Cost Management Concepts in EPC Projects

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Dr. Hiren Maniar 1 Stay Relevant
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 Learning Objectives

• L&T Business Overview

• Essentials of Cost Management
• Project Cost Management Charter
• Cost Management Process
• Understanding Estimation Process in EPC Projects
• Case Study on Cost Estimation in EPC Projects
• Cost Control Process
• Management Planning and Control Systems (MPCS)
• Earned Value Management
• Case Study on Cost Monitoring & Control using EVM
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L&T Business Overview

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L&T Consolidate Business Overview

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Sales Turnover (Rs. Crores) Profit After Tax (Rs.Crores)

Net Worth (Rs.Crores) Net Profit Margin (%)

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What is Cost and Project Cost Management?

• Cost is a resource sacrificed or foregone to achieve a specific

objective or something given up in exchange Costs are
usually measured in monetary units like dollars

• Project costing can be described as the process by which

associations are made between effort and time in connection
with the project activities in order to estimate a profitable cost
for the project.

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 Types of Costs
Fixed Costs:
are constant and unchanging regardless of the level of the activity over a
feasible range of operations for the capacity or capability available.
Variable costs:
operating costs that vary in total with the quantity of output or other measures of
activity level.
Direct Costs:
cost that can be reasonably measured and allocated to a specific output or work
activity.

Indirect/Overhead Cost:
cost that it is difficult to attribute or allocate to a specific output or work activity.

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 EPC Project Cost Components
• A feasible EPC Project is one where
‐ Project Should have optimum cost estimation
• In terms of various cost elements like FC, VC, DC, IC/OC, which is called
CBL (Cost Base Line)
• Typical EPC Project Cost Elements

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Project Cost Management Charter

I
Resource Planning

Planning Cost Estimating

Cost Budgeting

E
Controlling Cost Control

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Project Cost Management Process

Resource Planning
•Determine what resources, what quantities of resource
•The output: a list of resource requirements

Cost Estimating
•Develop an approximation or estimate of the costs of the
resources
•The output: cost estimates, supporting details, cost
Project Cost management plan
Management Processes
Cost Budgeting
•Allocating the overall cost estimate
•The output: a cost baseline

Cost Control

•Controlling changes to the project budget

•The output: revised cost estimates, budget updates,
corrective action, estimate at completion & lessons learned. Stay Ahead
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Case Study on Cost Estimation of Hydro Power Project

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Project Details
• The total cost of one Hydro Power Project having capacity 45 MW completed 2019 for a XYZ
town in Himachal Pradesh was Rs.4.5 billion. It was proposed that Hydro Power Project having
capacity 80 MW to be built at ABC town in Arunachal Pradesh for completion in 2023. For
additional information given below, make a screening estimate of the cost of the proposed
plant.
‐ In the total construction cost in Himachal Pradesh, an item of Rs.30 crore for site
preparation is not typical for similar plants.
‐ The variation of sizes for this type of project can be approximated by the exponential law
with m = 0.5.
‐ The inflation rate was approximately 5% per year from 2019 to 2023.
‐ The location indices of Himachal Pradesh and Arunachal Pradesh areas are 0.95 and
1.10, respectively, against the national average of 1.00.
‐ The installation of a special equipment to satisfy the new safety standard cost an extra
Rs.20 crore in 2023 for the Arunachal Pradesh plant.
‐ The site condition in Arunachal Pradesh required special foundation which cost Rs.5 crore
in 2023.
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* UNIQUE COST FOR OLD PLANT :- Rs. 30 crore

So Actual Cost of Old Project was = Rs. 450 - Rs. 30

= Rs. 420 crore

* Cost for Variation of Sizes = Rs. 420 x (80/45)0.5

= Rs. 532 crore

* Actual Cost at Normal Location = Rs. 532 / 0.95

= Rs. 560 crore

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•Actual Cost at Arunachal Pradesh = Rs. 530 *1.10

= Rs. 615 crore

•Inflated cost of Plant at year 2023 @ 5 % per year = Rs. 615 x (1+0.05)4 = Rs. 745

+ Standard Cost for Special Equipment = Rs. 20 crore

+ Additional Cost for Special foundation = Rs. 5 crore

Total Cost = Rs. 773 crore

Location YEAR CAPACITY COST

XYZ Town Gujarat 2019 45 MW Rs. 450 crore

ABC Town 2023 80 MW Rs. 773 crore

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Management Planning and Control Systems (MPCS)

• MPCS is used for the successful execution of the projects

• The system has following sub-systems:
‐ Tendering System
‐ Scheduling System
‐ Monitoring System
‐ Management Information System
• The Scheduling System:
‐ The objective of the scheduling, monitoring and controlling system are:
• To plan the job, to enable timely mobilization of resources – men, materials and
machinery
• To plan month-wise billing & budget cost of construction and contribution
• To monitor at regular intervals the present / projected status of the job and identify
the variances
• To initiate corrective actions wherever necessary
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• Main participant in the scheduling exercise are: The Cluster head / BU head, Project Manager,
Planning Engineer
• Representatives from functional areas like Finance, Insurance, Legal, Purchase, Plant &
Maintenance, HR, etc., would be consulted as required.
• Following schedules form part of the scheduling system
S0 – Construction programme
S1 – Schedule of Invoicing
S2 – Schedule of Milestone events
S3 – Schedule of Plant & Machinery requirement
S4 – Schedule of Staff requirement
S5 – Schedule of Labour requirement
S6 – Schedule of Material requirement
S7 – Schedule of Specialist Agencies
S8 – Schedule of Direct Costs
S9 – Schedule of Overheads
S10 – Schedule of liquidity forecast

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The Monitoring System:

• This system consists of feedbacks to Management, on the schedules

prepared, to ensure that the Project is progressing as per schedule. In case of
slips / deviations from schedule, the system helps in taking corrective and
timely action. This system consists of three reports.
‐ M1 – Monthly Progress Report [Physical progress and billing]
‐ M2 – Job Cost Report [JCR]
‐ M3 – Project Performance Report
• These reports will be prepared by the planning engineer in consultation with
the Project Manager / Accountant. The above reports will be prepared on a
monthly basis and sent to Cluster Office / Head Quarters, may suggest
corrective actions as and when required.

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Earned Value Management (EVM)

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Earned Value Management (EVM)

• Earned Value Management (EVM) technique used to track

the Progress and Status of a Project & Forcast the likely
future performance of the Project.
• Given a baseline (original plan plus approved changes),
one can determine how well the project is meeting its
goals
• Provides a common value scale for every project task
• Earned Value is a measure of ‘’Progress’’ to
assess ‘’Percentage of Completeness’’

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EVM Example of Nuclear Power Project

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Case Study Details

• You are the project manager for Nuclear Power Project

Construction having 20 packages of scope. According to
project plan, the cost of Construction Project will be Rs.15
crore per package and will take 8 months to complete.

• 2 months into the project, project contractor has spent Rs.55

crore and completed 4 packages of project, and project
manager wants to report performance and determine how
much time and cost remain to cluster director.

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BAC (Budgeted at Completion)

• Always begin by calculating BAC

• BAC means “how much we originally expected this
project to cost”

BAC = 20 packages x Rs.15 crore/package

BAC = Rs.300 crore

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PV (Planned Value) or Budgeted Cost of Work Schedule (BCWS)

• PV is how much work was planned for this point in time

• The Planned Value (PV), (BCWS)
‐ also called the budget, is
‐ that portion of the approved total cost estimate planned to be spent on an activity
during a given period
• PV is expressed in rupees
• PV = Planned % Complete X BAC
We are 2 months complete on an 8 months schedule. This equates to:
PV = 25% x Rs.300 crore = Rs.75 crore
Therefore we had planned to complete Rs.75 crore worth of work after 2
months.

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EV (Earned Value) or BCWP (Budgeted Cost of Work Performed)

• EV is based on the assumption that as you complete work

on the project you are adding value to the project.
• Is the percentage of work actually completed multiplied by
the planned value
• Therefore it is simply a matter of calculating how much value
you have “earned” on the project.
• Planned Value, PV, is what is planned, but Earned Value,
EV, is what actually happened!

EV = Actual % Complete x BAC

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 EV (Earned Value), con’t

• We have completed 4 packages of the 20 packages for

project, which equates to 20%.
• We multiply 20% by the BAC to get EV:

EV = 20% x Rs.300 crore

EV = Rs.60 crore
This tells us we have completed Rs.60 crore worth of work, or
more accurately, we have earned Rs.60 crore of value for the
project.
(In short we can send Milestone bill for Rs.60 crore)
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AC (Actual Cost) or ACWP (ACTUAL COST OF WORK
PERFORMED)

• AC is the amount of cost you have incurred at this point.

• Is the total of direct and indirect costs incurred in accomplishing
work on an activity during a given period

We are told we have spend Rs.55 crore to date. Hence no

calculation is needed in this example:

AC = Rs.55 crore

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 CV (Cost Variance)

• CV is how much actual costs differ from planned costs.

• We get this value by calculating the difference between EV and AC.
CV = EV – AC
• A positive variance reflects that the project is doing better on cost
than expected. This is a good thing!
• Negative CV indicates that costs are running higher than planned.

CV = Rs.60 crore - Rs.55 crore

CV = Rs.5 crore

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 SV (Schedule Variance)

• SV is how much our schedule differs from our plan.

• SV is expressed in dollars!
• We get this value by calculating the difference between EV and PV.
SV = EV – PV
• A positive variance reflects that the project is ahead of schedule.
• Negative SV reflects we are not performing as well as we had
hoped in terms of schedule.
SV = Rs.60 crore - Rs.75 crore
SV = - Rs.15 crore

• Hence SV is (Rs.15 crore)

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CPI (Cost Performance Index)
• CPI gives us an indicator as to how much we are getting for every
dollar.
• Derived by dividing Earned Value by the Actual Cost:
CPI = EV / AC
• A CPI of 1 indicates that the project is exactly on track.
• A closer look at the formula reveals that values of 1 or greater are
good and values less than 1 are undesirable.

CPI = Rs.60 crore/ Rs.55 crore

CPI = 1.09
This figure tells us we are getting Rs.1.09 worth of performance for
every Rs.1.00 we expected.
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SPI (Schedule Performance Indicator)
• SPI tells us how fast the project is progressing compared to the project plan.
• SPI is derived by dividing EV by PV:
SPI = EV/PV
• Like CPI, values of 1 or greater are good and values of less than 1 are
undesirable.

SPI = Rs.60 crore/ Rs.75 crore

SPI = 0.8
This tells us that the project is progressing at 80% of the pace that we expected it to.
Given our example, does this make sense?

‐ We expected 20 packages in 8 months

‐ After 2 months we should have constructed 5 packages, but instead we had
only constructed 4 packages
‐ This equates to 4/5 performance which is 80%
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EAC (Estimate at Completion)
• EAC is the amount we expect the project to cost, based on where
we are relative to cost and schedule
EAC = BAC / CPI

We expected to spend Rs.300 crore and our CPI is greater than 1

so:

EAC = Rs.300 crore /1.09

EAC = Rs.275.23 crore

We are doing better on costs than originally planned.

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ETC (Estimated to Completion)

• ETC is simply how much more we expect to spend from this point
forward based on what we’ve done so far.
• It is easily calculated by subtracting the Actual Costs from the
Expected at Completion:

ETC = EAC – AC

ETC = Rs.275.23 crore - Rs.55 crore

ETC = Rs.220.23 crore

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VAC (Variance at Completion)
• VAC is the difference between what we originally budgeted and what
we expect to spend.
VAC = BAC - EAC
• A positive variance indicates that we are doing better than projected
• A negative variance indicates we expect the project to run over on
costs.

VAC = Rs.300 crore - Rs.275.23 crore

= Rs.24.77 crore

So at this point in time we have a positive variance and hence expect

to finish under budget.
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Earned Value Concept Summary
Acronym Definition Equation Interpretation
PV Budgeted cost of task Planned % Complete X BAC

EV Earned value for task (none)

AC Actual cost of task (none)
SV Schedule Variance SV=EV - PV >0 = Ahead, <0 = Behind
BV Budget Variance BV=PV - AC >0 = Under, <0 = Over
CV Cost Variance CV=EV - AC >0 = Productive, <0 =
Unproductive
BAC Budget At Completion BAC= UB + PV “UB”=Undistributed Budget

SPI Schedule Perf. Index SPI=EV/PV >1 = Faster, <1 = Slower

CPI Cost Perf. Index CPI=EV/AC >1 = Efficient, < 1 =
Inefficient
ETC Estimate to Complete ETC=(BAC-EV) /CPI
EAC Estimate At Completion EAC=AC+ETC

VAC Variance at Completion VAC = BAC

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>0 = Under, <0 = Over
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Example on Project Progress Prediction

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Example on Project Progress Prediction

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EVM Performance Analysis – Project Dash Board

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