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

Below is the uncorrected machine-read text of this chapter, intended to provide our own search engines and external engines with highly rich, chapter-representative searchable text of each book. Because it is UNCORRECTED material, please consider the following text as a useful but insufficient proxy for the authoritative book pages.

6 Key Concepts—Construction Contingencies Contingency estimating is deeply rooted in risk identification and quantification, and there are well-established theories and practical guidelines on cost risk management for capital projects. However, state DOTs have traditionally treated contingency estimating very lightly, especially in the early stages of project development. A simple fixed percentage or a sliding scale are the most common methods for estimating contingency, but these do not address project-specific risks. A review of state DOTs’ contingency-related materials has revealed that the understanding of construction contingency and its components varies across different DOTs (WSDOT 2012; CTDOT 2019; ITD 2020). This chapter provides the generally accepted definition of construc- tion contingency and its components that are aligned with FHWA guidelines on probabilistic risk-based estimating (PRBE) (FHWA 2021). 2.1 Major Elements of Construction Cost Estimate Construction contingency is an amount added to the base estimate to cover costs associated with identified uncertainties and risks. Figure 2(A) refers to four project cost components. Figure 2(B) graphically describes how the components of project construction cost (y-axis) change over the project development process as the project is further defined over time. Typically, a construction cost estimate consists of (a) known-knowns (estimated items), (b) known- unknowns (allowances), and (c) unknown-knowns (contingency). Unknown-unknowns may eventually increase or decrease the final project costs but because of their extremely high infrequency and unidentifiability, they are typically excluded from a cost estimate. Construction contingency is used to address unknown-knowns. (1) Known-knowns: Known-knowns indicate events or conditions that are known to exist and are identifiable (Hulett 2015). Cost estimators do not regard known-knowns as risks because they can estimate costs relevant to known-knowns using available project information (Reilly et al. 2004). Costs associated with known-knowns are included in the base estimate of a construction project. (2) Known-unknowns: Known-unknowns refer to events or conditions that can be identified at the time of estimating. However, the impact of these events or conditions on cost increases may not be predictable (Baccarini and Love 2014). Known-unknowns include work items that are known to be required but, at the scoping phase, are not yet drawn on the plans and are not yet quantifiable (Molenaar 2006). The term allowance refers to known-unknowns. Allowance is a ballpark figure that serves as a placeholder for an amount that cannot yet be determined. Once the unknown quantity or impact is revealed and finalized, the allowance can be changed to a fixed amount and included in the base estimate. (3) Unknown-knowns: Unknown-knowns refer to identified risk items that are difficult to predict with a high probability, but the estimated impact of each risk (should it occur) is C H A P T E R 2

Key Concepts—Construction Contingencies 7 reasonably known at the time of estimation. The primary difference between unknown-knowns and known-unknowns is the probability of risk occurrence. Unlike known-unknowns, which represent items with an almost certain likelihood of occurrence, unknown-knowns indicate risk items that have less likelihood of occurrence. Contingency refers to the amount associated with unknown-knowns. Contingency is not included in the base estimate. (4) Unknown-unknowns: Unknown-unknowns are highly infrequent and unidentifiable events or conditions (Akins et al. 2005). Identifying unknown-unknowns and forecast- ing their impacts on construction cost in advance is challenging (Hulett 2015). Unknown- unknowns are not typically considered in cost estimating because to do so usually results in an unrealistically high estimate. Base estimate refers to the sum of known-knowns plus known-unknowns. The construc- tion cost estimate at the end of the scoping phase is sum of the base estimate plus contingency (unknown-knowns), as illustrated in the following formula: Construction Cost Estimate (Scoping Phase) = Base Estimate + Contingency 2.2 Major Components of Construction Contingency Currently, construction contingency components vary from state to state depending on their practices of defining, estimating, and using contingency. For this reason, understanding generally accepted contingency factors is required for consistent application of contingency estimating and management throughout the project development process. Cost estimating manuals and risk management guides available from the DOTs of 21 states (Alaska, California, Colorado, Connecticut, Florida, Georgia, Idaho, Illinois, Indiana, Iowa, Michigan, Minnesota, Montana, Nevada, New York, North Carolina, Ohio, Pennsylvania, Texas, Utah, and Washington) were compared and analyzed to identify common practices. Four major components are typically covered by construction cost contingency; these are summarized in the subsections that follow. 2.2.1 Risks Realized During Construction Risks realized during construction indicate uncertain events or conditions that may occur at the construction phase but cannot be adequately defined with certainty in the preconstruction (A) (B) Unknown-knowns Unknown-knowns Unknown-unknowns Unknown-unknowns Known-knowns Known-knowns Known-unknowns Known-unknowns Figure 2. (A) Four cost components and (B) Construction cost estimate during the project development phases (FHWA 2021).

8 Contingency Factors to Account for Risk in Early Construction Cost Estimates for Transportation Infrastructure Projects phases (MnDOT 2008). It is challenging to accurately identify these risks at the scoping phase due to a lack of (or uncertainty in) project definition, work scope, and other necessary project documents (Olumide et al. 2010). A majority of DOTs consider risks realized during construction as the major contingency component. For example, the Idaho Transportation Department (ITD) allows contingency to cover a variety of possible risks that are not identified or quantified risks, such as (a) site conditions that are worse than expected, (b) local and public pressure and involvement, or (c) other requirements during the construction phase (ITD 2020). The Utah Department of Transportation (UDOT) states that contingency at the scoping phase must cover issues that cause changes during construction (Molenaar et al. 2010). The Nevada Department of Trans- portation (NDOT) mentions that contingency deals with cost increases resulting from incorrect quantities and minor unforeseen events in the construction phase (NDOT 2012). The Washington State Department of Transportation (WSDOT) states that contingency should deal with cost expansion because of risks in quantity, unit cost, and minor events that may occur during construction (WSDOT 2012). 2.2.2 Minor Item Allowance Minor item allowance is usually referred to as miscellaneous items allowance, accounting for events or items that are “known to be considered but are too small and too early to identify and quantify individually during the scoping phase” (CTDOT 2019). While some DOTs, such as the Illinois Department of Transportation (IDOT) and the Indiana Department of Transpor- tation (INDOT), account for minor items in contingency, others do not because in their view contingency amounts need to deal only with risks. Specifically, the Connecticut Department of Transportation (CTDOT), the New York State Department of Transportation (NYSDOT), and the Colorado Department of Transportation (CDOT) include costs relevant to minor item allowance in the base estimate, not in contingency (NYSDOT 2009; CDOT n.d.(a); CTDOT 2019). The exclusion of minor item allowance from contingency is aligned with the theoretical definition of contingency. 2.2.3 Scope Change Scope change refers to additions or deletions to project scope during the design and con- struction phases, leading to a construction cost estimate change and resulting in changes to the purpose, needs, or general solution (PennDOT 2018). Some DOTs include scope changes in construction cost contingency. For example, the Minnesota Department of Transportation (MnDOT) estimates contingency to provide funds for cost growths that result from project scope changes (MnDOT 2008). The Michigan Department of Transportation (MDOT) estimates contingency that can account for any changes in conditions, standards, specifications, and policy implementations between the scoping and the construction phases (MDOT 2017). The Montana Department of Transportation’s (MDT’s) cost estimating manual mentions that contingency should deal with cost escalations resulting from project scope changes (MDT 2016). However, some other DOTs do not treat scope change as a contingency factor. NDOT evaluates or updates base cost estimates every four to six months or when significant scope changes occur. IDOT and INDOT update construction cost estimates whenever project scopes are changed. These DOTs’ practices imply that cost estimate change due to scope change is part of the base estimate and is not a contingency item. The Georgia Department of Transportation (GDOT) appears to use a hybrid approach. It updates cost estimates when a cost increase resulting from scope changes is more than 10% of construction cost (GDOT 2018).

Key Concepts—Construction Contingencies 9 2.2.4 Scope Creep Scope creep is an accumulation of minor changes that incrementally change construction costs (AASHTO 2013). Unlike scope change that involves the expansion or reduction of road- way functionality, scope creep is often not essential to functionality (Shane et al. 2009). Scope creep may include design refinement, which refers to changes to design elements with the same purpose, need, or general solution. This guide suggests that DOTs only include risks realized during construction and scope creep as major contingency components and discard the other two factors (minor item allowance and scope change), which some DOTs still use. This suggestion is also aligned with the recent FHWA guidelines on PRBE for highway project cost and schedule. Scope Change versus Scope Creep There is a significant difference between scope change and scope creep. Scope change is a conscious decision resulting in the adjustment of work scope and the construction budget. Most DOTs treat scope change as an official deviation from the original work scope since it results in change to the purpose, need, or general solution. These deviations result in major adjustments to the cost, budget, timeline, or other features of the project. Once the need for scope change is recognized during the construction stage, the project budget needs to be re-estimated to accommodate the adjusted work scope. Scope creep indicates a minor change that occurs without delaying the construction completion date or making major adjustments to the project budget. Scope creep is a subtle process that would not have been identified, detected, or controlled. Design refinement or adjustment during the design process that leads to change to the design elements with the same purpose, need, or general solution is part of scope creep. As a project departs from the planning stage, it is natural for some scope creep to occur during the design process. Since contingency works for covering unexpected adjustments due to scope creep, most DOTs regard scope creep as a contingency factor.