W3_HERU_Contingency Project Budget

1.      Problem Definition

When estimating the cost for a project, product or other item or investment, there is always uncertainty as to the precise content of all items in the estimate, how work will be performed, what work conditions will be like when the project is executed and so on. These uncertainties are risks to the project. Some refer to these risks as "known-unknowns" because the estimator is aware of them, and based on past experience, can even estimate their probable costs. The estimated costs of the known-unknowns is referred to by cost estimators as cost contingency.

2.      Feasible Alternatives

AACE International, the Association for the Advancement of Cost engineering, has defined contingency as "An amount added to an estimate to allow for items, conditions, or events for which the state, occurrence, or effect is uncertain and that experience shows will likely result, in aggregate, in additional costs. Typically estimated using statistical analysis or judgment based on past asset or project experience.

In general, there are four classes of methods used to estimate contingency.

a.   Expert judgment

b.   Predetermined guidelines (with varying degrees of judgment and empiricism used)

c.  Simulation analysis (primarily risk analysis judgment incorporated in a simulation such as Monte-Carlo)

d.  Parametric Modeling (empirically-based algorithm, usually derived through regression analysis, with varying degrees of judgment used).

3.      Develop the outcomes for each alternative

Of the four methods, in order to complete the formulation of the proposed budget the results to be obtained is an estimate of the value of the price can be expected between low cost and high cost or one of them.

a. Expert judgment; Expert judgment involves consulting with human experts to use their experience and understanding of a proposed project to provide an estimate for the cost of the project.

b.  Predermined guidelines; The guidelines are used as a reference to estimate the price. basics in join empiriscism

c.  Simulation analysis; risk analysis is part of every decision we make. We are constantly faced with uncertainty, ambiguity, and variability. And even though we have unprecedented access to information, we can’t accurately predict the future. Monte Carlo simulation (also known as the Monte Carlo Method) lets you see all the possible outcomes of your decisions and assess the impact of risk, allowing for better decision making under uncertainty.

d. Parametric modeling; The algorithmic method involves the use of equations to perform software estimates. The equations are based on research and historical data and use such inputs as Source Lines Of Code (SLOC), number of functions to perform, and other cost drivers such as language, design methodology, skill-levels, risk assessments, etc.

4.    Acceptable Criteria

the method chosen should be consistent with the first principles of risk management in that the method must start with risk identification, and only then are the probable cost of those risks quantified. In best practice, the quantification will be probabilistic in nature (Monte-Carlo is a common method used for quantification).

5.      Analysis and comparison of the alternatives

Step by step to be taken as a measure of the proposed budget is the reference price is obtained from multiple sources. Of all the three categories of sources made ​​minimum cost, mean cost and maximum cost then simulated using Palisade @ Risk software. Below is an example calculation software in question.

 

6.      Select the preferred alternative

P5 to P95 estimate is a range that will be proposed to the budget, at Pertamina we usually use the P90.

7.      Performance Monitoring & Post Evaluation of Result

It is known that in order to propose a budget value, can be specified with a simulation analisys in this case we can see using the software @ Risk and analisys to create a simulation must have some reference sources for reference prices can be simulated.

Reference

Wikipedia. Cost contingency. Retrieved from :  http://en.wikipedia.org/wiki/Cost_contingency

Parametric Cost Estimating Handbook. Estimation Methodologies. Retrieved from : http://cost.jsc.nasa.gov/pcehhtml/pceh.htm

Qfinance. Analysis Using Monte Carlo Simulation. Retrieved from : http://www.qfinance.com/asset-management-checklists/analysis-using-monte-carlo-simulation

Palisade.  Monte Carlo Simulation. Retrivied from: http://www.palisade.com/risk/monte_carlo_simulation.asp