#014 Project Financial Controls and Cost Reporting (PART 1) 📈

Hello internet! 👋

Hope you are are all doing well.

As promised, this week I am going to through Level 1 of the Project Financial Controls and Cost Reporting competency.

This competency is quite a narrow competency in terms of subject matter, but it has direct links to other competencies like: Design Economics, Quantification and of course Construction Technology.

I’ll follow the format as previous weeks by going through the RICS pathway guide and providing a brief breakdown on the Level 1 elements.

DISCLAIMER: the following is not an exhaustive set of notes, but its an attempt to help those who, like me at the beginning, did not know where to start! Please feel free to let me know if I have said anything incorrect or out of date!

So what is the ‘Project Financial Controls and Cost Reporting’ all about?

The RICS describe it as the following:

Level 1 is all about the following:

This competency mainly relates to post-contract projects and how you report the financials of a project to the client, i.e. your ability to efficiently and accurately produce cost reports and cashflows/financial statements.

The effective control of costs during the construction phase of the project

This bullet point is quite generic and concerns how we as QS’s support our clients to control the construction cost. We do this by using cost reports in conjunction with our technical QS skills (measurement and quantification) to enable the client to understand the current financial status of the project (i.e. what has been spent), the projected financial status (what will be spent by the end), and the risks to the project. By providing the client with this information, it gives them the opportunity to make informed decisions to instruct variations, mitigate potential risks and meet their own deadlines.

A cost report (or financial statement) is created by the QS during the construction phase. Please note this is not a task specified by the construction contract, this service is usually purchased separately by the client.

Along with the cost report comes a cash flow statement. The cash flow will tell the client the minimum amount of funds they must have ready on a monthly basis in order to pay the contractor. The QS prepares the cash flow by assessing the programme provided by the contractor. The QS may cost load it in order to see how much the construction costs are in accordance with the contractor’s sequence of work. If the contractor is of a decent calibre they may generally provide a cost loaded programme anyway, however, as an independent adviser for the client the QS should still undertake their own assessment of the contractor’s programme.

The legal and contractual constraints on the cost of a project such as changes in building legislation and design risk allocation

This is quite a vague bullet point from the QS pathway guide. This bullet point can cover many things but if we look at the context of the competency itself it should help narrow our focus.

As I mentioned above, this competency is all about how you keep the client informed of the financial progress of the project during the post-contract phase. Therefore we need to consider how changes in building legislation (during construction itself) may impact the cost of construction.

Generally speaking, changes in legislation will not come into effect often for projects which have a short duration. Large, lengthy programmes of work that have 2-3 year + durations are more likely to be impacted by this. The impact of potential legislation should ideally be recorded in the risk register and this will then transition over to the monthly cost report at the post-contract stage.

The reporting and forecasting of costs during the construction phase

If we assume a scenario where we are using a standard JCT contract with quantities, tendered on a single-stage basis we can very easily come up with a standard cost report template. The first thing to note is that the task of cost reporting and producing cash flow is not mentioned in the contract itself. This is an additional service we (as the PQS) provide to clients and will be listed as such on our client appointment documents.

Therefore we can say that in a post-contract environment, the role of a QS is to do the following:

1. Conduct valuations of work done;

2. Assist CA with valuing variations and loss/expense claims;

3. Produce cost reports and cash flow statements.

A standard cost report will have the following basic elements:

A cost report will have a layout that starts off with the Contract Sum. The Contract Sum is the agreed value of the works upon which the client and contractor have agreed to enter a contract upon. It’s important we use the right contract sum as this will form the foundation of our cost report and any cash flow projects.

You will generally have Add and Omit columns whereas the names suggest you will be either be adding or deducting costs under the relevant headings.

Doing this on a monthly basis allows the client to track costs in a relatively simple and digestible manner.

Let’s go through each heading.

Contract Sum: This is our starting point i.e. the agreed final sum of monies agreed between the client and contractor for the works.

Anticipated Variations: These refer to potential variations which you as the client’s QS believe might occur and may have a time/cost impact on the project. The key thing here is that these are not formal instructions, these are potential events. By reporting these potential events to the client we give them the opportunity to take corrective action. For example, let’s assume the client is a layperson and is not aware any changes post-contract may incur additional costs as a result of the potential extension of time and loss/expense. In a meeting with the client design team, let’s assume you overhear that the client now wants to alter an aspect of the design. Our job as the QS is to report the potential cost of that variation. It could be that that they want to change the wall finish or something even more complex.

We not only report the construction cost but also the cost for any loss/expense as a result of that anticipated variation. This is why we have the heading L/E for Anticipated Instructions. We have a similar heading for Instructed Variations. Anticipated Variations can become apparent from various sources such as discussions with the client, the designers, the contractor or the contract administrator.

Instructed Variations: These refer to costs incurred as a consequence of variation instructions issued by the contract administrator i.e. an instruction to install a blockwork wall instead of a stud partition. For this, you would need to omit the costs of the stud partition and then add back the costs of the blockwork.

Loss and Expense: this refers to costs incurred by the contractor through no fault of his own. Such claims are triggered in the JCT through the Relevant Matters provisions and a variation could be just one cause of the L/E claim.

We have a section for L/E for both anticipated and instructed variations as the former is just an estimate of potential L/E based on the anticipated variations. As mentioned above, the anticipated variations may or may not materialise, however, to provide a holistic picture of the costs to the client, we have to anticipate what the contractor might claim with respect to loss and expense. Generally, this is done under 4 headings:

1. Disruption Cost: this is the actual cost incurred as a result of the change. In our stud partition to blockwork wall example, let’s say that the contractor could not recoup the costs of the materials for the stud partition i.e. he couldn’t sell or return the materials. The client would have to cover the cost.

2. Prolongation Cost: This is the additional time that is required to implement the change. When this change is anticipated, this information will generally be provided by the project manager or contract administrator.

3. Loss of Interest: This is where the contractor may argue that as a result of this change, the project programme has now extended out by 6 months, therefore the release of half his retention is 6 months later. Consequently, he has no access to his funds, with which he could have dropped into a high-interest savings account and made interest monies.

4. Loss of Profit: This is where the contractor would argue that he had another job lined up which was profitable, and as a consequence of the change he can no longer take that job. This is more difficult to prove.

The principle of risk allowances

Okay so risk allowances mean different things in different construction sectors, but for this post, I am going to focus on how the NRM deals with risk.

A risk (in the construction context) is an event that impacts time, cost, or quality. Safety risks are dealt with separately.

When a project is started a risk register is started by the project manager who collates all the risks. Risks will be added and closed before construction, but some may still be a live risk during construction. This forms a risk pot for the client to use in the event that the risks materialise.

During the pre-contract estimating stage, the NRM suggests that: “risk allowances are not a standard percentage, but a properly considered assessment of the risk, taking into account the completeness of the design and other uncertainties such as the amount of site investigation done.“

Consequently, the NRM recommends putting risks into 4 categories:

1. Design Development Risks e.g. statutory requirements and legal agreements

2. Construction Risks e.g. existing services and unforeseen ground conditions

3. Employer Change Risks e.g. change in scope

4. Employer Other Risks e.g. early handover, acceleration or special contract arrangements

Any risks that remain at the construction stage are monitored by the QS for the client by using the cost report. As the construction project progresses the project team will identify whether the risks can be closed out.

That’s all for this week folks if you have any queries on the above please get in touch!