There are several different methods of cost estimating. In this article, we will explore the three core methodologies and when to use them.
Bottom - Up Estimating
Top-Down Estimating
Parametric Estimating
Bottom-Up Estimating
Bottom-up estimating, also referred to as first principles estimating, is the process of individually calculating the cost of each activity required to complete the project and summing these together to get the total project costs. We are building an estimate from the “bottom-up” or through the first principles.
Bottom-up estimating involved extensively reviewing the project scope, understanding exactly how the project will be delivered and then individually estimating each individual activity cost. Therefore, bottom-up estimating is the most accurate form of estimating but also takes the most time, resources, and skill. It is used when a cost estimate with a high level of certainty is needed. For example, when a contractor is submitting a tender for a fixed-price contract and needs price certainty to manage risk.
To produce a bottom-up estimate, we need to follow the following process:
1. Understand the project scope and decompose it into a series of individual activities
The first step in a bottom-up estimate is to thoroughly review the project scope. This means going through the project scope statement, drawings and specifications in detail.
The purpose of this is to develop a work breakdown structure. A work breakdown structure, or WBS for short, is a hierarchical decomposition of the project scope into the individual activities we need to complete to complete the project.
For example, if our project is to build a new swimming pool, we can break this scope down into different activities like excavation, paving and plumbing.
2. Develop the delivery methodology
The next step is to develop the delivery methodology. For each activity in our work breakdown structure, we need to know how we are going to complete it. Effectively, this means saying are we going to sub-contract it out to another company, or are we going to self-perform the works using our own individual labour, plant and materials.
3. Individually calculate the cost of each activity
Based on this delivery methodology, we then need to price the activity. If we have chosen to sub-contract the works, then we will need to get quotes from potential sub-contractors. If we have chosen to self-perform the work, then we’ll need to individually calculate the labour, plant and material costs, determine the overall quantum of work by doing a quantity take-off and come up with a production rate.
We will need to do this for each and every direct and indirect cost.
4. Sum the individual components together to calculate the total project costs
Now we have individually calculated the cost of each activity, the final step is to sum these all together. This will give us the total project cost.
Top-Down Estimating
Top-down estimating, as the name suggests, is the opposite of bottom-up estimating. Rather than building an estimate from the bottom-up, we estimate costs by looking at other similar projects. We assume that if two projects are similar in scope and nature, then the two projects will also cost the same to build.
Bottom-up estimating is also referred to as analogs or comparison estimating, it is quick and easy to do, but as you can imagine not nearly as accurate as a bottom-up estimate.
We use top-down estimating when we need a rough, order of magnitude, ball-park estimate. A top-down estimate would be appropriate during early project feasibility and development when we only need to roughly know costs to inform decision-making. On the other hand, a top-down estimate would not be appropriate for a fixed-fee construction contract.
To get our top-down estimate as accurate and useful as possible, the key is identifying projects that are as similar as possible to the one we are pricing. We will also need accurate project cost data. If we have multiple similar projects available, we can make our top-down estimate more accurate by taking an average.
Parametric Estimating
Parametric estimating is an adjustment we can make to a top-down estimate to increase accuracy. It involves adjusting a top-down estimate by a key parameter to make it suit our project.
For example, imagine we are trying to estimate the costs of a 50MW solar farm. We have data from two projects, one project is a 25MW solar farm and the other is a 110MW solar farm. We could convert each of these projects into a cost per MW by dividing the total project costs by the number of MW. Then, we can estimate the cost of our project by multiplying the average of the other two projects by 50.
Parametric estimating is more accurate than top-down estimating because we are making a top-down estimate more specific and relevant to our project. Parametric estimating is useful for similar applications as top-down estimating but also incredibly useful for reviewing a bottom-up estimate.
For example, if through a bottom-up estimate, we calculated the cost of pouring concrete as $100 per cubic meter, but on 5 other projects, our average cost of pouring concrete was $300 per cubic meter, it is highly likely our estimate is wrong. Therefore, parametric estimating is a very useful tool for reviewing bottom-up estimates.
Summary
In summary, bottom-up estimating is the most accurate but most effort while top-down estimating is the least accurate but least effort. Each estimating methodology has specific applications and uses and all of them are important techniques to understand and be able to use.
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