The construction industry is highly cash-intensive by nature. Thousands of construction companies go out of business each year because their cash gets tied up and they can’t pay their expenses.
That’s where cost controls come in. Cost control strategies allow for the efficient allocation of resources which helps minimize the potential risks your company takes on. When you have effective cost controls in place, your projects are more likely to be completed within budget which helps you maintain healthy cash flow and increase your profitability.
Let’s dive into the main cost controls you’ll use to find cost-savings, improve your profit margins and ultimately ensure more successful projects.
Key Takeaways
- Cost controls are key components of your project that influence your ability to stay within the project budget
- The more real-time your data collection is, the easier it is to catch cost overruns before they affect your bottom line.
What is Cost Control in Construction?
A cost control process is the systematic approach you use to maximize your resources and stay within budget on your projects. When you have a solid system, you set yourself up for more consistent profit margins across all your jobs.
Effective cost control is critical because it ensures that construction projects are completed within the budgeted amounts, avoiding cost overruns and maintaining profitability. As in most things in life and business, if you can consistently keep your costs in line you’ll end up being successful financially over the long term.
Cost control mechanisms can reveal an organization’s operational strengths and weaknesses by highlighting areas where efficiency is achieved or where improvement is needed. This type of insight will help you understand if you have a crew of employees, a piece of equipment, or some key aspect of your business that isn’t performing well on specific project types (or at all).
Construction Budgeting
Before you can dive into your cost controls, you need to create a detailed budget for the job using your cost estimates. A construction budget acts as the financial blueprint for a project and is what all your cost controls will relate back to. It outlines the expected expenditures and income, covering materials, labor, equipment, subcontractors, and other expenses. Staying within this budget comes down to how well you manage your cost controls, but if your budget isn’t detailed enough to start, it’s very difficult to create a consistent cost control process.
One note here: Budget and estimate are often interchangeable in the work of construction, with budget being the amount the contractor will incur as a cost, and estimate representing the total amount of revenue they expect to receive on the job. Estimates are normally customer-facing, while budgets are internal.
Each time you do a budget you should be trying to learn if the costs you estimated are going to be realistic. You may need to rework your estimates a few times to get the numbers you need for a job to make sense based on the revenue you can earn and the costs you will incur.
Construction Costs Types
In construction, costs are generally split into two primary categories: direct and indirect costs, for individual jobs. Direct costs are expenditures related to the physical construction, which include materials, labor, subcontractors, equipment, and other costs. On the other hand, indirect costs refer to expenses that aren’t tied to the actual construction activities, like administrative expenses, legal fees, and security.
- Direct Costs:
- Labor
- Materials
- Equipment
- Subcontractors
- Other
- Indirect Costs:
- Administrative Expense
- Legal
- Rent for temporary units
- Security
Components of Effective Cost Management
Think of your cost management system like a race car. You want to maximize the performance of each component for the car to be the fastest it can be. If you have new tires but your engine isn’t tuned right, you’re going to slow the whole car down. Your cost controls are like each of those major components and you’re trying to make sure you optimize each one to run as efficiently as possible so that the whole system runs smoothly.
As we walk through each of these cost controls, consider ways you can improve in each one. That could be improving relationships to gain reliability, finding alternative materials or suppliers to save costs, or even how timelines can be shortened to reduce general conditions.
Create Detailed Estimates at the Start
The original cost estimate for a job forms the foundation of the construction project’s budget. Your estimates should include the total costs associated with labor, materials, equipment, subcontracts, and other costs.
To make your estimates even more actionable, you can break these cost types down into cost codes to allow for better tracking. This makes it easy to create a database of historical project data that you can use to inform future estimates.
Potential Improvements:
- Consistent use of cost codes in the estimate.
- Create a project database that holds all your historical cost data.
Be Diligent in Job Costing
A detailed estimate lays the foundation for effective job costing, which is how you’re going to evaluate your effectiveness at staying within the budgeted cost of the project and improve future estimates. After each job, you’ll compare your actual costs against the original estimated costs to identify discrepancies. If you’ve been diligent about estimating and tracking everything under cost codes you can easily drill down into exactly where you went over budget (or under) and address the issue.
Potential Improvements:
- Be consistent in job costing during and after every job and correct cost overruns before they get out of hand.
- Use your job costing process to build more accurate cost estimates in the future.
- Make sure that you are capturing all project costs and associating them with the correct project.
Track Project Progress and Expenses Daily
The goal here is to check in every day on how a project’s costs are tracked against the project’s progress so you can make adjustments before there are excessive deviations from the budget. This is where things can get a bit more difficult because most construction businesses are trying to track costs and progress across several tools and paper logs. So the actual reporting of expenses may lag behind when they were incurred. Additionally, you also need a mechanism for forecasting what future costs and how those line up against the revenue you’ll be collecting.
Potential Improvements:
- Make sure expenses and income are being recorded as close to real-time as possible.
- Make sure your reporting is actionable, using cost codes for all expenses so you can see where your overruns are.
Capture Every Change Order
Change orders are almost always inevitable, but if you don’t have a good process for capturing and tracking them, your costs can quickly get out of hand. Make sure that all changes are documented, assessed for impact on the budget and project schedule, and communicated to all stakeholders.
Potential Improvements:
- Make sure your project management team is capturing all change orders that happen.
- Make sure every change order is tracked against the job’s budget.
Nurture Your Network of Subcontractors
As a general contractor, much of your cost is tied up in what you’re paying subcontractors, so your relationships with these individuals and your ability to manage them will be key to controlling costs. You’ll also want to make sure you have a streamlined workflow between your project management team and subs so any delays or changes needed to the construction plan can be addressed quickly and effectively.
Potential Improvements:
- Build a network of trusted subs who excel in their trades.
- Make sure you have open and clear communication channels with subcontractors.
- Be intentional about your relationships with subcontractors — you need them to do the job well and how you treat them matters.
When All Else Fails, Have a Backup Plan
Cost controls are meant to control and improve the way resources are used on a job, but it’s normal for the unexpected to happen in construction. You can only plan for so many potential risks and that’s why it’s important to have contingency plans and cost reserves as a piece of your budget. They provide a buffer against unforeseen expenses, changes in scope, or other surprises that can affect the project’s budget. Contingency reserves (cost reserves) should be a part of the initial budget and can help manage risks without compromising the project’s financial health.
Establish Cost Reserves for:- Unforeseen expenses
- Scope changes
- Project risks
- Warranty expense for the project
These backup reserves are an important part of risk management on a job and can protect you from the unexpected.
Construction Cost Management Software
Effective cost control hinges on the data you have available, and how close to real-time that data is. If you get information about unforeseen expenses too late, it makes it hard to take corrective measures to keep the project within budget.
While many construction companies still use spreadsheets to do the majority of their cost tracking, you may want to consider introducing some software that can handle job budgeting and accounting. Often, cloud-based software can do this the best because it removes the friction of VPNs and poor accessibility from the process of entering data.
Whatever you decide, the most important thing is that it enables you to get the most up-to-date and accurate data possible. That way you can address cost issues before they affect your bottom line.
Further Reading: Construction Accounting 101