to lend in case of emergency. • MSDS & Hazard Communication: MSDS must be readily available and accessible to those dealing with hazardous materials as required by (OSHA). • Waste Materials: (1)Original materials cost, (2)Handling costs, (3)Disposal costs. • Surplus materials: This is usually due to (1)Excessive order, (2)Change in material requirements, (3)Incorrect quantity information. 15
  • 17. Section 1 : Cost Chapter 4 : Labor Chapter 4 Labor 16
  • 18. Section 1 : Cost Chapter 4 : Labor Labor Classifications • Direct Labor: Involved in the work activities that directly produce the product • Indirect Labor: Needed for activities that do not become part of the final installation, product, or goods produced, but that are required to complete the project. • Overhead Labor: Labor portion of costs inherent in the performing of a task that is not a part of the work, and therefore must be allocated as a business expense independent of the volume of production. 17
  • 19. Section 1 : Cost Chapter 4 : Labor Developing Labor Rates • Time Units: Year = 12 months, Week = 5 days, Day = 8 Hours, Year = 52 Weeks • Base Wages: Amount that will go directly to the employee (usually per hour). • Fringe Benefits: Paid time off PTO (Sick time, vacation, holidays) + Medical/Life Insurance. • Example: Base wage = $60’000/year = 60’000 /(52x5x8) = $28.8 / hour PTO: Considering yearly (5 days sick, 10 vacation, 10 holidays) Sick time = 28.8 x 5 x 8 = $1’154 / year Vacation = 28.8 x 10 x 8 = $2’308 / year Holidays = 28.8 x 10 x 8 = $2’308 / year PTO = $5’770 / year Working hours / Year = (52x5x8) – (5x8 + 10x8 + 10x8) = 1880 hrs PTO = $5’770 / 1880 = $3.07 / hr 18
  • 20. Section 1 : Cost Chapter 4 : Labor Developing Labor Rates Medical Insurance / Government Benefits Considering the following: • Medical insurance= 400/month = 400 x 12 / 1880 = $2.55/hr • Retirement contribution (> 401K) = 300/month = 300 x 12 / 1880 = $1.91/hr • Government mandated benefits (US Only) are  6.2% retirement = 6.2% x 28.85 = $1.79/hr  1.35% retirement medical = 1.35% x 28.85 = $0.39/hr  1 % state unemployment = 1% x 28.85 = $ 0.29/hr Total medical insurance = 2.55 + 1.91 + 1.79 + 0.39 + 0.29 = $6.93/hr Total Benefits = 3.07 + 6.93 = $10/hr Total wage = 28.85 + 10 = $38.85/hr Benefits adder = 10 / 28.85 = 34.7 % 19
  • 21. Section 1 : Cost Chapter 4 : Labor Developing Labor Rates • Fully Loaded Rate (Billing Rate): It’s the base salary + adders + overhead + profit. On time & material basis, owner pays for worker job only and doesn’t pay for sick leaves, vacations, holidays. • Indirect Labor: 1. Direct estimate of the indirect staff required. 2. Using historical data (ex: 25% or 30% of direct labor cost). • Overtime: When calculating Overtime, (PTO, insurance, and some governmental programs) are not added to overtime. Some other governmental retirements such as social security and Medicare are usually added to overtime. 20
  • 22. Section 1 : Cost Chapter 4 : Labor Weighted average Rates (Crew Composition) Example: If working 10 hrs/day for two weeks, 10 hours for two Saturdays. Normal time: 40 hrs x 2 weeks x $23.83 x 9 workers = $17’158 Overtime : $18.33 x 1.5 = $27.5/hr with benefits adder (say) 7.5% = $29.56/hr (5 days x 2 hrs + 8 hrs Saturday ) x 2 weeks x $29.56 x 9 workers = $9’577 Double Time: $18.33 x 2 = $36.66/hr with benefits adder (say) 7.5% = $39.41/hr (2 hrs Saturday ) x 2 weeks x $39.41 x 9 workers = $1’418 21
  • 23. Section 1 : Cost Chapter 4 : Labor Factors Affecting Productivity • Will union or non-union craft labor be used? • Is sufficient labor available locally? • If the area is remote, do workers have to be bused in? • What will the weather conditions be like (hot, cold, rainy, etc.)? • Are there any local holidays? • Are temporary living quarters needed? • Is overtime necessary to attract workers? • What are the standard work hours and work days? 22
  • 24. Section 1 : Cost Chapter 5 : Engineering Chapter 5 Engineering 23
  • 25. Section 1 : Cost Chapter 5 : Engineering Product, Project, and Process Development (1/2) • Pure / Basic Research: Work without a specific particular end product such as examining the interactions of different chemical compounds. • Applied Research: The attempt to develop usable products or add new feature-sets to existing products. It’s carried out by the organization producing the product. • Computer-Aided Design/Engineering CAD/CAE: Utilization of computerized work stations and software to develop and analyze a product, project, or process design. • Computer-Aided Manufacturing CAM: CAD/CAE ported directly into CAM software. Design is directly sent to machines like CNC Computer-numerically controlled. 24
  • 26. Section 1 : Cost Chapter 5 : Engineering Product, Project, and Process Development (2/2) • Prototypes: Developed prior to large-scale production to (1)test designs and also to (2)test customer reaction. Prototype development is expensive, but is less expensive than discovered after numerous units are in customer hands. • Patents & Trade Secrets: Organizations wishing to emulate patent’s provisions will develop different approach different or pay to the patent holder. (In USA 17 Years). • Product Liability: Those injured by a product can seek compensation for their damage. The tort law in this area has evolved over decades from a concept of “buyer beware” to a concept of “seller beware”. 25
  • 27. Section 1 : Cost Chapter 5 : Engineering Product, Project, and Process Design (1/2) • Standardization: The attempt to base product designs. The advantages are lower costs, shorter time, and maintenance personnel are more familiar. The disadvantage that If there is a flaw, it will be spread over a wide variety of products. • Process Selection: Relates to production methods, continuous and discrete. 1. Continuous production methods such as petrochemical plants, power plants and manufacturers with assembly-line methods. It’s less expensive in the long run. 2. Discrete production such as pre-cast concrete plant, or structural steel fabrication shop. It has a higher labor factor. Favored where labor costs are less expensive. Some products will envelope both methods sometimes by the same firm. 26
  • 28. Section 1 : Cost Chapter 5 : Engineering Product, Project, and Process Design (2/2) • Manufacturability: Slight modifications in a design that promote ease of product assembly without affecting the product. Designs should be: 1. Forgiving of minor inaccuracies 2. Easy to fabricate, 3. Based on efficient utilization of labor, materials, and equipment • Constructability: The Counterpart of manufacturability applied to constructed projects to pinpoint problems before designs are developed to the point where changes create significant delays and associated costs. • Make-or-Buy Decision: Which items should be subcontracted out and which should be made in-house. Do organization’s quality and cost on an item can compete with outside suppliers. If trade secrets are involved, the decision will typically be to make the item, The goal is to enhance overall quality at a lower cost. 27
  • 29. Section 1 : Cost Chapter 5 : Engineering Engineering Production / Construction (1/2) • Production Health & Safety: An accident results in the loss of a trained worker and an interruption in the process. Systems must be selected that reduce/eliminate the potential of accidents. • Facility Layout: Decisions as to arrangement, including equipment location, labor location, and services location. Layout decisions should always consider the potential impact of additional demand therefore considering future expansion. • Assembly And Flow Process Charts: Assist in planning the facility layout. They help to analyze production operations in terms of operations sequences performed, distances between operations, and operation time requirements. 28
  • 30. Section 1 : Cost Chapter 5 : Engineering Engineering Production / Construction (2/2) • Quantitative Analysis In Facility Layout. 1. Linear programming is a mathematical technique that is widely used in finding optimal solutions to problems. 2. Monte Carlo techniques can be used to simulate wait time for a crane in a plant and its cost impact. Data can be generated via computer programs with random number generators. • Reengineering: Redesign of process to achieve improvements such as cost, quality, service, and speed. Ex: Let your supplier monitor your inventory of their supplied items. Reengineering focuses on the optimization of the total organization, rather than sub-optimization of individual departments. Moreover, reengineering focuses on the “whys” of an action or process as opposed to the “hows”. 29
  • 31. Section 1 : Cost Chapter 6 : Equipment Chapter 6 Equipment, Parts, and Tools 30
  • 32. Section 1 : Cost Chapter 6 : Equipment Equipment Value Categories 1. Replacement Cost New • Reproduction Cost: The cost new of an identical item. • Replacement Cost: The cost new of an item having the same or similar utility. • Fair Value: Cost new of an item considering similar items cost, and taking into account utility and all standard adjustments and discounts to list price. • Sources of Data: • Manufacturers price lists • Sales representatives • Manufacturers or dealers quotations • Past transactions invoices and purchase orders • Journals and trade shows literature 31
  • 33. Section 1 : Cost Chapter 6 : Equipment Equipment Value Categories 2. Market Value • Fair Market Value-in-Place: Value expected between a willing buyer and a willing seller, both not under any compulsion and taking into account installation and the contribution of the item to the operating facility. • Fair Market Value-in-Exchange: Value expected to be exchanged in a third-party transaction between a willing buyer and a willing seller, both not under any compulsion, also referred to as retail value • Orderly Liquidation Value: Probable price for all assets from an orderly liquidation, given a maximum six months to conduct sale and adequate funds available for the remarketing campaign, also referred to as wholesale value. • Forced Liquidation Value: Value of equipment that can be derived from a properly advertised and conducted auction where time is of the essence, also referred to as “under the hammer” or “blow-out” value. 32
  • 34. Section 1 : Cost Chapter 6 : Equipment Equipment Value Categories 2. Market Value • Salvage Value/Part-Out Value: Value of equipment that a buyer will pay to a seller, recognizing the component value of parts of the equipment that can be used or resold to end-users, usually for repair or replacement purposes. • Scrap Value: Value of equipment that relates to the equipment’s basic commodity value. For example, dollars per ton of steel or pound of copper. • Sources of Data: • Sales advertisements for used equipment • Used equipment dealers • Used equipment quotations in previous transactions • Market data publications • Auction “sales catalogs” available from auction companies • Past sales results from one’s own firm. 33
  • 35. Section 1 : Cost Chapter 6 : Equipment Equipment Value Categories Market Value Example: Orderly Liquidation Sale = Purchase price at auction = $5,500 De-installation, rigging, shipping, and delivery to warehouse = $600 Cost of money (90 days to sell, 10% rate ) = 3 x $6,100 x 10% = $154 Overhead (20%) = $5,500 x 20% = $1,100 Profit (20% of purchase price plus de-installation ) = $6,100 x 20% = $1,220 Min. desired selling price = $5,500 + $600 + $154 + $1,100 + $1,220 = $8,574 Retail Asking = Ask advertise for sale = $9,800 Fair Market Value-in-Exchange = Take (sale to end user) $8,600 Buyer (end user) pays sales tax (6%) $516, Delivery $600, Installation and debugging $1,400 Fair Market Value-in-Place = $8,600 + $516 + $600 + $1,400 = $11,116 34
  • 36. Section 1 : Cost Chapter 6 : Equipment Equipment Value Categories Cost Adjustments : To normalize data, the following considerations should be addressed • Different years of manufacture • Utilization (amount of wear/use) • Condition • Different attachments, drive motors, etc. • Location of the sale (market area vs. a remote area) Condition Terms and Definitions Example: • Excellent (E): New condition, no defects, and may still be under warranty. • Good (G): Good appearance, may recently overhauled but no repairs required. • Average (A): Operating 100 %, but may need repair or replacement in the future. • Fair (F): High utilization, defects are obvious and will require repair soon. • Poor (P): Not operational, requires repair, or overhaul before it can be used 35
  • 37. Section 1 : Cost Chapter 6 : Equipment Equipment Value Categories Data Filing Systems : Most firms file data using one of four methods 1. Standard Industrial Classification (SIC) code where data is stored in broad industry category codes, such as #34-machine tools, #44-marine, etc. This method is quite effective when utilizing an electronic database. 2. List data by equipment class and type, such as crane, trailers, or bulldozer. 3. Lists equipment by industry category, such as construction, mining, or aircraft. 4. Manufacturer’s name, such as Caterpillar construction equipments, Boeing commercial aircraft, and IBM-computers, etc. 36
  • 38. Section 1 : Cost Chapter 6 : Equipment Equipment Residual Values: Residual Value Curve: 1. Normal Curve: long-lived equipment, usually L-Shape. 2. Disrupted-Market: Usually U-Shape, results from equipment shortage or regulatory pressures causing suddenly deviation. 3. Regulatory Change Curve: Illustrates sudden impact on market value that regulation can cause 4. High Obsolescence Curve: Illustrates impact of technological obsolescence such as computers and high-tech equipment. 37 5. New Tax Law / High Inflation Curve: Tax laws and inflation can cause a normal residual curve to rise in a short time.
  • 39. Section 1 : Cost Chapter 6 : Equipment Variables That Affect Residual Value (1/4) 1. Initial Cost: For residual purposes, the estimator should consider hard costs only. Hard cost includes the cost new + items necessary to make it operate such as motors, electricals, and controls. Soft costs should not be included such as foundations, freight, debugging, taxes, and installation. Example: A transaction valued at $2.1 million. Subsequent investigation found that basic cost of the machine was $1.5 million, the soft cost was $600’000. Residual curve indicated 30 percent of the new cost. Total Cost: $2.1 million x 30% = $630,000 Hard Cost: $1.5 million x 30% = $450,000 Difference = $180,000 This difference could present a future shortfall. In some instances, such as a lease or financing or life-cycle costing, soft costs should be considered in determining residual values. 38
  • 40. Section 1 : Cost Chapter 6 : Equipment Variables That Affect Residual Value (2/4) 2. Maintenance: It can affect the useful life of equipment. In calculating a residual value, estimators must consider how the equipment will be maintained and/or the maintenance provisions in the lease. 3. Use, Wear, and Tear: Equipment in harsh service versus mild service can be substantial. Ex: hopper used in grain service lives 40 to 50 years. However, if used in salt service, their useful lives can be as short as 15 years. Some types of equipment, such as aircraft, define use in hours of utilization and cycles (takeoffs and landings); other transportation equipment defines use in miles per year. Most mechanical equipments tend to wear out at around 10,000 to 20,000 hours. At these milestones, usually some form of rebuild is required. 4. Population: This gives statistical significance to the residual value, because the value will be based on a large sample. 39
  • 41. Section 1 : Cost Chapter 6 : Equipment Variables That Affect Residual Value (3/4) 5. Age: Equipment presented as new in January 2003 could have a 2001 or 2002 build date. Both are new with the same condition but the price is different. 6. Economy: A used truck in a robust economy may be sold for lower price and longer time in a recession. Cost of money should also be calculated in the overall cost. 7. Changes in Technology: An analysis of technological changes occurring over the past 20 years shows that future advances in technology were generally known at the time of lease origination. time necessary to “fix” an image from minutes to seconds. 8. Foreign Exchange: Changes in foreign exchange value could affect selling / residual value, causing them to suddenly drop or increase. Strong foreign currency may rise the price of foreign equipment, which in turn, may pull residuals up, and vice versa. 40
  • 42. Section 1 : Cost Chapter 6 : Equipment Variables That Affect Residual Value (4/4) 9. Tax Law: Sometimes tax laws can affect new equipments price, hence affecting used equipment price. 10. Legislation/Regulation: Regulations may impact values in positive ways, however, the impact is often negative. 11. Equipment Location: Does the equipment required to be delivered to a prime market location or will it have to be sold in a remote area? 12. Method of Sale: Price of cash sales will not be like installment sales. 41
  • 43. Section 1 : Cost Chapter 7 : Economic Costs Chapter 7 Economic Costs 42
  • 44. Section 1 : Cost Chapter 7 : Economic Costs 43 Types of Costs 1. Opportunity Cost: Foregone benefit by choosing one alternative over another. A company has 3 investments options with ROI = 1.37, 1.34, 1.32. The opportunity cost of choosing the 1.34 is 0.33 loss for not exploiting the higher ROI investment. 2. Sunk Costs: Funds already spent by past decisions. Since these expenditures are in the past, they should not influence current decisions. 3. Book Costs: Original cost less any depreciation. They do not represent cash flow and thus are not taken into account for economic decisions. If market price is lower than the original price, price will be carried at the lower of cost or market value. 4. Incremental Costs: When comparing between many alternatives, cost differences between them are called incremental costs. Ex: If two units have annual costs of $1,500, $1,800, then incremental cost difference is $300.
  • 45. Section 1 : Cost Chapter 7 : Economic Costs 44 Changes In Costs (1/2) 1. Inflation: A rise in the price level that does not occur by itself but must have a driving force behind it. There are four effects that can result in inflation: I. Money supply: Influenced by central bank operations. A loosening of monetary policy will increase the flow of money, which means increased money is chasing the same amount of goods. This bids up price resulting in inflation. II. Exchange rates: They influence price of imported goods. If the import is a basic industrial commodity, utilized in several products, this will lead to inflation. III. Demand-pull inflation: When excessive quantities of money are chasing a limited amount of goods resulting in what is essentially a “seller’s market” as sellers receive premium prices IV. Cost-push inflation: It takes place when product producers encounter higher costs and then push these costs along to others in the production chain through higher prices.
  • 46. Section 1 : Cost Chapter 7 : Economic Costs 45 Changes In Costs (2/2) 2. Deflation: A fall in the general price level for goods. The same factors of money supply, exchange rates, demand-pull, and cost-push factors operate but in the opposite direction with a resultant decrease in prices. 3. Escalation: A technique to accommodate price increases or decreases during contract life. A clause is incorporated into the contract so that the purchaser will compensate the supplier in the event of price changes. Without such clauses, suppliers would include contingency amounts that might not used. The supplier would gain from this windfall while the purchaser would be the loser. 4. Currency Variation: A significant cost impact both on those inside the country as well as those outside the country. Protection can be accomplished through: 1. Currency futures hedging or 2. Valuing contracts against very stable currencies.
  • 47. Section 1 : Cost Chapter 7 : Economic Costs 46 Governmental Cost Impacts (1/2) 1. Taxes: Ex: Income taxes, property taxes, inventory taxes, employment taxes, and sales taxes. In the case sales taxes, the firm acts as the tax collector for the government adding the sales tax and collecting it from customers. Some countries have a value-added tax (VAT) applied to the added value. Therefore, if a firm took $100 worth of raw materials and produced a product valued at $250, the (VAT) would be applied to the $150 difference or value added by the firm. 2. Effective & Marginal Tax Rates: • Effective tax rate (Average tax rate) = (Tax Liability / Total Taxable Income). • Marginal tax rate is the tax rate on the next dollar of taxable income. For financial decision-making, marginal tax rate is a key element because the firm is concerned with the tax impact of additional income.
  • 48. Section 1 : Cost Chapter 7 : Economic Costs 47 Governmental Cost Impacts (2/2) 3. Investment Tax Credits : To encourage economic activity, governments may give firms tax credits ‫اعفاء‬‫ضريبي‬ based on location, equipment type, or certain public goals such as equipment that reduces energy consumption. 4. Depreciation and Depletion: • Depreciation: Governmental entities allow depreciation to encourage investment in equipment. Depreciation is a non-cash expense that reduces taxable income. It provides an incentive for firms to invest in new plant and equipment based on original equipment costs (inflation cannot be taken into account for these purposes). The rationale underlying depreciation is that physical assets lose value over time due to such factors as deterioration, wear, and obsolescence. • Depletion : Analogous to depreciation but for natural resources. Thus, owners of a stone quarry or an oil well can take depletion allowances based on the percentage of the resource used up in a given time period.
  • 49. Section 1 : Cost Chapter 7 : Economic Costs 48 Depreciation Techniques (1/2) 1. Straight-Line Depreciation : D = (C - S) / N Where: D = depreciation charge, C = asset original cost, S = salvage value, and N=asset depreciable life (years). Ex: Asset with a $8’000 original cost, 5-years life, and $400 salvage value. D = ($8’000 – $2’000) / 5 = $6’000 / 5 = $1’200 2. Double-Declining Balance Depreciation (DDM): D = ( 2 / N ) (BVt-1) Where: D = depreciation charge, C = asset original cost, BV = Book value at given year, and N = asset depreciable life (years). Ex: For the previous example, Year Calculation Dep. Amount Allowable Dep. Book Value 1 (2/5) x (8000) $3’200 $3’200 $4’800 2 (2/5) x (4800) $1’920 $1’920 $2’880 3 (2/5) x (2880) $1’152 $880 $2’000 Total - $6’272 $6’000 -
  • 50. Section 1 : Cost Chapter 7 : Economic Costs 49 Depreciation Techniques (2/2) 3. Sum-of-Years Digits Depreciation (SOYD): Dr = (C - S) x [ (N-r+1) / ((N(N + 1) /2 )] Where: Dr = Depreciation charge for the rth year, C = asset original cost, S = salvage value, N = remaining asset depreciable life (years), r = rthyear. Ex: For the previous example, 4. Modified Accelerated Cost Recovery System Depreciation (MACRS): • Unique to the United States Tax Code. • Based on original asset cost, asset type, asset recovery period. 5. Units of Production Depreciation: • Utilized when depreciation is more accurately based on usage instead of time. Year Calculation Dep. Amount 1 (8000 – 2000) x (5/15) $2’000 2 (8000 – 2000) x (4/15) $1’600 3 (8000 – 2000) x (3/15) $1200 4 (8000 – 2000) x (2/15) $800 5 (8000 – 2000) x (1/15) $400
  • 51. Section 1 : Cost Chapter 7 : Economic Costs 50 Economic Analysis Techniques Time Value of Money: In order to compare different alternatives on the same basis, these cash amounts of income and expenditures must be set to equivalent terms.
  • 52. Section 1 : Cost Chapter 7 : Economic Costs 51 Economic Analysis Techniques 1. Net Present Worth Method (NPW): Ex: Unit A price=$10’000, life=4years, salvage=0, Annual maintenance = $500/year. Unit B price=$20’000, life=12year, salvage=$5’000, maintenance costs are Year1=0, Year2=$100 and increase by $100/year. The firm’s cost of capital is 8 percent. Solution: • Life is different and the common multiple is 12 years • NPW(A)= 10’000 + 10’000/1.084 + 10’000/1.088 + 500 x [(1.0812-1)/(0.08x1.0812)] = 10’000 + 7350.3 + 5402.7 + 3768 = 26’521 • NPW(B)=20’000+ 100 x [ (1.0812 -0.08x12-1)/(0.0812 x 1.0812)] – 5000/1.0812 = 20’000 + 3463 - 1985.6 = 21’277.82 Decision: Select unit B that has the least cost.
  • 53. Section 1 : Cost Chapter 7 : Economic Costs 52 Economic Analysis Techniques 2. Capitalized Cost Method: A = P x I Capitalized cost (CC) represents the present sum of money that needs to be set aside now, at some interest rate, to yield the funds required to provide the service. Example: A bridge is built for $5,000,000 and will have maintenance costs of $100,000 per year. At 6 percent interest, what is the capitalized cost of service? Solution: Maintenance Capitalized Cost = ($100,000) / 0.06 = $1’666’667
  • 54. Section 1 : Cost Chapter 7 : Economic Costs 53 Economic Analysis Techniques 3. Equivalent Uniform Annual Cost or Benefit (EUAC/EUAB): (P-S)(A/P,I,n) + SI The comparison may be made on the basis of equivalent uniform annual cost (EUAC), equivalent uniform annual benefit (EUAB) or on the EUAB-EUAC difference. Example : Unit A has an initial cost of $20,000 and $3,000 salvage value, while Unit B has an initial cost of $15,000 and $2,000 salvage value. Unit A has a life of 10 years, whereas Unit B has a 5-year life. Cost of capital is 10 percent. Solution: EUACA = P (A/P,I,n) – S (A/F,I,n) or you can use the formula above = 20’000 x0.1 x 1.110 / (1.110 - 1) - 3’000 x0.1 / (1.110 -1 ) = 3254.9 – 188.24 = $3066.67 EUACB = 15’000 x0.1 x 1.15 / (1.15 - 1) - 2’000 x0.1 / (1.15 -1 ) = 3429.37 – 327.59 = $3629.37 Decision: Select unit A that has the least annuity.
  • 55. Section 1 : Cost Chapter 7 : Economic Costs 54 Economic Analysis Techniques 4. Rate of Return Analysis (ROR): Many organizations often set hurdle rates (benchmark rate of return) that a capital investment decision must achieve to be acceptable. In the case where investment funds are limited, projects with the highest ROR values can be selected. Example : Unit A cost of $20,000 and Unit B of $10,000 and each 1-year life. Incremental benefit of $15,000 for A compared to B. Organization hurdle rate is 20%. Solution: NPW (A vs B) = 20’000 – 10’000 = $10’000 P = F / (1+i)n  (1+i)n = F/P (1+i)1 = 15’000 / 10’000 = 1.5  1+i = 1.5 i= 0.5  ROR = 50% Decision: As long as ROR > 20%, investment is OK.
  • 56. Section 1 : Cost Chapter 7 : Economic Costs 55 Economic Analysis Techniques 5. Benefit-Cost Ratio Analysis Method: If B/C > 1 then project is viable. If comparing projects, take the highest B/C ratio. Example : A Benefits= $1’500’000 and Cost= $1’200’000. B Benefits= $2’000’000 and cost= $1’700’000 Solution: B/CA = 1.25 B/CB = 1.17 Decision: Take the highest B/C which is for A 6. Payback Period Method: • Period of time necessary for the benefits to pay back the associated costs. • Differences in the timing of cash flows are not considered nor are benefits and costs beyond the payback period. • Example: Investment of $4,000 with benefits of $800 per year would have a payback period of 5 years ($4,000/$800 = 5 years).
  • 57. Section 1 : Cost Chapter 8 : ABC Management Chapter 8 A c t i v i t y - B a s e d C o s t M a n a g e m e n t 56
  • 58. Section 1 : Cost Chapter 8 : ABC Management 57 Overhead Expenses Are Displacing Direct Costs • Over the last few decades, overhead expenses have been displacing the recurring costs. • Organizations have visibility of direct costs, but not have any insights into overhead or its reasons. ABC/M can help provide for insights. • Most of people believe that overhead expenses are displacing direct costs because of technology, equipment, automation, or computers. • The primary cause for the shift is the increasingly offering of variety of products, using more types of sales channels, and servicing different types of customers. This creates complexity which results in more overhead expenses to manage it. • ABC/M does not fix or simplify complexity, but points out where the complexity is and where it comes from.
  • 59. Section 1 : Cost Chapter 8 : ABC Management 58 Expressing Activities And Tracing Expenses General Ledger ABC/M Transaction-centric Work-centric Uses chart of accounts Uses chart of activities What was spent What it was spent for Records the expenses Calculates the costs of activities and unit cost Organized around cost centres to accumulate transactions into their accounts. But this format is deficient for decision support Describes activities using an “action verb- adjective- noun” format, such as inspect defective products, open new customer accounts
  • 60. Section 1 : Cost Chapter 8 : ABC Management 59 Drivers triggers • It’s what would make activity cost increase or decrease • Ex of activity is “Analyze claims”, Ex of Driver is “Number of claims analyzed”. Cost Re-Assignment Network ABC re-assigns 100 % of the costs into the final products, service lines, and customers. In short, ABC connects customers to the unique resources they consume. ABC cost re- assignment network consists of the three modules connected by cost assignment paths. 1. Resources: The capacity to perform work. Ex: salaries and materials. They are traced to work activities to convey resource expenses into the activity costs. 2. Activity Module: It’s where work is performed. It contains the structure to assign activity costs to cost objects 3. Cost objects: At the bottom of the cost assignment network, represent outputs and services where costs accumulate. Ex: Products, service lines, and customers. The customers are the final-final cost objects.
  • 61. Section 1 : Cost Chapter 8 : ABC Management 60 Using Attributes of ABC • One role for calculating costs is to identify which activities are : 1. Not required and can be eliminated (Ex: Duplication of effort) 2. Ineffectively accomplished and can be reduced 3. Required to sustain the organization (not be possible to reduce or eliminate). 4. Discretionary and can potentially be eliminated (Ex: Annual employees’ picnic). • Traditional methods do not provide any way to tag/highlight individual costs. ABC/M allow managers to differentiate activities from one another. • Example of tags are:  very important / required / postponable.  High-value-adding / low-value-adding.  Exceeds / meets / below customer expectation. • Multiple attributes can be applied. Ex: performance (vertical axis) and importance (horizontal axis).
  • 62. Section 1 : Cost Chapter 8 : ABC Management 61 Local vs. Enterprise-Wide ABC/M • A common misconception is that ABC/M system must be enterprise-wide. However In practice, the majority of ABC/M is applied to subsets of the organization for process improvement rather than revenue enhancement. • The local model is used for tactical purposes, often to improve productivity. In contrast, the enterprise-wide model is often used for strategic purposes because it helps focus on where to look for problems and opportunities. • Also, enterprise-wide models are popular for calculating profit margin at all levels. • Commercial ABC/M software now enables consolidating some, and usually all, of the local, children ABC/M models into the enterprise-wide, parent ABC/M model.
  • 63. Section 1 : Cost Chapter 8 : ABC Management 62 Applications Of Local ABC/M • The objective of local ABC/M models is not to calculate the profit margins; it is to compute the diverse costs of outputs to better understand how they create the organization’s cost structure. • An interesting application is when marketing department is trying multiple tools, such as newspapers, radio, television, tradeshows, Websites, ...etc. ABC/M calculation determine the costs versus benefits of all the channel combinations to rank in order which are the least to best return on spending. Why ABC/M ? • In the past, most organizations were reasonably profitable. They could make mistakes, and their adequate profitability would mask the impact of their wrong or poor decisions. However, error margin today is slimmer. Businesses cannot make many mistakes as in the past and remain competitive or effective. • Mature users try to integrates ABC/M output data with their decision support systems, such as their cost estimating, predictive planning, budgeting, activity-based planning (ABP) systems, customer relationship management (CRM), and balanced scorecard performance measurement systems.
  • 64. Section 2 : Cost Estimating Chapter 9 : Estimating Sec 2 Cost Estimating 1
  • 65. Chapter 9 Estimating 2 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 66. Introduction • Why Estimating: 1. Determining the economic feasibility of a project, 2. Evaluating between project alternatives 3. Establishing the project budget 4. Providing a basis for project cost and schedule control • Estimating Steps: 1. Understand scope of the activity to quantify the resources required, 2. Apply costs to the resources 3. Apply pricing adjustments 4. Organize the output in a way that supports decision-making. • Estimate Accuracy: • Each subsequent decision-making point (whether project should be continued) requires cost estimates of increasing accuracy. • Estimating is an iterative process that is applied in each phase of the project life cycle as the project scope is defined, modified, and refined. 3 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 67. Estimate Classifications 4 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 68. Estimating Methodologies 5 A. Conceptual B. Deterministic Project Definition Level Low level of Project Definition High level of Project Definition Independent Variable used in estimating algorithm Not direct measure of units Direct measure Item x unit cost Effort Significant effort in data gathering and cost analysis. Preparing estimate itself takes little time sometimes an hour. Large effort, sometimes weeks or even months. Section 2 : Cost Estimating Chapter 9 : Estimating
  • 69. A. Conceptual Estimating Methodologies • Used for class 4 or 5 (sometime for class 3) • Referred to as order of magnitude (OOM) in reference to the wide range of accuracy. • May be used for project screening, feasibility evaluation, initial budget. • Common used methods are: 1. End-Product Units Method 2. Physical Dimensions Method 3. Capacity Factor Method 4. Ratio / Factor Method 5. Parametric Method 6 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 70. A. Conceptual Estimating Methodologies 1. End-Product Units Method: • Used when enough historical data available from similar projects such as electric plant and its capacity in kilowatts, a hotel and the number of guest rooms, or a hospital and the number of patient beds. • Ex: A 1’000 guest rooms hotel was completed for $67,500,000. Therefore, the cost of the 1,500 room hotel is $101,250,000 ($67,500/1,000 x 1,500). • This meets the needs of the feasibility study, however it has ignored several factors like scale, location, or timing. Cost indices can be used for adjustment. 2. Physical Dimension Method: • Use length, area, volume, … etc as the driving factor such as building area in m2 or pipeline length in m. • Ex: 2900 m2 warehouse was built for $623’500. A new ware house of 3’600 m2. The expected cost will be $623’500 / 2900 x 3600 = $774’000 • We have ignored quality specifications between the two warehouses. 7 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 71. A. Conceptual Estimating Methodologies 3. Capacity Factor Method: • It relies on the nonlinear relationship between capacity and cost. • $B = $A (CapB / CapA)e. Where B is the facility being estimated, “e” is the exponent or proration factor, typically lies between 0.5 and 0.85 • If e is less than 1, capacity increases by a percentage (say, 20 percent), the costs to build the larger facility increase by less than 20 percent. • Capacity factor also referred to as the “scale of operations” method or the “six tenth’s factor” method due to the common reliance on e = 0.6 • With e = 0.6, doubling the capacity increases costs by approximately 50 % and tripling the capacity increases costs by approximately 100 %. • As e tends towards a value of 1, it becomes more economical to build two facilities of a smaller size than one large facility. 8 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 72. A. Conceptual Estimating Methodologies 3. Capacity Factor Method: • Example: 100’000 BBL/day hydrogen peroxide unit to be built in Philadelphia and completed in 2004. We have recently completed a 150,000 BBL/day plant in Malaysia with a final cost of $50 million in 2002. Our recent history shows a capacity factor of 0.75 is appropriate. • Solution: $B = $50 x (100/150)0.75 = $36.89 M • Example: Assume adjustment for scope(-10M) for piling, location(1.25) higher cost, timing(1.06) multiplier, and additional cost for pollution(5M). • Solution: $50 - $10 piling not required = $40 M $40 x 1.25 location = $50 M $50 x 1.06 timing = $53 M $B = $53 x (100/150)0.75 = $39 M $39 + $5 Pollution Cost = $44 M 9 Steps 1. Deduct costs N/A in new plant 2. Adjust location and escalation 3. Apply capacity factor 4. Add additional costs required for the new plant Section 2 : Cost Estimating Chapter 9 : Estimating
  • 73. A. Conceptual Estimating Methodologies 4. Ratio Factor Method: • Used when cost can be estimated from a primary component cost, This is often referred to as “equipment factor” estimating. • Estimate is often a feasibility estimate (Class 3). Then may be used to justify the funding required to produce a budget estimate (Class 3). • Factors may estimate Total Installed Costs (TIC) or Direct Field Cost (DFC) for the Inside Battery Limits (ISBL) facilities, however sometimes appropriate factors are used to estimate the costs of the complete facilities. • Hans Lang (1947): Total plant $ = total equipment $ x equipment factor. Factors based on process type (Solid Process Plant 3.1 , Solid-Fluid Process Plant 3.63, Fluid Process Plant 4.74 ). Lang’s factors cover ISBL & OSBL costs. Ex: A fluid process plant with estimated equipment cost = $1.5M Total plant cost = $1.5M X 4.74 = $7.11M 10 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 74. A. Conceptual Estimating Methodologies 4. Ratio Factor Method: • W. E. Hand(1958): • Elaboration for Lang’s method proposing factors for type of equipment such as vessels or heat exchangers. Hand’s factors for equipment excluding instrumentation range from 2.0 to 3.5 and if including instrumentation they range from 2.4 to 4.3 . Hand’s factors estimated DFCs and excluded indirect field costs (IFC), home office costs (HOC), and the costs for outside battery limit (OSBL). 11 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 75. A. Conceptual Estimating Methodologies 4. Ratio Factor Method: • W. E. Hand(1958): 12 Section 2 : Cost Estimating Chapter 9 : Estimating 1. Equipment cost x factor 2. Sum to calculate DFC 3. DFL (labor) = 25% x DFC 4. IFC = 115% x DFL 5. HOC = 30% x DFC 6. Commissioning = 3% x DFC 7. Sum 8. Contingency = 15% x Sum 9. Total
  • 76. A. Conceptual Estimating Methodologies 4. Ratio Factor Method: • Arthur Miller (1965):  Miller recognized impact of (1)Size, (2)metallurgy, (3)operating pressure).  When size gets larger, amount of corresponding materials (foundation, support steel, piping, instruments) does not increase at the same rate. Thus, as equipment size increases, value of the equipment factor decreases.  A similar tendency exists for metallurgy and operating pressure.  Miller suggested that these three variables could be summarized into a single attribute known as the “average unit cost” of equipment.  Average unit cost = Total cost of equipment/number of equipment items  There’s a statistical correlation between increasing average unit cost of equipment and decreasing equipment factors that if the average unit cost of equipment increases, then the equipment factor is scaled smaller. 13 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 77. A. Conceptual Estimating Methodologies 4. Parametric Method • A correlation between physical or functional characteristics of a plant (or process system) and its resultant cost [NASA]. • Capacity factor & equipment factor are simple examples of parametric estimates; however sophisticated parametric models involve several variables . • Developing a parametric model involves the following steps : 1. Cost model scope determination: End use, physical characteristics. 2. Data collection: Quality of model can be no better than quality of data. 3. Data normalization: Escalation, location, site conditions. 4. Data analysis: Series of linear and non-linear regression analysis will be run to determine the best algorithm (model). 5. Data application: User interface that accept user inputs then calculate costs and display results. Spread sheets is an excellent tool. 6. Testing: Test the result validity and accuracy. 7. Documentation: User manual. 14 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 78. B. Deterministic (Detailed) Estimating Methodologies • Strategy: Each component of scope is quantitatively surveyed and priced. • Class: Support final budget authorization, contractor bid tenders, cost control during project execution, and change orders (Class 3 : Class 1 estimates). • Minimum required engineering data: Drawings, diagrams, data sheets, layouts, plot plans, and specifications. • Pricing data should include: • Completely detailed estimate: All costs are detailed including DFC, IFC, HOC, other costs for both ISBL and OSBL facilities. • Semi-detailed estimate: Costs for the ISBL process facilities are detailed, and the costs for the OSBL facilities are factored. • Forced-detailed estimate: Detailed takeoff quantities are generated from preliminary drawings (incomplete design ). 15 Section 2 : Cost Estimating Chapter 9 : Estimating 1. Vendor quotations 2. Recent purchase orders 3. Current labor rates 4. Subcontract quotations 5. Project schedule 6. Construction plan
  • 79. B. Deterministic (Detailed) Estimating Methodologies • Detailed Estimate Steps: 1. Estimate basis and schedule: Review organization procedures and formats, identify estimating resources and techniques, prepare estimate schedule. 2. Direct field cost (DFC) estimate: Review scope, perform takeoff including material and labors, then summarize estimates. 3. Indirect field cost (IFC) estimate: Apply in-direct wages and allowances, apply indirect factors (if applicable). 4. Home office cost (HOC) estimate: Detailed work-hours estimate for administration / Engineering disciplines then applying wages , factors if any. 5. Sales tax/duty estimates 6. Escalation estimates: Based on project schedule. 7. Project fee estimate (for contractors): Depending contracting strategy. 8. Risk analysis/contingency 9. Review/validate estimate 16 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 80. B. Deterministic (Detailed) Estimating Methodologies • Notes for estimating • Formal vendor quotes are preferred; however sometimes time constraints in do not permit. In this case, pricing may depend on informal quotes from vendors like phone discussions, recent purchase orders, capacity factored estimates from similar equipment, or from parametric pricing models. • Check equipment list against flow diagrams to ensure all items are identified. • Ensure that cost of equipment accessories (trays, baffles, ladders) included. • Freight costs for equipment can be significant. Identified them explicitly. • Identify required vendor assistance / support costs • Major spare parts need to be accounted for and included. • Prepare equipment installation costs. • Consider costs for calibration, soil settlement, special internal coatings, hydrotesting and other testing. 17 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 81. Take-Off: • It’s quantifying project material & labor. The term take-off is also used to refer to BOQ. This involves examination of drawings to count each item then quantities are summarized then costed resulting in project direct field costs. • Guidelines for preparing an efficient take-off include the following: • Use pre-printed forms, abbreviate consistently, measure carefully. • Convert imperial (feet/inch) to decimal. • Do not round or convert units until final summary. • Identify drawing/section numbers on take-off forms for future checking. • Be alert for notes shown on drawings, changes in drawings scale. • Care to quantify labor operations that may not have material component. Costing Vs. Pricing: • Costing is applying unit costs to quantities, usually in the form of labor hours, wage rates, material costs, and perhaps subcontract costs. • Pricing, on the other hand, is adjusting costs to allow for overhead and profit. 18 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 82. Estimating Allowances • Included in an estimate to account for the predictable but un-definable costs like: 1. Design allowances: To account for continuing design that occurs after placement of a purchase order. From 2 to 5 % of engineered equipment cost. 2. Material take-off allowances: To cover the cost of undefined materials while estimating. For example, concrete accessories not included in drawings. From 2 to 15 % of discipline costs. 3. Overbuy allowances: For inventory losses due to damage, cutting waste, misuse of materials, theft, etc. From 2 to 10 % of discipline material costs. 4. Shipping damage: Usually covered by insurance if detected upon arrival at site. This allowances are to cover losses that are not covered by insurance. 5. Undefined major items: A particular area of scope may not have progressed in design but its cost must be included in the estimate. 6. Miscellaneous allowances: Like hand/machine excavation, formwork accessories, steel connections (bolts & gaskets), piping hangers and guides. 19 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 83. Factors Affecting Estimate Accuracy • Level of project definition (Better definition is superior than detailed estimate). • State of new technology in the project • Quality of used cost information • Estimator experience and skill • Estimating techniques employed • Level of effort budgeted to prepare the estimate • Desired end use of the estimate. 20 Section 2 : Cost Estimating Chapter 9 : Estimating Contingency Reserve • Definition: Amount added to the estimate to achieve a certain probability • Contingency Includes: Estimating errors, Incomplete design, Conceptual estimating for some items, wages variability, labor availability, lower productivity & skills, and inflation of material and equipments costs. • Contingency doesn’t Include: Scope changes, disasters & force majeure, strikes, excessive unexpected inflation, and excessive unexpected currency fluctuations.
  • 84. Risk Analysis • Risk Analysis Types: 1. Strategic Risk Analysis Models: Evaluate the level of project definition and project technical complexity in determining the overall risk to project cost. 2. Detailed Risk Analysis Models: Evaluate the accuracy range for individual or groups of estimate components in determining the overall risk to project cost. Both generate probability distributions for the expected final cost outcomes which are used to determine amount of contingency (difference between selected funding value and original point estimate). • Example: Original estimate = $23.3. Probability of not exceeding this value is 20 % • If We need to achieve 50 % probability, we would fund project at $25.4M, Contingency added = $2.1M = 9 % • If we wanted 70 % probability , Fund at $26.6M, contingency = $3.3M • Note: Contingency does not increase accuracy, however, reduce the level of risk 21 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 85. Structuring The Estimate • Project Breakdown System (PBS): • A numbering system used to identify each cost center • It must reflect the project execution and the way costs can be collected. • The matrix of the WBS and RBS forms the project breakdown system (PBS) and the intersection points are called cost centers. • Cost code of the labor to pour concrete in the main building: 01-02-C-2-003-1 22 Section 2 : Cost Estimating Chapter 9 : Estimating Area Building Function Discipline Resource 01 Onsite 01 Admin A Engineering 01 Earthwork 001 Labor 02 Offsite 02 Workshop B Construction 02 Concrete 002 Material
  • 86. Cost / Schedule Integrating (1/2) 1. One-to-one approach: Breakdown the estimate to the level of schedule activities. Problems of this approach: • Not feasible. • Activities are subject to more change than cost codes. • Tracking bulk material costs by activity is difficult and costly. • Costs are often not incurred at the same time as activities. 2. Integrating at a sufficient level of detail: Keeping both structures identical to a certain level of WBS then diverge to meet each structure’s control needs. 23 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 87. Cost / Schedule Integrating (2/2) • Schedule provide dates that are essential to calculate escalation, cash flow, … etc. • Estimate provides labor hours essential to determine durations & resource loading. • Cost reporting system needs to be correlated with schedule progress. • Cost / schedule breakdown not necessarily compatible, however, aligned at a level. • Estimate is very sensitive to schedule. Changes to plan may significantly affect cost: 1. Unit material costs are schedule dependent for impacts of inflation and seasonal variations. 2. Unit labor hours are schedule dependent for seasonal labor availability, climate, and schedule impacts due to execution plan changes. 3. Wage rates are also sensitive for impacts of inflation, seasonal variation, and execution plan changes (affecting overtime and/or shift premiums). • Some costs are dependent on when they occur in the calendar year. Labor productivity can be adversely affected by weather. • Shortening project duration may cause overtime, shift premiums, … etc. 24 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 88. Estimate Review • Review Types: 1. Team Review: • Check the math of estimate • Check basis of estimate (BOE) 1. Design: scope, assumptions, equipment list, drawing list, and specs. 2. Planning: Milestones, resources, calendar, and overtime/shifts use. 3. Cost: Pricing sources, quotes, purchases, allowances, and escalation. 4. Risk: How contingency was determined. • Check following “Estimating Department” guidelines: Methods, techniques, procedures, formats, factors, and allowances. 2. Engineering Department Review: • Check completeness of engineering deliverables (Drawings, specs, lists) • Check basis of estimate (BOE): Design, cost and risk. 3. Project Manager Review 4. Management Review 5. Review By Others 25 Section 2 : Cost Estimating Chapter 9 : Estimating
  • 89. Chapter 10 Process Product Manufacturing 26 Section 2 : Cost Estimating Chapter 10 : Process Production
  • 90. Operating Cost Estimates • Can be performed on (1) a daily, (2) unit of production, or (3) annual basis. • Annual is preferred because: 1. It considers seasonal variations. 2. It is readily adapted to less-than-full capacity operation. 3. It readily includes the effect of periodic large costs (scheduled maintenance, vacation shutdowns, catalyst changes, etc). 4. It is directly usable in profitability analysis. 5. It is convertible to the other bases, daily cost and unit-of-production. • A basic flow-sheet of the process is vital to preparation of an estimate. To properly prepare an operating or manufacturing cost estimate, a prepared estimating form should be used to assure that the estimate is performed in a consistent manner and to avoid omitting major items. The estimating form acts as a checklist and as a device for cost recording and control. Section 2 : Cost Estimating Chapter 10 : Process Production 27
  • 91. Production Cost Estimating Form Section 2 : Cost Estimating Chapter 10 : Process Production 28
  • 92. Production Cost Estimating Form Section 2 : Cost Estimating Chapter 10 : Process Production 29
  • 93. Cost of Operations At Less Than Full Capacity • It’s necessary to perform estimates at full plant capacity and at conditions other than full capacity. Performing an estimate only at full design capacity does not consider unscheduled downtime, market fluctuations in product demand, time required to develop markets for a new product, ... etc. • When you consider cost effects of operation at less than full capacity, you take into account the fixed, variable, and semi-variable costs: 1. Fixed Costs: Such as depreciation, property taxes, insurance. 2. Variable Costs: Such as raw materials, utilities, chemicals, and catalysts. 3. Semi-Variable Costs: Such as direct labor, supervision, general expense, and plant overhead. • Royalties may be variable, semi-variable, fixed, or even a capital expense. If paid in a lump sum should be capitalized. If paid in equal annually are fixed costs. If paid as a fee per unit of production or sales are variable costs. If paid at a rate per unit of production that declines as production increases are semi-variable. • Packaging may be variable or semi-variable depending on the situation. Section 2 : Cost Estimating Chapter 10 : Process Production 30
  • 94. Cost of Operations At Less Than Full Capacity • F : Fixed expense • V : variable expense • R : Semi-variable expense • C : Total operating cost • S : sales income • N : income to achieve minimum ROI • n : Semi-variable fraction at zero capacity Section 2 : Cost Estimating Chapter 10 : Process Production • Variable expense declines to 0 at zero-capacity, fixed expense is constant, and semi- variable expense at zero-capacity is (20 to 40) % of its value at full capacity. • (A) Shutdown point (shut down rather than operating at lower rates) • (B) Breakeven point (Income = total operating cost ) • (C) Minimum return Point. 31
  • 95. Raw Material Costs • It can constitute a major portion of operating costs. Hence , a complete list of all raw materials must be developed considering the following: 1. Unit cost rates and units of purchase (tons, m3, item, etc.) 2. Quantity required per unit of time and/or unit of production 3. Quality of raw materials (concentration, acceptable impurity levels, etc.) 4. Availability in markets. • Raw materials obtained in-house are not purchased, however, don’t neglect their cost because they represent a cost to the company. In addition, internal company freight, handling, and transfer costs must be added. Section 2 : Cost Estimating Chapter 10 : Process Production By-Product Credits & Debits • By-products, including wastes and pollutants, must be considered in the estimate. • These costs may be credits (if salable or usable) or debits (if wastes or unsalable). • Cost of treating these products (including equipments) must be included in the estimate. 32
  • 96. Utility Costs • It’s necessary to determine the requirements of utility costs such as plant lighting, sanitary water, etc. • Electric rates in the past were stable for many years, this is no longer true, and the estimator must obtain current rates from the utility companies. • Natural gas prices depend on quantity required. • For steam costs, it depends on fuel cost, boiler water treatment, operating labor, maintenance, etc. Black suggested that steam costs is 2 to 3 times the cost of fuel. • Water costs are highly variable depending upon the water quality and quantity required. Purification costs, if contamination occurs before disposal, must also be included, as must cooling costs if the process results in heating of process water. • Fuel costs vary with the type of fuel used and the source of supply. Also, consider the type of firing equipment required and to required fuel storage facilities. • Utility consumption generally is not proportional to production due to economies of scale and reduced energy losses on larger process units. Section 2 : Cost Estimating Chapter 10 : Process Production 33
  • 97. Labor Costs • A detailed staffing must be established which indicates: (1) Skill or craft required, (2) labor rates, (3)supervision required, (4) overhead personnel required. • Labor costs can be estimated from company records, union wage scales, salary surveys of various crafts and professions, or other published sources. • Further, when estimating around-the-clock, 168-hr/wk operations, allowance must be made for the fact that a week includes 4.2 standard 40-hr weeks. • An alternate method of calculating labor requirements, if sufficient data are not available, is to consider a correlation of labor in work hours per ton of product per processing step. This relationship, which was developed by Wessel : Section 2 : Cost Estimating Chapter 10 : Process Production 34
  • 98. Supervision And Maintenance Cost • Supervision costs established in details. If not possible, 15:20 % of direct labor cost. • Maintenance labor costs are often estimated as a percentage of depreciable capital investment per year. For complex plants and severe corrosive conditions 10 : 12 % or higher. For simple plants with noncorrosive conditions 3 : 5 %. • Maintenance costs are semi-variable (35 : 40 % direct labor, 7 : 8 % direct supervision, 35 : 40 % materials, 18 : 20 % contract maintenance. • As the project evolves toward a final staffing plan, factors can be replaced with numbers generated from the staffing table. Section 2 : Cost Estimating Chapter 10 : Process Production Percent of capacity Maintenance cost as % of cost at full capacity 100 % 100 % 75 % 85 % 50 % 75 % 0 30 % • When operating at less than 100 % of capacity, maintenance costs increase per unit of production as shown in table: • Maintenance generally increases with age of equipment. 35
  • 99. Operating Supplies And overhead Costs • Operating supplies: They are a relatively minor cost of operations. It Includes miscellaneous items, such as lubricating oil and wiping cloths. Ranges from a few percent to 20 % of payroll depending upon plant complexity, for example, 6 % in a coal preparation plant, 20 % in an oil refinery. Better to use past projects records. • Overhead (burden costs): • Such as workers’ compensation, pensions, insurance, paid vacations and holidays, social security, unemployment taxes and benefits, profit-sharing programs, and a host of others. • These costs varies from industry to industry, and company records are the best measure of their magnitude. However, in the absence of company data, payroll overheads may be roughly estimated at 25 : 40 % of ( direct labor + supervision + maintenance labor costs). • Operating company testing and research laboratories is another overhead expense which must be included in the estimate. It’s best estimated based upon company experience or as a percentage 3 : 20 % of direct labor costs. Section 2 : Cost Estimating Chapter 10 : Process Production 36
  • 100. Royalties And Rentals: • Royalties may be variable, semi-variable, fixed, or capital costs (or a combination of these), and the same is true of rental costs. • Royalty expenses, in the absence of data, are treated as a direct expense and may be estimated at 1 : 5 % of the product sales price. Section 2 : Cost Estimating Chapter 10 : Process Production 37 Contingencies: • Cost estimate should include contingency to account for undetermined costs. • Contingency allowance applies both to direct and indirect costs. • It ranges from 1 : 5 % depending upon uncertainty in data used. • Hackney has suggested the following guidelines: 1. Installations similar to those currently used by the company for which standard costs are available: 1 % 2. Installations common to the industry, for which reliable data are available: 2% 3. New installations that have been completely developed and tested: 3 % 4. New installations that are in the development stage: 5 %
  • 101. General Works Expense (Factory Overhead) • It represents the factory indirect cost and depends on investment and labor. • It does not include general expense (marketing/sales cost, administrative expense). • Black’s suggested that : Factory overhead = (Investment x investment factor)+ (Labor x labor factor). In this case, labor is total annual cost of labor, including direct operating labor, repair/maintenance, supervision, and labor for (loading, packaging, shipping). • Black’s suggested factors as in the table: Section 2 : Cost Estimating Chapter 10 : Process Production 38 • For preliminary estimates, indirect overhead costs may be 40 : 60 % of labor costs or 15 : 30 % of direct costs. • Humphreys suggested 55 % of ( operating labor, supervision, maintenance labor) for the mineral industries.
  • 102. Depreciation • Not a true operating cost, but considered to be an operating cost for tax purposes. • Depreciable portion = Initial investment – (working capital + salvage value). In theory, working capital, salvage value can be recovered after plant shut down. • Taxing authorities permit the use of any generally accepted method of depreciation calculation provided that it is applied in a consistent manner to all investments • In 1981 in the U.S., accelerated cost recovery system (ACRS) was mandated by law. • In 1986, ACRS was replaced by modified accelerated cost recovery system (MACRS). • Most industrial firms utilize accelerated depreciation. This deferring ‫يؤجل‬ taxes to the latest possible date. However, for preliminary estimates, straight-line is used. • Straight-line depreciation: D = C / Y , where D is annual depreciation, C is depreciable portion, Y is asset life in years. • Double-declining balance method: D = 2 (F-CD) / n , where F is initial asset value, CD is cumulative depreciation charged in prior years, n is asset life in years. • Sum-Of-Years-Digits Depreciation: D = C x [ 2(n-Y+1) ] / [ n(n+1) ] , where C is depreciable portion, n is asset life in years. Section 2 : Cost Estimating Chapter 10 : Process Production 39
  • 103. Chapter 11 Discrete Product Manufacturing 40 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 104. Operations in Discrete Manufacturing • Six major groups of component operations are presented in the following table. 41 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 105. Discrete Manufacturing Philosophies (1/2) • Computer-aided process planning (CAPP): • Automatically generate process plan to produce the component from drawings. • It includes operation parameters/sequence & optimize time, costs, and quality. • Approaches: (1)Variant approach (searches a database for similar parts and modifies the closest similar), (2)Generative approach (starting from scratch). • Concurrent Engineering: Approach to the concurrent design of products and their manufacture. This cause designers to consider all elements of product life cycle. • Group Technology: • Identify and exploit sameness of component parts and manufacturing process. • Approaches: (1)Similar design features, (2) Similar processing operations. • Just-in-Time: Raw materials are delivered when required, thus, inventory costs are theoretically zero. It’s related to “pull” system (parts are not produced until ordered). • Lean Manufacturing: Shorten lead times, reduce costs/waste. (continuous improvement ) 1. Reducing waste (scrap), improving yields, new products from waste materials. 2. Improving employee performance, skills, and satisfaction via training / recognition 3. Improve processes, process rates, and capabilities. 42 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 106. Discrete Manufacturing Philosophies (2/2) • Material Requirements Planning (MRP): • It uses bills of material, inventory and open order data, and master production schedule information to calculate requirements for materials. • Supply Chain Management: • Complex products require different components from a variety of suppliers. • Supply chain management involves the assurance that the parts will arrive from the suppliers when required to avoid production stoppages. • It also requires the involvement of suppliers in the design process to eliminate inefficient / unnecessary operations and components. • It involves information on delivery status, financial flow of credit, and payment schedules as the materials move through the various stages of supply chain. • The goals are to reduce inventory, time-to-market, costs, and improve quality. • Total Quality Management: A leadership philosophy, organizational structure, and working environment that fosters ‫تعزز‬ a personal accountability and responsibility for the quality and a quest ‫السعي‬ for continuous improvement in products, services, and processes. 43 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 107. Basic Cost Relationships • Prime cost = direct cost of (material, labor, engineering) + direct expense • Manufacturing cost = prime cost + factory expense • Production cost = manufacturing cost + administrative expense • Total cost = production cost + marketing, selling, and distribution expense • Selling price = total cost + mark-up (profit and taxes) • Prime cost is also called direct cost, manufacturing cost is also called factory cost. 44 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 108. Cost Estimating For Discrete Manufacturing • Direct and Indirect Costs: • Ex: Copying of a report on a copy machine • Costs: paper cost, toner cost, machine rate costs, operator cost, and staple cost. • Direct labor cost is operator cost (Wage + benefits). • Direct material costs is paper and toner. • Staple Costs are so small, so it’s included as part of the indirect burden costs. • Machine cost (capital & operating) indirect cost, applied directly to the product. • Energy consumed, purchasing costs, and installing costs are direct costs, but considered as indirect costs as the machine is used for not only one report. • Other indirect costs are those which cannot be directly tied to the product such as supervision, administrative salaries, maintenance, material handling, and legal, etc. • In large companies, indirect costs also include items such as basic and applied research and development, however, it must be recovered on the current products being produced and so it’s considered indirect burden costs for current products. 45 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 109. Cost Estimating For Discrete Manufacturing • Cost Estimating Example: (1/2) 46 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 110. Cost Estimating For Discrete Manufacturing • Cost Estimating Example: (2/2) 47 Section 2 : Cost Estimating Chapter 11 : Discrete Production Note that 20% of selling price = [20/(100-20)] % of Total Cost = 25% of Total Cost.
  • 111. Break-Even Analysis I n t ro d u c t i o n • Two critical issues must be considered: (1)Cost base, (2)Various break-even points. • Cost bases are: 1. Time base: Determines production time at specific break-even point, and this is what can be controlled at the plant level. 2. Quantity-based: Determines production quantity at specific break-even point for marketing, sales, and top management to forecast yearly sales. It provides little assistance at plant management level where quantity is specified by customer. • Variable cost in quantity-based system is fixed in time-based system, and vice-versa. • Increased quantities are desired in the quantity-based system. • Decreased times are desired in the time-based system. 48 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 112. Break-Even Analysis C o s t B a s i s : A. Quantity-based system: (Fixed Time) • Fixed Costs: Costs not vary with production quantity such as property taxes, administrative salaries, research and development expenses, and insurance. • Variable costs: Costs that vary with production quantity, such as direct material costs and direct labor costs. • Semi-Variable Costs: Costs that are not fixed or variable like maintenance cost. B. Time-based system: (Fixed Quantity) • Fixed costs: Costs that do not vary with time such as the direct material costs. • variable Costs: Costs that vary over time such as property taxes, administrative salaries, research and development expenses, and insurance. • Direct labor may be fixed or variable costs depending upon policies used. 49 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 113. Break-Even Analysis B r e a k - Ev e n P o i n t s : A. Shutdown Point (SD): Quantity/time where manufacturing costs equals revenues. B. Cost Point (C): Quantity/time where total costs equals revenues. C. Required Return Point (RR): Quantity/time where revenues equals total costs plus required return. D. Required Return after Taxes Point (RRAT): Quantity/time where revenues equals total costs + required return and the taxes on the required return. N o t e s : In the production quantity-based system : Breakeven points increase in quantity as one proceeds from the shutdown point to the required return after taxes point, which implies higher production quantities are desired. In the time-based system: Breakeven points decrease in time as one proceeds from the shutdown point to the required return after taxes point, which indicates the importance of decreasing production time to increase profitability. 50 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 114. Break-Even Analysis E x a m p l e : Anew job is being considered in the foundry ‫.المسبك‬ The order is for 40,000 castings, and the tentative price is $ 3.00/casting. The pattern will be designed for 4 castings per mold, and the pattern cost has been quoted at $ 10,000. The molding line is the rate controlling step in the production process in this particular foundry, and the production rate is 125 molds/hr. Solution: Estimated time for the production of the 40,000 castings would be determined by: (40,000 castings)/(4 castings/mold x 125 molds/hr) = 80 hr 51 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 115. Break-Even Analysis Solution : 52 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 116. Break-Even Analysis Solution: A . Production Quantity-Based Calculations 1. Shutdown Point Revenues = Production Costs 3X = Material Costs + Labor Costs + Tooling Costs + Plant Overhead Costs 3X = 1.50X + 0.33X + 10,000 + 8,800  3X = 1.83X + 18,800  X = 16,068 units 2. Cost Point Revenues = Total Costs 3X = Production Costs + Overhead Costs 3X = 1.83X + 18,800 + 12,000  3X = 1.83X + 30,800  X = 26,324 units 3. Required Return Point Revenues = Total Costs + Required Return 3X = 1.83X + 30,800 + 9,600  3X = 1.83X + 40,400  X = 34,530 units 4. Required Return After Taxes Revenues = Total Costs + Required Return + Taxes for Required Return 3X = 1.83X + 40,000 + 9,600 x (TR/(1-TR)) 3X = 1.83X + 40,400 + 6,400  X = 40,000 units 53 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 117. Break-Even Analysis Solution: A . Production Quantity-Based Calculations Conclusion: 1. If Q < 16,068 , don’t accept order as manufacturing costs not recovered. 2. If 16,068 < Q < 26,324, manufacturing costs recovered, but not all overhead costs. 3. If 26,324 < Q < 34,530, all costs recovered, but not all required return recovered. 4. If 34,530 < Q < 40,000, costs & RR recovered, but not all of taxes recovered. 5. If Q > 40,000, required return will exceed the desired required return after taxes. 54 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 118. Break-Even Analysis Solution: B . Time-Based Calculations 1. Shutdown Point Revenues = Production Costs 120,000 = Material Costs + Labor Costs + Tooling Costs + Plant Overhead Costs 120,000 = 60,000+165Y+10,000+110Y  120,000 = 70,000 + 275Y  Y = 181.8 hrs 2. Cost Point Revenues = Total Costs 120,000 = Production Costs + Overhead Costs 120,000 = 70,000 + 275Y + 150Y  120,000 = 70,000 + 425Y  Y = 117.6 hrs 3. Required Return Point Revenues = Total Costs + Required Return 120,000 = 70,000 + 425Y + 120Y  120,000 = 70,000 + 545Y  Y = 91.7 hrs 4. Required Return After Taxes Revenues = Total Costs + Required Return + Taxes for Required Return 120,000 = 70,000 + 545Y + 120Y + [ 120Y x (TR/(1-TR)) ] 120,000 = 70,000 + 425Y + 120Y + 80Y  Y = 80.0 hrs 55 Section 2 : Cost Estimating Chapter 11 : Discrete Production
  • 119. Break-Even Analysis Solution: B . Time-Based Calculations Conclusion: 1. If Time > 181.8 , don’t accept order as manufacturing costs not recovered. 2. If 181.8 > Time > 117.6, manufacturing costs recovered, but not all overhead costs. 3. If 117.6 > Time > 91.7, all costs recovered, but not all required return recovered. 4. If 91.7 > Time > 80, costs & RR recovered, but not all of taxes recovered. 5. If Time < 80, required return will exceed the desired required return after taxes. 56 Section 2 : Cost Estimating Chapter 11 : Discrete Production Time-based method can answer questions such as what is the effect of a 4 hour delay. @ 80 Hrs Profit = Revenues – Costs Profit = $120,000 - $70,000 - 425$/hr x 80hr Profit = $16,000 Profit after taxes = 0.6 x $16,000 = $9,600 @84 Hrs Profit = $120,000 - $70,000 - 425$/hr x 84hr Profit = $14,300 Profit after taxes = 0.6 x $14,300 = $8,580
  • 120. Section 3 : Planning & Scheduling Chapter 12 : Planning Sec 3 Planning & Scheduling 1
  • 121. Chapter 12 Planning 2 Section 3 : Planning & Scheduling Chapter 12 : Planning
  • 122. Planning Definition Influencing the future by making decisions based on missions, needs, and objectives. It is the process of stating goals and determining the most effective way of reaching them. Planning steps 1. Setting objectives 2. Gathering information 3. Determining feasible alternative plans 4. Choosing the best alternative 5. Communicating the plan 6. Implementing the plan 7. Adjusting the plan to meet new conditions as they arise 8. Reviewing the effectiveness of the plan 3 Section 3 : Planning & Scheduling Chapter 12 : Planning
  • 123. Importance of Planning 1. Superior growth in productivity rates 2. Activities are monitored and controlled using the plan as a reference baseline 3. Experience feedback increases company knowledge base and lessons learned 4. Without commitment, company is continually wasting time and money Planning Tools 1. Gained Experience 2. Handbooks and software programs 3. Company policies, standards, and procedures 4. Model plans and templates 5. Checklists 6. Historical databases 7. WBS, RBS, and cost Accounts 4 Section 3 : Planning & Scheduling Chapter 12 : Planning
  • 124. Major Elements of Planning (1/2) 1. Summarizing Goals and Scope of Work: Goal should be clearly understood and agreed upon. The most effective tool in ensuring all work scope is planned is work breakdown structure (WBS). 2. Time Planning: A. Develop Summary Schedule B. Dividing into component parts C. Sequence activities (CPM is one of best methods to use) D. Assign activity durations E. Determine total time F. If total time exceed available time, reevaluate and take actions to meet 3. Cost Planning: • Total cost must be partitioned using cost breakdown structure CBS. • It’s not possible that costs be parallel to activity breakdown, however, it could be done to a certain level which is the control account. 5 Section 3 : Planning & Scheduling Chapter 12 : Planning
  • 125. Major Elements of Planning (2/2) 4. Resource Planning: Includes personnel, equipments, tools, and materials. 5. Quality Planning: A. Undertaking’s requirements (goals) B. How to communicate requirements to responsible for achieving them0 C. Plan for training responsible persons D. Find a way of measuring successful achievements 6. Review: Making early assessments of required reports, meetings, presentations, and project documents. 7. Planning for Change: Plans must be flexible to allow for changes at any point. Effective plan is still function even when extreme changes occur. 6 Section 3 : Planning & Scheduling Chapter 12 : Planning
  • 126. Planning in Construction Industry • Many of construction cost overruns can be attributed to poor planning • Reasonable planning can save up to 40% • Why construction seems to be lagged ‫متباط‬‫ئ‬ in planning? A. Planning time is often limited B. Staff resources are spread over several projects C. Lessons learned cannot be applied directly to new projects Contingency Plan Forms: 1. Develop alternative plan to be implemented when adverse situation arises 2. Address budget and schedule reserve for unfavorable variances 7 Section 3 : Planning & Scheduling Chapter 12 : Planning
  • 127. Chapter 13 Scheduling 8 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 128. Scheduling Definition Scheduling is the process that converts the project work plan into a road map, that if followed, will assure timely project completion. Scheduling Benefits 1. Provide basis for management 2. Improve communications 3. Facilitate coordination 4. Effectively use resources 5. Develop baseline to monitor and control the work 6. Integration of budget, costs, and resources 7. May be used as basis for payments application 9 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 129. Schedule Development 1. Bar Chart Method: • Preparation steps: (1)Specify execution approach, (2)Segment into activities, (3)Estimate time for each activity, (4)place activities in time order, (5)Satisfy completion date. • Advantages of bar chart: simple to read • Disadvantages of bar chart: manual procedure and cannot show relationships 2. Critical Path Method (CPM): • Using arrow diagramming methods or precedence diagramming method • Advantages: (1)Determine short time of project, (2)Identify critical activities, (3)Show available float for each activity 3. Program e Evaluation and Review Technique (PERT): • Computerized Probability analysis for calculating most likely durations for each activity and for overall project. • Pert is indeterminate process for activity and project duration (output is range), while CPM is a deterministic process. 10 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 130. Arrow Diagramming Method (ADM) • Arrow tail is activity beginning (i-node), arrow head is activity end (j-node) • Activity ID consists of tail and head (i-j) • Sequencing rules: 1. No activity can start before completion of its predecessor. If it has to occur, this activity must be divided into two activities. 2. Neither arrow length nor its direction has meaning. 3. Duplication of activity ID is not permitted. 4. Dummy activities are zero duration, however, used to show relationships. Precedence Diagramming Method (PDM) • Activities are represented by nodes and relationships are represented by lines. • Most benefit is the ease off applying overlapping techniques such as lag values, constraints, and relationships (SS, FS, FF, SF). Work Breakdown Structure (WBS) • Definition: A tree structure of further breakdowns of work scope into component parts for planning, assigning responsibility, managing, controlling, and reporting . • It allows project details to be summarized in certain levels for analysis and control. 11 i j Activity (i-j) Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 131. Scheduling Techniques (1/3) • Activities begin on the morning of the scheduled start date, and end in the evening of the scheduled finish date. • Milestones occurs in the evening of day that its predecessor finish on. • Forward Pass (calculation of ES, EF): • ES of first activity = 1 • EFA= ESA+ DA -1 • ESsucc = EFPred + 1 (where EFpred is the largest when several predecessors). • Backward Pass (calculation of LS, LF): • LF of terminal activity = LF of this activity (or as per contract) • LSA = LFA – DA + 1 • LFPred = LSsuc -1 (where LSsucc is the smallest when several successors). 12 1 5 5 Activity A 75 3 77 Activity A 79 81 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 132. Scheduling Techniques (2/3) • Overlapping Relationships (Forward Pass ): • SS: ESsuc = ESpred + N • FS: ESsuc = EFpred + N + 1 • FF: EFsuc = EFpred + N  Then, ESsuc = EFsuc – D + 1 • Overlapping Relationships (backward Pass ): • FF: LFpred = LFsuc - N • FS: LFpred = LSsuc - 1 • SS: LSpred = LSsuc – N  Then, LFpred = LSpred + D -1 • Float • Free Float (FF) = Essuc - EFpred - 1 Where ESsuc is the smallest ES when several successors • Total Float (TF) = LS – ES = LF – EF • TF is shared by activities in a chain, however, FF belongs solely to the activity. • If TF=15 in a chain, and the first activity used all of them , then TF = Zero. 13 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 133. Scheduling Techniques (3/3) • Critical Path: • Longest chain or chains with smallest TF • There will be at least one continuous chain through the network. • Constraints: 1. Start On 2. Finish On 3. No Earlier Than (NET): (Start / Finish No Earlier Than ) 4. No Later Than (NLT) : (Start / Finish No Later Than ) 14 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 134. Scheduling Levels 1. Level (1) – Milestones Level Schedule: • May include begin project, design complete, purchase major equipment, mobilization, … etc. • Top management is usually interested in milestone level schedule. 2. Level (2) – Project Summary Level Schedule: • Include summary of engineering, procurement, major equipment fabrication and delivery, major structures, installation, start-up, and commissioning. • As the detailed schedule is developed, it must be summarized to replace the independently developed project summary and milestone schedules. 3. Level (3) – Project Detailed Schedule: • Display the lowest level of detail necessary to control the project • It supports determining and assigning resources 4. Level (4) – Short Interval Schedule: • Also known as short-cycle schedule. From 2 to 6 weeks look-ahead schedule for planning, reporting, review assignments of current week work plan. • Best use for communicating planning requirements to those performing work. 15 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 135. Schedule reporting 1. Early Start Dates Report: A listing of activities sorted by early start dates. 2. Total Float Report: Activities are sorted by total float in ascending beginning with values of TF = 0. The report first lists all activities that are on the critical path (TF = 0). 3. Precedence Report: A listing by activity early start dates. However, it identifies all predecessor and successor for each activity. This report is used by planners for debugging . Schedule Plots 1. Logic Diagrams: Network diagram that shows activity relationships . 2. Time-scaled Logic Diagram: It shows activity relationships and displays the activities in their scheduled place in time. 3. Early Start Date Schedule (Bar Chart): Bar charts without logic relationships shown. It’s used more frequently by supervision and management to track work. 16 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 136. Managing Changes In Schedule • Schedule Updating: Through updating you can forecast any schedule slippage or delay, and hence, bring the project back on schedule and correct the changes. • Reasons for Schedule Updating: 1. Reflect current project status 2. Keep the schedule as an effective management tool 3. Document performance 4. Documentation to plan for changes and support delay analysis 5. Let both contractor and owner aware of changes / delays as they occur and how this affect completion date to allow them take corrective actions. • Updating Intervals For Managing Changes: It coincides reporting periods. At least monthly, and may be weekly. 17 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 137. Managing Changes In Schedule • Updating Procedures: 1. Gather info 2. Identify and plan for changes affect duration, logic, scope, … etc., 3. Recalculate project schedule 4. Perform analysis and prepare reports for management review. 5. Evaluate and adjust the updated schedule according to management’s and supervision’s review and direction. 6. Issue updated schedule to all interested parties. 18 Section 3 : Planning & Scheduling Chapter 13 : Scheduling
  • 138. Section 4 Progress & Cost Control 1 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
  • 139. Chapter 14 Progress Measurement A n d E a r n e d Va l u e 2 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
  • 140. Measuring Work progress (1/2) 1. Units completed Method (Production): • Applicable to tasks that involve repeated production of easily measured work. • Ex: Wire pulling in linear meters. of wire pulled. 2. Incremental Milestones (Rules of Credit): • For control account that includes subtasks and must be handled in sequence. • Segmenting into subtasks and assigning each a “credit” increment of progress. • Ex: Installing a major equipment (15% supply, 50% installation, 15% test, .. etc) • Percentage chosen is normally based on No. of work hours required. 3. Start / Finish Method: • Applicable to tasks that lack definable intermediate milestones or those for which the effort/time required is very difficult to estimate. • (50-100): 50% at start, 100% at completion. It’s reasonable for short duration and lower value tasks. • (20-100): Reasonable for long duration and higher value tasks. • (0-100): Reasonable for very short tasks. 3 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
  • 141. Measuring Work progress (2/2) 4. Supervisor Opinion: • Supervisor makes a judgment of percent complete. • It’s a subjective approach and should be used only for minor tasks. 5. Cost Ratio Method: • Applicable for long period/continuous tasks which are estimated and budgeted on allocation of dollars$ and work hours rather than on basis of production. • Ex: Project management work, quality assurance, and contract administration. • Percent Complete = (Actual work hours to date) / (Forecast at completion). 6. Weighted or Equivalent Units: • Applicable for a long period task that is composed of two or more overlapping subtasks, and each with a different unit of work measurement. • Ex: Structural steel erection (in table) Earned TonsBeam = 0.11x520x(45/859)= 3 % complete = 82.5 / 520 = 16.1 % Beams Equivalent ton = 0.11x520= 57.2 ton One Beam equivalent tons = 57.2 / 859 = 0.666 tons / beam 4 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
  • 142. Earned Value For Fixed Budgets • Introduction: • It’s not allowable for total budget to be changed. Hence, when quantity is changed, the unit price will be adjusted to maintain the price fixed. • Earned Value EV = Percent complete % x control account budget Or can be calculated as EV = Units completed x Unit Rate new • Earned Value System • BCWS : Budgeted work hours or $ • BCWP : Earned work hours or $ • ACWP : Actual work hours or $ • Variance : • SV = BCWP - BCWS • CV = BCWP - ACWSP • Performance Indices: • SPI = BCWP / BCWS (If SPI > 1, the project is ahead of schedule) • CPI = BCWP / ACWSP (If CPI > 1, the project is under budget) 5 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
  • 143. Earned Value For Fixed Budgets • Productivity: • Comparing actual productivity (work-hours/unit) with the figures used in planning and budgeting the work. • A comparison of earned to actual work-hours evaluates productivity if actual quantities of work exactly equal those budgeted. Since this is rarely, another mechanism is needed to evaluate productivity which is Credit work hours. • Credit work-hours (CWH) = Budgeted productivity work-hour unit rate (WH/unit) x number of units completed. • Since actual units may vary from the budgeted (estimated) units, CWH may be either greater or less than the EWH, and the CWH equals EWH only if budgeted and actual quantities of work are equal. • A Productivity Index (PI) may be calculated as PI = (sum of credit work-hours) / (sum of actual work-hours) 6 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget)
  • 144. Example 7 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget) Budgeted New Quantity (Tons) 800 1’000 Unit Rate: ($/Ton) or (WH/Ton) 20 16 Total Budget $ 16’000 $ 16’000 If actual quantity was 250 tons, and actual work hours = 4’500 EV Calculations: EV = Q act x Budget unit rate new = 250 x 16 = 4’000 OR: EV = % complete x Total Budget = (250/1000) x 16’000 = 4’000 CPI= 4’000/4’500 = 0.89 (over budget) CWH Calculations: CWH = Q act x Budget unit rate Budgeted = 250 x 20 = 5’000 PI = 5’000 / 4’500 = 1.11 Note that maximum CWH will be equals to 1000 x 20 = 20’000
  • 145. Summary 8 Sec 4 : Progress & Cost Control Ch14 : EV (Fixed Budget) WH Budgeted WH Allocated WH new Q Budgeted Q new Unit Rate (Budgeted) Unit Rate (new) Q Actual CWH EWH CPIPI