Thursday, January 21, 2010

Assume the Risk

There have been a lot of issues recently over cost estimates that are starting to rub me the wrong way. I had never mentioned it before but in my head I kept thinking to myself that the cost for LRT in Norfolk seemed awfully low. The most recent estimate was $232 million for 7.2 miles. Compared to most LRT lines that would have been a steal. Phoenix was upwards of $80 million per mile while Norfolk was hovering around $32 million. Now it's $340 million which is still ok at $47 million a mile, but everyone is going crazy.

But today I saw something interesting out of Houston. The city is going to pay up front an extra $100 million for their contract and the bid winner will assume liability for any cost overruns during the project (assuming it doesn't cause them to go out of business). My question then becomes, how come we don't make all contractors stick to their cost estimates?

While I understand that things change and work orders change, shouldn't the company which came in with the chosen bid be responsible for seeing through with their magic eight balls? Perhaps that is asking too much or asking in some instances for disaster. Cutting corners leads to bad things and I certainly wouldn't want a contractor to go cheap on materials because they were trying to make money. In any event, with all these cost overruns on projects that are making LRT look bad, I don't see why more isn't being done to make the bidders more responsible for their bids.


AT said...

Agencies get what they pay for. When going with a low-bid design-bid-build process, the agency assumes a lot of the risk for the unknowns and design mistakes. To keep cost over-runs down they need to know what they are building on and have very good construction specs and plans.

Adam P said...

I think that in order for the public to accept the LRT in Norfolk they had to come out with a pretty low cost estimate. I agree that the number does seem pretty low, especially with a number of elevated sections and bridges for water crossings

clever-title said...

It's a fundamental question of project management (my particular trade).

If you demand fixed-cost bids from your contractors, they will bid the worst-case scenarios, and the buyer will most likely leave money on the table if the worst case doesn't occur. There's also the issue that contractors have an incentive to cut corners to raise their profit.

Cost-plus bidding, on the other hand, result is lower initial bids, but overruns are likely. Bidders have little incentive to control costs, so you need someone on the outside of those bids to manage them.

What's most important, though, is that there are truly competitive bids on the project (that the various bidders haven't secretly split up the project to guarantee high bids for all) and that someone has an incentive to monitor the work with an incentive to keep costs down (like a bounty on overcharges found by the auditors)