The Project Manager’s Role in Project Profitability

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Project managers on major projects are responsible for overseeing and synchronizing a broad spectrum of activities and deliverables from initial planning to final delivery of the project.  The role of the project manager is truly the bedrock upon which the ambitions of the owner or client are ultimately realized.  It’s the most pivotal role that juggles the varying needs of project scope, schedule, budget, risk, quality, resources, procurement, and myriad other considerations.  It’s an onerous list of responsibilities that grows exponentially as project size increases.

To stack yet another key responsibility onto the list, the PM is also accountable for the profitability of the project.  Most project managers, however, push profitability to the back of the list since they’re most often flat out with coordinating the crews & contractors to get the work done, done safely, and ensuring the client is happy.  Then, if they have time, they’ll have a look at profits. 

Clearly, for any contractor, profitability can’t be demoted to an afterthought, as it’s the number one reason they’re in business.  Successful and growing contractors are those that are not only very adept at delivering projects successfully but also are very good with the business side as well – i.e. the money.  Since it’s not an option to compromise quality in favor of profit, project managers are accountable for both.  Being able to accomplish this balance requires a combination of upfront planning, ongoing oversight, and a project management system that provides the tools, data, and analysis capabilities to make their job more streamlined and productive.

With the right tools and practices in place, therefore, project managers can play a vital role in improving profits.  Here are just 4 of many practices we recommend for focusing the appropriate amount of attention on project profitability.

  1. Know your margins when estimating.
  2. Apply rigorous project controls practices
  3. Monitor profitability in real-time
  4. Use change orders to recoup unanticipated costs

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1. Know Your Margins When Estimating

When determining the contract price, estimators typically use a markup over cost to ensure sufficient profit is baked into the project.  It’s not uncommon, however, to mistake markup as profit margin.  Margin and markup are not the same and it’s important to understand the difference.  In simple terms, the margin is expressed as a percentage of total revenue while the markup is expressed as a percentage of the cost of goods sold. This means that estimators must factor in a higher markup to achieve the target margin. To get to a certain target margin, estimators need to consider the following formula:

Markup Percentage = Desired Margin / Cost of goods sold

Put in real numbers, here is the difference:

  • 10% margin = 11.1% markup
  • 20% margin = 25% markup
  • 30% margin – 42.9% markup
  • 40% margin = 66.7% markup
  • 50% margin = 100% markup

 

Account For All Project Costs in the Estimate

A key element of the estimate that is often overlooked is the non-billable overheads, administrative and indirect that will ultimately charge to the project.  While the focus is clearly on the direct project work that can be marked up and billed to the client, the other supporting activities must also be accounted for. 

Ensure The Labor Rates Are Fully Burdened

Labor costs can be very tricky to estimate, as there isn’t always a clear understanding of what rate to use for which trade on any activity.  It’s often defaulted as a blended rate across a similar trade class for any similar activity.  This is fine of course as long as:

  • The blended rate is fully burdened. Make sure the rate used includes salary plus labor burdens.
  • The blended rate accounts for variances. Not everyone gets paid the same salary, hourly, or burdens, so the blended rate used must account for the likely case scenario.  Because, once the project is underway, and real people are charging their time to the project, the actual costs incurred may end up pushing activities over budget, thereby eroding profitability.

2. Apply Rigorous Project Controls Practices

Profitability is calculated as, quite simply, revenue minus cost.  With the balance being what the contractor takes home as profit.  With just these two parameters, the only options for increasing profit are to increase revenue and to reduce cost.

In a competitive environment, there is often less wiggle room around the price (revenue) quoted to the customer, so the bigger variable contractors have to work with is their cost (we’ll talk about change orders a bit further down).  It’s not easy, of course, to just cut costs, since that can lead to other quality and delivery issues that defeat the purpose of the savings, and can end up cannibalizing the profits.  They can, however, control costs.  By controlling costs, this means that the costs that were budgeted should not be exceeded and should be even reduced where possible.

Project cost controls plays a significant role in maximizing profitability for construction contractors.  A few key elements of project cost controls that every contractor should be applying on a daily basis are:

  1. Capture Real Time Project Data. Having cost, hours and progress captured and automatically updated to the project manager’s dashboard is critical for making decisions and taking corrective action.
  2. Compare Budget versus Actual Cost. When the project budget is time-phased over the life of the project, it becomes straightforward to compare the planned budget at any point in time against the actual cost at the point in time. Any variations can trigger the project manager to investigate why, and make any adjustments.
  3. Measure Project Progress. For any projects with a duration of six months or more, it is important to continuously measure the physical progress made on the project. This can be measured in various ways, including installed quantities, rules of credit, hours burned, etc. This ultimately produces values of percent complete so that the project manager can factor that into the analysis of cost – typically expressed as Earned Value.
  4. Analyze Earned Value Management Metrics. Once progress is measured, and Earned Value is calculated, many further metrics can be gleaned, including cost-driven values such as Cost Variance, CPI, ETC and so forth. This triggers the project manager to know exactly where to focus their attention on areas which may be experiencing cost overruns or other issues.
  5. Submit Incremental Forecasts. Forecasting is an invaluable tool for anticipating potential cost issues, as well as revenue, schedule or resource issues. Forecasting acts as an early warning tool to know when things are going off track.

To apply project controls practices, a busy project manager needs the support of an integrated, centralized project management and project controls system.  A system takes on the burden of capturing costs, delivering dashboards and S-Curves, progress measurements, EVM analysis and much more.

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3. Monitor Profitability in Real Time

In the previous section, the idea of comparing budget versus actual cost was highlighted as a key element to project controls.  In that same line of thinking, comparing budgeted versus actual profit is also a critical practice.  For the purpose of simplicity, let’s use margin as an expression of profitability.  If, for example, the margin of a project is initially targeted at 14% and, after 9 months of an 18 month project, the actual margin is sitting at 8%, that would be cause for some alarm.  Unfortunately, it’s near impossible to rewind the clock several months to uncover what happened and how to recoup that margin.  So it becomes a onerous task to try to recover it, so mostly contractors are forced to just accept it as their loss.

If, on the other hand, the project manager had had visibility into the ongoing current profit margin on a daily basis, they would be able to identify exactly when margin started collapsing. And further, make appropriate adjustments to pull the margin back to where it should be.  This is the invaluable benefit of real-time analysis on projects.  When project managers are given up-to-date information, they can make decisions in the moment. They can be far more effective in righting any wrongs and making minor tweaks rather than costly major overhauls.

4. Use Change Orders to Recoup Profits

Change Orders are another key tool for project managers to recapture profitability.  While the initial proposed price for the project may have been subject to very slim margins, this is less often the case with change orders. Depending on the nature and source of the change order, project managers can very likely price out a change order at a much higher margin. 

It’s important to formalize the change order process to ensure that the client is provided the necessary budgetary details, and formally approves the change order. This also requires good cost management practices, communication, and data capture so that there are no potential areas for disputes or uncertainty.

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Project cost management software is designed to deliver a dedicated solution for managing and controlling all aspects of a construction project.  From project planning, project management, project controls, budgeting, forecasting, change orders, cost tracking, and much more. Having a software platform for all the project teams to access data in real-time, with built-in dashboards and analytics, is an indispensable solution to ensure best practices, standards, and, of course, maximum profitability.  

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