CE 366 PROJECT MANAGEMENT AND ECONOMICS Robert G. Batson, Ph.D., P.E. Professor of Construction Engineering The University of Alabama

Chapter 11: Project Financial Management (Highway Bridge Project Focus) 2

Project Financial Management Financial responsibilities of the PM originate in –Construction contract, as dictated by the owner –Good business practices, as prescribed by PM’s company –Subcontracts and purchase orders associated with project Always include the “payment process” -- how money transfers hands from owner to contractor Good business practices include establishing project cash requirements (forecasts) and monitoring actual cash outflow, using a system of “disbursement control” PM assures a complete and detailed daily record “job log” is maintained (details in Section 11.19) 11.1

Progress Payments Owner makes partial payments to the contractor as work progresses, based on regular “pay requests” or vouchers Under lump-sum contracts, use estimated percentage of completion of major job components as the basis (Figure 11.2) Under unit-price contracts, program is measured by actual bid items put in place Included in both are –Materials that are stored on site, –Prefabrication or pre-assembly done by contractor off-site Sometimes owner retains a small percentage of progress payment as protection against “excessive payments”– called “retention” or “retainage” 11.2

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Highway Bridge Monthly Pay Request Highway bridge had 12 different bid items (Figure 3.9) Measurement of quantities of complete work may involve counts, tons, areas, volumes, etc. Survey crews of the contractor and owner may develop separate estimates, then adjust differences; quantities are entered on a standard form (Figure 11.1) Total work completed for each bid item is multiplied by the contract unit price for that item, then totaled Value of stored materials is added to the total, then the retainage percentage is subtracted, yielding amount due contractor for work to date Subtracting previous payments yields net amount due to contractor that month 11.3

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Highway Bridge Schedule of Payments Contractor must provide the owner, before the start of construction, with an estimated schedule of monthly payments (Figure11.3) Accuracy is important to both parties –Owner has to arrange financing –Cash-on-hand enough to pay within 7-10 days of end of month Once the job schedule is established, it is easy to determine the bid-item quantities scheduled for completion by the end of each month (June, July, August, September) Actual quantities are, of course, the basis for monthly payments 11.4

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Final Payment Sequence Contractor requests a preliminary inspection Owner (or his representative), in company of general contractor and subcontractor personnel, inspects the work Deficiencies are noted on a “punch list” After deficiencies are remedied, a final inspection is held Final quantities and costs are tallied, and the contractor is paid the amount remaining plus all the retainage that has been withheld Contractor’s request for final payment often includes the requirement for a number of different documents, prepared by the contractor’s staff 11.5

Contractor Cash Flow Substantial demands are made on contractor’s cash Start-up costs are recovered only as work progresses Labor and material costs are incurred prior to reimbursement by owner, and billed amounts are subject to retainage Cash flow (income - disbursement) may be negative for a substantial part of the project -- the deficit must be made up from contractor’s working capital, or borrowed Cash flow forecasts are critical to the contractor –Individual project (PM responsibility) –All the company’s active projects (Comptroller responsibility) 11.6

Contractor Cash Flow (continued) Large firms attempt to use positive cash flow from one project to handle the negative cash flow from another, in order to: – Minimize borrowing – Maximize investments, including funds to pursue new business, buy new equipment, expand, etc. Growth of small firms is limited by their cash flow position, and most failures are caused by cash flow rather than poor work performance Cash disbursements are equal to accrued costs, but occur later in time Accrued income (based on value of work completed) is equal to cash receipts, but occur earlier in time 11.7

Cash Disbursement Forecasts Profit = accrued income - accrued costs = cash receipts - cash disbursements To forecast the amount of money the contractor must invest in the project, it is necessary to estimate the amount and timing of cash disbursements and cash receipts Cash disbursement on construction project consist of –up-front costs –direct job expenses (with zero time delay between expense and payment) –field overhead expense, small tools, and tax Figure 11.4 is the predicted cash disbursement for the highway bridge, and the cumulative project cost is plotted in Figure 11.5 Cash income (Figure 11.3) is plotted on Figure 11.5, displaced to right by 7 working days -- a step function 11.8

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Strategies to Improve Cash Flow Request “unbalancing” to achieve front-end loading of reimbursement Attain maximum production (beat the schedule) in the field, because progress payments are based on value of work accomplished (except on cost- plus projects) Subcontracting has a positive effect on cash flow Time the delivery of large material orders to coincide with the monthly pay request Favorably terms with material suppliers, such as 60 or 90 days for payment Contract clauses that incentivize owner to make monthly progress payments on time 11.9