(These notes are compiled from Spreiregen's ARE Exam Review)
CHAPTER THIRTEEN - BUDGET ANALYSIS AND COST ESTIMATING
THE IMPORTANCE OF BUDGETING
There are many ways to develop a project budget. Private developers, who build for profit, invariably begin with the idea that a certain type of building project in a certain location would be profitable. A more detailed feasibility study is then made that examines the costs of site acquisition, fees, financing, construction, etc. The study also examines the profitability of the project, including its likely income and its costs of operation, such as mortgage payments, taxes, utilities, and insurance.
On the basis of market studies, the developer begins to determine the feasibility of the proposed development. In the case of rental property, the developer studies comparable rental rates; in the case of properties for sale, he analyzes comparable recent sales. The developer then establishes a budget for the proposed building, and presents the architect with figures based on the economics of the venture. The architect, utilizing his or her professional skill and knowledge, then advises the developer of the limitations and possibilities of the project budget.
If the project requires a certain number of rentable square feet in order to be economically feasible, the gross size of the building will be determined. However, three basic components then come into play: construction cost, project size, and level of quality. These three components are variable and closely interrelated. For example, if the project size is increased, then the construction cost must also be increased or the level of quality will be reduced. Similarly, if the construction cost is decreased, then either the project size or quality will decrease as well.
Budgets must also be developed for institutional projects, those built to serve the public, rather than earn a profit. The budget may be based on a planning program prepared by the agency using the facility, or by a public building authority acting on the agency's behalf. Such a budget may become the basis for an appropriation by a legislative body, and therefore it must be reliable. Construction funds may have to be appropriated over a period of years, and should therefore allow for inflation.
When a project architect is hired, he or she must analyze the client's building program in relation to the construction budget. If a conflict between program and budget is found, an adjustment will have to be made in one factor or the other, otherwise the quality of work may suffer. Site conditions are among the most common sources of program or budget adjustment. Adverse geological conditions, for example, can result in added costs for excavation, grading, or utility installation. Unanticipated costs such as these can have a significant effect on the funds available for building construction. For projects with fixed budgets, adjustments in building size or quality may be necessary when high unanticipated costs occur. In such instances, it may be difficult for an architect to design to an acceptable quality level without reducing the size of the project.
These realities of the development process illustrate the importance of employing experienced professionals during the building project development in order to establish a workable balance among the variables of cost, size, and quality.
Inflation is another factor in project development planning, because a fixed budget in an inflationary period purchases less each day. An inflation factor should be included in the budget, and delays in project development should be reduced to a minimum. Good project planning will avoid, or at least lessen, the added costs of inflation.
It is important that project budgets be developed concurrently with building programs, that they be well planned, and that they convey a clear understanding of goals and priorities. Among the most critical budgetary decisions are those made during the earliest stages of development. Life-cycle costing, the economics of the full life of a building system, is a budgetary tool that the sustainable design approach encourages. It is a broader evaluation of the cost of architectural elements that consider more than the first cost of a component. Life-cycle costing considers also the maintenance and energy costs (operation) of the architectural system.
PROJECT DEVELOPMENT BUDGET
The total development cost of a project includes far more than the cost to construct the building; site costs, furnishings, professional services, and fees for permits, inspections, and financing must also be considered. In order to avoid unnecessary expense, a project budget should be prepared prior to committing large amounts of time, effort, and money. There are several ways to prepare a budget. Although no two projects are identical, and each situation involves somewhat different factors, certain similarities do exist between projects.
Therefore, it is possible to use standardized budget outline forms that apply to most situations. Some public institutions develop their own outlines, and it is common practice for an architect to follow such an established format. Since the basic items in a project budget are similar, although they may be expressed differently, it is not difficult to use modified formats. An example of a typical project budget is illustrated in this lesson.
As previously mentioned, development budgets should consider the possible escalation of construction costs. Since these are projected at the time the budget is prepared, reliable historical figures must be applied and assumptions made regarding probably increases. It is normal practice to anticipate construction cost escalation on the basis of an annual increase, projected to the midpoint of construction. Care must be taken to use indexes that are applicable to the type of project, type of construction, and geographic location being considered.
BUDGET COMPOSITION OF EXAMPLE PROJECT
In order to consider the various parts of a project budget, a hypothetical project will be examined, and the applicable categories discussed.
A division of a state university, specifically a research institute, plans to construct a laboratory of desert biology on a site donated by the state. The building program has been developed, and each function and space has been programmed in terms of function, area, and relationships.
The gross area of the building is 10,000 square feet, yielding approximately 6,400 net usable square feet. The site is gently sloping desert land without major improvements. It is bounded on one side by a paved secondary road road: however, all utilities (water, gas, sewer, power, and communications) must be brought to the site from a point 3,000 feet to the north within existing easements along a road to be paved by the state. Site developments will include parking for 25 cars, drives, curbs, gutters, concrete walks, landscaping, and irrigation.
Approximately 60 percent of the net usable area will be used for so-called "wet laboratories," which include water, gas, compressed air, distilled water, and sinks with chemical drains. The remaining net usable area will consist of office, library, cold storage and freezer rooms, animal rooms, aquatics rooms, plant rooms, data processing rooms, shop, and stock rooms. There will also be toilets, mechanical rooms, and circulation space, which constitute the remainder of the building's gross area.
The entire building will be air conditioned, and a special exhaust system for the laboratories is required. A uniform lighting system, achieving a minimum intensity of 75 foot-candles at the task level is specified. The building will be equipped with laboratory furniture, including acid resistant tops, sinks, and waste pipes. An internal communication system connected to the public telephone system is to be provided with instruments located in each laboratory and each office.
An architect has been asked to prepare a budget for the development of the entire project, from design through completion, which will be used as a capital outlay estimate to procure private funds for the development of the facility.
It is important to distinguish between the project budget and construction estimates, which will be developed later. The purpose of the project budget is to develop cost parameters within which the owner and architect will work. Construction estimates, on the other hand, generally require adjustments during the course of development. The project budget establishes development cost limits, which reflect all anticipated costs.
To assure inclusion of all possible expenditures, it is helpful to develop a budget outline form, as shown in Figure 13.1. Applying the budget outline form to our example project, it is now possible to prepare a project development budget, item by item, as follows:
1. SITE ACQUISITION
Since the site has been donated to the institution, no major direct costs are incurred. To transfer title, both parties agreed to a sale price of one dollar. When land acquisition involves a conventional sale and purchase, such items as purchase price, commissions, legal fees, and other transfer costs must be included as part of the total project cost. Since our example site was donated, no amount is entered on this line.
2. CONSTRUCTION
A. Off-site work includes all improvements outside of the property lines of the project. This work may include basic utilities and all services required to make the development operable. In this project it is necessary to budget for the installation of water service, gas service, sewer line, power lines (underground or overhead), and communication lines from a point 3,000 feet to the north. These services are located in public easements along the road. Paving of the road, as well as installation of curbs, gutters, and storm drains will be paid for by the state. The size of each of these services will have to be determined and the costs estimated by the state or the architect's consulting engineers. Costs are determined on the basis of dollars per lineal foot for trenching, piping, conduit, and cable. These unit costs, multiplied by 3,000, will provide the budget figure for off-site development costs.
B. On-site work includes all improvements within the property lines, but excludes the building itself. This may include roads, walks, parking areas, landscaping, sprinklers, lighting, pools, fountains, walls, fences, etc. In preparing the budget for on-site work, the architect must be aware of any unusual site conditions that may require special work, such as blasting where rock is encountered. Here again, the architect's consulting engineers can furnish unit cost information for various elements of site work.
Experience may help the architect determine what percentage of the total construction cost is apportioned to site work. It is not unusual to allow between 10 and 20 percent of the construction cost for this. In the case of our example project, the budget must include installation of all utilities and services from the point of entry at the property line to the building, the installation of a paved parking lot for 25 cars (approximately 10,000 square feet), and all necessary driveways, service roads, curbs, gutters, storm drains, concrete walks, landscaping, and irrigation. Items such as works of art, special lighting, and signage should be included in a separate budget item provided for this purpose.
C. Building cost must include all work related to the structure and its systems. To estimate the cost of construction, the architect makes use of various cost data sources which are based on recent and relevant examples. One such data source is the Dodge Building Cost Calculator and Valuation Guide, published by McGraw-Hill. This provides unit cost figures for buildings of varying qualities in the following categories:
1. Residential
2. Commercial / Industrial
3. Public
4. Medical
5. Educational / Religious
6. Miscellaneous
This source also includes cost multipliers, which adjust for varying geographic locations in the United States. Such cost tables provide accurate average unit costs.
Another method of calculating the building cost is to determine local unit costs, based on a certain quality of construction, and adjust this to the degree of complexity of the specific project. Our example building will be built of either masonry or concrete, it will contain a large number of spaces equipped with services and utilities, and it will have a number of special requirements, such as cold rooms. It will have above-average quality finishes to minimize maintenance and laboratory fixtures with special tops and storage cabinets. As a result, an above-average structure with a 20 to 50 % premium can be assumed. The basic standards of quality should be established at this stage, including illumination, floor, wall and ceiling finishes, hardware, casework, etc. Based on these standards, the architect can establish a unit cost, which is multiplied by the gross area of the building to obtain the total construction cost.
3. PROFESSIONAL SERVICES
This includes the cost of a topographic survey furnished by a licensed land surveyor; the preparation of a preliminary soil analysis and a soil report, including recommendations for bearing values to be used in the design of footings; any work involving site or master planning in excess of normal architectural services; the cost of all architectural and engineering services, from the inception of the project through the administration of the construction contract, which includes all work provided by civil, structural, electrical, and mechanical engineers, landscape architects, and interior designers; the cost of special consultants to check completed drawings for conformance to codes and safety orders.
These costs can be estimated by reviewing records of previous projects and are dependent on the complexity of the project. In general, they amount to about 10 to 15 percent of the cost of construction.
4. MISCELLANEOUS COSTS
Additional costs contained in the project budget include advertising for bids, fees for sewer and water connections to city services, building permits, fees for attorneys, etc. These costs vary according to the size of the project, and it is best to consult local authorities and the owner to establish an amount for these items.
5. INSPECTION AND TESTING
This category includes the salary of a full-time on-site inspector engaged by the owner (if the project requires such services), as well as costs for testing soil compaction and strength of concrete, welding inspections, etc. The on-site inspector's monthly salary may be multiplied by the duration of construction.
6. CONTINGENCIES
Unforeseen developments prior to and during construction must be considered in the project budget. It is normal practice to allow a bidding contingency of between 5 and 10 percent. Inflation can be projected in several ways, for example, by projecting cost indexes as a straight line, based on cost escalations of the past year or two. Escalation of cost should be calculated to the midpoint of construction in order to arrive at an average.
A construction contingency of between 5 and 10 percent may be included to cover unavoidable change orders. These may occur as a result of the owner's need to include additional items, as well as costs resulting from unforeseen site conditions.
7. FINANCING
These costs include loan origination fees, interim financing costs during construction, and permanent financing costs for "take-out" or permanent mortgages. If a public institution requires the sale of revenue bonds, the necessary legal fees must be included in the project budget.
The sum of all these items provides the total cost to develop the project. Interior furnishings, sometimes referred to as "fitting out," are usually treated separately. The project's design should not proceed until both owner and architect are satisfied that the project is feasibly within the constraints of the budget.
Using this format, a budget for the aforementioned laboratory of desert biology is presented. It is interesting to note that nearly one quarter of the total project development costs may be budgeted for items other than construction.
COST ESTIMATING
Cost estimating is a highly developed technique with which architects should be fully familiar. Some architects are highly skilled estimators, while others employ expert cost estimators on their staffs. There are also independent cost consultants available to architects, owners, and contractors. When a professional estimator is consulted, an architect should become familiar with the methodology to be employed, the information needed by the estimator, and the critical periods during the development stages when estimates are appropriate. The reliability of cost estimates invariably depends on the accuracy of the base information and the conscientiousness with which the work is performed.
In order to avoid misusing design time and wasting energy, an architect should have an accurate idea of likely costs at each stage of the project development. The methods of preparing budget estimates at the pre-planning and proposal phase have already been discussed. These are often single unit costs based on such parameters as cost per student, cost per hospital bed, cost per square foot of floor area, or cost per cubic foot of building volume. The cost analysis methods commonly used at various stages of project development are as follows:
PROGRAMMING
At the programming phase, the unit cost system, that is, cost per square foot, is quite appropriate. This is usually based on recent experience with similar types of buildings, adjusted by size, location, quality, etc. Costs may be related to the functional activities of each space, for example, square foot cost for offices and secretarial spaces. Distinguishable spaces that are calculated separately increase the accuracy of the estimate.
SCHEMATIC DESIGN
In the schematic design phase, it is helpful to employ cost information on the major elements of each building subsystem. This enables cost comparisons between different conceptual solutions and allows, for example, a comparison between steel and concrete structural framing systems. This holds true for all of the major subsystems: air conditioning, electrical distribution, lighting, plumbing, etc.
DESIGN DEVELOPMENT
During the design development phase, detailed component costs are required, which permit a more precise selection of components and systems. With more accurate knowledge of probably costs, the architect may suggest changes, if estimates indicate that costs will exceed the project budget.
CONSTRUCTION CONTRACT DOCUMENTS
In the construction contract documents phase, when working drawings and specifications are prepared for bidding, it is necessary to use composite unit rates for construction components, assemblies, and systems. These unit rates are required for pre-bid estimates, final cost checks, and the contractor's cost breakdown. This information is also used during construction as a basis for verifying the contractor's payment requests.
General construction cost data is readily available and published in a wide variety of forms. Commercial publications or trade journals regularly furnish information on detailed unit prices, as well as the costs of common building types. Major construction companies also have current price information and will advise owners and architects on a professional basis.
Cost data furnished by contractors is usually categorized by building trades, similar to the way construction work is administered. However, these divisions, which parallel the format of specifications, may not provide a convenient framework for cost estimating during the programming or design phases. Effective cost control requires a framework based not on building trades, but on the component parts of a building, often referred to as subsystems, functional components, elements, or assemblies. Institutions or companies which do a great amount of building, such as government agencies, universities, large corporations, chain stores, etc., regularly use component cost estimating formats. Two examples are shown below:
SAMPLE COST FORMAT A
The format is for construction cost only, without fees.
1. Structural
A. Foundations
B. Floors on grade (including columns)
C. Floors above grade (including columns)
D. Roof deck
2. Exterior walls
3. Interior walls and partitions
4. Finishes
5. Vertical circulation
A. Stairs
B. Elevators
6. Specialties
7. Equipment
8. Plumbing
9. HVAC (Heating, ventilating, and air conditioning)
10. Electrical
11. Site work
SAMPLE COST FORMAT B
This format is considerably more detailed than format A. It reflects total project costs, including fees. Total costs are therefore greater than construction costs alone.
1. General conditions, fees, and permits
A. Temporary services and roads
B. Field office, temporary power, field toilets, etc.
C. Head office overhead and profit
D. Professional fees
E. Permits
2. Substructure
A. Normal foundations
B. Basement excavations
C. Roof construction
D. Roof finish and insulation
3. Horizontal structural elements
A. Slabs on grade
B. Suspended floor slabs
C. Roof construction
D. Roof finish and insulation
4. Exterior cladding
A. Walls below grade
B. Walls above grade
C. Windows
D. Exterior doors, entrances, and screens
E. Projections, balconies, etc.
5. Interior vertical elements
A. Permanent partitions and doors
B. Demountable partitions and doors
C. Glazed partitions and doors
D. Folding or sliding partitions
6. Multistory elements
A. Stairs, steps, ladders
B. Chutes
C. Catwalks, gratings
D. Elevators, escalators, hoists
7. Interior finishes
A. Floors and base
B. Ceilings
C. Walls
D. Special finishes
8. Fittings, furnishings, and building equipment
A. Building equipment
B. Special equipment
C. Built-in furniture and fixtures
9. Cash allowances
A. Hardware
B. Graphics (signage)
C. Miscellaneous
10. Alterations and renovations to existing structures
11. Site preparation and development
A. Demolition, site preparation, drainage
B. Utilities (including mechanical and electrical site work)
C. Utility tunnels
D. Roads and parking areas
E. Pedestrian walks and steps
F. Exterior illumination
G. Site furniture
H. Ancillary structures, fences, etc.
I. Landscaping, planting
12. Plumbing and drains
A. Plumbing and drains, roughing-in
B. Plumbing fixtures and hardware
C. Fire protection
D. Special services systems
13. Heating, ventilating, air conditioning
A. Mechanical equipment
B. Heating system
C. Air conditioning
D. Ventilation system
E. Controls
F. Plant
G. Special systems
H. Testing and adjustment
14. Electrical
A. Equipment
B. Transformers and main distribution
C. Power and lighting distribution
D. Lighting fixtures
E. Underfloor duct systems
F. Communication systems
G. Special services
H. Safety and security systems
A useful listing of elemental categories for building cost analysis was prepared for the P/A Building Cost File. In addition to the elemental categories, this includes:
1. A description of elemental categories and units of measurement
2. Rules of measurement for areas and volumes of buildings
3. A building classification code
Construction trade costs are far more useful when converted into working indexes, such as described above. Once costs are redefined in this manner, the working relationship to programming and design is established. Each building cost analysis should be accompanied by information regarding the estimating basis or technique, so that it can be checked, modified, or corrected.
For comparative purposes, it is convenient to use a simple measure of cost which can be applied to a wide range of building types and building systems. The unit cost system best fits this need. Unit costs describe a specific element as a quantity, for example, curtain wall costs are expressed as "square feet of curtain wall area." This system enables estimators to apply cost data accumulated from one building to a different building type, provided the design and performance criteria are similar. Thus, a structural system for given spans, loads, and height may be transposed from an office building to a university classroom building.
Building cost analysis is useful to the extent that it considers the desirable performance criteria. For example, the cost analysis for partition systems should take into account height, frequency of doors and other openings, fire resistance, and sound transmission requirements.
An office file that documents building cost information on this basis is an excellent and reliable system; however, to be useful, it must be broadly based and reflect a wide range of recent experience. For that reason, it is difficult for small architectural offices to establish data systems and keep them current. Large architectural, contracting, and cost estimating firms often use computer-based data, but smaller offices more often rely on outside reference sources. Whatever the source, the most useful and reliable method invariably involves an expert estimator, a responsible contractor, and dependable information.
Collecting data for a building cost file requires the organization of information as follows:
Elemental categories and units of measurement comprise all the elements of a building, arranged in the usual sequential order of construction. Each element is described and related to its appropriate unit of measurement, such as square feet, linear feet, or cubic feet.
There are seven major cost areas:
100 FOUNDATIONS
Include all those elements which support the structure.
200 BUILDING SHELL
Includes the basic superstructure of the building, the exterior envelope, and the roofing.
300 INTERIORS
Include all architectural interior finishes, partitions, built-ins, specialties, and equipment. These costs are largely influenced by the functional requirements of the spaces.
400 CONVEYING SYSTEMS
Include escalators, elevators, etc. Costs are closely related to building height.
500 MECHANICAL AND ELECTRICAL
Include all elements of the mechanical and electrical systems except exterior services (900).
600 GENERAL CONDITIONS AND PROFIT
Include the contractor's provisions for general conditions, site overhead and profit.
900 SITE DEVELOPMENT
Includes excavation, grading, utilities, roadways, landscaping, etc.
Each of the main categories is further divided into more detailed classifications. Items which are included and excluded in each category and the appropriate units of measurement are noted. This detailed listing relates trade costs to building component costs, which allows a practical comparison of values. Note that categories 700 and 800 are not assigned; they are reserved for special items.
FLOOR AREAS AND VOLUMES
Floor areas and volumes are calculated according to standard rules of measurement, which ensures that unit rates are consistent from one project to another. There are several rules of measurement, some of which apply to commercial buildings and others to institutional buildings. Large corporations that do a considerable amount of building may use their own particular rules.
Calculations should be made for both gross and net floor area. This allows one to compare the space efficiency of different designs, and to relate costs to a unit of net usable building area.
The building volume measurement permits one to translate costs into dollars per cubic foot. The ratio of gross floor area to building volume is also a useful measurement, since it takes into consideration the floor-to-floor height.
A building classification code establishes a convenient system to identify, classify, and store information on various projects.
The ultimate purpose of establishing a cost file is to enable one to analyze the costs of a proposed project.
Cost figures are based on bid prices, with no adjustments made for construction changes or geographic variations. This form of cost analysis saves time and effort, and it provides an efficient pricing system during the early programming and planning phases.
PARAMETER COSTS
A second system of estimating costs, checking bids, and controlling costs was originally developed by Engineering News-Record (ENR) and is called parameter costs of buildings. The data derives from contractor-reported actual costs, which are published in detail for each project.
The parameter method bases the unit cost of each trade on the physical parameter (measure) of the building that is the main determining cost factor, among the 15 parameters used. For example, the "gross area supported" is used to calculate the unit cost of structural steel or whatever structural system is used. Items such as acoustical ceilings, resilient flooring, carpeting, sprinklers, plumbing, electrical fixtures, etc., are based on the "net finished area" parameter.
Using parameter costs is more accurate than basing the unit cost of each trade on total area or volume. ENR's parameter cost files are stated as unit cost ranges for each major trade. The range is based on 50 percent of projects centered about the median, using contract prices updated from construction start date to present, using the ENR Building Cost Index.
Parameter costs of buildings are useful in developing feasibility studies, determining preliminary budgets, aiding design decisions and cost-cutting procedures, determining and checking bids, and simplifying cost control. Given a building concept, architects can use building parameters to calculate preliminary costs quickly. Moreover, appropriate values of cost-saving alternatives may also be obtained.
A parameter estimate can be adapted for use in another location by applying ENR's 20 Cities Building Cost Index. It can also be updated by multiplying by an inflation factor. However, more reliable results are obtained when indexes in the same region are updated.
Table 13.1 illustrates a construction cost budgeting system that uses the ENR cost parameters. If a new hotel with a similar budget were being planned, an estimator could generate valid parameters and probably unit costs for the proposed hotel by expanding the given trades classifications and unit costs shown. The new tabulation would have the same form; however the parameter unit costs would differ based on the judgment of the estimator and geographical factors.
During all phases of design, the budget of each component must be controlled to assure that cost targets are not exceeded. In the early stages of development, detailed estimates are impractical; however, general comparative costs can be projected.
Referring to the cost breakdown of a project in Table 13.2, let us examine an example of value engineering analysis. Note that the cost of structural steel is estimated at $270,000. Four structural alternatives were selected for comparative cost study:
1. Prefabricated reinforced concrete
2. Prefabricated prestressed concrete
3. Prefabricated steel with solid web beams
4. Timber
Studies of these four alternatives yielded the following costs:
1. Prefabricated reinforced concrete, $282,000.
2. Prefabricated prestressed concrete, $288,000.
3. Prefabricated steel with solid web beams, $270,000.
4. Timber, $290,000.
From this analysis it is clear that a prefabricated steel structure is the most economical. This type of analysis can be made for each of the major building components. Those items that exceed the parameter costs may have to be balanced by compensating reductions in other components, or the project budget may have to be adjusted.
Upon completion of preliminary design, the construction cost estimate should be reviewed with the owner for approval. The cost objectives established in preliminary design will determine the cost of the final design.
To examine another component, the budget for toilet partitions has been set at $3,080. According to the preliminary design, the project has a total of 17 toilet partitions. Shown below are the five partition types considered, with their unit costs and total costs:
Marble $500 X 17 = $8,500
Metal $200 X 17 = $3,400
Porcelain enamel $300 X 17 = $5,100
Stainless steel $430 X 17 = $7,310
Pressed wood $140 X 17 = $2,380
The pressed wood partition would have the lowest cost and would realize an initial savings of $700, based on the original budget of $3,080. Since durability is essential, however, this partition material is unacceptable. Therefore, the next lowest cost partition, metal, is recommended. The anticipated partition cost overrun is $320, and this overrun must be absorbed in one of the other components.
This analysis illustrates the technique of value engineering; it also indicates that the parameter system is not entirely flawless. A budget must be based on reality. The real conclusion of this analysis is that the original budget may have been flawed, and that an estimator's professional judgment is more reliable than any mechanical system.
OTHER COST VARIABLES
Project location is a major factor influencing construction costs. This is particularly important when published cost indexes are used to convert cost data from one locality to another. Subdivided geographical areas of the country must consider labor rates, material prices, construction activity, and the availability of labor. Variations within geographical regions, particularly between urban and rural areas, must also be considered, as well as the possibility that certain regions may experience a change in cost patterns. Additional factors influencing costs include population densities, construction volume, wage levels, number of construction firms, etc.
From all of this the following conclusions can be drawn:
1. There is a direct correlation between labor rates, material prices, and construction costs.
2. Construction costs decrease as one moves away from heavily populated urban areas, until construction locations become remote and inaccessible, at which point costs rise rapidly.
3. Costs in rural or remote areas tend to be less predictable than in urban areas due to fluctuations in the construction market, lack of stable labor, and material delivery problems.
4. Rural and semi-urban areas are dependent on neighboring metropolitan areas, and they are influenced by distance and transportation access. The construction industry of a metropolitan area generally services the outlying areas.
The factors that contribute to construction cost differences, therefore, are: the availability of labor and materials, the resources to produce or fabricate materials, and the convenience of available transportation systems.
Construction costs are affected by a variety of influences; for example, when oil becomes scarce, fuel costs rise and construction costs increase. When construction activity exceeds what the local labor market can provide, labor costs rise. And when industrial wages are increased, the price of fabricated building components must rise as well.
Interest rates charged to developers have a substantial influence on construction volume, with resultant effects on labor and materials costs. High interest rates invariably cause a significant reduction in housing starts, which is normally followed by a decline in softwood lumber prices. This is illustrated by Figure 13.3, which shows that in the severe slump of 1973-74, lumber prices plunged some 20 percent.
The demand for wage increases and fringe benefits by building trade unions is the largest single influence on labor costs. These increases are more often based on cost-of-living increase that on an increase in productivity. Labor union pressures normally decrease as construction activity is reduced, when emphasis is placed on minimizing the loss of jobs.
It is clear that any single influence, whether it is price control, credit control, shortage, demand, or supply can have a considerable effect on the overall cost of construction.
CONSTRUCTION OVERHEAD AND PROFIT
Overhead costs usually include all the general costs of operating and maintaining a contracting business plus all project expenses that are not included in material, labor, or equipment costs. Overhead costs can be assigned to either of two categories: general overhead costs or project overhead costs.
GENERAL OVERHEAD COSTS
Included in this category are all costs that cannot be charged to a specific project. Costs such as rent, for example, are continuous, although they may vary with the volume of construction and the number and size of projects being handled by the firm.
General overhead costs may range as high as 8 to 15 percent of the total value of business for a large firm. The following list illustrates the various items constituting general overhead costs. All projects will include some of these items, and a few projects will include them all.
GENERAL OVERHEAD COSTS:
Advertising
Automobile
Consulting Fees
Entertainment
Furniture
Heat
Insurance
Interest
Legal expenses
Rent
Salaries
Stationery
Supplies
Taxes
Telephone
Travel
Utilities
Wages (staff)
PROJECT OVERHEAD COSTS
These include all costs that can be charged to a specific project, but cannot be attributed to labor, materials, or equipment.
Project overhead costs depend on the type of project and the difficulties encountered during the work. These costs vary from 4 to 10 percent or more of the cost of construction, or from 10 to 20 percent of labor costs alone. The following list illustrates the various items that constitute project overhead costs. Each project normally includes several of these. (Note that payroll taxes are usually a part of labor costs, not project overhead.)
PROJECT OVERHEAD COSTS:
Bonds
Equipment Storage
Heat / air conditioning
Insurance
Interest
Light, power, water
Office maintenance
Permits
Project office
Project telephone
Sanitary facilities
Security
Stationery and supplies
Taxes
Temporary enclosures
Temporary walks and stairs
Transportation
Trash removal
Total overhead costs may vary from 5 to 20 percent of the total construction cost, or from 10 to 40 percent of the labor costs alone. The actual amount depends on the locality and type of project.
Other than the general building permit, contractors must often secure permits to cross a sidewalk, erect shelters over a sidewalk, store gasoline or other hazardous materials, construct temporary buildings, maintain sanitary facilities, obtain water or power, open streets for utilities, repair pavements, use dumps, and transport heavy or wide loads over city streets.
A contractor may also be required to secure surety or guarantee bonds, proposal or bid bonds, performance bonds, and labor and material payment bonds. Certain types of insurance may also be required by law or by the owner, as shown on the following lists.
GENERAL INSURANCE:
Fire
Owner's contingencies
Property damage
Public liability
Windstorm
Worker's compensation
MISCELLANEOUS INSURANCE:
Automobile
Boiler
Earthquake
Flood
Forgery
Payroll
Plate glass
Rain
Theft
Vehicle
Wind
On most construction projects the contractor must make interest payments to finance the costs of labor and materials until progress payments are received. These interest payments are included in the project overhead. If the contractor, rather than the owner, is required to pay property taxes on a structure during construction, these taxes are also included as overhead.
There are several methods of apportioning overhead costs. The optimal way is to charge actual costs to each project, which requires, of course, that such costs can be determined accurately. The more common method is to apportion general overhead costs among all projects. In some instances, general overhead costs are divided equally among each of the projects; in others, according to the length of time required to complete each job.
The federal government and some states levy payroll taxes, which are normally a part of the contractor's labor costs. Included are Social Security Tax, Federal and State Unemployment Insurance Tax, and Disability Insurance Tax.
PROFIT
The amount of a contractor's profit is usually expressed as a percentage of the total estimated costs of materials, labor, equipment, and overhead. This percentage varies according to the type of project, size and amount of the contract, and the time required for completion. Smaller or more risky projects, for example, usually command a larger profit percentage. The profit percentage also depends on how anxious a contractor is to build a particular project and the bidding climate created by the competition of other contractors interested in the same project.
The percentage allowed for profit varies from 5 to 25 %. For smaller projects with many unknowns, the highest percentages are charged. 15 to 20 % is typical for medium-size projects, 10 to 15 % for larger projects when unknowns are limited, and from 5 to 10 percent for very large projects. Unknowns include such risk factors as local labor conditions, weather, and the owner's financial solvency.
CONSTRUCTION COST ESCALATION
The cost of construction is based on the cost of raw materials, manufactured materials, and labor, and therefore, it is directly affected by the vicissitudes of inflation. Thus, it is necessary to determine how construction costs relate to inflation, how they vary as a result of external influences, and how to use available information to predict future trends. This is vital for estimating costs of projects in the programming stage, often one or two years in advance of bidding.
One method is to chart historical curves, based on indexes of construction costs, and project these on a straight line basis. Thus, if a hypothetical index of 100 is set for a base year, such as 1986, and the index indicates 150 for 1991, the cost of construction for 1991 is one and a half times that of 1986. On the basis of this index, the cost of construction shows an increase of ten percent per year. In actual experience, however, inflationary cost increases are not uniformly linear, but rather they fluctuate.
For very large projects, even a minor fluctuation can involve a large amount of money.
COST INDEXES
There are numerous construction costs indexes published nationally, with price adjustment factors related to region. One group of such indexes is the ENR Construction Cost Index, which appears in Engineering News Record, published by McGraw-Hill. Additional indexes for construction costs, common labor costs, skilled labor costs, and materials costs also appear in the same publication. All of these indexes are calculated by averaging costs in a number of major U.S. cities.
The ENR Construction Cost Index was created in 1921 to diagnose price changes that occurred during and immediately following World War 1 and to evaluate their effect on construction costs. The index was intended as a general purpose construction cost indicator. It is a weighted aggregate index of constant quantities of structural steel, portland cement, lumber, labor, etc., comprising a hypothetical block of construction, and for years it has indicated the basic underlying trends of construction costs throughout the country.
There are a number of other cost indexes published, based on varying criteria.
Major considerations in choosing an index for cost measuring purposes are:
1. Desired accuracy
2. Material and wage components and respective weightings that make up the index
3. Geographical area covered by the index
For approximate estimates in the early stages of development, a general purpose cost index is easiest and most economical to use. However, a check should be made to insure that various components in the index reasonably match those in the structures being estimated. Choosing a specialized index requires careful study of the components and their relative statistical weight, as well as the geographical area to which the index applies.
Calculations for forecasting cost escalation trends must be tempered by such factors as shortages, increased demand, credit availability, and government intervention, including economic incentives or restraints. Nevertheless, cost indexes must be considered an aid, not the final answer to the complex task of estimating project construction costs.
THE FINANCING OF BUILDING PROJECTS
Building projects, whether public or private, can be financed in a number of different ways, which we will examine.
PRIVATE BUILDINGS
A private project may have an owner who develops it for his or her own use, whether it be a private residence or a corporate headquarters building. Most private building projects, however, are conceived by real estate developers, or entrepreneurs, as investments.
A developer may work at a very small scale, building houses or other small income producing projects, or at a very large scale, building skyscrapers, shopping centers, or whole communities. Because of the complexity of building, developers tend to specialize.
As previously discussed, the developer determines the feasibility of a certain kind of building in a certain place, and at a certain scale. He or she may also determine that a large project might be built in phases. With this vision of a project, the developer has to determine the likely acceptance for the project in a particular location. Is the zoning appropriate? Does the town plan, if it is specific, support the concept he has in mind? Is there likely to be community support, or opposition, to the envisioned development?
Some of these questions may not have simple answers, and further investigation may be required. When a developer feels that there is a real possibility for achieving his project, he proceeds, knowing that much still has to be investigated, and that the effort in terms of time and money may be considerable.
After investigating community acceptance with the appropriate public agencies - planning, zoning, public works, traffic and highways - the developer must investigate possible sources of financing. At this point, there is also the need for preliminary architectural and engineering concepts.
Let us focus on financing. Some developers have access to capital investment money, often in large amounts. Large developers often have long-standing relations with local banks. With that kind of financial backing, the task of such developers is to search for possible projects.
But most developers are not in that position. More often, they conceive of projects, and then search for capital. They may have some of their own money to invest, or for small projects, such as a medical clinic, they may be able to assemble a small investment partnership. More likely, they will go to a lender, such as a bank, to seek financing.
In order for a bank to lend money, it must be convinced that the investment project is sound. If it is a shopping center or office building, market studies, growth trends, and recent development experience may suffice to be convincing. If the project is very large, the lender may require a commitment on the part of major tenants, such as large firms seeking office space or chain department stores needing a new branch location.
If, as often happens, the lender is a pension fund or insurance company, the same evidence of either a market study or prime tenant, or both, is required.
The financial analysis of a building project, which involves cost and return on investment, is referred to as a "pro-forma." The cost of a building of a certain size and construction type can be reasonably estimated, as previously discussed. That same building can also be estimated to produce a certain annual rent. The "cost of money" (principal and interest payments, or "debt service") must also be considered. Other factors include vacancy rate, operating costs, repair allowance, taxes, inflation, etc. as well as depreciation. Depreciation is based on the idea that a building loses value as it ages, at least from a tax standpoint. In fact, however, the opposite is generally true: a viable building in a good location will probably appreciate in value.
Here enters the complex element of taxes and tax law. The federal tax laws, particularly, greatly influence the type and volume of building construction in the nation. Depreciation is one of many factors that may make a project financially attractive, since depreciation is permitted to be deducted before calculating the taxable profit of a project.
All private investments in construction are made with the idea of making a profit. An individual developer, using his or her own finances, will only proceed with a project if he or she calculates that the return on investment is favorable, and an investment bank or pension fund investor will do the same. The return on investment must be equal to or greater than the return that the money would make in any other investment of comparable risk - stocks, raw land, a business venture, etc.
Most real estate investment is made for a long period of time. 10 to 20 or more years. In some cases, the actual cash return, or profit flow, may not begin for several years. Some projects may have to be carried for the first few years. The amount of real cash loss (carrying expenditure) or positive cash earnings is referred to as "cash flow."
Some investors invest in projects that have negative cash flow, offsetting the loss against current earnings, in the belief that their real profits will be made in the future.
Another important factor in determining the viability of an investment, also because of federal tax laws, is the capital gains tax, which is a tax on profit from the sale of tangible assets, such as a building.
In the past, gains were taxed at a lower rate than wages, interest, and other income. That tended to make the sale of buildings quite profitable after taxes, often soon after they were built, which stimulated construction. The capital gains tax advantage has been greatly reduced in recent years, and its partial restoration continues to be a matter of political debate.
We mention the capital gains tax and depreciation to point out that federal tax laws are a major determinant of building construction intensity. They have become, in many ways, an instrument for modifying economic activity, intensifying or reducing it.
All private for-profit building investment is done with a long-range view. But it should also be obvious that a developer, burdened willingly with a considerable entrepreneurial effort at the outset of a project, must control expenses. That puts architects who work for developers in the difficult but well-known position of having to do their work in a highly competitive market, under conditions in which a client seeks to minimize costs, particularly "front end" costs. Consequently, the architect's services are often poorly compensated in this sort of competitive and speculative environment. To improve this situation, some architects take an equity position or part ownership in a project, or even become developers themselves.
An exception is the developer who develops more elegant buildings in order to attract more prestigious tenants. Here a premium of 10 to 15 percent may be expected to produce a more attractive building. The architects for such projects are likely to be those who are recognized for their design quality and distinction and, on occasion, their ability to attract attention through their work. This has been called "signature architecture." Such architects may design those elements that affect the appearance of a building, the facade and lobby, with the rest done by a conventional architectural and engineering firm.
When a developer has assembled his entire project and secured financing for its construction, the financing is made available in the form of a construction loan. As the project is built, the loan funds are paid out to the contractor, subcontractors, and suppliers. This provides the lender with the opportunity to determine that the work is proceeding properly. When the project is finished, the developer obtains a new loan for long-term financing, to be paid off during the financial life of the building through rental income.
One should also be aware of the term "FF&E" - furnishings, fixtures, and equipment. FF&E refers to the built-in furnishings (counters, cabinets, etc.), permanently installed fixtures (toilets, sinks, etc.) and equipment (lighting, etc.) needed for a building to operate. A moment's thought will reveal a quandary. How can a building be complete without FF&E? Such a building would be only partially built.
The reason for the term FF&E is to differentiate the real costs of a building, usually for budgetary convenience. A building without its FF&E is a structure and shell, including its main electrical and mechanical systems, which is obviously much cheaper than one fully equipped. But that equipment is paid for from another budget, which is why FF&E was devised.
It's origins trace back to British public health facilities. One budget provided for the building shell; the other, the FF&E, was the budget for completing the building so that it could be used, paying for much of the expensive finishings required in health facilities. Since then, FF&E has come to be used to reduce apparent building budgets by paying for finishing from a different budget or source.
It is customary in this country for a developer to build a basic building shell, ready to receive a tenant - a retail store operator or a law firm office. The tenant pays for the installation of "tenant improvements" - the finishing walls, floor, partitions, etc. This practice is more valid that FF&E, since the "tenant improvements" are just that, the interior construction unique to the tenant's needs, and subject to removal and replacement by a future tenant.
As for FF&E, it could be properly used in institutional buildings, such as hospitals, laboratories, and libraries, to describe the interior work that allows a building to serve its purpose.
PUBLIC BUILDINGS
The financing of public buildings is no less complex than that of private projects.
A public building project starts when a public agency recognizes the need for a new school, county office, court house, etc. The agency itself may act as "owner." More likely, a department of government, often called a GSA or General Services Administration, or a Department of Buildings and Grounds, becomes the "owner" and proceeds much the same way as a private developer.
Studies are done, internally or by an outside consultant, to establish a facility program and cost estimate. A site is chosen, and a project schedule and budget are developed. This work is done to coordinate with the government's fiscal process, in which money for projects is requested and apportioned. If the project is approved in the budget allocation, it moves towards realization.
An architect-engineer firm or team is selected, either through an interview process or through a competitive selection based on design. The design work begins and is developed. When the design is approved, the project is put out to bid, a construction contract is awarded, and construction begins.
The entire process is carefully planned and scheduled, and each step is budgeted separately. Public projects, then, often entail a considerable amount of time, due to the step-by-step approval and budgeting processes. Because of this, and as in private building, an inflation allowance is included in the budget.
The financing for public buildings and facilities is achieved through one or two general methods. The first is to pay for the project out of general tax revenues. Federal government buildings are generally paid for this way, with the government paying for the building as it is designed and built with operating funds derived from appropriations.
As the size of a government jurisdiction becomes smaller, so does its ability to raise the funds to pay for a building as it is designed and built. The design costs can be paid out of a specific appropriation. But often, the construction cost cannot be paid, simply because the municipality does not have sufficient money in hand. Instead, the municipality may issue a bond, to raise money from the investment community to pay for the building. In other words, the municipality borrows money, via a bond issue, to finance the building. The bond is paid back over a prescribed number of years.
Since municipal bonds are generally tax-free, interest costs to the municipality are reduced. Such bonds have a lower rate of return than other bonds, but the return to investors is not taxed.
There are two types of municipal bonds: general obligation bonds and revenue bonds.
GENERAL OBLIGATION BONDS
General obligation bonds are used to finance the construction of facilities that do not collect revenue, such as schools, roads, parks, etc. The principal and interest on such bonds are paid from tax revenues.
REVENUE BONDS
Revenue bonds, on the other hand, are used to finance revenue-producing facilities, such as toll bridges, water treatment plants, etc., and the fees collected by such facilities are used to pay back the bonds.
The bonds are sold on the open market through brokers. Municipalities are rated according to their reliability in making bond payments, with a triple-A rating being the highest. A high rating allows a city or public agency to issue and sell bonds readily, and at a favorable rate.
The power of a city to plan and build projects and finance them through bonds issues is strictly controlled, usually by the state government. These restrictions limit the types of projects a municipality can build (they must be for community services), as well as the total amount of indebtedness a municipality may incur, known as the debt ceiling. A municipality is, in effect, a regulated public corporation.
One should also be aware of special purpose government agencies which have the authority to build facilities. The federal government's General Services Administration is perhaps the largest building authority in the world. At the state, county, and municipal level, special authorities that have the power to finance and build include agencies which build water and sewer facilities, schools, hospitals, jails, public buildings of all sorts, highways, public transit facilities, port facilities, industrial parks, etc.
Similarly, utility companies, which supply electricity, gas, telephone services, can be regarded as quasi-public authorities. In effect, they are private companies that provide public services. They are franchised to operate in certain areas, and are carefully regulated by public commissions.
Private companies whose purpose is to provide needed facilities for low income persons are another form of public authority. They operate on a non-profit basis, and are funded by low-interest tax-free obligations as well as private donations.
In some cases, a special tax may be levied to pay for specific public facilities. For example, a hotel tax can be earmarked to par for a convention hall, on the theory that the convention hall attracts out-of-towners, who spend money and thereby enrich a city.
The financing and operation of private and public buildings requires skilled management and astute investment strategy. For public facilities, the primary responsibility is to provide an adequate public infrastructure.
The private sector requires skilled entrepreneurship as well as public security, particularly if investment funds come from government-backed institutions. (The ongoing problems involving savings and loan institutions illustrate all too clearly what can happen when such public scrutiny breaks down.)
Finally, there are projects that society needs and that are best realized by continuous long-term effort. Such projects, which include housing for the elderly and public acquisition of ecologically critical natural areas for preservation, are not financially feasible for the private sector and must therefore be financed through special programs. These essentially involve federal or state underwriting of financing, either through special issue bonds or direct financing. Projects of this kind provide long-term benefits to society and therefore represent an investment in the nation's future.
SUMMARY
Budgeting is an essential element of building design and project development. An architect must be aware of the probable cost of his or her design, from the earliest conceptual stages through design, with ever-increasing accuracy.
Several techniques are used in cost estimating - cost by building type, square footage cost in relation to quality of construction, and analysis by individual building elements. In addition to the direct cost of construction, there are other costs such as professional fees, permit fees, contractor profits, contingency and inflation allowances, and financing costs.
Finally, it is also necessary to understand both the differences and similarities in funding private and public projects.
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