Contingency Factors to Account for Risk in Early Construction Cost Estimates for Transportation Infrastructure Projects (2022)

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2 Introduction Construction cost certainty is a key factor in a department of transportation’s (DOT’s) ability to effectively fund and manage its multi-year state transportation improvement program. However, early estimates established during the scoping stage are by definition inaccurate because of the inherent incompleteness of project definition and design details. Those uncertain- ties and risks necessitate setting a contingency amount for a project or a program to account for possible project cost increases. Unfortunately, without a rational method to compute an appro- priate project-specific construction contingency, most DOTs rely on fixed percentages that are established by policy rather than by rigorous analysis of a specific project’s risk profile at each stage of project development. A reliable and consistent process, enabled with sound methods and tools for estimating a project’s construction contingency, is needed to increase certainty in the adequacy of funding allocation and management decisions during project development and delivery. Understanding how to estimate a project’s construction contingency requires a deep appre- ciation for the way a DOT develops its construction projects from concept to construction. More specifically, understanding the uncertainties and risks of a project during the scoping phase and systematically applying consistent processes, methods, and tools will allow agencies to resolve the major challenges in early cost estimating. Here, the goal is to minimize variances in construction cost between early estimates and actual construction costs so that the DOT can execute its long-term capital transportation improvement plan without the need to delay or cancel projects as a result of having to reallocate or identify additional funds. 1.1 Why Are Project-Specific Construction Cost Contingencies Important in Early Estimates? Project budgets are typically fixed early in the project development process, before the project’s scope of work has been finalized. The potential for scope growth will not yet have been mini- mized, and the required engineering investigations that will drive construction costs will not yet have been completed. This issue is compounded by a well-documented phenomenon called optimism bias. Well-meaning engineers and planners take the approach that “if everything goes according to plan, the budget can be kept as low as possible.” According to Flyvbjerg et al. (2002), optimism bias is the reason 86% of major infrastructure projects are underestimated by an average of almost 30% during the early stages of project development. The result is that experienced engineers tend to use the “best possible case” for their early cost estimates. This problem is further exacerbated by a tendency for non-technical promoters of a project to latch onto the low number when given a credible range that also includes the worst possible case. In this way, a project is developed assuming an expected cost that is lower than it will actually be, since cost risks are realized during the design and construction process. C H A P T E R 1

Introduction 3 The most ingrained and possibly most unrecognized aspect of current capital construction cost estimating is the manner in which contingencies are established. The research that led to this guide found that most DOTs use a standard set of project contingency factors that are tied to a stage of design development, not a rigorous analysis of risk. In this way, a DOT essentially assumes that at 30% design, the risk inherent to a highway resurfacing project is exactly the same as the risk found in a tunnel expansion project. As a result, risk is overstated in straightforward projects and understated in complex projects, and the value of a project’s construction contin- gency does not relate to the scope-related unknowns at the time of the estimate. Given the results of the Flyvbjerg et al. (2002) study, it is imperative that the process of identifying and quantifying the value of construction cost risk is moved backward into the planning and scoping process and that a rigorous analysis of project-specific scope risks is used to inform the budget-setting process. This guide provides the first step in replacing the fixed percentage method and the optimism bias inherent to the project development process with a pragmatic assessment of project-specific risks and historical cost performance data to estimate construction contingencies. The guide offers a way to set a realistic baseline project cost with a project-specific construction cost contingency that will better reflect the risks as a project passes through its environmental permitting, right-of-way (ROW) acquisition, and final design process. 1.2 Challenges and Opportunities of Guide Implementation The major challenge that must be addressed to implement the suggestions in this guide is more than technical. The slogan of “better, cheaper, faster” is often used as the definition for project delivery success. Transportation agencies want their project to be high quality (better) at a low cost (cheaper) and in as little time as possible (faster). In 2010, the FHWA introduced the Every Day Counts program; its aim is to proliferate proven methods to “get in, get out, and stay out.” To accomplish that aim, the FHWA Administrator stated that “It’s imperative we pursue better, faster, and smarter ways of doing business” (Mendez 2010). It is notable that the FHWA has substantially changed the project delivery slogan by substituting “smarter” for “cheaper.” As the United States enters a period of major investment in its deteriorating transportation infrastructure, the apparent policy shift from cheap to smart seems to advocate for the delivery of transportation facilities that ultimately last longer and with less required maintenance than those previously built. To meet that challenge requires an investment in enhancing the quality of DOTs’ early estimates; this involves changing the underlying decision criterion from “minimize cost” to “maximize cost certainty.” Completing a complex transportation project on budget is an important goal of the planning, scoping, and design phases in addition to the construction phase. This guide is designed to provide the information needed to make this transition by laying out a simple, data-driven methodology to calculate rational, project-specific construction contingencies in the scoping stage of the project development process. Research has shown that the emphasis on minimizing project costs may actually reduce an agency’s ability to control cost after the award of the construction contract (Del Puerto et al. 2016; Antoine et al. 2019). The greatest opportunity presented by this guide is its users’ ability to maximize the use of available capital by reducing the total amount of funding that is tied up in contingencies and not released until project completion. If the move to project-specific construction contingencies results in less total programmatic contingency, then the difference can be invested in awarding more construction projects in a given fiscal year. In the short term, risk-based construction contingency analysis in early estimates will decrease the potential need to reprogram capital

4 Contingency Factors to Account for Risk in Early Construction Cost Estimates for Transportation Infrastructure Projects funding between projects as the true project scope becomes clearer and as the design advances. Risk-based contingency analysis will also enhance the dialogue with regard to evaluating potential design alternatives beyond the mere selection of the cheapest option. It can expand the dialogue to include a discussion of the risk profile associated with each viable alternative and its impact on constructability and sustainability. Injecting formal qualitative and quantitative risk analysis into the scoping process will also encourage an earlier lockdown of the project’s scope at the point where the budget is established. This doesn’t mean that normal scope creep due to the iterative process of design will be halted, but rather that scope additions that were not contemplated in the original estimates will be given visibility and discussions of their incremental value relative to cost justifies increases in the published budget. A typical example would be an initial scope to conduct repairs and resurfacing on an existing bridge project, which morphs into a complete bridge replacement because of the thinking that “as long as we are going to disrupt traffic, we might as well go ahead and replace the bridge so we don’t have to disrupt it again in 10 years.” This is not to say that it is unimportant to give such an alternative serious consideration, but rather that such a change is not routine scope creep. A change such as this one adds a whole new feature of work to the scope for which the project was originally authorized and needs to be recognized as being outside of the previous authorization’s contingency calculation. 1.3 Guide Audience and Application For the purposes of this guide and to avoid confusion, the word contingency refers only to construction cost contingency unless otherwise specified. The definitions of other significant terms frequently used in this report are provided in Appendix A. According to AASHTO (2013), total project costs include four main components: (a) engineering and design cost, (b) construction cost, (c) construction engineering cost, and (d) ROW cost. This guide focuses on construction cost contingency and provides a risk-based approach to the reliable estimation of that contingency at the programming and scoping phase. Figure 1 shows a conceptual timeline for implementation of the risk-based construction contingency development and management process to enhance the quality of early estimates. The timeline shows that there is a range in which the risk-based construction contingency estimate will be effective. Ideally, this range would be identified in conjunction with establishing the initial budget request for authorization. However, it needs to be identified no later than the identification and evaluation of alternatives. This guide’s assumption is that the analysis of construction contingency will be updated each Figure 1. Guide application conceptual timeline.

Introduction 5 time there is a major project development milestone at which the project’s risk register is updated. The guide also presumes that the initial risk assessment will likely be a qualitative analysis since insufficient technical detail will be available to conduct a quantitative analysis. As the design advances and more detail is known, the analysis will become more quantitative and will seek to use all available technical material to inform the baseline estimate—thus adjusting the construction contingency to reflect the current risk profile. The audience for this guide includes personnel in the following disciplines: planning, program- ming, environmental, project management, design, and cost estimating.