Risk buffering (or risk hedging) is the creation of some reserve or buffer that can absorb the effects of the many accepted risks without jeopardizing the project’s successful delivery. The AACE® International Professional Guidance Document No. 02, GUIDE TO QUANTITATIVE RISK ANALYSIS (QRA) has identified four types of buffers that would usually exist when delivering capital projects. These include allowances, contingency, management reserve, and escalations.
The definition of those four buffer types as per the GUIDE TO QUANTITATIVE RISK ANALYSIS (QRA) professional guidance document is as follow:
Allowances: For estimating, resources are included in estimates to cover the cost of known but undefined requirements for an individual activity, work item, account, or sub‐account.
Contingency: 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 it is estimated using statistical analysis or judgment based on past asset or project experience. Contingency usually excludes 1) Major scope changes such as changes in end product specification, capacities, building sizes, and location of the asset or project; 2) Extraordinary events such as major strikes and natural disasters; 3) Management reserves, and 4) Escalation and currency effects. Some of the items, conditions, or events for which the state, occurrence, and/or effect is uncertain include, but are not limited to, planning and estimating errors and omissions, minor price fluctuations (other than general escalation), design developments, and changes within the scope, and variations in the market and environmental conditions. Contingency is generally included in most estimates and is expected to be expended.
Management Reserve: An amount added to an estimate to allow for discretionary management purposes outside of the project’s defined scope, as otherwise estimated. May include amounts that are within the defined scope, but for which management does not want to fund as contingency or that cannot be effectively managed using contingency.
Escalation: A provision in costs or prices for uncertain changes in technical, economic, and market conditions over time. Inflation (or deflation) is a component of escalation.
The above four buffer types will be part of the project’s budget baseline and need to be monitored, evaluated, and reported on. The reporting will provide details on the allocated funds for each buffer type and any consumption of those buffers to address the cost impact of accepted risks that have occurred.
Using a Project Management Information System (PMIS) like PMWeb, the organization can implement a formal process to monitor, evaluate and report the status of those buffers. The organization can decide on the level of control they want to exert on each buffer type. This will require having a separate cost breakdown structure (CBS) for each buffer type which can be further detailed into additional CBS levels to reflect the components of each buffer type.
PMWeb Budget module will be used to capture the details of the project’s baseline budget which is usually based on the approved project cost estimate. PMWeb allows the organization to generate the baseline budget from the PMWeb Estimate module for which it will be used to either create the project cost estimate using PMWeb Cost Database or import the cost estimate from MS Excel. The MS Excel file could also be exported from third-party cost estimating software applications used to create the project cost estimate.
Similar to other PMWeb modules, the attachment tab will be used to attach all supportive documents used in creating the project budget. It is highly recommended that all supportive documents are uploaded and stored into the PMWeb document management repository under a folder that will be titled Project Budget. In addition, links to other PMWeb records like meeting minutes among others as well as imported MS Outlook emails be linked to the project budget form.
To ensure the formal review and approval of the project budget, a workflow will be assigned to the budget form. This will enforce the needed accountability in submitting, reviewing, and approving the project baseline budget.
All usages of allowances, contingency, management reserve, and escalations will be managed using the PMWeb Budget Request module. The sum value of all funds transfers will always equal zero as the fund transfer will subtract the buffer amount to be transferred from the relevant buffer type and add the same amount to the cost center level that needs to be adjusted. For example, assume there is a need to US$ 50,000 from contingency to concrete works, a budget request will be created where it shows a positive US$ 50,000 for “03-030000 Concrete” and negative US$ 50,000 for “05-005000 Contingency”.
Similar to the budget form, supportive documents can be attached as well as a workflow can be assigned to enforce formal review and approval of each adjustment as well as incorporate the approval authority levels for those adjustments.
Using PMWeb BI report writer, a report will be created to capture the details of all buffer transfers. The report will include a table that will include details of all allowances, contingency, management reserve, and escalations transfers. The report will also include five donut visuals that will summarize the buffers by type. Each donut will show the amount transferred to date in “Red” and the balanced buffer in “Green” along with the dollar and percent values for amounts transferred and balance amount. In addition, each donut will include the total amount of each buffer type. The report also includes a filter to enable viewing the buffer status data for a single project, program, projects portfolio, or all projects.
About the Author
Bassam Samman, PMP, PSP, EVP, GPM is a Senior Project Management Consultant with more than 35-year service record providing project management and controls services to over 100 projects with a total value over the US $5 Billion. Those projects included Commercial, Residential, Education, and Healthcare Buildings and Infrastructure, Entertainment and Shopping Malls, Oil and Gas Plants and Refineries, Telecommunication, and Information Technology projects. He is thoroughly experienced in complete project management including project management control systems, computerized project control software, claims analysis/prevention, risk analysis/management (contingency planning), design, supervision, training, and business development.
Bassam is a frequent speaker on topics relating to Project Management, Strategic Project Management, and Project Management Personal Skills. Over the past 35 years, he has lectured at more than 350 events and courses at different locations in the Middle East, North Africa, Europe, and South America. He has written more than 250 articles on project management and project management information systems that were featured in international and regional magazines and newspapers. He is a co-founder of the Project Management Institute- Arabian Gulf Chapter (PMI-AGC) and has served on its board of directors for more than 6 years. He is a certified Project Management Professional (PMP) from the Project Management Institute (PMI), a certified Planning and Scheduling Professional (PSP), and Earned Value Professional (EVP) from the American Association of Cost Engineers (AACE) and Green Project Management (GPM).
Bassam holds a Masters in Engineering Administration (Construction Management) with Faculty Commendation, George Washington University, Washington, D.C., USA, and Bachelor in Civil Engineering – Kuwait University, Kuwait and has attended many executive management programs at Harvard Business School, Boston, USA and London Business School, London, UK.