Fixed-Cost vs. Cost-Plus
How construction pricing strategies affect your project, and pocket.
There can be a bit of muddy water to wade through when receiving estimates from contractors for your home’s project. Each company has unique ways of presenting information and compiling their costs. Navigating this can be a headache, considering most purchases we make in our day have a pre-determined cost/fee at the time of purchase. Ambiguity in the pricing of a construction project may come from ambiguity in the scope of the project, but often the real answer is tricky to make out. Let’s help clear this all up.
Cost-Plus.
One of the most common pricing structures you see today for a construction estimate/quote is some form of Cost-Plus. Different terminology may be used, like Time & Materials (T&M), but the base structure is the same.
Cost - The cost of the labor and materials consumed on your project.
Plus - A percentage of the cost, or a set fee/rate
it gets muddy after thatOften, additional fees/percentages are tacked onto this method, within the “Cost”. For instance: A carpenter is billed at $75 per hour on a project, with 20% added to the total cost. However, the carpenter’s cost may not be $75 to the contractor, it’s lower.
we like to call this Cost-Plus-Plus.For contractors
+ Quick, easy, and relatively low on risk. The estimate doesn’t have to be detailed or time consuming because the risk is passed along to the client.
- Cash-flow is hard to gauge internally for the business, and the rate/fee often has to be lower due to the low risk
For home-owners
+ Final cost could be lower than the estimate, and the rate/fee could be lower than other pricing structures
- Risk of cost over-runs is held by them instead of the contractor. There is little incentive for the contractor(s) to get the project done faster.
But...If the home-owner is not knowledgeable on the typical cost for the services they are asking for, the “advantage” of the potential cost being lower can be used as a selling point, while actually being used as a crutch to keep an estimate low, despite the contractor knowing the actual, final cost will likely be higher. When the cost climbs, it can be excused with a variety of reasons. This can be 100% true, or misleading. There are definitely unknowns in construction, every house and situation is different.
The answer is often somewhere in the middle.
its muddy.Fixed Cost.
More likely to be called Lump-Sum, it’s the way nearly all our purchases are made in our day. In construction it can also be called a “Bid,” but that can be misleading because a Bid is just a part of a bidding process, eg a Cost-Plus Bid can be made.
At Principle Homes we call Lump-Sum price structures “Fixed-Cost” because Lump-Sum sounds like you are paying all at once, and usually construction costs are paid in “installments”, “progress payments,” or “draws”.
Fixed-Cost is pretty simple to describe: it’s the cost of your scope of work. All costs, taxes, and fees are consolidated into one number.
For contractors
+ Cash-flow can be planned internally for the business, and potential profit can be higher
- Risk of cost over-runs is mostly kept on the contractor. Estimation and planning are critical, and more involved.
For home-owners
+ Risk is low. Final cost is known, the scope of work and duration is more clear. There is incentive for the contractor(s) to get done with their work sooner.
- Cost may be higher, project development and planning may take longer.
Like we said, in construction there can still be unknowns like material costs rising throughout the project, damage/poor-workmanship inside a structure that is exposed during demolition, weather delays, or more. There are a variety of ways to capture this risk financially, like a Contingency Fund, for unplanned circumstances so that the project can stay steady.
Costs can be higher in Fixed-Cost structures, due to the risk for the companies performing the work. Sub-contractors and General Contractors tend to estimate a little higher in cost to cover the risk.
Our thoughts.
We default to Fixed-Cost. Simply put: we think it’s better for our clients and it’s better for us. We know people want to plan their lives; we want to plan our business too. Most home-owners want to know where they will end up cost-wise, and when. In fact, we haven’t met anyone who doesn’t.
Our process was built thoughtfully, and diligently to accommodate the demands that fixed-cost structures place on us. We take the time to figure out details ahead of time, while being flexible along the way for changing circumstances on the job-site.
Renovation doesn’t mean it has to be unpredictable or unplanned. Leveraging expertise, experience, and time to detail out a job can lead to confident construction for you and for us. Knowing when we are going to be done with a project is important to us too, and our next clients that are waiting for their project to start.
Take-aways.
When considering a project for your home, and vetting who you are going to have do the project, it is important to keep all of this in mind:
A Fixed-Cost estimate and a Cost-Plus estimate are likely going to be different, even if the scope of work is exactly the same for the two.
Comparing two estimates from separate pricing structures is not an apples-to-apples comparison.
Make sure it is clear to you what pricing structure you are reviewing