What is a Cost Estimate? Definition & Types | InvoiceOwl

Key Takeaways

01What is an Estimate?
02Learn the importance of cost estimation in project management.
03Learn the two types of cost estimates.
04Identify tools to help in cost estimation.

What is an Estimate?

A cost estimate is a statement or document that outlines the cost to complete a project. Most projects require a cost estimate to determine the resources required for completion. Contractors create estimates to predict the volume and prices of the resources, materials and labor required to complete a project, as well as bid on new businesses.

Table of Content

What is an Estimate?
What Is Cost Estimation in Project Management?
What Is an Estimate in Construction?
5 Levels of Construction Cost Estimation
Difference Between Cost Estimate and Budget?
Overview of Contractor Cost Estimate Process
What Makes a Good Project Cost Estimate?
Frequently Asked Questions
Conclusion

What Is Cost Estimation in Project Management?

Project managers try to get the best value for money, and putting together a budget that keeps costs at a minimum without compromising on a project's quality and scope can be challenging. Cost estimation in project management is the process of forecasting the cost associated with completing a project within a defined scope. Every stage in a project's life cycle is important. The planning stage, however, may be the most crucial as it defines the project's framework. For project managers to be effective in their roles, they need to accurately predict the scope, budget, and timeline for each project. Cost estimates in project management encapsulate all elements required for the project delivery, including materials, labor, and other expenses. Most organizations or clients decide whether to proceed with a project or adjust its scope after getting a rough estimate. Cost estimation is critical to any project as a poorly prepared project financial budget could result in unrealistic project expectations, incorrect asset allocation and ultimately, a failed project. So the clearer you are on the required project resources, the more likely you'll achieve the desired results.

What Is an Estimate in Construction?

An estimating construction costs are used to determine the resources and associated costs of any project. These costs are derived from the list of materials and the overall scope of work, so before issuing an estimate, a contractor must have a thorough knowledge of the volume of work required.

What are the two types of cost estimates?

According to the project management body of knowledge (PMBOK®), there are just two types of cost estimates: rough order of magnitude (ROM) and definitive estimate.

Rough order of magnitude estimate: This is a rough estimation usually made at the very early stage of a project, generally to get a ballpark figure enough to get a project started. Contractors and project managers use historical data from similar data or aggregate data from various related projects to determine the approximate cost of a project. The accuracy range is -25 percent to +75 percent of the actual cost.

Definitive estimate: A definitive estimate requires a well-laid out project scope and work breakdown structure and includes a detailed and itemized list of project activities and deliverables. It has an accuracy of around -5 percent to +10 percent, according to PMBOK®.

5 Levels of Construction Cost Estimation

There are five levels of estimates, according to the American Society of Professional Estimators. Each level provides more answers on the project's resource allocation and is designed to be more accurate than the last.

Level 1: This is also known as a preliminary or screening estimate, this estimate is critical at the project's planning stage and based on the project's objective using data from similar past projects. It's usually used for determining a project's feasibility or approval likelihood, not much else.

Level 2: Also called schematic design estimates, these are created from a project schematic design and offer a quantitative and practical approach to cost estimation. At this stage, the goal is to piece together the physical requirements of the project and the relationships of the components required to complete a project.

Level 3: Usually referred to as the design development estimate, this is a rough estimate based on the initial design once the schematic design requirements have been established.

Level 4: The next phase is also called the construction document estimate and is based on suggested blueprints and project specifications. This is usually the penultimate stage before bidding takes place, so there's the chance for slight changes, although the objectives of the project at this stage are much clearer.

Level 5: This is the contractor's final estimate and is also referred to as the bid estimate. This is the estimate presented to the client and encapsulates all available project data, including blueprints, material costs and project plans.

Difference Between Cost Estimate and Budget

While a cost estimate and budget are often used interchangeably, they are not the same. Simply put, a cost estimate is the total projected cost for a project, while a budget is what you are allowed to spend. A cost estimates factors in a variation of project likely costs while a budget is fixed. Whether a budget is more important than an estimate would depend on the organization. Most organizations require an estimate to decide whether a project's cost or timeframe aligns with their projections, but from a management standpoint, the importance of estimates is probably less than budget.

Overview of Contractor Cost Estimate Process

To submit an accurate estimate, most contractors follow a cost estimating process defined below:

Site Inspection: A site inspection is the first stage of the estimation process. While on the site, contractors can ask further questions regarding the project scope and delivery expectations. A site inspection would also help you identify potential issues and likely complications which can be prevented.

Requirement Analysis: After a site inspection, contractors establish the job requirements. It's a good idea to also define the project's risks, timeline, uniqueness or flexibility. At this level, contractors ensure they have a clear picture of the client's expectations which makes it easier for them to draw up a definitive estimate for the job.

Bid for the Job: Once you have a clear understanding of the total project scope, go ahead and create your bid. Ensure you highlight the cost of equipment, materials and other project expenses, so the client has the right perspective of your bid.

A site inspection is the first stage of the estimation process. While on the site, contractors can ask further questions regarding the project scope and delivery expectations. A site inspection would also help you identify potential issues and likely complications which can be prevented.

What Makes a Good Project Cost Estimate?

Here are a few criteria you can use to judge the likely success of your project estimate:

Accuracy: A project's cost estimate is only useful when it's accurate. Decide on which cost estimation technique is appropriate for the job and ensure to revise your estimate at various levels of the project before you submit your final bid.

Credibility: Using historical data from previous projects increases the credibility of your estimate. If you're working with a subcontractor, seek out their advice on their area of expertise for a more accurate estimate.

Documentation: One good way to prevent misunderstandings when sending estimates to potential clients is by documenting the project's assumptions. This helps keep you and your client on the same page when things change along the way.

Risk Identification: Professional contractors always have a plan for risks on their estimates. Use your professional judgment when faced with unpleasant surprises.

Verification: Before sending out your bid, ensure your calculations are accurate. Go over them one more time and if it isn't too much trouble, have someone else verify these calculations.

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Frequently Asked Questions

Cost estimating is the process of projecting the cash required to successfully complete a project. In construction, contractors create cost estimates to predict the volume and prices of the resources, materials and labor required to complete a project, as well as bid on new businesses.

A cost estimate must be accurate and credible. Contractors can assume that clients would most likely verify their claims, so it's important to document your projections in a professional yet simple manner. Also, a good estimate must identify a project's associated risks, and in some cases, a risk budget should be included in your estimate to cater to unexpected surprises.

According to the project management body of knowledge (PMBOK®), there are just two types of cost estimates: rough order of magnitude (ROM) and definitive estimate.

Estimates are an approximation of the project's cost and give the client an idea of what they are likely to spend on a project. Bids are more concrete and specify a fixed price value for the resources needed.

A contractor's estimate should be the best professional assessment of the project requirements and must include the cost of materials, labor, tools, and other resources required to deliver the project.

Conclusion

Creating estimates can be a long and tasking process, but these days, there are lots of reliable free contractor estimating software on the web that can help simplify the entire process. While old-school estimators still prefer the good-ole Microsoft Excel, applications like InvoiceOwl offer a preferred simplicity to estimating, suitable for entrepreneurs, contractors or anyone without any accounting experience. InvoiceOwl gives contractors an edge when seeking to create professional estimates in a short time. With InvoiceOwl, contractors can now bid for more projects, eradicate estimating errors and create estimates and invoices at lightning speed. Try InvoiceOwl FREE. No credit card required, cancel anytime.

What is an Estimate? Definition, Purpose, And Types