Protect your profits with proper estimating and preparing for the unknown.
Today on the Coachcast we discuss using a Profit contingency to help protect your profits.
Many of you have worked with contingencies before and know what they are typically used for. We see them on projects where parts have not been finalized yet and we carry $5K for wall coverings. I want you to use this same principle but for ourselves to protect our profits.
A few years ago when I was bidding my first project in St. Thomas, US Virgin Islands I had to put together the budget for travel. I hadn’t been working there yet so i had to research on the internet to put together the pricing which is easy enough. Since I hadn’t been doing any work there yet I included a Travel Contingency in my estimate to cover anything unknown that I haven’t encountered yet. It paid off, when we got into the project things were going fine but I was not aware that there was a high season and the hotel rates went up for half of the project. Then rental car rates went up as well. So now my travel costs went up over $200 per day over my original budgeted daily travel costs. Since I had added some contingency money to my estimate I was able to absorb these added costs without impacting the job profit.
We want to make sure we put these contingencies in to protect our profits. As Elite Contractors we put a priority on protecting profits so we want o make the right decisions and put the right policies in place to do that. Using estimate contingencies is a great way to help with that effort.
So to set these up just add them to the bottom of your estimating summary. You can have them add percentages of your General Conditions, subcontractors, labor, etc., whatever you feel is necessary to cover the risk of a particular project. I have my estimate summary set up with these line items all ready to go. I have Travel / Scope of Work / Team & Owner / Geography / Drawings already there and one for Other. This allows me to quickly go in and make adjustments. You can also use these to adjust your estimate down. For instance, if you are bidding a project with a repeat Owner you may want to adjust your General Conditions down some so you can just add a negative % in the Team & Owner line item.
When you set up your budgets on a project with Profit Contingencies these should be treated as separate line items on the budget. Unlike a typical line item, you don’t charge anything directly to your contingency line items. You use these contingencies as buckets to pull money out of to cover overages on your protected line items. Only use them for their intended purpose. Do not use a Travel Contingency to cover a scope gap, this will just skew your project results and allow you to make the same mistake again. If you have a scope gap let it show as a budget bust. At the end of the project the excess contingency will roll up to protect profits anyway so it will cover any busts on other line items.
Setting up and managing these contingencies properly is a great way to protect your profits on every project.
Take-Action Items
- Set up Profit contingency Line Items on your estimate summary and start using them
- Manage them as part of your line item budget but only as a bucket to cover your original line items
Outline:
Estimate Contingency
What:
- Small contingencies added to our estimates to protect against the unknown
Why:
- Protect profits
- Easy mitigation of risks associated with unknown parts of a project like location, drawings, travel, etc.
How:
- Add contingency line items to your estimate summary
- Change % of contingency based on project conditions
- Can be negative % for well-known project conditions
- Manage contingency as part of line item budget
- Use contingency items to replenish hits to regular line items
