Total Cost Management

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Total Cost Management

• Dr. Nick J. Lavingia, P.E.
• Chevron
• Project Management Consultant
• APEGGA Annual Conference, Calgary
• April 26-27, 2007

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Dr. Nick J. Lavingia, P.E.Project Management
ConsultantChevron
Nick has over 30 years of Global Project
Engineering, Management, Consulting and Training
experience in the Energy industry. As a Project
Management Consultant at Chevron, he provides
Consultation and Training to Project
Professionals worldwide. Nick has a B.S. and
M.S. in Chemical Petroleum-Refining Engineering
and a Ph.D. in Engineering Economics Management
from the Colorado School of Mines. He is a
registered Professional Chemical Engineer in the
State of California. Nick is a member of
Project Management subcommittee for Athabasca Oil
Sands expansion project. He has published and
presented many papers at technical organizations
and is a recipient of industry award from
Pathfinder for outstanding Contribution to the
advancement of Project Management Technology and
Chevron Chairmans award for implementing Value
Engineering throughout the corporation.
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Agenda

• Total Cost Management
• Economic Analysis
• Cost Estimating
• Planning / Scheduling
• Benchmarking
• Contracting / Procurement
• Performance Measurement
• Cost Control / Forecasting
• Progress Reporting
• Finance / Audit

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Total Cost Management
Phase 1 IDENTIFY Assess Opportunities
Phase 2 SELECT from Alternatives
Phase 3 DEVELOP Preferred Alternative
Phase 4 EXECUTE (Detail EPC)
Phase 5 OPERATE Evaluate

• Economic Analysis
• (NPV, ROR, Payout)
• Cost Estimating
• (Conceptual)
• Planning/Scheduling
• (Milestone)
• Benchmarking
• (Cost / Capacity)

(Definitive)
(Cost Collection / Analysis)
(Funding /- 10 Accuracy)

(CPM Bar Chart)
(CPM Resource Loaded)
(Monitor Update)
(Pre-Funding Assessment)
(Post-Project Assessment)
(Set Pacesetter Target)

• Contracting/Procurement
• (Strategy)
• Cost Control/Forecasting
• (WBS)
• Progress reporting
• Finance/Audit

(Pre-Qualification)
(Award / Monitor)
(Closeout)
Performance Measurement (Establish Progress
Payments)
(Earned Value)

(Establish Cost Accounts Budgets)
(Trend / Forecast)
(Capital versus Expense)
(Asset Accounting)
Legend AFE Appropriation for Expenditure
NPV Net Present Value PFD Process Flow
Diagram D Decision Point ROR Rate of
Return PID Piping Instrumentation
Diagram EPC Engineer, Procure Construct
CPM Critical Path Method WBS Work
Breakdown Structure

5
Tradeoff Between Cost, Schedule Quality
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Economic Analysis
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Profitability Criteria

• Net Present Value (NPV) Show Me The Money
• Definition
• Sum of the Net Cash Flow discounted to time zero
  using a discount rate
• Benefits
• Incorporates time value of money easy to
  understand recognizes magnitude of profit
• Can be used for screening and ranking
• Disadvantages
• Independent of the size of the cash flows

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Profitability Criteria

• Rate Of Return (ROR)Interest Rate
• Definition
• Discount rate which equates the sum of the Net
  Cash Flow after tax to zero
• Benefits
• Incorporates time value of money
• Easy to understand
• Easy to compare with the cost of capital
• Disadvantages
• Independent of the size of the cash flows
• Can be difficult to determine
• Assumes reinvestment at same rate

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Profitability Criteria

• Payout Time The Money Is Hanging Out There
• Definition
• Time for Cumulative Net Cash Flow after tax
  Investment
• Benefits
• Simple
• Indicator of investment risk
• Disadvantages
• Ignores time value of money
• No indication of what happens after payout

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Profitability Criteria

• Discounted Profitability Index (DPI)Bang For
  The Buck
• Definition
• DPI 1 (NPV of Net Cash Flow / NPV of
  Investment)
• Benefits
• Accounts for the relative size of the cash flows
• Used for screening / ranking
• Recognizes magnitude of profits
• Disadvantages
• Does not give as good an indication of
  sensitivity to additional investment as NPV

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Cost Estimating
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What is a Cost Estimate?

• Realistic representation of final project cost at
  any stage of project development to meet a
  specific project objective
• Basic Components

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Quality of Estimate
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Estimate Methods

• Phase 1 Estimate--Cost/Capacity curves
• Phase 2 Estimate--Factored estimate based on
  major equipment costs
• Phase 3 Estimate--Detail estimate based on bids
  for major equipment and bulk takeoffs

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Estimating Contingency Determination
Phase Phase Phase 1
2 3
/- 50 /- 25 /-10
Estimated Cost Final Actual Cost
1.0
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Contingency
C
O
N
T
Frequency
I
N
of
G
E
Occurrence
N
C
Y
Minimum
Maximum
1.4
0.8
1.0Million
Cost
Cost
(40)
(-20)
50/50 Value
Most
MEDIAN
Likely
Value
MODE
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Cost Estimate Confidence
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Evolution of Estimate Accuracy

• PHASE 1
• IDENTIFY
• Minimal Engineering
• Low definition detail
• Wide accuracy

• PHASE 2
• SELECT
• More Engineering
• More Definition
• Moderate accuracy

• PHASE 3
• DEVELOP (AFE)
• Adequate FEL (15-30 Engineering)
• Well defined
• /- 10 accuracy

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Planning / Scheduling
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Project Time Management - Scheduling

• Project Time Management includes the processes
  required to ensure timely completion of the
  project
• Activity Definition - identifying the specific
  activities that must be performed to produce the
  various project deliverables
• Activity Sequencing - identifying and documenting
  interactivity dependencies
• Activity Duration Estimating - estimating the
  number of work periods which will be needed
• Schedule Development - analyzing activity
  sequences, activity duration and resource
  requirements to create the project schedule
• Schedule Control - controlling changes to the
  project schedule

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Schedule Level Definitions
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What Is A Plan?
METHODS
MEANS
LOGIC
IDEAS
A Plan Defines Activities Involved in a Project,
Their Logical Sequence, and Their
Inter-Relationship
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Contingency or Float is Added to Estimates to
Reduce the Risk of Overrun.
Estimates are inaccurate because they are
predictions of future events and the amount of
variation that will actually occur is unknown.
Cost Estimate Probability Analysis
150
145
140
135
130
Cost (millions)
125
120
115
Cost w/o contingency
110
Schedule Probability Analysis
105
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100
0
10
20
30
40
50
60
70
80
90
100
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Appropriated
Value
Probability
26
25
Schedule (months)
24
23
Base Schedule
22
21
20
0
10
20
30
40
50
60
70
80
90
100
Probability
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Contracting / Procurement
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Current Trends in Contracting Procurement

• Services
• Contractor capacity is decreasing
• Craft workforce shortage
• Labor rates increasing

• Materials Equipment
• Lead times are increasing
• Prices are increasing
• Inventories are decreasing
• Material shortages

• Marketplace
• Marketplace is strong
• Global mega projects
• Suppliers have choices

• Fabrication
• Shop loading is high
• Pricing is volatile

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What Can Buyers Do?

• Demand Planning
• Plan requirements well in advance
• Aggregate demand
• Leverage volume

• Market Intelligence
• Use market data to mitigate cost increases
• Monitor supply/demand
• Investigate new market entrants

• Commercial Considerations
• Have and stick to Strategy
• Tie cost increases (future decreases) to major
  underlying cost components
• Leverage volume spend
• Lengthen term of agreement
• Define work scope manage contractors

• Supplier Relationships
• Exploit long term relationships
• Qualify additional suppliers
• Dont let supplier know you are desperate

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The Contracting Process
Assess Contracting Opportunities
Develop Review Alternative Contracting
Strategies
Pre-qualification
Bidding/Negotiating
Evaluation and Agreement
Execution of Contract
Administration
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Types of Contracts
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Selection of Contracting Strategy
Item
Lump Sum
Reimbursable
Scope Definition Market Condition Owner
Participation Owner Control Owner Risk
Good Slow Low Minimum Low
Poor Busy High Tight High
Do not award lump sum contracts without good
scope definition.
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Preferred Contracting Strategy
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Performance Measurement
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Project Control Cycle - Establish Plan
Project Objectives
Scope
Establish Plan
Definition
AFE
Contracting Plan
Estimate
Control Budgets
Work to Plan
WBS
Schedules
Measure
Performance
Evaluate vs.
Plan
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Performance Measurement
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Cost and Schedule Performance Curves

Budgeted
SV Scheduled Variance CV Cost Variance DT
Time Variance

SV
or Work Hours

CV
Earned
Actual
DT
Time
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Cost Control / Forecasting
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Costing System to Support Cost Control
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Cost Control System

• COMMITMENTS
• Purchase Orders and Supplements
• Contracts and Change Orders
• Owner Costs

EXPENDITURES
TRENDS
Spreadsheet or Database
BUDGETS

• COST REPORTS
• Summary
• Detail

TREND LOG
Purchase Order Log
CONTRACTS

• Status Summary
• Change Log

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Progress Reporting
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Progress Report No. 1
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Progress Report No. 2
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3000 Budget at Completion (BAC)
Date Now
2000 Actual Cost (AC)
1600 Planned Value (PV)
1200 Earned Value (EV)
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Progress Report No. 3

• 1. Cost Variance (CV) Earned Value (EV)
  Actual Cost (AC)
• CV 1200 - 2000 - 800
• 2. Schedule Variance (SV) Earned Value (EV)
  Planned Value (PV)
• SV 1200 - 1600 - 400
• 3. Cost Performance Index (CPI) Earned Value
  (EV) / Actual Cost (AC)
• CPI 1200 / 2000 0.6
• 4. Schedule Performance Index (SPI) Earned
  Value (EV) / Planned Value (PV)
• SPI 1200 / 1600 0.75
• 5. Estimate To Complete (ETC) Budget At
  Completion (BAC) Earned Value (EV) / Cost
  Performance Index (CPI)
• ETC (3000 - 1200) / 0.6 3000
• 6. Estimate At Completion (EAC) Actual Cost
  (AC) Estimate To Complete (ETC)
• EAC 2000 3000 5000

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Summary

• Structured Project Development Execution
  Process and Total Cost Management can help
  achieve World-Class Project Performance
• Better
• Cheaper
• Faster
• Safer
• PROJECTS