Project cost overruns

Major engineering projects can generate a good reputation for the consultants involved. They can also damage the image of the whole profession if things go wrong, and things most clearly go wrong when the final cost of the project is much higher than the initial estimate.

In theory this should be a random and infrequent occurence, particularly if consultants are as good as they claim to be. However a study by Flyvberg in 2005 showed that “Overrun is constant for the 70-year period covered by the study, estimates have not improved over time” (ref. 187 page 3).

Examples

Cost overruns can be large. For example, for large rail projects, cost overruns can range up to 44% and with forecast rail passengers over-estimated by over 105% (see 187 page 3). These figures must assume that everyone involved can agree on the definitions of costs and benefits, and on how to evaluate them.

Examples of past project overruns include the Sydney Opera House and the Channel Tunnel Project. The Sydney Opera House had cost overruns at 1400%, and produced an Opera House unsuitable for opera (see 187 page 7). For the Channel Tunnel project, the actual net present value of the project to the British economy was minus US$17.8 billion and the actual internal rate of return minus 14.45 percent. (A) study concluded that “The British Economy would have been better off had the Tunnel never been constructed.” (see 189). The 2012 Olympic Games in the UK had an original estimate of about £2.4bn; the final cost is estimated anywhere between £11bn and £24bn (see link 1 below, “the Guardian” newspaper April 2012).

Current and more recent projects which have experienced cost overruns include a couple of projects in Germany.

  • the new Berlin airport, Germany (original estimate Euro 2.4 billion, recent estimate Euro 4.7 billion (see link 2)
  • Hamburg’s Elbphilarmonie, Germany (original estimate Euro 77 million, recent estimate Euro 575 million (see link 3)

  Causes

The causes for increased costs can include:

  • mission creep
  • over-estimate of project benefits
  • under-estimate of project costs
  • unexpected technical problems

The reasons why these causes occur are different. Flyvbjerg et al (ref. 189) say that “The underlying reasons for all forecasting errors can usefully be grouped into three categories: delusions or honest mistakes; deceptions or strategic manipulation of information or processes; or bad luck”. (own emphasis). In (ref. 187) Flyvbjerg says that “Political-economic explanations and strategic misrepresentation account well for the systematic  underestimation  of  costs  and  overestimation  of  benefits  found  in  the  data” and that “Lawmakers, investors, and the public cannot trust information about costs, benefits, and risks of large infrastructure projects produced by promoters and planners of such projects” (187 page 8).

 What is not too surprising is that over-estimating benefits and under-estimating costs can often be deliberate, both by consultants and by their clients. After all, a consultant is under pressure to come up with the answer which the client wants.  The basic reasoning appears to be

 Underestimated costs  + Overestimated benefits =  Project approval (ref. 187 page 15)

 Solutions

One potential way around the problem is ‘reference class forecasting’ (see link 5). This ” consists  in  taking  a  so-called  “outside  view”  on  the particular project being forecast. The outside view is established on the basis of information from  a  class  of  similar  projects. ( ref, 187). Daniel Kahneman, Nobel Prize winner in economics, calls (the use of) reference class forecasting to de-bias estimates of costs and benefits, “the single most important piece of advice regarding how to increase accuracy in forecasting (see link 4)

 Also “Forecasts, peer reviews, and benchmarkings should be made available to the public as they are produced, including all relevant documentation. (ref. 187) (own emphasis)

Solutions can be avoided however. After all it is possible that decision-makers do not want transparency of information as it might show them to be wrong, reduce their decision-making power and lead to the loss of a preferred project.

References

187 – Flyvbjerg, “Policy and planning for large infrastructure projects, problems, causes and cures”, 2005, World Bank Policy Research Working Paper 3781

189 – Flyvbjerg et al “Delusion and deception in large infrastructure projects: two models for explaining and preventing executive disaster”, California Management Review vol. 51 no. 2, winter 2009

link 1 – the Guardian newspaper, April 4. 2012

link 2 – Berliner Morgenpost, August 16. 2012

link 3 – Der Spiegel, December 14. 2012

link 4 – Wikipedia, cost overrun

link 5 – Wikipedia, reference class forecasting

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About roadnotes

Robert Bartlett is an international consultant with over 30 years of professional experience as a highway and traffic engineer with leading companies and organisations in several countries, including Germany, China (Hong Kong), Qatar and the UK. Specialised in urban studies, transport and the use of GIS, research has included new ideas on subjects such as the study of social justice using GIS, the dimensions of vehicles, and comparative geometrics (highways and transport).
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One Response to Project cost overruns

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