Feature Report

Pitfalls to Avoid When

Generating Cost Estimates
The pitfalls in cost estimating that cause project overruns have been well known for decades
yet they continue to plague the CPI
Alfred Chiu
S&B Engineers and

w hen I first started writing this

article, I set out to summarize

6
Constructors Ltd. the mechanics of project cost
estimation. That was to be
followed by a discussion of various
management tools, for example Proj­
IN BRIEF ect Definition Rating Index (PDRI) [7],
CLASS OF ESTIMATE that are used to validate the input to
the estimate. But it was apparent that
WISHING DOESN'T MAKE
IT COME TRUE
there were other factors at play, given
the anecdotal and very public records of
UNDERSTAND YOUR numerous project delays and cost over­
EXPERIENCE runs, that went beyond simply not follow­
DON'T CHANGE YOUR ing a procedure and going through some
MIND management check-list gate. As one of
the owners ofmy company pointed out in a
KNOW THE PROJECT
ENVIRONMENT
recent meeting, to Manage With Certainty,
one must focus on the input and not just
THE ESTIMATE GOT A the outcome.
GREAT PDRI About four decades ago, in my first
RESOURCES ALLOCATED job with Union Carbide Corp. (UCC), I
FOR THE ESTIMATE was given an assignment to find out why
many of the plant projects were plagued
with delays and cost overrun. In the late
1970s, the Bound Brook plant was suffering
from a very tight capital budget constraint.
The era was in the mid stage of factory relo­FIGURE 1. There are a number of pitfalls one may encoun­
ter while following the standard methods for generating a
cation away from the Northeast and mid-At­cost estimate
lantic regions. The conclusions that I drew,
after interviewing many of my coworkers at Fast-forward to 2018, in a recent news
the site, were rather simplistic and seemed article, a large public utility company an­
to be just common sense. Being a newly nounced another 15% increase in a project’s
minted engineer at the time, I thought it wascost, making the current estimate double
because I did not fully appreciate the com­ from the project announcement just four
plexity of project execution; and I suppose, years ago (2). What happened? Was there
so did the senior managers. some kind of evil mastermind at work? Was
Over the years, the problem of project it the dreaded tariff? How can a company
cost and schedule overrun persisted in the that is more than fifty years old, working with
chemical process industries (CPI) and the well qualified contractors, make these mis­
energy sector. It was apparently prevalent takes? As most of this cost overrun will likely
enough that many companies were willing tobe borne by the public utility rate payers, the
expend scarce resources to hire consultantstruth of the matter may eventually come to
to work on this riddle. A lot of brain power light after some years of investigation. Even
was being brought to bear on the problem, then, the fog of project execution will make
but it seemed to be more stubborn than thatit difficult, if not impossible, to separate facts
grass stain in the laundry commercial. from fabrications.
44 CHEMICAL ENGINEERING WWW.CHEMENGONLINE.COM DECEMBER 2018
 Source GAO
In this article, I assume that the
reader can access multiple well-writ-
%
ten articles and websites on the Inter­ >a
net [3] that discuss various methods
to generate a cost estimate. Instead
of delving deeply into the mechan­
ics, this article discusses some of the
pitfalls that one may encounter while Uncertainty is low
following those procedures (Figure 1).
Hopefully, the reader will find the sim­
ple solutions to be easy to apply to [f0M
everyday project execution. If nothing Cost estimate becomes mo»ecerta^
Estimate
baseline ttmeasrtsks are *
else, the article may help one sleep Estimate tends to grow
better, and it also helps explain how a
kitchen remodeling can balloon from
$10,000 to $20,000.
Start of program and start of
Concept refinement gateTechnology development gate integration gate
system
Class of estimate
The “class of estimate” is a generallyFIGURE 2. As a project develops from the conceptual stage to increasingly detailed definition, the cost es­
accepted term to signify the claimed timates and schedule are also progressing in the cone ot uncertalnity towards smaller probability of error
range of accuracy of cost estimates Wishing does’t make it come true costs his business plan can sup­
from one to five [4], the most accu­ Human nature being what it is, I port. Second, evaluate the qual­
rate being one and the least being admit that I still tend to wish my proj­ity of inputs and assumptions that
five. During the development of a ect estimates to be lower and the are going into the estimate. Finally,
project, the estimate accuracy im­ project schedules shorter. Warning: third, delete or revise the scope so
proves as more information is gen­ self-delusion is a very bad way to runthat the project cost fits within the
erated to put into the estimating ef­ a project. It is beyond bad if one is economic model. Along the way,
fort. Presumably, the project team successful in coercing a subordinatehe would have found the engineers
is busily checking off those boxes or a contractor to abet in that lie. that he could trust and who would
specifying the required inputs. So, A friend told me about a meeting be on board with his objectives.
if all the boxes are checked, then with a potential client for a very large Along that same line of thought,
the estimate must be accurate as project who was adamant about make a sound estimate and sched­
defined. There is an often repeated competitively bidding every phase ule a reality by clearly defining the
phrase in the information technol­ of the work, from front-end load­ scope of the project. This scope
ogy (IT) world: “Garbage in equals ing (FEL) through construction and then drives the discipline details,
garbage out." startup. The logic was that he would which are verified with the cost
Beware, just because there is a easily find the contractor most des­ estimator. Note: the ends are not
document transmittal fitting the de­ perate for his business and thereforeachieved by reducing quality of the
scription, it does not necessarily give him the lowest price with little orinputs and hoping that the estimator
mean that there is a real contributionno contingencies and minimal profit can come up with assumptions.
to improving the accuracy of the es­ margin. He was clearly choosing to Unfortunately, when the project is
timate. In fact, it could be quite the ignore the lessons of the time value driven into a competitive, fixed-cost
opposite. Bad information is invari­ of money [5], as the schedule would bidding process, it is not likely that
ably worse than no information at all.have stretched out more than a yearthe contractors would reveal the sa­
It is incumbent upon the manage­ to allow for the bidding process. lient information to a project manager.
ment team to make sure that the in­ There was a definite lack of under­ Without it, the project manager is left
puts are properly vetted. standing of human nature. What to scan through the qualifications and
The engineering disciplines of the would anyone expect from desper­ exclusions like a first-year law student,
project team must be encouraged ate businessmen trying make their perhaps not wanting to believe that the
to question and evaluate every as­ commission or to save their com­ submitted bid is just a book of fiction.
sumption and calculation. Project pany? If he was not secretly wishing
management must be encouraged his project to be plagued by endless Understand your experience
to foster an environment of honesty change orders, he must have opti­ “I have eaten more salt than the
and openness so that team mem­ mistically assumed that the contrac­ grains of rice that you have eaten,”
bers can talk about any difficulties tor estimated correctly or equally goes a Chinese saying emphasizing
encountered. It is also necessary to unlikely, intended to make up for anythe importance of life experience.
be realistic and admit, if substan­ overrun out of his own pocket. However, another common saying
tial input is lacking, that the desired The better approach for this cli­ goes, “If I had a dollar every time a
objective of estimate accuracy is ent's problem would be to do his project manager demands to know
not feasible. homework. First, understand what why an estimate did not match the

CHEMICAL ENGINEERING WWW.CHEMENGONLINE.COM DECEMBER 2018 45

 77i] rent facts are com­ So once again, we emphasize the
parable to the rel­ importance of validating the inputs
evant experience. that go into the estimate. It is also im­
Then, too, the portant to periodically revalidate the
manager’s experi­ critical inputs, whether technical, com­
ence should give mercial or legal, that are the founda­
guidance on what tions for the justifications for the proj­
FBS inputs or assump­ ect in the first place. With the advent of
tions are relevant many upstream and midstream proj­
r to the problem at ects in North America, the commercial
>n u hand. Remem- inputs can quickly change the premise
bering that every of a project. But at some point, in the
project is unique execution, an executive management
in its place and decision will be made to allow a proj­
expectations based on a previous time allows the project manager to ect to go to completion while initiating
project, I would be a rich man.” Whilefilter out the useful knowledge that a follow-up phase.
a project manager’s experience is a can be applied to subsequent work.
prerequisite for the job assignment, Otherwise, one could be guilty of Knowthe project environment
he or she must be very careful to bal­comparing apples to oranges. Human relationship defies math­
ance life experience with the facts ematical modeling. Thus, I do not
on the ground. Building a project in Don’t change your mind... claim to give adequate advice in
Asia is not the same as building it in . . . unless you have to. We are the area. Nevertheless, in project
Europe, and is not the same on the bombarded daily from social media management, it is necessary to be
U.S. Gulf Coast. that this is a fast-changing world. in alignment with the stakeholders.
Amid the U.S. process indus­ Constant change is the mantra. As It should be noted that unless one
tries depression in the mid-1980s, a project develops from the con­ is aware of the total history of the
I had occasion to purchase a small ceptual stage to increasingly de­ proposed project, and maybe not
pressure vessel that was to be tailed definition, the cost estimate even then, care should be taken to
made from Monel. The low bid­ and schedule are also progress­ avoid challenging the previous con­
der was able to deliver the vessel, ing in the cone of uncertainty (Fig­ clusions. Unfortunately, for those
upgraded to a high nickel alloy, in ure 2) [6]. Assuming the inputs are working on the later part of project
eight weeks. Due to the unforeseen valid (and this better be true), the development, it means that one may
circumstance, the shop was in pos­ probable range of error becomes have to settle for less than optimal
session of the needed alloy materi­ smaller and smaller with increas­ solutions: or some better idea may
als, which were promptly put to my ing definition and the freedom to never see the light of day. The proj­
use. If I were to continue to use that make alterations to the overall proj­ ect manager is still the final arbiter
project as my reference, then all the ect scope approaches the vanish­ to decide whether certain improve­
subsequent estimates would have ing point. Even if one were to be in ments are needed as the critical fac­
been unreasonably high with long possession of a perfectly accurate tors to maintaining cost and sched­
extended schedules. estimate and schedule, changes in ule. But these should be discussed
The combination of wishful thinkingpersonnel, site conditions, or state with the project team and decided
and selective memory make a potentof the economy, may have a nega­ upon one at a time.
brew. The desire to have a project attive impact. I put forward the argument that
a certain cost can lead a project man­ The objective of a project managerdiscretion
is should always be the
ager to question whether the estima­to minimize the changes to the project governing rule unless the grounds
tor is correct. Instead of approachingunless there is an overwhelming rea­are very familiar. I submit the anal­
an estimate by comparing it to the son to do so. The rule should be: “Noogy of a visitor coming into a home
last project and asking why it can’t changes unless it is unsafe or won't and insulting the homeowners. The
be cheaper, the first questions that work." But when conditions create that visitor will most likely not receive an
should be asked are as follows: reason, the project manager must actinvitation to stay for dinner. On the
• What are the inputs and the assump­ aggressively to put everyone on the other hand, it is always necessary to
tions that generated these results?same page. Then, when all stakehold­ point out that the kitchen is on fire,
• What are the relative impacts of ers agree [7], and the negative impacts as that will have greater impact on
those assumptions on the bottom of changes are understood, the scope the overall scheme of things.
line? change should proceed as quickly Another aspect of the environ­
• What is the quality of the inputs? as practical. This implies, then, that ment is the general uncertainty that
certain inputs and assumptions that is introduced from the imposition of
Then, a detailed comparison to went into producing the earlier cost tariffs. In this global economy, there
the previous project can be made estimates must be revisited to confirm is no doubt that cost increases on
only after ascertaining that the cur- their validity. material can be expected. The ques-
46 CHEMICAL ENGINEERING WWW.CHEMENGONLINE.COM DECEMBER 2018
tion remains to be seen how much it confront their manager. cess studies turned into full-fledged
will be. A properly estimated project While discretion is advised on ad­ projects without further develop­
will have identified the various inputsvertising any deficiencies in the input ment. Subsequently, many project
based on clearly delineated mate­ to the estimate, the project manager experienced major scope changes.
rial costs. The project can account can utilize the PDRI table to validate 2. The first point was a manifestation
for the uncertainty with a modified the accuracy of these inputs. This of capital shortage. Management
calculation of the usual escalation evaluation of course, is required increased effort to conserve cash
factors for each cost item. This num­while the work is being done and not for project execution. The obvious
ber would be summarized below theat the end of the estimate. place to cut was "unproductive”
cost total. Business management project scoping efforts. This was
would have to decide what level of Resource allocated for estimate deemed possible as most of the
risk to accept in negotiations, either In an article about the high failure rate staff had many years of experience
internal or external, for the project toof mega projects in the upstream oil- at this plant site. It was more im­
move ahead. and-gas sector, Edward W. Merrow portant to get more project autho­
identified one of the main culprits as rization applications in the pipeline.
The estimate got a great PDRI being inadequate front-end bading 3. Subordinates were reluctant to
Business schools teach the im­ (FEL) being performed [8], I submit that question project sponsor deci­
portance of measuring perfor­ this problem can be just as detrimentalsions, even though they know it to
mance. As mentioned before, one to any size project. The lack of an ad­ be incorrect.
of the accepted ways of measur­ equate FEL, either because of budget 4. In another manifestation of capi­
ing the accuracy of an estimate is constraints or lack of time, equals poortal shortage and wishful thinking,
by means of the Project Definition input to the cost estimate effort. While cost estimates were arbitrarily re­
Rating Index (PDRI). The methodol­ managers have attempted to plug that duced because “It just can’t cost
ogy is a comprehensive checklist of gap with “experience”, this replace­ that much.’’ ■
estimate inputs to which the proj­ ment tool has a very dull blade and Edited by Gerald Ondrey
ect team give a completion score: should be used with care.
five being not defined, to one being If the FEL effort is bid out as a References
completely defined. fixed-cost project, there should be a 1. Project Definition Rating Index Overview, Construction
This can be a very effective tool very detailed listing of the final deliv­ ww Industry Institute (Cl j. Austin, Tex., September 1.2018.
construction-instituteorg/resources/knowledge-
if one is aware of two hidden flaws, erables, and a plan on how to reach base/pdri-overview
both of which can give a deceptivelythem in the time allocated. The 2. Hyman. L.andTiIes,W.. Southern Company Jusl Raised
low score. First, while the checklist project manager should be careful Cost Estimates for this Megaprojed Again, OilPrice.
identifies all of the activities (inputs) that the team is not under duress com. August 11, 2018.. tittps://oipricecom/energy/
energy-generalfsouthem-company-just-raised cost-
necessary to support an estimate, to declare completion without fin­ estimates-for-this-megaproject-again.html
there is no practical way to know if ishing the work, either because of 3. American Society of Estimators. The Ultimate Guide
every input is correct. And because time or budget constraints. If that to Project tat Estimating, www.aspenaSonal.orgr
page/sep, October 26, 2018, www.smartsbeet.comr
the method does not give an abso­ is the case, then the inputs should ultimate-guide-project-cost-estimating.
lutely true relative weight to each of be carefully vetted and the claimed 4. ASTME2516-11,StandardClassitationlaCostEsiimate
the inputs, it is difficult for an out­ accuracy of the estimate appropri­ Classifcation System, 2011. ASTM International. West
side manager to know which part to ately downgraded. Conshocken, Pa., www.astm.org%tandards^2516,htm
focus on. It is up to each discipline There should be an open com­ 5. Chiu, A., The Time Value ol Money, Chem. Eng., De­
cember 2017, pp. 47-49.
lead and the project manager to munication channel between the
6. "Cost Estimating and Assessment Guide", p. 38. Govern­
know whether the input was worth discipline leads and the estimating ment Accouitabity Office, Washington, DC, GAO-09-
the paper it was printed on. group so that inputs are submitted 3SR www.gaagoi//new.itemsrd093sp.pdt.
Second, the PDRI evaluation is on a timely basis and the information7. Chiu, A., Ten Tips for Smart Project Managers Chem.
done at the end of an estimate ef­ is useful toward the production of an Eng.. January 2012, pp. 40-43.
fort. It therefore becomes a de facto accurate estimate. 8. Merrow, E.W..0I and Gas Industries MBgaprojects:Q/ Re­
cent Records, OfandtaTacilissApil 2012, pp 38—42.
report card on the project team and
specifically the project manager. Concluding remarks Author
So, it comes back to that business The more things change, the more Alfred Chiu is a project manager
of human nature and relations. Not they stay the same. It seems that with S & 8 Engineers and Cen-
struclers Ltd. (7825 Park Place
being an expert in such matters, I while technology has revolutionized Blvd. Houslcn. TX 77087; Phone:
venture a guess that the average the way we live, the nature of project £ 713-845-4156; Email: achiu®
project manager would be loath to management remains the same. The sbec.com). Chiu is a registered
professional engineer in the state
admit to management or the client four main reasons for cost overrun ol Texas, He received his B.E.Ch.E.
(or both), that the time and money given by my colleagues 40 years ago degree from the City College of
New York, and an executive M B A.
spent produced a less-than-perfect at UCC were: degree from the University of Houston. Chiu has 40
product. And at the same time, there1. There was not enough effort put years ol experience in petroleum refining, chemicals
will only be scant objections from the into the development of the job and water processing. Before joining S & B. he worked
for Union Carbide Corp„ Lummus Co. and Stone and
project team that does not want to scope. Frequently, preliminary pro-Webster Engineering Corp.

CHEMICAL ENGINEERING WVWV.CHEMENGONLINE.COM DECEMBER 2018 47