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Managing Costs: The 411 on Organizing Your Construction Project

You remember the time, back in the day before 2008 when the construction pipeline was flush with major renovations and new construction for both senior living and health care providers?

Then the building boom went bust with the great recession, followed by the one-two punch of health care reform and reimbursement cuts. The pipeline slowed to a drizzle as budgets were slashed and access to capital dried up. Projects were either put on hold or reduced in scope.

Now that the economy is recovering, albeit more slowly than desired, hospitals and senior living organizations are once again considering shelved capital projects. With rapidly changing medical technology, growing populations in certain markets─particularly seniors─and aging physical plants, the pipeline is gradually filling up for both sectors.

However, just because there are compelling reasons to jump start new projects, the philanthropic and equity landscape still isn't what it once was and most organizations do not have an abundance of capital to build to their hearts’ desire. Thus, it is more imperative than ever to keep costs down when contemplating renovation, expansion or replacement facility projects. Executives need to have strategies in place for managing capital project costs.
 
Strategies for Successful and Affordable Projects

Linking the capital project plan with the strategic plan is the important first stage that will ensure the project will meet the organization’s long-term needs. The strategic planning process is critical in setting goals, identifying needs versus wants, setting priorities and, particularly for nonprofits, obtaining stakeholder buy-in (e.g., medical staff, employees, board members, volunteers, patients/residents and members of the community). This document sets measurable guiding principles upfront with clear accountabilities. 
 
Construction projects can be complex and many providers lack the internal resources to plan a project on their own. Fortunately, experts in both financing and project management are available to assist in this process and getting these individuals on board early in the process can mean the difference between a successful project and a poorly managed one. These experts will work hand in hand with an organization’s leadership to ensure that the project runs as smoothly as possible and that target dates, budgets and expectations are met.1
 
Carefully managing the design and development process is essential. Poor execution results in unnecessary delays, additional costs and confusion. Excessive disorganization can and does jeopardize project financing. Ultimately, it’s the senior executive or owner who is responsible for project implementation, management and completion.2


For senior living, developer involvement may create
additional risk for senior housing projects since the developer/architect
is incentivized to deliver as large of a project as possible
without regards to economic feasibility.


Ten Steps to a Successful Project

What are the best practices for mitigating risks when contemplating a renovation, expansion or replacement facility? Here are 10 action steps that will empower the senior executive or owner to get the construction project off to a successful start:

  1. Assemble your project team. No doubt a sizable project will require a sizable commitment of internal resources. Professionals are there to help alleviate the load.  It is not uncommon for projects to become stalled because of an incomplete project team.  Be realistic in estimating the ability, experience and time needed to develop and manage an effective process.
  2. Prepare a complete budget early in the process. The first task is to determine how much the organization can afford. This requires coordination between financier and project manager. It is early in the process, so budgeting for unknowns, contingencies and escalations is important. The key to managing costs is to focus on total project costs. Project cost is not the same as construction cost, which represents 50% to 70% of the total expense. Often those involved in the project underestimate the total cost by focusing solely on the construction estimate and undervaluing other costs that will come into play throughout the life of the project.
  3. Understand your project’s cash flow. The organization will have significant cash outlays during the preconstruction period for design/engineering fees, estimating services, other consultants, land acquisition in some cases, etc. How these costs are paid for can have an impact on financing. Preparing a project cash flow analysis and understanding when funds will be required are important for all the project team members.
  4. Clearly define the project scope and stick to it. Often, small projects mushroom into big projects with or without consideration of debt capacity to finance the project or awareness of how the project will impact the organization’s credit profile. Start with a space program, a document that identifies the spaces and functions within your facility, and be sure to adequately understand the difference between wants and needs for your organization. Use alternates to identify wish list items or future phases that are outside of the project scope but desirable if costs are lower than expected or other sources of capital materialize, such as philanthropy.
  5. Understand how project phases will impact the schedule and budget. Many projects, especially renovation projects, cannot have certain parts of construction occurring at the same time because of constraints on the project site and/or operational needs that require one aspect of the project be complete before another can begin. This can impact the availability and cost of financing. More importantly, it can impact on-going operations.
  6. Put together a funding plan first. Do not let the design process get ahead of finance. The core team examines the financing options with the lowest cost of capital available. Markets change, funding options change and interest rates change. The financing structure being used may have special requirements that could impact design and how architects and contractors are selected.  Fees associated with several financing options need to be incorporated into the project budget and constraints on the construction budget must be incorporated into the programming and master planning discussions with stakeholders.
  7. Get a realistic construction estimate and update it regularly.  The estimate will evolve as the project moves from concept phase to schematic design to design development. Your project manager should identify key dates during the process when estimates will be updated and who will provide the estimates. Contrary to conventional wisdom, it isn’t the architect. While architects are a pivotal part of the team, they are working in the detail of the design process and may not be in the best position to provide a true market place estimate of your project’s construction cost.  Professionals who provide cost estimates as part of their professional services should be consulted at the schematic design and design development phases.
  8. Create a comprehensive project schedule. The schedule should recognize all the elements that could impact a project (finance, planning, design, permitting, construction, regulatory approval, move-in and start-up). Contingencies need to be incorporated into the schedule. Generally, a borrower can’t close on a financing until project bids are in, contracts are finalized and performance and payment bonds are in place. The schedule will outline the process for getting to bid compilation and a guaranteed maximum price (GMP), so the financing can close as well.
  9. Determine the right delivery method for your project based on the needs of your project and your organization’s risk tolerance.  The financing structure (bonds, USDA, HUD/FHA) can impact what project delivery method can be used to build the project. Methods include: design/bid/build, design/build, construction manager at risk, construction manager agency services and many hybrids of each of these. Each method has distinct pros and cons. Your project manager can help you understand the differences and determine which method will align with your financing, project and organizational needs.
  10. Establish your bid process. The methodology for bidding out the project and the number of bid packages used can impact pricing quality as well as the amount of time between bidding the project and closing on the financing. Understand the bid process that best supports your financing requirements and your project delivery method.

 

    For hospitals and senior living organizations, renovating and expanding are necessary to stay competitive and to meet consumer needs. Each construction project, however, will present new found challenges, with uncertainties in the health care sector and the economy placing even greater burdens on providers with strained budgets. Having an integrated project team working together and following these strategies to build smarter will help providers manage total project costs. 

    1 “Strategies for Managing Hospital Construction Costs.” Robert Fromberg, editor. Healthcare Financial Management Association. November 2008.
    2 “Managing Construction Costs.” Lee Ann Jarousse. H&HN. March 2012.

     

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    Kyal KlawitterKyal Klawitter is a project manager with Walker & Associates, a health care project management service firm. He may be reached at kklawitter@walkerus.com.

     

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