The cost to quality fallacy

The other day I was reading a forum on estimating where the majority of the posts repeated some fundamentally flawed concepts.  The most common are variations of “Low price means bad quality”.  This concept gets applied to everything from material substitutions to subcontractor selection because everyone’s worried about the risk of making the wrong choice.

Photo by Geir Tonnessen

Photo by Geir Tonnessen

A lot of time is spent on minor differences that obscure bigger problems

When all choices are based on risk-aversion, there’s little reason to believe the outcomes will deliver quality, value, strategy or ingenuity.  I think this concept leads to a mindset that perceives any low bid as a veritable trap to the unwary.   If unchecked, the role of an estimator can devolve into little more than subcontractor selection.  On the surface, it may seem like the General Contractor (GC) does little more than hire subcontractors (subs) to actually perform the work.  If this were actually the case, clients would simply hire subs directly and dispense with the cost of hiring a GC altogether.

The GC’s role is to be responsible for the entire project which constitutes a great deal of risk.  GC’s mitigate some of the risk by dividing the project scope among subcontractors.  The remainder of the risk is mitigated by expert leadership, communication, negotiation, scheduling, accounting, and management which all fall under the heading of “Construction Management”.  All of which is to say that successful Construction Management is a whole lot more than just picking the right subs.

The fixation on avoiding low-priced work for fear it’s a trap is deeply ingrained in many construction professionals.   We often hear stories about how a sub bid low to secure the job, then pursued exorbitant change orders to restore their profitability.  The implication is that a sub was able to not only bluff their way into a contract award, but they were able to get paid change order rates for work that should have been in their original bid.

When we ask how it’s possible that a GC would write a subcontract that didn’t include the necessary scope of work for that sub, it becomes obvious that the GC relies on their bidders to define the project scope for them.  Put simply, if the GC isn’t actually estimating the project, they’re not able to tell whether the subs proposals include all that they should.

One obvious sign that this is happening is when a GC estimator demands breakout prices of their bidders so they might “prove” whether the sub knows what they’re doing.  These demands are like asking the sub to furnish the ammunition so their own proposal can be shot down.

Lets imagine we were in a restaurant looking over the menu.  If an item seems under priced, we wouldn’t demand a cost breakdown for all the ingredients of the dish because we have no idea what those breakdowns should be.

Photo by Moyan Brenn

Photo by Moyan Brenn

Demanding breakouts to save money, is like collecting watches to save time.

What we do know is what we’re hoping to get.  That’s why asking about the portion sizes, or the freshness of the ingredients will go much further towards making an informed decision.

GC estimator’s should know the project scope they’re seeking to subcontract before the bid.  Moreover, GC estimator’s should know the going rate for the work they’re intending to subcontract so they have a frame of reference to compare the bids against.  There’s no guarantee that they will receive enough bids to draw statistical certainty of anything on bid day.  Bluffing and bullying are poor substitutes for estimating fundamentals.

The importance of context

Bid day can be very stressful, with little time available to give full consideration to every proposal.  It naturally follows that the estimator must prioritize on those proposals which have the potential to reduce their risk, or increase their odds of winning the contract.

Most GC’s consider proposals from trusted subs to be reduced risk.  In some cases, the GC’s limit their bid lists to only trusted subs which naturally reduces competition.  These GC’s are trading their ability to win contracts, for reduced risk in hiring subs.

The most expensive, and least valuable work occurs wherever competition is discouraged or prevented.   GC estimator’s with bid lists that never change may go their entire career without ever seeing a market-leading subs proposal.  It’s therefore natural that those few who receive a market-leading sub proposal immediately say it’s scary low.

Is it them, or is it me?

Mistakes happen and it’s incumbent on the GC estimator to watch for signs that something’s amiss with a bid.  Once again, best practices in estimating are the ideal means to determine what you’re looking at.  GC estimators should build their estimates so that they can quickly output a checklist of inclusions, alternates, unit prices, etc. to send to a sub for scope review.  If everything checks out but the price is still worryingly low, the GC estimator can share their in-house pricing to see how their estimate compares to the bidder’s.  This alleviates any ethical issues pertaining to comparisons against their competition.  By volunteering the GC estimators understanding of the costs, the sub can show the GC where their estimate differed and why, without feeling as though they will be disqualified.  Presenting a  focus  on retaining a winning edge with a valued colleague is more likely to deliver good information.  .

But what about overpriced change orders?

There is hardly a more contentious issue in construction than the high price of change orders.  While there are a great many factors involved, the cost to quality fallacy plays a huge role in the animosity surrounding them.  Earlier I wrote that the most expensive and least valuable work occurs wherever competition is discouraged or prevented.  Obviously when applied to a project that’s under contract, there’s no competition to keep the price of additional work down.  We might take that to mean that the contractor is overcharging, and in some cases, they are.

We must consider the root of the additional work as well.  Changes to the project scope often come from the design team after the bid.  The terms of contract award are set out in the Request For Proposal (RFP) at the announcement of the bid.  The bidders are expected to include all scope defined in the Construction Documents (CD’s) at the time of the bid deadline.  Design teams can, and do, make significant changes to the CD’s via Addendum, RFI, or Bid directives before the deadline so those items will be competitively priced.  Anything that’s omitted in the design after the deadline, is a liability for the client.

In most cases anything that’s changed or added after the project has started must be accomplished in the remaining time of the original contract.  Changes that require completed work to be removed and replaced may result in a situation where production rates must be doubled, tripled, or quadrupled in order to maintain the completion schedule.  Materials and equipment may require expedited shipping to facilitate the changes within compressed schedules.

Experienced contractors know that pricing requests for change orders often lead to protracted delays while the Owner, Architect, and Contractor (OAC) discuss options, bicker over prices, etc.  I’ve encountered situations where 8 hours worth of change order work became 80+ hours of pricing exercises.  Meanwhile the window of opportunity to efficiently perform the change order work was closing fast.

Photo by simczuk

Photo by simczuk

Artistic rendering of a project with a change order dispute

When a contractor loses a bid, they’re free to pursue other opportunities with no further obligation to the client.  Change order price disputes can become a significant burden for contractors who are unable to efficiently proceed without a decision.

The fixation on the cost to quality fallacy leads many clients and design professionals to overlook the root causes of their situation.   Clients who commit to timely decision-making will reduce the contractors risk.  If the change order is too expensive, clients can request a Value Engineering (VE) solution that meets their budget for the necessary work.

Clients should expect timely and accurate estimates for changes from their owner’s rep to provide meaningful comparison to the contractors prices.  It’s not enough to merely complain about overpriced change orders.  Owner’s representatives should provide a means-tested estimate of the additional scope of work, in order to protect their clients interests.   Sharing this information with the contractors gives them a better understanding of the client’s position, and it provides the target price for change order approval.

The highest art in being the lowest bidder

While we’re on the topic of fallacies relating cost to value, it’s absolutely vital to get some clarity on our purpose as estimators.  Estimators exist to secure profitable work.  We achieve this aim by controlling risk in all its forms.  Pretending that absolutely every estimating risk is a function of forgetting to add something, or hiring the wrong sub is not only wrong, it’s antithetical to our profession.

There are dire consequences for any company that can’t land a contract for profitable work.  The purpose of estimating is not to obviate the need for construction management.  Again, if this were truly possible,  clients wouldn’t hire GC’s at all.

It’s therefore a delicate balancing-act to deliver a market-leading price for work the firm can profitably complete.  The necessary skills, knowledge, relationships, resources, and fortitude to be the lowest bidder can hardly be overstated.   As an industry, we need to move past this fallacy as it reflects poorly on all of us.  As estimators our entire profession exists to harness the competitive market to deliver quality construction projects.

The best deal

Often the best deal has an inverse relationship between cost and quality.  The best deal (for the buyer) is achieved wherever we can get the highest quality at the lowest price.  To the buyer, the value of the money spent, is less than the value of the quality achieved.  They are getting more  value for their money.

I’ve heard a lot of GC estimators making excuses for losing a bid.  One of the most common is to claim they are “best value” because they’re delivering a higher level of quality or performance than their competitors.

It’s entirely possible that one contractor may in fact deliver a more professional project because they  are operating at a higher level than another.  This is especially common in “cattle call” or “open” RFPs which accepts bids from any GC willing to submit a proposal on the job.

The extent to which this happens is directly proportional to how selective the individual GC’s are about the jobs they pursue.  A continuously successful business requires a balance where both sides are getting a good deal.

Contractors that are optimized to perform a specific type of work will find they are market leaders capable of offering higher quality, at higher profitability,  and lower prices than their less-optimal competition.  Aligning the company to the right opportunities is the most important part of winning profitable work.

The high price of a bad deal

Bottom of the market work is always plentiful.  Experienced estimators will see that underfunded clients and unprofessional design teams are constant companions.  Higher risk, lower profitability, and more competition all align to make these jobs a bad deal for the majority of contractors.

There are jobs that are a bad deal at virtually any price because the risks to the contractor are so severe.  Incomplete plans, indecisive clients, difficult phasing requirements,  site logistics, etc. can all hurt productivity.  In some extreme cases, the GC can be penalized for delays they had no way to work around.   When the project presents a bad deal, the cost isn’t driven by the required quality, it’s driven by the risk.

There are incompetent design teams with specifications explicitly written to defend against change orders from their shoddy plans.  These firms find regular employment with the clients most likely to demand a bad deal of their contractors.  The focus on blocking change orders becomes a higher priority  than accurately contracting the complete scope of work.  If greater effort was applied to the latter, the former wouldn’t be an issue.  Lax professional standards generate systemic risk and higher costs for everyone involved.

Attempting to gauge quality by its cost alone will do nothing to reveal the features that matter most.  The cost to quality fallacy has no place in the estimators playbook because it’s only useful for making excuses.

 

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© Anton Takken 2016 all rights reserved

 

 


Who is responsible for winning new projects?

This article is by Paul Netscher.  Please visit his website to read more articles like this one, and don’t forget to have a look at his books on Construction Management.

Who is responsible for winning new projects?

I worked for a construction company where the owner insisted that the estimating team priced every project that was available. Some of these projects were far (a thousand miles or more) from our other projects, while others were in a field we didn’t have experience with. Needless to say our estimators were run off their feet and worked long hours to price all the projects. (Now don’t get me wrong, we all sometimes price projects far from our home base or tackle projects slightly out of our normal field of expertise, but when you aren’t doing the projects close to home well, and you have other more suitable projects to price, should we be taking on additional risks and overloading our estimating team?)

Another company I worked for elevated the office runner to estimator. He had never even visited a construction project!

Yet I have also worked with fantastic well organized estimating teams and we won numerous projects due to our competitive pricing, our knowledge of the market and our competitors, the quality of our bid submission and our relationships with the customer – more importantly these projects were profitable.

I certainly wouldn’t like to be an estimator. Preparing and submitting tenders/prices/quotations day after day with little reward. A large multi-national construction company I worked for had an excellent estimating department and we were frequently complimented on the quality of the bids we submitted. Yet even with this expertise we only won around 10% of the projects we priced. We checked this over the years and our success rate was always around 10%, whether measured by the value of the work, or the number of projects, we won.

But estimators don’t just have to deal with this low success rate they invariably get blamed for losses and mistakes with their price on the projects the company wins. Listening to most construction managers it would seem the price on their projects is always riddled with errors – all costing the job of course! Seldom do construction managers compliment the estimator for their good work or for a well-crafted bid. You never hear of the positive errors in the price – errors that actually mean that the project will make more money than expected. A profitable construction project always seems to be only because of the construction team.

But are estimators solely to blame for the low success rate and are all the errors in the price only due to the estimator.

Who is responsible for the success of tenders, bids and quotations?

Management role in winning projects

Management plays a key role in winning work by:

  1. Ensuring that the estimating department has sufficient resources and experienced estimators.
  2. Gathering market data, which includes:
    1. Understanding the pipeline of work that will be coming out for pricing. Knowing this they can ensure that when work is scarce the company reduces profit margins to secure the work, while when work is more abundant they can become more selective with the projects that they bid for and also increase profit margins.
    2. Understanding the opposition – This includes how busy they are, what projects they are involved with, the type of projects they are looking for and their likely level of profit they’ll add to their price.
  3. Selecting the right project to price – projects where the company will be most competitive, projects that might grow in scope or lead to further work and projects which don’t have excessive risks.
  4. Discarding projects (early in the bidding process before estimators have committed too much time on the project) so the estimating team isn’t overburdened with pricing projects that aren’t suitable, ones the company has a low chance of winning, or projects that the company doesn’t have the resources for.
  5. Talking to prospective customers to ensure that the company will have the opportunity to price their next projects. Building good customer relationships is essential for every construction company.
  6. Developing new markets, engaging new customers and moving away from difficult customers and markets that are overly competitive.
  7. Supporting the estimating department with the right resources to submit a winning price. This might include delegating project managers experienced with the type of work to assist the estimating team.
  8. Selecting a reasonable profit margin which won’t make the price uncompetitive but one which will maximise the company’s profits.
  9. Reviewing bids before they are submitted to ensure that the company has sufficient resources, the contract conditions are acceptable, there aren’t excessive risks, the estimating team has come up with the best construction methods and there aren’t obvious errors in the price and construction schedule. This review process could include developing alternate proposals which could provide the contractor with a winning edge.

The construction project manager’s role

Many project managers perceive their role to be only about getting a project finished on time while maximizing profits. But project managers can play an important role in winning new work (or losing work). But their role is more than this and includes:

  1. Ensuring that customers are satisfied. Customers don’t just want their project finished on time but they also want to deal with a contractor that creates the least problems for them, one that is a pleasure to do business with and one that delivers a quality product that they perceive as being of fair value. Most of my projects resulted in repeat work and for some customers we were their preferred contractor. That didn’t mean that we were compliant or didn’t submit variation claims. To the contrary, most of my projects increased in scope and had numerous variations and almost all of my projects were profitable, frequently exceeding the original expected profit margins. Yet, customers were prepared to pay a premium for us to build their next project.
  2. Providing constructive feed back to the estimating department. This doesn’t just entail telling the estimator where they made mistakes costing the project money. It means giving the estimator production figures for labour and equipment. It may mean that the estimator can cut some of their rates in future bids which might mean the project manager has to work harder on the project to ensure it’s profitable, but, cheaper rates in the next bid and quotation may just mean the difference between winning and losing the project. It’s also important for project managers to keep the estimating team informed of new suppliers and subcontractors that performed well on the project and should be approached to price other work. Of course the estimating department also needs to be aware of those subcontractors and suppliers who should be avoided.
  3. Project managers are constantly interacting with customers, designers, engineers, project managers, subcontractors and suppliers. They often get to hear of new projects long before management does. These potential leads to new work should be followed up and passed onto management.
  4. Project managers have the opportunity to build relationships with the customer and the customer’s project management team. We won many new projects, even when our price wasn’t the lowest bid, simply because the customer wanted to work with our team who they trusted and enjoyed working with.
  5. Project managers who have a good working relationship with customers often understand what they are looking for on their next project. These bits of information can be invaluable in ensuring that the bid meets the customer’s requirements.

What happens after you’ve submitted your price could win, or lose, the project

Submitting the lowest price doesn’t automatically ensure that you are going to win the work. Customers often look at more than just the price. Savvy customers check that their contractors have the ability, experience and the resources to deliver their project to the required quality, without incident, with the least problems and on time. Contractors need to ensure that their price submission can satisfy all these requirements, convincing the customer that their price is the best (even though not necessarily the cheapest).

After examining the various prices customers often ask bidders questions to clarify and confirm the contractor’s price. Sometimes these questions are designed to get the contractor to reduce their price, but frequently they are just to confirm details and allay fears, ensuring that each contractor has priced the same products. It’s important these questions are dealt with promptly. Management may have to provide additional support to the estimating team and should certainly be consulted when the customer is looking for a discount or when the customer is materially changing the conditions or scope of the project.

Many customers summon bidders to clarification meetings to further discuss the contractor’s price. It pays for contractors to be prepared for these meetings. As managing director of a construction division I always attended these meetings with the estimator. In many cases we took our proposed construction project manager and, in some cases, other key members of the team. If we knew that the customer placed extra emphasis on safety, scheduling or quality we would ensure that we included the relevant experts in our negotiating team. Indeed, I know when leading our team on many occasions we persuaded the customer we were the best contractor for the project. Unfortunately, I’ve no doubt that on some occasions I blew the negotiations and we walked away empty-handed. But, being at those meetings gave us an opportunity to sell our company, and we could better understand any doubts and concerns the customer had with using us, enabling us to present a case as to why these doubts and concerns were unfounded.

Conclusion

We depend on our estimators to bring in a constant stream of profitable new projects. They are the engine room of every construction company and the rest of the company depends on them. But the estimating team cannot win projects alone, without help. They need the support of management and the project teams. It is a team effort to find new projects to price, then to submit a winning bid and finally negotiate a successful project award.

In your company who is responsible for securing new projects?

If you found this article useful please share it with others.

(Written by Paul Netscher the author of ‘Successful Construction Project Management: The Practical Guide’, and, ‘Building a Successful Construction Company: The Practical Guide’ which are used by construction management students as well as seasoned professionals. His latest book ‘Construction Claims: A Short Guide for Contractors’ has recently been published. These books are available from Amazon and other on-line stores. To read other similar articles visit www.pn-projectmanagement.com )

 


Perspective on percentages

Estimating involves a lot of details and mathematics which must often be communicated with great speed and precision.  Unfortunately, there are terms that are so frequently misused that the information being shared is of little value.  A percentage is a simple concept with great utility and flexibility depending on your perspective.

Sometimes 10% to one party isn’t 10% to the other

Subcontractors regularly call to request bid results of the General Contractor (GC) estimator to define how closely their bids are following market prices.  Estimating often requires discretion during the bid (before the deadline) in order to maintain a fair competition for the subs, and to protect the firms interests.  All too often, the focus on discretion leads GC estimators to be incredibly reluctant to provide their bidding subs transparency in bid results.  The best bid results many GC estimators will offer is a percentage presented in vague terms.  “You were 10% higher than the low bid” is a typical example.

For simplicity’s sake, let’s assume that the inquiring subcontractors bid was $100,000.  Ten percent of $100,000 is $10,000.  So we might think the low bid amount was $90,000 so far, so good. But it’s wrong!

Perspective on percentages

“Yep, that’s the look of someone who’s made a rookie mistake.”

If the low bid actually was $90,000, adding 10% would make the 2nd low bidder $99,000 not $100,000 because 10% of $90,000 is $9,000.

In order to figure out the low bid amount, using only the information provided we can lay out what we know in an equation.

The percentage given represents the difference between the low bid, and the calling subs number in proportion to the low bid amount.

Putting this into an equation gives us:

($100,000-$Low bid)/($Low bid) = 10%

Solving for low bid we have:

($100,000)/( 10%+1) = $Low Bid

$100,000/1.1 = $90,909.09

Deducting the calling subs bid from the low bid give us the dollar amount they lost by.

$100,000 – $90,909.09 = $9,090.91

This means the calling subs was $9,090.91 higher than the low bid.

Rounding to an even $9,000, it’s plain to see that the calling sub would have needed to cut 9% from their $100,000 proposal to match the low bid amount.  Since the entire point of bid results is to define what you’d need to improve, it’s imperative to correctly interpret what you’re being told.  The GC’s is telling the sub they are 10% higher than the low bidder, when the Sub actually needed to cut 9% to match the low bid amount.

That simplified example might lead you to think 1% is no big deal, and on smaller projects, that might be true.  Have a look at what happens when we run through that example again with a 30% difference.

($100,000)/(30%+1) = $Low bid

($100,000)/(1.3) = $76,923.08

$100,000 – $76,923.08 = $23,076

Round that to $23,000 and the sub only needs to cut 23% from their bid to make up a 30% difference at the GC’s desk.  A 7% difference in perspective can lead to completely wrong conclusions.

Just to sum up, the GC is calculating the bid-result difference as follows:

($Sub bid – $Low bid) / ($Low bid)= % Higher than low bid

The sub is calculating the percent they must cut their amount to meet the low bid as follows:

($Sub bid) / (1+ % Higher than low bid) = % to match low bid

Many GC estimators prefer to give bid results in percentages because this minor obfuscation  spares them from actually speaking dollar amounts aloud where they might be overheard and misconstrued as bid shopping.  Bid shopping is when a GC informs a colluding subcontractor of their competitors price for the purpose of soliciting a lower bid.  In some cases bid shopping is illegal, and in all cases it’s unethical.

Subs calling for bid results should be prepared to think on their feet to rapidly calculate the hard numbers behind the percentages.  Responding to the percentage provided with “So the low bidder was $XYZ amount?” gives subs a chance to confirm what they’re being told, without obliging the GC estimator to speak the number aloud.

514007541_1bd174d191_z

Photo by Andrew Dobrow

Contractor cloaking technology isn’t very sophisticated

Subs should be especially conscientious about clarifying the bid results they receive from  Project Managers (PMs).  PM’s traditionally “buy out” the estimate which means they’re checking their estimators work, and addressing the problems they find.  They might have discovered that the  bid-day low sub was missing some costly scope inclusion, which made a different bidder the legitimate low-bid.  This vital error-checking process naturally requires  discretion to avoid the appearance of impropriety.  PM’s providing bid results after all that review may be looking at a considerably different situation than their estimator presented.  Honest PM’s will do their best to work out the errors in the order of bid-day performance.  If the corrective addition to the low bid makes the new total higher than the 2nd low bidder, the PM will hire the 2nd low bidder (provided their scope is complete).

I should mention that it’s a curious coincidence that many of the most dishonest PM’s I’ve encountered have a habit of saying every bid was “close” or “within 2%”.  Estimators should be particularly wary of clients showing any signs of dishonesty.  The false pretense of a  hotly contested bid is a potential warning sign of bid-shopping, especially when similar projects deliver a larger spread between bidders.

Where percentages work, and where they really don’t!

There are several components of an estimate that operate on percentages.  Profits, taxes, fees, and bonds are frequently calculated as percentages of the total costs.  There are some estimators who believe that overhead should be calculated as a percentage of project cost despite the many ways this goes wrong.  Unfortunately, this archaic thinking is sometimes bound into contractual terms where change orders are limited to predefined percentages for overhead and profit.

Overhead is the cost of doing business over time, which is not directly driven by the project cost.  Imagine a one month duration project that has a slightly cheaper level of finishes, resulting in a lower total project cost.  Did that decline in finish alter the rent at your office? No, your rent is the same regardless of what your client’s project costs, so why jeopardize the means to cover your overhead by pricing it as a percentage?   This practice virtually guarantees that projects above a certain value will be overpriced, while projects under that value will be under-priced.  In extreme cases, you’ll never win big jobs, and you’ll go broke doing little ones.

The difference between markup and margin

All business is a balance of risk versus reward; estimators calculate that potential reward in terms of profit.  It’s here that we encounter some terms that are often misunderstood, and misapplied.  Let’s say we’ve got a project worth $100,000 after all the costs are included.  Now for that $100,000 worth of work (risk), we’d like to see 25% profit (reward).  This percentage is known as markup.

$Subtotal X Markup % = $Profit

$100,000 X 25% =  $25,000

We add that profit to our subtotal and our bid amount is $125,000.

Now let’s say we won ten such jobs in one year.

10 x $125,000 = $1,250,000

That means the company had a total revenue of $1.25 Million.  So the boss is reviewing the books at the end of the year which will show all the costs, and all the earnings.  The difference between all the costs and all the earnings is your total profit.

We know that every estimate had $25,000 for profit, there were ten jobs, and to keep things simple, we say everything went perfectly according to plan on all of them.  This means the total profit should be $25,000 X 10 = $250,000.

Let’s take that $250,000 total profit and divide it by the $1,250,000 total revenue to determine the percentage of profit we’re actually earning.

($250,000) / ($1,250,000) = 20%

The percentage of profit we’re actually earning on our revenue is known as the Margin. As we can see, a 25% markup yielded a 20% margin.  This is where estimators need to consider what’s going on from an owner’s perspective.  The overall risk versus reward to the firm is the total revenue versus the total profit.  They’re not working off the subtotals of every estimate, they’re working off the contracted total amounts.  Margin makes sense when you’re working off of revenue amounts, because it directly speaks to the profitability of your entire operation.

Imagine how serious it would be for someone who misunderstood markup to be margin.  The 5% difference between 25% and 20% may not seem like much until you consider that profit to be their annual income.  That would be like working five days a week and only getting paid for four!  Many entrepreneurs  have failed because they didn’t understand this concept until it was too late.

Photo by strange_r

Photo by strange_r

Jim knew things weren’t adding up, but he couldn’t figure out why.

Just like the bid-results example above, the differences grow with the percentages in question.  A 25% Markup results in a 20% margin, whereas a 33% markup results in a 25% margin.  The percentage of markup is always higher than the margin percentage.

Putting this into formulas we get:

% Margin = (% Markup)/(1 + %Markup)

% Markup = (%Margin) / (1- %Margin)

We can calculate the total with a specific margin by using this formula:

$Total = ($Subtotal) / (1- %Margin)

So why do people get this wrong all the time?

The construction industry is very competitive which means that contractors must bid with lower profit percentages in order to win work.  It’s quite common for hard-bidding GC’s in tight markets to bid with less than 5% markup.  The difference between markup and margin is quite small when the percentages in question are in the single digits.  If the project isn’t worth very much to begin with, these differences become even less significant.  Sadly, many firms have leadership that developed bad habits when they were small and just starting out, that are ruinous to the larger operation they oversee in the present.

Fiddling with your fee

Sometimes markup is known as a fee which can get confusing when we are dealing with cost-plus contracts.  Cost plus contracts are invoiced on a “time and material” basis with either a fixed fee (set dollar amount), or a fixed percentage.

In the case of a percentage based fee, it’s absolutely critical to understand whether the fee is actually a markup, or a margin.  Contracts stipulating that the contractors fee may be no more than XYZ% of the total invoiced amount, are allowing the fee to be calculated as a margin.

Conversely, contracts stipulating that the contractors fee may be no more than XYZ% of the total time and material costs, are requiring the fee to be calculated as a markup.

This same logic applies to contractually stipulated overhead and profit percentages on change orders.  It’s been my experience that if the client took the trouble to stipulate overhead and profit percentages, they’ll likely limit those percentages to markup only.

I hope this article has helped to shed a little light on how percentages change with perspective.

 

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© Anton Takken 2016 all rights reserved

 

 


Which contract type is best for this job?

Contract law is a complicated topic that can present unique challenges to an estimator and their company.  You should always seek qualified legal counsel to answer questions or concerns before making any contractual commitments.  The purpose and intent of this article is to identify the most common construction contract types to illustrate their definitive characteristics.  None of what follows is legal advice, it is your responsibility to seek appropriate and qualified legal counsel before making any contractual commitments.

A construction contract is a legally enforceable agreement between at least two parties, generally the client and the General Contractor (GC).  Construction contract types are generally categorized according to how the final project cost is determined.  Each contract type will present pros and cons for all parties.  Generally speaking, a party with greater control over their risk will see a corresponding reduction in reward.  For example, Clients who can control every aspect of the work, will typically pay dearly for the privilege.  Conversely, GC’s who can control every aspect of their work, will typically have no means to increase their contract amount after its ratified.

Think beyond your own hand to see who else is playing at the table

It’s very important to understand that the design team’s contract adds a third dimension to the risk versus reward relationships in any given construction contract.  If construction documents were perfect, there wouldn’t be much need for estimators. Taking this thought a step further, if everyone always delivered on their promises, contracts wouldn’t exist. Well-written contracts reward human nature’s response to incentives.

Which contract type is best for this job?32269

Mark didn’t read his contracts, now he’s begging on the streets.

The more impact a contract can have on the performance of others, the more structural that relationship is to the overall project’s success.  Contractual incentives should be aligned accordingly.

Pareto Principle

Vilfredo Pareto was an economist who identified an unequal relationship between inputs and outputs.  The Pareto principle states that 20% of invested input into of a phenomenon is responsible for 80% of the results obtained.  Applying the Pareto principle to construction estimating means that pre-construction effort is responsible for 80% of the projects final value. Since pre-construction ends with a signed contract, it behooves the estimator to take a sober look at the state of that 20% to get a sense of where 80% of the job is headed.  The terms of your contract will define the limits of what can be done to steer your course, so you must consider them carefully.

Fixed price, Lump sum, Hard Bid

The most popular construction contract type is known as the “fixed price”, or “lump sum”.  The client agrees to pay the bid price upon competition for the defined scope at the time of contract.  They are generally not entitled to demand any cost breakdowns that would allow them to re-calculate their total contract amount.  It is however common practice to require a schedule of values which is used to determine the validity of progress payments.  This contract type is often solicited via a Request For Proposal (RFP) stipulating that the contract will be awarded to the lowest complete bidder.  Trade parlance refers to this as a hard bid because the bidders are not allowed to modify their price after the deadline.  The objective of a hard bid is to dispense with all opportunities to negotiate, barter, or collude in order to ethically award a contract.  Hard bidding is often a legal requirement for publicly funded work for this reason.

Since fixed price contracts are hard bid, the client can reasonably expect to achieve market-leading pricing proportional to their projects desirability, and publicity.  I’ve written at length about how to lower prices, and how relationships factor into how a given project may attract better pricing.

Fixed price contracts are notorious for change orders because incomplete, misleading, or erroneous information be exploited by bidders to deliver a lower bid-day price than the designers intent would have required.  This issue cuts both ways when unprofessional design teams require extraordinarily expensive items via a single note that’s buried where it will be easily overlooked.  In this case, the design team is trying to make the contractor pay for budget-blowing aesthetic features their client would otherwise strip out.

Since the contract price is fixed, so too, is the agreed-upon design.  This means that the bid-day Plans, Specifications, Requests For Information (RFIs), and Addenda, are all collectively defined in the contract as construction documentsAny changes to the design or project scope after the bid date are subject to change order. Conversely, the design team will insist that anything that can be intuited from their bid-day documents is the General Contractor (GC’s) responsibility to include in their bid.

This adversarial relationship is made exponentially worse on projects where the design team wasn’t given sufficient time or budget to generate complete CD’s.  These projects are often put out to “cattle call” bids where any interested firm is welcome to submit a proposal regardless of their actual abilities. Clients with dodgy morals and small pocketbooks tend to short-change their design teams up front, and their build teams later on.  There is little to recommend pursuing the lowest common denominator in a given market.

On the other hand, fixed price contracts can be among the best arrangements for a client with a strong design, and an attractive project.  If the design team did their job properly, there should be very little that needs to change from the original design.  Clients that pre-qualify GC’s to ensure they’re soliciting only a select few market-leading firms will reduce their risk of hiring a contractor that falters on the project.

The fixed price contract presents opportunities for the GC to potentially improve their profitability by making better production, or finding more efficient means of construction.  Conversely, the GC cannot expect additional compensation if they underestimate the project’s cost.

Which contract type is best for this job?35982

Clients will reject cost increases even when they’re presented in the cutest possible terms.  

Lump sum contracts do not require the bidders to provide detailed breakouts of their costs.  Most lump-sum contracts require a schedule of values which identifies major assemblies or systems and their contribution to the total.  When payment draws (invoices) are submitted, the line items of the draw refer to items listed on the schedule of values along with the percentage of their completion.  This gives the client a way to identify and confirm the contractors production claims on every payment draw.

Cost plus fee

There are some projects that require scope flexibility to such an extent that a fixed-price contract would generate excessive change orders.  Rather than obliging the GC to commit to a fixed price based on a fixed design, the GC agrees to invoice the client for their actual costs plus their fee.  Sometimes this relationship is called “time and material” because the invoices provide a detailed breakdown of the labor costs attributed to the actual time spent working, in addition to the receipts for the material that was installed.  Cost plus contracts are generally “open book” which means that the client is entitled to a copy of every invoice or receipt attributed to the work completed.  These contracts also generally require some form of work verification.  Cost plus fee contracts allow either a fixed fee for the entire project, or a fixed percentage applied to every invoice.

GC’s facing a project that’s likely to grow in scope would likely earn more from a fixed percentage, whereas projects likely to shrink in scope would probably pay better with a fixed fee.  GC’s need to understand their obligation to job billing to ensure that the Project Manager and their staffs time is properly accounted for.

Cost plus contracts generate  an incredible amount of paperwork that both the GC and the client must go through.  The administrative time requirements should not be underestimated because the required transparency means the client can use the information provided to dispute or delay payment.  This is a stark contrast to the lump-sum contract where payment draws are based on percentages of completion against the schedule of values.

Estimators reading this may have already noticed that the cost plus fee contract doesn’t give them much to actually bid.  The considerations here are more systemic to your workflow  in that the obligation to the work is variable.  Committing to a project that could grow exponentially may prevent the company from pursuing other work.  Conversely, a little project that just never ends can interfere with other commitments.  These projects can have severe time constraints, and difficult site logistics just like any other.  Naturally the more limited the scope, the less risk these contracts will involve.

It may sound surprising to hear that cost-plus contracts can be solicited for competitive bid.  RFPs for Service contracts may require bidders to submit hourly rates for specific conditions, crafts, and terms with a corresponding fee requirement.

Cost Plus GMP

The cost plus contract allows greater scope flexibility to the client however the total budget is undefined.  A Guaranteed Maximum Price (GMP) is the maximum amount the client is obliged to pay for the scope of work.  A cost plus GMP contract provides a client with cost transparency and the ability  to retain any construction savings while defining their maximum price.  Clients are well advised to consider incentives here because they rely on the GC’s expertise to find less expensive means and methods.  If the GC’s fee was based on a percentage of the total, the cheaper solutions would reduce their profitability.  For this reason, many clients commit to shared a percentage of any savings with the GC.

A cost plus GMP contract combines the GC’s risks of a fixed-price with a cost-plus contract.  Since the client is capturing all or most of any construction savings, the estimator cannot rely on savvy PM’s to improve on the bid-day profitability.  The GMP constitutes the estimated construction costs plus any merited contingency funds.

Estimators should consider the client’s incentives depending on their position in the project’s budget.  A client whose project total is headed towards the maximum price, has little incentive to make the job cheaper.  Any additional work beyond the GMP is full price work for free from the client’s perspective.  Clients with shared savings agreements in this situation would only recoup a portion of any budget savings.

All of the administrative workload of the Cost-plus contract applies to the cost plus GMP contract as well.  Clients choosing this contract type must be prepared to analyze and administer the payment process as well as the work reporting.

Unit Price

Unit pricing is a greatly simplified contractual model.  Unit pricing is often referred to as “menu pricing” because the client is free to select as many or as little of any particular unit as they may need.  Unit pricing is  typical in situations with repetitive scopes of work that come in varying quantities.  For example, a property owner might want to remove and replace out-dated finishes in all their public hallways.  Rather than paying a design firm for plans of every hallway, the project RFP solicits unit pricing for all applicable finishes from GCs.

Estimators should consider how the clients contractual flexibility could present an unprofitable arrangement to the GC.  Mobilization is a costly endeavor, and unit pricing encourages phasing inefficiency.  This is because it costs the client the same amount to have you do one task on five different occasions, as it does to have you do five tasks at one time.

Opportunity cost is the lost profitability of working somewhere else.  All of which means that if the client is likely to require a small amount of work at a particularly inopportune time, the unit price must be high enough to make that obligation worthwhile.

Reminding ourselves of the Pareto principle, we must consider the diminished value of a project that’s so poorly defined in pre-construction.  Any unit price should include its commensurate management,  overhead and profit so that the little unit priced job pay’s it’s fair share of the management, rent, office supplies, etc.

Turnkey

By now it’s pretty clear that most construction contracts are arranged to balance the risk and rewards between the client and the GC.  Much of the GC’s risk could be mitigated by controlling the projects scope.  Obviously clients are concerned about relinquishing their control over the scope when they’re obliged to pay for the final outcome.  One way of approaching this impasse is the turnkey contract.  A turnkey construction project is completely designed and built according to client criteria for an agreed upon sum.  The client generally has little to no project input after the agreed upon contract criteria.  Once the project is completed, the client pays and takes ownership.  The GC is liable for any cost over-runs, however they are also able to retain any savings they can generate.   Turnkey projects present the least administrative burden because there is no payment (hence no payment draws, owner meetings, or change orders) until the building is accepted.  These projects obviously require extensive GC capital to fund the design and construction of the clients building.   Turnkey projects generate very little cash flow because you’re only paid when the job is done.  This means that only the most financially robust GC’s are equipped to profitably pursue this contract type.

Design build

With the exception of turnkey, all of the previous contract types require the client to hire their own design team.  For clients seeking greater input than a list of specified criteria, but no obligation to hire their own architect, design-build may be a better arrangement.  GC’s in a design-build contract will hire their own design team to prepare the construction documents for the project.  This arrangement allows the GC to direct the design team towards the most cost-effective and timely solutions for the client.

Which contract type is best for this job?

Artistic rendering of a GC providing direction and motivation to the design team.

Design-Build contracts typically lay out design milestones with accompanying budget checks so the client can verify plan progress, and budgetary conformance.

Since the design-build contract is signed before there are completed CD’s, the client has less assurance that they’re getting a competitive price.  Most design-build RFP’s provide a narrative of project requirements which are used to generate a proposal presentation.  Sometimes schematic drawings are provided to illustrate the project intent.  Competing GC’s prepare an estimated budget and schedule for the project which are presented in an interview with the client.

Clients are well advised to look for competent and resourceful companies who can quickly resolve problems as they come up.  A strong history of on-time, and on-budget projects with happy clients is perhaps the best indicator of future success.

Estimators must understand that clients interpret design-build to mean that change orders for unexpected items are “impossible” because the design is the GC’s responsibility.  Clients also expect to see refunds from any bid allowances or contingencies that were not fully allocated.  As with all things in estimating, any number provided to the client may be used against the GC.  It’s remarkable how immediately an inconvenient number will be recalled, while its attendant context will be forgotten.

Many estimators approach design-build projects with less focus on low prices than controlling risk.  Including funds to accommodate unknowns allows the project to progress without budgetary blowout later  on.  Some design-build contracts require “open book” estimating which means that the client will receive a copy of all the bids, and the GC’s completed estimate.  Subs should be directed to provide conceptual pricing based on past experience, rather than the schematic plans and narrative.

Negotiated Agreement

The most preferred contract type among GC’s is the negotiated agreement.  The client hires the GC early in their project so that the GC may provide meaningful insight and guidance to the clients design team.  Negotiated agreements trade the competitive bidding of a fixed-price contract for an open-book bid.  I’m not sure if we have baseball to thank for this, but a common client requirement is that the GC must provide “at least three” bidders for every subcontracted scope of work.  The client expects budgetary checks at the Schematic Design (SD), and Design Development (DD) phases.  The final construction budget is established at the Construction Document (CD) design phases.

GC estimators must understand the underlying contractual relationships as they pertain to incentives.  The design team’s contract may allow for hourly billing up to the final construction budget, followed by a fixed percentage of that budget for owners-rep services thereafter.

Architects in this position stand to make more money by delaying the final design, and driving the project costs to the clients maximum budget.  GC’s hired to provide insight and guidance to such a design team may find their comments ignored.  Since the Architect will be the owners representative during construction, the GC has little incentive to risk the Architects wrath during design review.

Just as with the design-build contract, the client expects that change orders for the unknown are “impossible” since the GC is embedded in the design process.  This means that the GC has every incentive to pave the way for a smooth project delivery by packing the bid with contingency funds and low-risk subcontractor bids.

GC’s with a negotiated agreement project have an advantage on the bid market because their opportunity is more attractive to subcontractors.  When there are multiple GC’s bidding a project, the subs odds of winning are much lower than when there’s only one.  Since the GC with a negotiated agreement is more focused on low-risk than low price, they can afford to solicit only the best performing subcontractors on the market.   Clients can benefit from a build-team whose primary focus is successful project delivery.

Since the negotiate agreement discourages GC change orders, the client may find that their total costs for the project are comparable to a hard-bid job once all the change orders are included.  The negotiated agreement tends to be a more pleasant experience for the client because they’re not obliged to argue over change orders the whole project long.  Also, the negotiated agreement tends to attract market-leading subcontractors who have the experience, staff, resources, and buying power to make their projects successful.

Clients interested in the negotiated agreement should give careful consideration to their design team’s contract.  A fixed fee for the entire design is a sensible option that removes incentives to act against the client’s interests.

Summing up

Estimators must carefully consider the construction contract and alter their bidding strategies accordingly.  The contract types listed above represent popular solutions to common construction situations.  While it’s theoretically possible to build a project with any of these contracts, the most successful outcomes come from pairing the contract type to the project situation.

It’s vital to understand the terms of exchange that define an equitable arrangement.  Contracts that are one-sided tend to increase the risk for one party which they mitigate by lowering the projects value to the other party.   When the contract favors the client, the GC’s mitigate their risk by increasing their prices for the work. Conversely, when the contract favors the GC, the client’s mitigate their risk by reducing the amount they will pay for the work.  Estimators who are familiar with rates for  hard-bid work should therefore expect different prices for design-build, or cost-plus GMP projects because the risk is different.

 

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© Anton Takken 2016 all rights reserved

 

 


The five estimating personalities that make or break your bid.

One of the greatest misconceptions about construction estimating is that it’s a solitary profession.  It doesn’t matter if you’re an estimator for a General Contractor (GC) or a subcontractor (sub), there’s always someone calling, emailing, or popping into your office to discuss something.  I’ve written before about reliable estimating practices that improve the coordination, clarity, and timeliness of communication between the GC and the subs.  I focused on practices that reduce the need for estimators to interrupt one another to get or give pertinent information.

I’ve worked in offices where the incessant phone calls consumed far more time than any other aspect of the job.  The constant interruptions dramatically increase the chances of making a quantity take off (QTO) error, or a transcription mistake in your estimate.

The five estimating personalities that make or break your bid.

Mistakes are often easier for others to see

It’s been my experience that there are five personality types that tend to work against an estimator who’s trying to work efficiently.  The companies these people represent can be market leaders which means the competitive estimator has to find ways to deal with difficult personalities.  Everyone is coming from somewhere, which is to say that sometimes a difficult personality is a product of their environment.   I strive to be thankful for difficult people, as they remind me of what I don’t want to be.

Obsessive

We’ll start with the most common personality type in estimating, the obsessive.  Estimating offers the detail-oriented person a lot of information to focus on.  Lots of companies focus on best practices  in estimating which are often simplified to only detailed estimates are accurate.  Their intense desire to quantify and categorize every detail is continually thwarted by missing, incomplete, or confusing information inherent to construction documents (CD’s).

If all the needed information was presented in the CD’s, there would be no need for estimators.  Detailed estimates may indeed reduce the uncertainty of an estimate, but it’s entirely possible to have an accurate estimate using other methods.

Obsessive’s are rarely able to cope with uncertainty, to the extent that many of them feel it’s wrong to make any kind of assumption.

The five estimating personalities that make or break your bid.

Steve likes to be sure nothing changes

In extreme cases, these folks won’t bid at all if they don’t have an “official” direction in the form of an answered Request For Information (RFI), an addendum,  or a bid directive.

It’s important to understand that a lot of obsessive estimators work for companies that see estimators as cashiers ringing up a long list of very obvious stuff.  Most projects are bid before the building department has completed their review of the CD’s so it’s very common for Architects to add a great deal of information to the construction set.  Many people see a bid-day uncertainty as an obvious decision when they’re holding the Architects revised plan.

This extends to bid results as well.  If the estimator bids a job, they’re expected to get bid results to show their boss how they did.  Bidding the worst-case scenario can lead to losing by large amounts.  The consensus view of competitor bids will be seen as the obvious judgment call.  This fundamental ignorance of the estimators role leads to negative performance reviews.  Estimators in these companies learn to see uncertainty as future punishment.  This is why they’d rather withdraw from competition, than bid on incomplete information.

Advice for GC estimators working with an obsessive sub

GC estimators working with obsessive subs need to understand that the driving issue is one of accountability.  GC estimators cannot expect these subs to exercise good judgment if it means the sub estimator will face accountability for their actions.  The GC estimator must be willing to provide accountable direction to the sub.  I encourage GC estimators to seek these subs insights into the issue because they may be highly skilled and experienced estimators in their field.

Advice for sub estimators working with an obsessive GC.

Obsessive GC’s tend to go looking for any uncertainty in the sub’s proposal.  They’re driven to distraction by exclusions, clarifications, and exceptions.  If they direct the subs to bid a certain way, they will badger anyone who doesn’t conform.  Subs must understand that the obsessive GC is focused on avoiding any potential judgment call.  They want to know that the subs are taking full responsibility for everything whether it’s perfectly clear or not.  Obsessive GC’s are virtually never competitive bidders so unless they’re bidding a negotiated project, subs should expect their bids to be fruitless and time-consuming.  These GC’s rarely attract market-leading subs, even when they have negotiated work out to bid.  Patient subcontractors may find they can win highly profitable work with obsessive GC’s on negotiated projects.

Insecure

The next most common personality type is the insecure estimator.  New and inexperienced estimators fall into this group, however they’re only half the population.  Construction estimating is a unique vocation that relatively few people seek out.  An awful lot of estimators came from the field following a significant injury that would have otherwise ended their careers.  Knowing how things go together is certainly a critical skill set, however estimators draw confident conclusions based on analytical techniques, market observations, computational skills, and management fundamentals.  I started this blog because the majority of construction estimators I encounter lack most of these skills.

Insecure estimators are constantly paralyzed by mundane issues because they don’t understand how estimating fits into the larger picture.  These estimators rarely see a lack of detail as an opportunity to present a uniquely advantageous solution.  To many insecure GC estimators, the bid is simply a process of collecting sub pricing, toting it up, and adding profit.  I call it bid collecting because they’re not actually estimating anything.  This is terrifically common among companies who have their PM’s bidding their own work.

Insecure sub estimators are often convinced that a proposal with several pages of boilerplate exclusions will protect them from the outcome of their mistakes.  Their bids emphatically exclude so much that it’s genuinely difficult to tell what you’d be paying them to do.

The five estimating personalities that make or break your bid.

“Dave’s a snappy dresser but nobody’s sure what he does all day”

In many ways, the insecure estimators are the opposite of the obsessive estimators.  Insecure estimators won’t communicate during the bid.  GC estimators who won’t answer their phones or email can’t be expected to draft RFI’s to the design team, or publish bid directives to clarify the intent to the subs.

Everything is reversed on bid-day as these insecure GC estimators often resort to begging subs for last-minute bids.  Conversely, the responsible GC is forced to play phone tag on bid day with the insecure sub in an effort to decipher all the exclusions.

Advice for GC estimators working with an insecure sub

Reliable estimating practices must be built around the value of time spent being inversely proportional to the time remaining.  The shorter version; an early hour is worth less than the last-minute.  With the majority of the sub proposals coming in an hour or two ahead of your deadline, the GC must be able to quickly scope the proposals looking for bids that could make or break the GC’s odds of winning the bid.

Time sunk in a promising proposal that turned out to be a dead-end, might have been invested in more fruitful considerations.  Insecure subs proposals are incredible time-sinks.  Their proposals are riddled with boilerplate exclusions, with the proposed amount inevitably buried in fine print, and there’s typically an innocuous-looking exclusion for some obviously costly and necessary part of the scope.

Rather than play on the insecure sub’s terms, the GC estimator should provide bid clarifications that stipulate the inclusions for all trades.  Requiring that the sub’s acknowledge the bid directives on their proposal allows a useful means to circumvent their chicanery.

Following up all proposals with a bid-checklist forces the subs to agree they’ve included, or modify their proposed amount to include the pertinent scope items.  This frees the estimator to consider the sub proposals in a consistent format designed to facilitate a clear definition of the agreed upon scope.

Advice for sub estimators working with an insecure GC.

Insecure GC’s can’t be counted upon to know what is, and what isn’t in the subs scope of work.  Efforts to request direction will be either ignored, or the GC estimator will demand the sub bid “per the plans and specs”, with the occasional request to “price it both ways”.

Ineffective GC estimators are the leading reason why people don’t follow instructions on bid day.  Giving an inexperienced or irresponsible GC estimator the means to lose the bid works against the entire market’s interests.  Subs working with these GC’s should strive to keep all communications on company email accounts that provide time-stamped evidence of who said (or did) what, and when.

It’s often necessary for subs to gently teach a new GC estimator how things typically work.  Leading the inexperienced  GC estimator to a fruitful and logical conclusion builds trust and rapport for both parties.

There’s less a sub can do with a seasoned, yet insecure GC estimator.  The lack of communication isn’t a bug, it’s a feature intended to maximize plausible deny ability.   Working for these GC’s is often a greater risk than the project itself because there’s nobody protecting the build team’s interest.  These GC estimators are rarely competitive bidders, without exposing their subs to considerable risk.

GC estimators who complain about the scores of “whiny subs” they’re dealing with probably have reason to reevaluate their estimating program to attract (and retain) market-leading subs.

Doubter

One of the most difficult estimating  personalities is the doubter.  These are the estimators who tenaciously ignore the obvious design intent whenever they find a discrepancy.  Efforts to answer their questions will exercise your patience because these folks are always in doubt and never in a hurry.

The five estimating personalities that make or break your bid.

Rick’s commitment to interrupting your work is impressive.

Doubter estimators typically come from the field where they had extensive experience in a wider variety of work than their current employer typically builds.  They’re often intelligent people who didn’t fit in with field crews that emphasized production over planning.

Advice for GC estimators working with a doubter sub

GC estimators should look beyond the immediate project and the doubters questions to establish a precedent for future interaction.  Pretending that it’s reasonable to indulge every imagined concern will only encourage them on every subsequent bid.  Approach the situation as a teachable moment to lay down default assumptions you’d like them to work within.  Up to and including how you’d like them to ask questions.  Doubters tend to favor whatever is the least efficient means of resolving a problem.  Tell them that their questions are important to you and that you want to quickly resolve them by using your preferred medium.  Be advised that you’ll almost certainly have to enforce your boundaries.

Advice for sub estimators working with a doubter GC

Subs will know they’re dealing with a doubter GC estimator when they receive an invitation to bid (ITB) that’s absolutely riddled with alternate and breakout pricing requests that work against a cohesive scope of work.  The doubter GC estimator doesn’t understand the project in the client’s terms, so they bombard them with options “just in case” the client would like an a la carte menu of confusing prices.

Subs need to be very careful about what they tell the doubter GC because there’s little assurance that what they’ve asked for, will be presented appropriately to the client.  Doubter GC’s tend to misinform the client which typically leads to scope changes and a pricing revision that turns out differently than the client expected.  Subs should ask the doubter GC to walk them through their proposed breakouts with a special focus on how things might be combined disadvantageously to the subs.  Often the list of what the doubter GC thinks they need, will be shortened when they’re faced with explaining how they will protect their own teams interests.  It’s critical to understand that doubter GC’s love to pretend that their long list of alternates was a client request.  They quickly become sanctimonious about honoring their esteemed clients request if you simply object to the amount of information being requested.  Give your client what they ask for, provided you’ve controlled your risk first.

Hot Air Balloonists

Whenever projects cross over into markets where work is bid informally, there will be estimators involved who will cause delays, confusion, and a whole lot of waiting for them to get back to you.  I call them hot air balloonists (HAB for short) because they’re often unavoidable, slow, and colorful characters that you’ll need to tie down before they drift past your deadline.

Often these estimators are either “mom or pop” at their firm which generally means they’re spending most of their time doing something other than estimating.

The five estimating personalities that make or break your bid.

Artistic rendering of whatever Melinda’s doing whenever you call her for a bid…

 These professionals often have a competitive edge on their markets because they maintain a lean operation.  In most cases, these folks view estimating as a necessary evil, rather than a vital phase of the construction project.

Advice for GC estimators working with a HAB sub

HAB subs aren’t going to respond to an ITB that looks like it came from a faceless computer.  These folks get most of their work through personal networking.  They don’t chase every hard-bid opportunity that comes along, and they’re often reserved about bidding to an unfamiliar GC.  It may take several tries to get them on the phone, but making a personal connection with them is vital to getting them to bid on your project.  Since they wear a lot of hats, they don’t have a lot of time to chase jobs that are a poor fit for their company.  GC’s should be prepared to answer a lot of in-depth questions about the project on that initial call.  If the GC doesn’t convince them it’s a standout opportunity, they won’t make it a priority.  It’s a fatal mistake to tell them the answers to their questions are in the files you sent them.  They need to see you’re on top of the information because you’re determined to win.  It’s a good idea to check in with them between your first call and bid day.  Lots of HAB estimators will stall out on a bid when they think they’ve got plenty of time.   Absolutely all communication should reiterate the deadline.

Advice for subs working with a HAB GC

HAB GC’s tend to focus on smaller projects that have little in the way of formal drawings, specifications, or even narratives of what the project is about.  Most of what the subcontractor needs to bid the job will be covered at the job walk.  It’s fairly common for HAB GC’s to walk  a group of subs through a space waving their hands in the air like an orchestra conductor.  Subs need to prepare proposals that carefully itemize the work to be done because HAB GC’s aren’t known for their contractual finesse.  Subs looking for HAB direction, should approach the question by presenting the subs preferred solution.  Chances are excellent the HAB GC won’t answer their phone on bid day, so be sure to put clarifications in bold on your proposal.  Emphasize clarity, by keeping the descriptions in simple terms.  Exclusions are vitally important to protecting your interests.  HAB GC’s love to assume that everything they overlooked was implied at the job walk.

Corrupt

Corruption takes many forms in the construction industry but it’s always found in practices that discourage transparency, accountability, and competition.    Estimators must tread a fine line because they must maintain confidentiality in order to conduct a fair bid.  Providing a bidder with their competitors prices in order to solicit lower prices prior to award is known as bid shopping.  This practice is absolutely unethical, and is in some cases illegal.

The five estimating personalities that make or break your bid.

The reciprocal of bid shopping is bid peddling, which is where a bidder offers to submit a lower price than the winning bid to secure the award.

A less extreme version of this practice is for a GC to continually bid a job they’ve already won in an effort to “beat the bushes” for a lower subcontractor bid.  Their original ITB promised to fairly award the contract to the winning bidder on bid day.  Any GC who feels it’s their right or privilege to renege on their promises whenever it’s convenient to them is a cheater.  Be advised that pretending  to be “not sure who won” their original bid is an old scoundrels trick.

There’s no good reason to do business with corrupt people.  Whatever you stand to gain in contract award, you can expect to fight over in unpaid invoices.  Con artists only solicit dupes that they can control and later contain.    I have an entire article on warning signs that will help estimators steer clear of trouble.

The five estimating personalities that make or break your bid.

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© Anton Takken 2016 all rights reserved

 

 


Honesty speaks

Construction firms love to advertise their integrity, their honesty, and their commitment to doing their best.  In contrast, we don’t see a lot of advertising space used to mention on-time deliveries, site logistics, or accurate accounting.  Surely the client cares about their project’s timely completion as much as their contractors integrity, so what’s going on?

Honesty speaks

Maybe we need to put up more safety banners?

If advertising exists to encourage clients to select your firm over your competitors, it would appear that most construction advertising operates on the assumption that contractor selection hinges on the client’s perception of your honesty.  By extension, this communicates that there aren’t noteworthy differences in abilities, experience, equipment, trade-craft, market share, or purchasing power for the client to consider.  In most companies, the estimating staff is a huge portion of their marketing efforts.  Often it’s estimators who form the clients first impression of their firm.  How well does the estimators actions align with the firm’s message?

Standards versus statements

Taking another approach, if we assume that the principles of these firms are simply advertising based on their deeply held beliefs, we must then ask how they go about ensuring that their staff meet these expectations.  Without enforceable standards, these are merely hollow statements.  In my experience, most of them are.  There are discussions among various estimator groups about how to create some form of ethical guidelines or integrity-based mission statement for the vocation.  Lacking a means to enforce standards, it’s more likely to attract scoundrels seeking legitimacy, than it is to attract honest professionals seeking company.

Honesty speaks

Don’t be fooled by the diploma he bought online,  Eddy didn’t study like his classmates.

Gray areas and grease

The first stumble towards enforceable standards will come from folks who are surrounded by “gray areas”.  Absolutely every opportunity to do the right thing is carefully weighed against an opportunity to feign confusion that just so happens to lead them to a more pleasing outcome.  I’ve personally encountered estimators who thought nothing of revealing their dishonest choices, right before they asked for my help.

For example: “I know we bid this one several months back with the promise that we’d hire the subs on that round of bidding, but you only beat your competitor by a few hundred bucks so we figured we’d have the two low bidders go another round to see what we could save…”

They broke their first promise to hire the low bidder on the last round of bidding.  They’re specifically telling me that they knew that hiring me was low risk because I’d just barely beaten a competitor thereby proving the price was market value.  Now they’re telling me that they’re hoping to “save money” on another round of competitive bidding.

The GC won the job on the basis of my bid.  Now they’re pretending that it’s “too close to call” to see if they can eke out some additional profitability (at no risk) by making me compete on the job I already won.  Plus, they’ve likely provided my competitor with bid results so we both know what the GC’s maximum price is for our scope of work.

The impressive thing about this person is that they think it’s fair because both companies have an equal opportunity to win on this round.  It makes no difference if the mechanism is a formal bid, backroom bid-shopping or a verbal auction, this person won’t do the right thing unless it’s the most profitable option.

Honesty speaks

Your reputation is like a shadow that reveals the outcome before the game

Ethical obligation to win

I’ve written before about how estimators must have clarity of purpose.  Estimators exist to win profitable work.  Some folks interpret this to mean that they must win, then make the job profitable via bid-shopping, collusion, and other deplorable (if not illegal) actions.  This self-defeating approach ignores that successful businesses will need to reliably win work in your market continuously.  Cheating the subcontractors (subs) will only work until the General  Contractor (GC) burns their last bridge.  These are the GC’s who are constantly begging for bids.  They’re not calling with a great opportunity, they’re simply out of trusting subs.  Estimators should consider their reputation to be a vital means of winning work.  GC’s who attract market leading subs will not only win more, but they’ll get better pricing allowing them to achieve higher profitability than any of their competitors.

Accurate estimating, and proving the truth

Construction estimating has a paradoxical relationship with the truth.  Consider how best practices for estimating call for detailed quantity take offs (QTO’s) that are tabulated according to material, labor, etc.  Every effort is made to accurately reflect the real world costs of the project.  Upon request, the estimator can provide facts, figures, measurements, and detailed illustrations to prove any aspect of the project’s cost.  Yet when we consider estimating in relationship to the market, specifically focusing on how an individual estimator may prove they’re acting with integrity, the trail goes cold.

Bid results are supposedly provided “upon request”.  On the rare occasion that a GC provides bid results on the record, the information provided will often be stripped of accuracy, context, or actionable content.  Off-the-record bid results are far more common because there’s plausible deny-ability for the GC.

Honesty speaks

Silence and plausible deny-ability are rarely good when you’re on the receiving end…

Considering that the underlying agreement of an Invitation to bid (ITB) is to solicit free sub proposals in exchange for either the fair award of the contract, or bid results, it would seem rather obvious that proving fairness is a basic estimating necessity.

Broadcast

GC estimators are already mass-communicating project information to the sub market.  Everything is optimized for efficiency, speed, and competition before the bid deadline.  This is because even a small delay could spell defeat.  After the deadline, everything goes to silence because the winning GC will need time to check the bid for errors, and to be sure of which subs they will award.

The losing GC’s have no such obligations or concerns.  In fact, timely, accurate, voluntary, and public bid results would give their bidders the information they need to curtail any cheating.  More to the point, sharing the information as a public broadcast provides transparency and accountability.  This incredibly simple approach is much easier than answering hundreds of subs asking for bid results.  It’s just as easy to publish bid results when you’ve won, with the notable requirement that it’s delayed until the letters of intent are sent out.  Subs will happily accept this modest concession to discretion, to have proof of fair-dealing.

Meaningful marketing

If Clients are seeking Contractor virtue in terms of integrity and honesty, it’s time to have enforceable standards, made meaningful by transparency.  Estimators are uniquely able to prove they walk the talk by publishing bid results publicly.  Giving clients an insight into how the company acts with integrity to respect and protect their industry makes for a great first impression.  Perhaps more importantly, the client would be empowered to identify what an honest firm does differently.

 

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© Anton Takken 2016 all rights reserved

 


Asking the right questions

Incomplete information is an intrinsic part of the estimators craft.  Decisions on how to handle the risk created by this uncertainty can make or break your  chances of winning a job.  Lacking perfect information, we can still make better decisions by improving our understanding of the problem.  I’ve written before about the Request For Information (RFI) process and how to go about getting plan and specification questions answered.  In this article I’m hoping to expand the scope of our inquiry beyond the questions landing on an Architect’s desk.

Asking the right questions

We try not to question what goes on at the Architects desk…

Who does what?

General Contractors (GC’s) solicit subcontractor (sub) proposals for portions of the project scope according to local traditions, and individual company preferences.  Sometimes there are unfamiliar or unusual products that could plausibly align with multiple trades.  These products are often part of an aesthetically significant element of the overall design.  This means that the oddball thing, needs to be installed with care.  As a GC estimator, this situation presents more questions than answers.  If a product could be installed by several different trades, it probably affects those trades as well.  So even if an affected trade doesn’t furnish or install the item in question, they’ll need to accommodate it in some way.  This trade overlap typically creates a lot of bid-day confusion as everyone is free to interpret the work differently.

Find the rep

Conscientious estimators might start phoning all the subs they can think to ask about the oddball item.  After the inevitable delays, phone-tag, and contradictory information, they might arrive at a consensus.  A better approach is to look up the manufacturer of the item and identify any local resources.  Finding a local representative (rep) for the product is a vital lead because they are often involved in the Architects design process to such an extent that they know exactly what you need.  The material rep can tell you who they’ll quote to and what trades they typically install their products.  Some material reps will freely quote to a GC, while others will only quote to trade-specific subcontractors.  In some cases the material rep will provide a list of  recommended installers.  Once you know who the material rep will work with, you can confidently direct your subs accordingly.  Take care to provide the contact information for the reps’ quote department since that’s who they actually need to reach.  Firms that don’t normally deal with competitive bidding can be bureaucratic and slow about preparing quotes.  Protect your deadline by getting the wheels in motion early on.

Be advised that out-of-state design teams will often work with their own local reps.  I’ve encountered such projects where my area didn’t have an assigned sales representative!   Writing an RFI to the design team asking for their sales rep’s contact information may be the only way to sort things out.

Mushrooms

Be advised that items that appear on Architectural sheets but also apply to an engineering consultant’s work like Civil, Structural, Mechanical, Electrical, or Plumbing should be checked to ensure they’re properly defined on the engineered sheets as well.  Some Architects treat their engineering consultants like mushrooms; kept in the dark, and buried in fertilizer!

Incredibly expensive and hard-to-get items that are dear to the Architect’s heart are often carefully notated just once in an obscure place on the plans.  It’s absolutely the GC estimators job to seek out these “one note traps” and see to it that the affected subs are notified of the sneaky scope items.

Asking the right questions

Be advised that catching a problem may present it’s own challenges…

When does the project start?

The timing of a project can have a huge influence on the bid-day price.  Seasonal rushes or material shortages can raise prices for work that would have cost much less if it started a few weeks later.  During especially busy times, a project opportunity may fail to attract much competition simply because the timing conflicts with previous obligations.

On the surface, it may seem like this information is provided in the Request For Proposal (RFP).  While it’s true that the RFP will typically include an estimated start date for the project, it’s a rare client that actually starts when they say they will.  Of all the information that’s provided to an estimator, the anticipated start date is invariably the least accurate.  In order to improve on this uncertainty, we need to understand what’s driving it.

Architects are often under great pressure to finalize a set of drawings that have been in development for a long time.  Clients rarely understand the magnitude of work required to translate a design scheme into a workable construction set.

Some clients are under pressure to solidify their financing which can depend heavily on providing evidence of competitive pricing, i.e. bidding.  If their loans fall through with one bank, the client will need to repeat the process with another bank which consumes additional time.

It’s important to understand that even though the client and their Architect are under pressure to get the plans out to bid, both parties understand that they’ll have additional time to correct problems before construction. Neither party is entirely sure how long it will take to correct the problems.

Rafter: A group of turkeys

It’s been my experience that clients tend to pair with like-minded design teams.  If the design team managed their time effectively and delivered complete plans by their deadline, the client that hired them will typically have their financial house in order as well.  Conversely, if there are dozens of Addenda overhauling huge aspects of the plan between the RFP and the deadline, the chances are good that the client won’t have funding to build by their anticipated start date.

Savvy estimators should go to the job walk and listen attentively to the Architect and the client.  These people have sunk a lot of time into the project, and they may be easily persuaded to talk about the various challenges they surmounted in the process.  Conversations that start with inquiry about an aesthetic challenge often ramble into how prior design schemes exceeded the clients budget and what they did to correct it.  Estimators should be listening for indicators of how timelines, budgets, and delivery dates align between client and Architect.   You should be especially concerned about any heroic project overhauls that were completed just before the RFP was issued.  Rushing leads to errors whether it was caused by an indecisive client, or an under-performing design team.

Asking the right questions

Last minute heroics; When substandard work picks up speed.

There’s an underlying lack of sincerity behind any group of professionals who are rushing to get the plans out to bid, rather than delivering plans fit to begin construction.   Shoddy plans for projects that “start immediately” are common among clients who don’t have the money to build.

Incomplete information

Estimators are always looking to find an angle to land the job.  Incomplete plans are part of the challenge, which is why estimators are obliged to write a Request For Information (RFI) to get an on-the-record question and answer from the design team.  It’s imperative to understand that the way you ask the question will influence the answer you receive.   Design teams may perceive questions relating to incomplete plans as an indictment of their work.  Engineering consultants are especially given to avoiding accountability via paragraphs of incomprehensible verbiage.  These answers easily create more problems than solutions.

If the issue is obviously resolved into only a few options, the question should be phrased to communicate that the intent is largely clear, and that you think they want to do X, Y, or Z.  Whenever possible, phrase the question to elicit a clear yes or no response.  Estimators can capitalize on this practice by offering insights into why one choice may be superior to another.  Design teams may be unaware of when one option is substantially more expensive than another.

Why is it so expensive?

Estimators will encounter a lot of opportunities to wonder why something is so expensive.  You might think it’s a simple question that people would be willing to answer, but it often leads to miscommunication.  To understand the complexity of this situation, we  need a bit of context.  First off, estimators know that absolutely every number they provide will be remembered and potentially used against them even if it’s a rough approximation.

Sometimes estimators get focused on efforts to root out the overpriced item(s) to get the costs down without considering whether the remaining work is worthwhile to the bidder.  Small scopes of work are often disproportionately expensive because they still require mobilization, management, and operational overhead.

Even when the overpriced item is fairly obvious, there can be concealed relationships that simultaneously drive up the price, and block transparency.  Material reps may be working hand in glove with the design team to prevent competition and enhance profitability. Even if a sub wanted to help a GC to offer a less expensive product, they’d risk supply-chain retaliation on their other work.

Asking the right question

“Baxter expected retaliation, but the waiting was the worst part “

Corruption plays a role wherever there’s a lack of competition, transparency, and accountability.  Honest estimators should carefully consider how they sound lest their inquiries be misinterpreted as an invitation to bid shopping.

The key to getting an honest answer is transparent reciprocity.  For example, let’s say all the millwork proposals are much higher than anticipated on bid day.  The bids have been reviewed and you’re confident that all the bidders have included the correct scope of work.  You know who’s low and by what amount.  Now you want to know what’s driving the price increase for all the millwork bidders.

If you called the apparent low bidder and asked “Can you tell me why your bid is $X amount more than expected?”. The sub may assume that you believe they’ve made a mistake that made them high.  They might also  misinterpret the inquiry as a solicitation for bid shopping.

Transparency

In contrast, if you had said “I’ve reviewed your bid and everything looks spot on, but my estimate was quite a bit off.  Did you notice anything unusual that’s driving the cost of your work?”

By telling the bidder that their proposal appears correct, you’re establishing that they’ve provided a valid price for the scope of work.   Transparency builds trust.

By asking what’s driving the cost, you are addressing causes, not symptoms.  This is important because a high price may be driven by project factors beyond a simple list of parts or assemblies.

Continuing with our example, let’s say the sub explains that this project requires almost twice the amount of laminate compared to a typical project.

Reciprocity

Now that you’re aware of what’s driving the cost, you’d naturally want to see what could be done about it.  This is where reciprocity comes in because you’re asking them for help beyond the original agreement.  Estimates are “free” because the invitation to bid (ITB) promises to fairly award a contract to the lowest complete bidder, and to provide bid results to all others.  Bidders provide free bids in exchange for either a contract award, or information on how to win the next time.

Asking for free consultation work isn’t part of the original deal, so you’ve got to propose a new deal.  This is best achieved by promising to keep their solutions confidential and exclusive.

For example: “If you have any ideas on how we could reduce the costs to win the job, we would keep them confidential with the expectation that we would be dealing exclusively with you on this scope of work.”

Confident they can trust you, the sub explains that the reason for the price hike is due a casework dimension that’s a 1/4″ larger than the middle of one full sheet of laminate. By making the casework 1/4″ smaller in one dimension, a single sheet of laminate would cover twice as much casework, reducing the amount required for the job by half.

Now let’s take a moment to consider how different the answers might have been if we’d demanded a breakout of the expensive items.  The millworker might simply provide a line item cost for the offending laminate.  The GC might have misinterpreted the information to mean that this project used especially expensive laminate.  The GC would then request pricing using a cheaper laminate, only to find it didn’t make much difference to the price.

The millwork sub has to be cautious about what they’re saying because they don’t know how the information will be used, and they certainly don’t want the GC to help their competitors by sharing good ideas.   Plus, the GC’s fixation on simple material swapping ignores the greater leadership role necessary to bring good ideas to fruition.  Convincing a design team to reduce a casework dimension by a 1/4″ to save some money on millwork may be an arduous process.  Lots of thought goes into a design, even if it’s not immediately apparent.  It’s only when the challenges are revealed that you really appreciate how difficult it can be.  Expensive millwork might have been the cheapest solution to a complex problem.

Experienced estimators learn that it’s a rare situation where a value engineering (VE) idea is fully implemented by a design team.  This means that the final project savings will be less than whatever you thought on bid day.  Here again, the savvy estimator will share this insight with their sub when discussing how to present the idea most effectively.  It’s often better to under-promise, and over-deliver when it comes to ideas that require design-team involvement.

Asking the right questions

“Design teams are notoriously difficult to impress”

When will a decision be made?

I’ve lost count of how many times I’ve heard a contractor ask the client or architect when they’ll make a final decision on contract award.  It’s a natural question because an unresolved bid leaves you unable to fully commit your resources to other opportunities.   Clients may not fully appreciate how many of your bids are affected as they take weeks to consider the proposals from a handful of bidders.  As mentioned above, an awful lot of clients are finalizing their funding with banking officials who don’t care a whit about the hundreds (if not thousands)  of companies that are waiting for a decision to come down.

Clients may not realize that each GC that bid to them received  subcontractor bids from several  companies for each trade.  A typical commercial construction bid may attract several hundred subcontractor proposals for each GC that’s bidding.  There will be some subs who bid to more than one GC, but it’s entirely possible for a single bid opportunity to involve thousands of firms in a local market.  Even if there was only two GC’s bidding to the client, the vast majority of the subcontractors will walk away empty-handed.  It’s bad enough losing a bid, but passing up other opportunities to honor your commitment to the client can be a costly choice.  The longer the delay, the more opportunities will be lost.

Timetable

Every proposal should have an expiration date to protect the companies interests.  Clients will often stipulate how many days the proposal must be viable in the RFP.  For example, government projects may require an extensive approval process involving boards that only meet on a monthly basis.  This process can be extensive, so oftentimes the client will conduct an “open bid reading”, where the accepted proposals are opened and read aloud to anyone in attendance.  The “apparent low” bidder is noted, and the apparent high bidders are largely free to consider the opportunity lost.

Baring a client’s stipulation, most firms allow a maximum of thirty days before their proposal expires because the vendors, suppliers, distributors, and material representatives will only honor their quotes for thirty days.

Thirty days may not sound like much, but consider that it’s 1/12th or 8.3% of a year.  Many markets have seasonal rushes which define most of the revenue for the entire year.  The bidding for over 90% of a firm’s  annual revenue may occur in the span of 90 days.  This means that dithering clients can create a disastrous situation where they finally tell you that you lost, right after they’ve cost you every opportunity to win replacement work!

Commitment and reciprocity

The key to getting faster response from a client is to ask for a decision based on commitment and reciprocity.  Clients want their project to be successful and they’re particularly concerned about hiring a contractor who is committed to the job.  Explaining to the client that you have committed resources to make their project successful, leads them to understand why they owe you reciprocity in terms of a decision.  If you’re not “in the hunt” (low bidder)  the client can easily let you (and your bidders) get on to other opportunities.  If you’re their low bidder, you may be re-assured of where the process is headed.  Clients may be so hung up on the formality of their contract that they forget that most of the bidders just need to know they lost.

As with almost everything in management, time that’s passed, is opportunity lost.  If you’re not timely and serious about getting answers from a dithering client, there’s little chance of the project becoming successful.  Making the right decision on bid day can determine whether you win or you lose.  The next time you’re looking to answer a common problem, make sure you’re asking the right question.

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© Anton Takken 2016 all rights reserved