On time and on budget

January 23rd, 2012

I’ve just seen some of BBC1′s Panorama programme, “Taken for a ride?”, which is about the rises in train fares and the costs of railway infrastructure. Now, the segment I saw (the last fifteen minutes) consisted of the journalist talking to various figures in the rail industry about the cost of project work, and in particular the large overspends on some rail infrastructure projects. He kept asking “will the project be on time and on budget?” and using phrases like “is our money being wasted?”. Now, this is the standard stuff of all projects, so let’s examine this in more detail. What do we mean by “on time and on budget”?

Well, a typical project, be it the construction of a garden shed or a high-speed railway line, starts with a proposal. In that proposal, the promoter of the project sets out the benefits the project will bring, the risks associated with doing it, and their estimate of how long it will take and how much it will cost. Note the crucial word there – estimate. The proposal is scrutinised by some decision-maker, and (all being well) the project is authorised on the basis of the estimated budget and timescale contained within the proposal. Of course, as the project runs, some tasks will turn out to be easier than estimated, and others will be harder. So the project cost and timescale may change as a result. So, when we talk about the “ability of an organisation to deliver on time and on budget”, we really mean, to a large extent, their ability to estimate the project in advance.

Now, let’s assume for a moment that we’re going to put this project out to competitive tender, as all public sector projects are. A number of engineering firms will bid on the project, and that means that they have to spend their own time and money researching and estimating the cost and timescale of the project. There will, of course, be pressure on the engineers to produce a low bid, as the company wouldn’t want to lose the business to a cheaper competitor. There will also be pressure not to spend too much time doing detailed research into the cost of a project, as the cost of the engineers’ time is at the company’s own risk – if they lose the bid, all that effort will have been wasted. So the tendering process is likely to produce optimistic estimates of the project outcome. If a bidding company has done a project like this before, they will make a better estimate – but a rival with less experience is more likely to make a low bid, particularly if they need the business badly. So the tendering process needs to evaluate the companies’ bids clearly, and not just look at the price. There’s always temptation for companies to bid low to secure the project and then ask for more money once the project is beyond the point of no return.

Well, what about making the job a “fixed price contract”? This transfers all the risk from the buyer to the supplier. Great for the buyer? Well, everyone bidding on a fixed-price job will include an additional contingency for unforeseen circumstances. Depending on the nature of the project, that “risk premium” could be enormous. Most companies taking fixed-price work will insure themselves against it, so now you’re paying an insurance premium and asking an insurer to take the risk, for which they charge a considerable markup! The fixed-price job works well when the job is well understood, but for big, risky projects, the fixed prices become ridiculously high.

So, perhaps we should be more circumspect before we condemn projects that run late or “overbudget” – how well can you estimate?