3.5 Progress Payments & Cost Control

Progress Payments & Cost Control

During the execution phase of a construction project, the Construction Manager shifts from budget creation to active cost control. The goal is to ensure that the owner only pays for work that has been properly completed, to protect the owner from contractor default, and to manage changes to the contract sum.

The Schedule of Values (SOV)

Before the first progress payment can be made, the contractor must submit a Schedule of Values (SOV) for the CM's approval. The SOV is a detailed breakdown of the total contract sum, allocating a specific dollar value to various portions of the work (e.g., site prep, concrete foundation, structural steel, roofing).

The SOV serves as the fundamental baseline for evaluating the contractor's monthly payment applications.

Beware of Front-Loading

When reviewing the SOV, the CM must be vigilant against front-loading. This occurs when a contractor artificially inflates the value of early-stage activities (like mobilization or site clearing) while under-valuing later activities (like finishes or commissioning).

• The Risk: If a project is front-loaded, the owner pays out more money than the physical work is worth early on. If the contractor subsequently defaults or walks off the job, the owner is "upside-down" on the contract and will not have enough remaining funds to hire a replacement contractor to finish the work.

Payment Applications

In most commercial construction projects, contractors submit a monthly payment application (often using standard forms like the AIA G702 and G703). The payment process typically follows these steps:

1. Pencil Requisition: The contractor submits a draft payment application ("pencil draft") near the end of the month.
2. Site Walk: The CM and the architect walk the site with the contractor to verify that the physical progress matches the percentages claimed on the draft application.
3. Revisions: The CM negotiates adjustments if they believe the contractor is over-billing for a specific line item.
4. Formal Submission: The contractor submits the finalized, signed, and notarized payment application.
5. Certification: The architect and CM certify the application, authorizing the owner to release funds.

Stored Materials

Contractors often request payment for materials that have been purchased and delivered to the site but not yet installed (e.g., custom structural steel or large air handling units). CMs typically approve payment for stored materials if the contractor provides invoices proving purchase, ensures the materials are securely stored on-site, and provides proof of insurance for the materials.

Retainage (Retention)

Retainage is a common risk management practice where the owner withholds a percentage of each progress payment (typically 5% to 10%) until the project reaches substantial completion.

Purpose of Retainage:

• Provides a financial incentive for the contractor to finish the project and complete the punch list.
• Provides a pool of funds the owner can use to correct defective work if the contractor fails to do so.
• Protects the owner against liens filed by unpaid subcontractors.

As the project nears completion, the retainage amount may be reduced. Upon final completion and sign-off, the accumulated retainage is released to the contractor in the final payment.

Change Order Management

A Change Order is a written amendment to the construction contract that alters the scope of work, the contract sum, or the contract time. Change orders are the primary mechanism by which budgets increase during construction. Managing them rigorously is the essence of cost control.

Causes of Change Orders

• Owner-directed changes: The owner decides to add or remove scope (e.g., upgrading finishes, adding a room).
• Design errors or omissions: Conflicts in the drawings or missing details that require additional work to resolve.
• Unforeseen conditions: Differing site conditions, such as encountering solid rock during excavation when the soil report indicated clay.
• Regulatory changes: New building codes enacted after the contract was signed.

The Change Management Process

1. Identification: A potential change is identified, often through a Request for Information (RFI) response.
2. Proposal: The contractor submits a Change Order Request (COR) detailing the cost and schedule impact of the change.
3. Review: The CM evaluates the proposal. This is a critical cost control step. The CM must verify that the work is truly outside the original contract scope (not just a contractor error) and that the pricing for labor, materials, and markups is fair and adheres to contract terms.
4. Negotiation: The CM negotiates the final price with the contractor.
5. Approval: Once agreed upon, a formal Change Order is signed by the owner, contractor, and architect. Only then is the baseline budget adjusted.

Managing Cost Overruns

When cost monitoring indicates the project is trending over budget, the CM must act quickly to implement corrective actions. This may involve:

• Recommending Value Engineering alternatives for unbuilt portions of the work.
• Working with the owner to reduce discretionary scope.
• Re-sequencing work to improve efficiency.
• Tapping into established contingency funds (if the overrun is due to a covered risk).