QSM556

COST INDICES
By Puan Sarah Mazhar Iqbal Khan

QSM 556 Construction Economics II

1

Introduction
 Sources of Cost data are usually from completed

projects thus make it a historical data.  When these data are used to prepare cost plans or estimates, this information has to be adjusted using indices.  The index numbers are used to update the information of historical cost to the current value or to forecast price trend and future cost.

Thus, Cost Data & Cost Indices are interconnected!

Historical Cost Data

Current value/updated cost data
Cost Indices

a) Cost Planning
 Forms of cost planning: approximate estimate, cost

plan, cost of element, total project cost.
 Requires wide range of historical cost data.  By using indices, updated cost data can be apply to produce an accurate cost planning.

Quick Ex 1:
 An office was constructed in 2007 at RM 2,200.00/m2

GFA. Another new office will be constructed in the middle of 2010. Calculate the new rate and the percentage in the change of rate if the current index given is 224 and the base index is 194. Other factors remain unchanged.
Formula: New Price/rate (current)= Base Price X Current Index Base Index

Answer:
New Rate (current) : RM 2, 200.00 /m2 GFA X 224 194

: RM 2, 540. 21/m2 GFA
% Index Change: 224- 194 X 100 194 : 15.46%

% Change in Price : 2, 540.21 – 2, 200 X 100 : 15.46 % 2, 200

Quick Ex 2:
 A school was constructed in 2006 at RM 1,600.00/m2

GFA. Another new school will be constructed in the early of 2010. Calculate the new rate and the percentage in the change of rate if the current index given is 215 and the base index is 180. Other factors remain unchanged.

What is the formula??

Answer:
New Rate (current) : RM 1, 600.00 /m2 GFA X 214 180

: RM 1, 902.22/m2 GFA
% Index Change: 214- 180 X 100 180 : 18.89%

% Change in Price : 1,902.22 – 1, 600 1,600

X 100 : 18.89 %

b) Prediction
 The pattern or trend of the

Index
160 140 120 100 80 60 40 20 0 2005 2006 2007 2008 2009 2010 2011

current index may be extended to a certain date in near future. i.e. for projects 1 or 2 years ahead  HOWEVER, the prediction has to be done cautiously.  Prediction can be accurate when market condition and price are stable.  Less reliable when prediction are made for a longer period due to inflation of rate.

c) Adjustments to price fluctuation
 Is used to calculate the  I.e.:-

increase in the construction cost for contracts that consist FLUCTUATION CLAUSE.  Contract that provides for the increase in the cost of the contractor’s resources like materials, labour wages, etc.

(find standard form that allow this)

i.e. evaluate the increase or reduction in cost of 15 materials to the contractor since the tender date to avoid loss to the contractor

d) Price comparison
 The cost of different materials
600

and processes does not change at the same fixed rate.
 To

500 400 300 200 Ready Mix Concrete
Cement

identify when a component appears to be a better proposition than another

 Therefore, indices can be

used to measure such changes and observe changes in cost between components at a stipulated duration.

100 0
2007 2008 2009 2010

e) Evaluation of market trend/condition
 

To forecast the tender price Market condition will affect the price charged to the client

Trend of indices might not be the same as cost index, e.g. cost of material increases but due to lack of jobs, price may be competitive

c) Cost Index

Is an input index that measures changes over time in resource costs such as labour, plant, material
Cost for CONTRACTORS i.e.: Measures the changes in cost which is spent by the contractor.

COST TO CONTRACTOR!

The cost index can be prepared for the total cost of building or type of building to reflect general increase in cost. Location is also a factor that effect cost index

c) Cost Index
 HOWEVER it is difficult to apply cost index to reflect total

cost of building due to numerous methods of construction, variety of materials used and types of building. (except for some of government project-e.g: Schools)  Application is easier when cost index is in the forms of element: i.e.: concrete work, substructure, or specific materials i.e.: cement, sand, aggregate, etc.  Sources? : Department of Statistics, Malaysia- produced monthly: a) Special Release 1 for Civil Engineering Work b) Special Release 2 for Building and Structural Works

http://www.statistics.gov.my

Cost Index ------------- Price Index

Cost incurred during construction

Price for the completed building

a) Price Index
 Also known as Tender Price Index!

 The most common form of index used by the quantity

surveyor. (that works with QS firms)  The best index which should be used by QS because the client is most interested in how much he has to pay to the contractor .

Amount to be paid by CLEINT!
 The main uses of this index are to update historical cost data

for estimating purposes.  Factors like building cost, market condition, profit and price fluctuations is included in the preparation of price index. (do diagram)

b) Price Index
 Manage & produce by PWD- produced for standard

government buildings once every six months.
Cost /m2 for Building Construction, 2004 & 2007, PWD
Year 1/ 2003 2/ 2003 1/ 2004 2/ 2004 1/ 2005 2/ 2005 Tender Price Index 249.97 246.81 243.69 288.59 312.09 312.56

1/ 2006
2/ 2006 1/ 2007

393.64
412.62 415.44

b)Location Index
 Used to adjust the building cost according to its

location:
Region Locality Factor A 1.1134 B 1.0652 C 1.000
[C=

D 1.0811
KL,Selangor,

E 1.0582
N.S,

F 1.0580

[A=Perak,Kedah,Perlis], [B=Perak], [E=Pahang], [F=Kelantan,T’ganu]

Melaka],[D=Johor],

 This index is gathered from the tender price index.  E.g.: The total cost for a 2 storey office building in

Kuala Lumpur will be different from a similar building in Pahang.

d) Maintenance Index
 Is an output index that measures changes in the cost for maintenance works only. No such index is

prepared in Malaysia

a) Cost Index
 Index for resources like plant, material, and labour.  The average index can only be prepared if cost of each

resource of a ‘typical building’ is monitored over time  Construction of a simple index for cost of a brick wall Cost per square meter of wall:
Base Year £ Bricks Mortar Labour Average Index 20 2 8 138.34 Current £ 28 3 10 /3 140 150 125 415 Index
Index on individual element

a) Cost Index
 However- no account has been taken of the fact that

bricks have more effect on the cost of a brick wall.  All the three sources was given an equal status.  Thus if very rapid rise in cost of one of the resources, the index will be uneven.  To overcome this- resources need to be ‘weighted’ accordance to their importance:
Index Bricks 140 Base Year Weighting 20 Extension 2,800

Mortar
Labour Average Index:

150
125 136.67

2
8 /30

300
1,000 4,100

Construction of Cost Index
Materials
Published Source the most reliable

Index per element

Weighting Average?

Labour

Types of labour? Working Hours? Paid Holidays? Insurances,

Weighting Average?

Plant

Hiring rates?

Weighting Average?

Final Index-change in cost in time for the typical building chosen

Weighted Again (for total building cost)

Total

Importance points about cost index:
 What is the cost index is actually measuring? It measures

the change in the cost of resources to a contractor for a ‘typical building’. the client must pay building

 It does not directly measures the change in in the price  It does not measure the change in cost of specific

 Although resources for even ‘typical building’ will not have

the exactly same resources, but the main resources are usually very similar.

 Suitable for identifying trends in resource costs.

b) Tender Price Index
Introduction:
 Indicates tender price of building works.

 Compiled by comparing tender rates from acceptable tenders

with Base Schedule Rates

 Measures changes in materials, labour and plant, and the

influence of economic conditions operating at the time of the tender

 More useful in updating prices compared to cost indices because:

a) TPI considers price to client actual amount he should pay for the building not building construction cost only b) TPI measures economic market trend/market conditions e.g. cost increases but price may remains the same or reduces due to competition

b) Tender Price Index
 Directly relevant to Quantity surveyor that provides service

for client. (not for QS that will works with contractors)
 Why TPI and not CI? Because cost index takes no account

of the tendering market. (tendering market: how many projects that are available to enter for tender?- will influence the competitiveness and the pricing of profits)
 The source? The tender documents itself (priced tenders

by contractors)
 By monitoring the tendering markets, more useful to client

in updating prices that suite his budget.

Construction of TPI

• •

Based on priced BQ of successful tenderer :i.e. contract document. Not final account figure because • Has to wait 2/3 years for completion therefore • Limited application • Unreliable result • Does not reflect the price level at the completed date • Tender price = price at the time of the tender close • Purpose is to predict tender figure When to construct TPI • Preferable immediately after the contract is signed • JKR – within 1 month after the contract is signed JKR/ISM – 80 price indices are considered reliable samples to compile average index (TPI) To prepare quarterly i.e. every 3 months or half yearly

Preparation of TPI

Projects of new building works tendered for competitively in the form of Bills of Quantities under conventional contractual arrangement are used as samples. Housing projects, Civil Engineering Works, Mechanical and Electrical Works are not included in the samples. Random samples from around peninsular Malaysia, includes samples from both private and public sectors. Bills of Quantities of selected new building projects are repriced at a Base Level (Base Schedule – JKR Schedule Of Rates For Lump Sum Tenders) and the re-priced amount compared to the actual tender amount to produce a Project Index.

• • •

Sampling procedure for TPI
 Measured works = Contract Sum Less Non-measured

works(prelim, PC Sum, Prov Sum, Profit and Attendance, Contingencies).
 BQ consists of thousands of measured works – consider

only a small number of items, only those financially significant items.
 Items should be taken or selected in descending order of

value for every section or element.
 Priority given to most expensive items, the followed by

less expensive items.

Index for a particular project
Contractor 1 Contractor 2 QS for Client

Priced BQ
Each sectiontake the largest value items until a total of 25%

Obtain index for every element

Priced BQ using Base schedule of prices

Cost and Current Index Increase / decrease in cost to the client within the current tendering market

Cost

Average Index for publication

Up to 80 priced tender
Index by average

Current Index Increase / decrease in cost to the client within the current tendering market

The formula
The TPI for a period is the geometric mean of the project indices of all samples for that period

(A) (M)
where (A) is number of samples

(M)

is product value of all indices of the samples

Uses of TPI
1.

Cost planning may be improved by bringing the cost of known projects and historical data to a common level for comparison purposes using the index. It can be used to set realistic target cost and cost limits. The individual TPI for the project can be used to evaluate specific price determinants such as location, building type, method of construction, size of contract or length of contract.

2. 3.

Uses of TPI
4.

The index of individual project will indicate the price level against the norm and therefore the keenness. It indicates the effectiveness of cost planning, e.g. if the project has a low key index compared to the norm, and its price level is well above the cost limit, then it has either been badly cost planned or the cost limit was inadequate or both.

5.

Advantages of TPI
1.

It measures the changes of project over time, taking into account market conditions in addition to the change in cost to the contractor.

2.
3. 4.

Simple to operate once a base schedule of prices has been obtained.
It allows comparison for a specific project with national or regional building price trend. It allows relationship between the market for buildings of different function and locality to be plotted.

Problems associated with TPI
1.

A large number of projects are required for each index. It is suggested at least 80 are required for a suitable sample. Very few organizations have access to this number of projects and therefore cannot prepare their own index by this method. The index relies heavily on the base year schedule which will be regularly revised to take into account new products, new measurement. This is time consuming and costly task. Lack of projects at any one time results the average index rely on unbalanced sample containing more jobs of one particular functions and location. This may lead to error in the trend plotted.

2.

3.

Factors to be considered include in the construction of an index
 Items included in the index
Items that are selected must be readily achieve the purpose of the index, adequately representing the type of work they are trying to describe. It is necessary to select items that adequately measure the changes that are likely to occur, and items with long utilization life span.

 Weighting of items
Items in the index must be weighted in accordance with their proportional importance.

Factors to be considered include in the construction of an index
 Which Index?
Identify the purpose of the index e.g. building cost index measures costs to contractor whereas tender price index measures cost to client, thus includes the contractor’s profit while building cost index does not include such allowances.
Any index based upon a particular form of construction using a dominant form of material, or combination of components cannot be relied upon to form any realistic assessment other than for that category of work.

Factors to be considered include in the construction of an index
• Base year
A typical year with no unusual fluctuations and events should be chosen as the base year. The selection of a sound base year is important so that allowance for the increases or decreases may be soundly based for the subsequent years.

• Method of construction
One common method relies on pricing the same items from a typical bill of quantities. These same items are then re-priced at some future date. An index is produced that expresses how the same items have changed in price during the period under examination. The more complex indices can be based on complex mathematical formulae and require computers to process the data.

a) Based on past data
 Indices are constructed based on past data. They are

projected in the future with the assumption that the past trends will largely continue in the future. The projection can be wrong if the trends of price movement changes drastically.

b) Composition
 The composition of the index is based upon a

representative samples or combination of components. If the composition do not reflect the location, or becomes outdated, or very unique project, then it will not reflect the price movement accurately.

c) Components outside the index
 Where certain importance materials and components which are

not included in the index, but used in the project with give significant impact in price and this will affect the overall accuracy of using the index. In this situations

d) Substitutes and obsolescence
 Ideally, to make accurate and realistic assessments for the

various components in the index the same item, the same quantity and common source should be used. However, problem can arise where an original significant component ceases to be used or cannot be used any longer (e.g. asbestos) there will be a need to substitute an alternative in its place, but this may give rise to inaccuracies as we are no longer comparing the same components.

e)Taste and fashion
Indices that remain unchanged in content over a long period of time are likely to be subject to inaccuracy due to changes in taste and fashion that alter the mix and extent of items in the index. The content of the index should be reviewed at reasonable intervals to judge whether the balance of items as originally established remains valid at a later date.

f) Human error
Where information is collected from a variety of sources using several people there is always the possibility of errors in calculations and false submissions, produced either innocently or consciously.

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