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Optimizing Your Cost Tracking Process Matters
Commercial real estate projects are complex for a variety of reasons, but one of the most significant factors is the disbursement of payments to different vendors across many months, or even years. It’s critically important that those payments are managed closely or unforeseen costs can easily arise and push jobs over budget.
Understanding the fundamentals of project cost tracking and optimizing the process is necessary for building owners and managers to:
• Prevent overspending
• Monitor project finances
• Manage vendor payments
Without a reliable, standardized cost tracking procedure in place, it can be hard to make informed decisions as your projects progress. Without properly tracking costs, overages are likely to be surprises, which could put the financial health of a project in jeopardy.
Tracking a project’s costs requires pulling data from multiple sources into one central repository, including all contracts, change orders, invoices and estimates for work that has not yet been awarded. A project manager is typically responsible for maintaining the cost tracker, but he or she will often need to rely on colleagues, like accountants, to provide key information. There could be dozens, if not hundreds, of these items for one job; keeping all of them updated in real time in one place can be a challenge.
There's also a lack of consistency in the way owners track costs. Even within an organization, individual project managers may use their own format for recording and analyzing the costs of different jobs. Asset managers struggle to reconcile these disparate cost tracking sheets into a unified report that will let them extract meaningful insights from across their portfolio.
For these reasons, when a senior executive asks about the status of a project and needs a quick response, project managers often race to open their spreadsheets and furiously enter data until the answer is produced. Therefore, creating a system where the entire team has immediate visibility into where projects stand is critical.
How Do Most Real Estate Owners Track Costs?
Owners use a variety of report formats for keeping track of costs. We’ve heard these reports referred to as:
• Anticipated cost reports (ACR)
• Job / project cost summaries
• Job / project financials
• Expense tracking sheets
• Cost tracking sheets
• Building renovation sheets
On the Honest Buildings platform, we broadly refer to these types of reports as “cost trackers.”
Cost trackers are updated monthly, bi-weekly, or even weekly, depending on project complexity. For any active job, the cost tracker should be updated at least every thirty days, as that’s when even the simplest job would receive a new invoice from at least one vendor.
Typically, the project manager is responsible for updating the cost tracker. Project managers are very busy and spend a significant amount of time away from their desks, but keeping the cost tracker up-to-date is so valuable that regularly carving out time to input data is incredibly beneficial in the long run.
Components of a Cost Tracker
Your tracker can be organized a variety of ways, depending on the size of the job and how much detail you want to include. That being said, there are a few categories of information that you should include in order to be thorough:
• Budget numbers
• Committed and anticipated costs
• Invoices and payments
Let's take a closer look at each of them.
Budgets evolve in one of two ways:
• In advance. Budgets for large, predictable or recurring projects, like capital improvement jobs, are usually created at the end of a fiscal year for the following year.
• As needed. Custom work and unforeseen projects are not usually budgeted in advance. For example, tenant improvement jobs often have their own specifications that are unique to each lease deal. In these cases, the project manager works with the leasing and asset management teams to agree on a budget during the lease negotiation process.
Lump sum budgets
Lump sum budgets—simple, one number budgets— are fairly typical for smaller projects or projects in the annual capital plan. A lump sum budget provides the project manager with a single pot of money to spend on a job and they have discretion over how that money is allocated.
This type of budget provides less direction, but it can be more flexible. If you're going over budget on one particular line item, like architectural services, you can pull from another expense and still stay within the overall project budget.
Line item budgets
As projects get larger, it’s more common for the budget to be broken down into distinct line items, like engineering services, hard costs, HVAC, low voltage, etc. This method allows you to more effectively monitor how you’re performing against budget in the early stages of a project. For example, if the architectural component of the project is over budget it might be an early indicator that the entire project will end up over budget. Alternatively, if the architectural component comes in under budget, you know early on that you may have a little bit more cushion with other expenses.
COMMITTED AND ANTICIPATED COSTS
If you want to proactively manage your project spend, you need to implement a more detailed system than just monitoring invoices and evaluating them against budget. Tracking committed and anticipated costs will give you the most precise picture of where your project stands. These items are also referred to as:
• Total anticipated cost
• Anticipated budget
• Total estimate
• Total project costs
Before we discuss best practices related to tracking these types of costs, let’s define them.
Committed costs are the sum of all expenses that you are formally obligated to pay, generally in the form of executed contracts between your company and a vendor. These costs include the initial award, or the base contract value that is agreed upon in the contract with a vendor, as well as any approved change orders (COs) that have been executed by both parties.
Committed costs are also called:
• Committed amount
• Current committed
• Adjusted contract value
• Total revised contract
• Total contract costs
Committed + pending costs
Pending costs are costs that haven’t been officially approved yet but you expect will be, like a change order that was only just received. Because these costs haven’t been formally agreed upon, these amounts are still subject to change. You could negotiate with the vendor for a different price, or you could even decide to scrap this part of the project altogether and not incur any of the cost.
As jobs get larger and the number of change orders increases, it’s very important to account for the effect of pending change orders in the anticipated cost calculation so you can have an accurate estimate of your worst-case outcome at any given time. You may be able to negotiate lower prices with your vendors, but at least you will be aware of the boundaries of where you could end up.
Anticipated costs are costs that are not yet committed or pending, but they are still likely to be incurred. Here are some examples:
• Work not yet awarded. Particularly early on in a job, many of the costs will not have been awarded or contracted for, leaving you with just an estimate of how much you expect to ultimately spend. In order to keep the forecast maximally accurate, you should include that number, even if it’s only an estimate, as part of the anticipated cost.
• Potential change orders. If your general contractor mentions something about the site that might generate a change order, but the CO hasn’t yet come across your desk, it’s best practice to understand what the financial exposure is and add that to your cost tracking sheet. Then, you will know how much funds you should set aside for it in case it becomes a real cost.
• Contingency. Contingency is the ultimate form of an ‘anticipated-but-not-committed’ cost: it’s a stash of money that can be used to cover unexpected expenses, should they arise.
On our platform, we refer to anticipated costs as holds, but they're also known as:
• Potential costs
• Other forecasted costs
• Potential change orders
INVOICES AND PAYMENTS
The final component of your cost tracker is invoices. Similar to committed and anticipated costs, there are different stages of invoiced amounts:
• Invoiced: The vendor sent an invoice, which may or may not have been paid.
• Paid: The invoice has been received and paid.
Once you determine the amount that has been invoiced to date, you can determine the amount remaining to be paid. That's how much money you have left to spend to complete the job.
Remember, if you’re using advanced cost tracking methods, your amount remaining will be the sum of committed costs plus pending COs plus holds minus previously invoiced amounts. This provides a much clearer picture of your project than only looking at committed costs minus invoiced amounts.
Amount remaining is also referred to as:
• Remaining to invoice
• Balance remaining
• Contract balance
• Cost to complete
Using data to uncover new insights
When the project is complete, these core data points—committed, forecast and invoiced—will converge. Many thoughtful project managers watch the progress of this convergence as a measurement of where the job stands.
The relationship between your project’s forecast, committed and invoiced amounts is simple and important. Essentially:
Forecast ≥ Committed ≥ Invoiced
It wouldn’t make sense for the invoiced amount to be greater than the committed amount. After all, paying an invoice is the ultimate form of commitment!
Similarly, it doesn’t make sense for the committed amount to be greater than the forecast. Since the cost is committed with a signed contract between you and the vendor, it’s highly unlikely that the committed amount would not ultimately be spent. (One caveat: Sometimes there are deduct change orders that would reduce the scope of work and the forecast could be temporarily less than the committed amount.)
Comparing invoiced amounts to committed amounts
As one example, if the invoiced amount on your project is well below the committed amount, it might be an indication that the work isn’t being performed and that your project might be running behind schedule.
Comparing committed amounts to forecast
Another indicator of a project’s progress is the percentage of project funds that are committed to date. If a job is 75% committed, there is less risk of going over budget than if a job is, say, 45% committed.
This metric can also be used to monitor whether or not the project is on schedule. If the job was scheduled to start construction last month, for example, but only 15% of the budget has been committed then there is a good chance it is delayed and will not be completed on time.
Realizing True Value with Cost Tracking
If the sole purpose of closely tracking costs is to keep your projects under budget, it will be incredibly valuable. But your diligence can actually have a far bigger impact on your portfolio, providing you with a wealth of data to proactively make decisions on future projects.
When you break your project into line items and then measure progress on those line items in real-time, you can capture the following project intelligence:
• Comparable pricing data. Create a pricing index based on how much specific line items actually cost at the end of the project when all of the change orders are tallied.
• Vendor performance insights. Evaluate your contractors based on the aggregate impact of change orders and delays. The lowest bidder might not be the least expensive option after all.
• Systemic roadblocks. Identify where internal processes may be slowing you down. Are vendors holding off work because it takes too long to get invoices paid? Are design changes unusually common on your company’s projects?
Examples of Cost Tracking in Progress
Capital, construction and tenant improvement projects involve numerous evolving and shifting factors so it’s important to constantly monitor where changing costs stand in relation to budget. As you're optimizing your process, be sure to consider including the cost tracking components and best practices that we've discussed here.
Additional Industry Resources
• The Urban Land Institute (ULI)
• Commercial Real Estate Development Association (NAIOP)
• Building Owners & Managers Association International (BOMA)