ESCALATION
1. Many contracts provide for adjustment of the contract value as the cost of labour and materials increase during the course of the contract. Adjustment to the contract value is usually calculated using a formula defined in the contract documents. This formula has been referred to as the Head Contract Escalation Formula throughout this procedure. (Also known as Rise and Fall formula, price variation formula etc.)
2. Escalation formula come in many forms but the most common, expressed in its most simple form, is:
Factor for adjustment to Contract Value for period =
Indices (for labour and materials) for period
---Indices as at date of tender
The indices used are normally calculated (for labour) or as published by the ABS (materials).
3. Furthermore the formula usually splits the contract into categories, e.g.. labour, material and fixed, and applies a different indice for each category.
Hence a typical rise and fall formula would appear as:Factor for adjustment of contract value for period =
LI(period) MI(1)(period) MI(2)(period) )
35--- + 25 --- + 30 --- + 10 ) / 100 LI(tender) MI(1)(tender) MI(2)(tender) )
LI, MI(1), MI(2) etc. represent the indices for various categories of labour and material. 35, 25, 30 etc. are the proportions of the contract value corresponding to the particular indice. In the above 10 represents the fixed portion of the contract value not subject to an escalation factor.
“COMPANY NAME” CALCULATES ESCALATION BASED ON THE ABOVE FORM OF FORMULA. IT WILL ACCOMMODATE A FORMULA WITH UP TO 10 ELEMENTS WHERE AN ELEMENT IS LABOUR, MATERIAL(1), MATERIAL(2), ETC.
Calculation of Escalation due under Head Contract Formula
4. Escalation due under the Head Contract Formula is calculated using a calculation sheet shown in Attachment #. This calculation sheet is as produced by “COMPANY NAME” and is called the Escalation Detailed Listing.
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Project Administration, Procedure No: 1
PROJECT COST CONTROL
5. Standard Project Information, such as project name etc., is entered on the sheet.
Base Data including formula base date, formula elements, proportions, and base indices are then entered.
The indices are updated for each period and the contract value, (subject to escalation by the Head Contract formula), and payment for the period entered.
(Note that certain items in the Head Contract may not be subject to escalation, or may be subject to a different escalation formula as in the case of nominated subcontracts. These must be excluded in the contract value amount, and payment, for the period).
Refer to Attachment # for further details of completing the Escalation Detailed Listing and the calculations required.
Forecasting using the Frozen Indices Principle
6. Attachment # also shows the calculation of escalation due on the balance of the contract at any particular period. This forecast is done using the indices for the last period. No attempt is made to forecast future indices.
BY USING A SPREADSHEET SPECIFICALLY SET UP THE CALCULATION OF ESCALATION EASY, IT IS POSSIBLE TO FORECAST ESCALATION USING FORECAST INDICES. THIS IS DONE BY ENTERING PROVISIONAL(P) INDICES FOR FUTURE PERIODS AND FORECASTING CONTRACT VALUES FOR EACH FUTURE PERIOD. THE PROVISIONAL INDICES ARE ADJUSTED LATER WHEN PUBLISHED. THIS CAN BE VALUABLE ON A MANAGEMENT TYPE CONTRACT TO ASSIST THE CLIENT IN DETERMINING FUTURE CASH REQUIREMENTS IF ESCALATION IS A MAJOR FACTOR.
Spreading Escalation over Cost Codes
7. For concise cost reporting it is ideal to be able to spread the escalation due under the Head Contract Formula over the cost code items that are covered by the formula. With manual cost control methods this is impractical due to the nature of the task. Instead the escalation will appear as a single line entry in the Project Financial Summary and will be balanced by negative variances in each cost code due to the costs, or commitments, having included in them the effects of escalation.
THE SPREADSHEET IS SET UP WHERE IT SPREADS OVER EACH APPROPRIATE COST CODE THE TOTAL ESCALATION CALCULATED FROM THE ESCALATION DETAILED LISTING (TO DATE AND BALANCE). THIS TOTAL ESCALATION IS SPREAD IN PROPORTION TO THE CURRENT ALLOWEDS FOR EACH COST CODE (INCLUDING VARIATIONS IF DESIGNATED AS SUBJECT TO ESCALATION). THESE PORTIONS OF THE ESCALATION APPEAR IN THE COMMITMENT/COST ALLOCATION RECORDS, OR THE PROJECT ASSESSMENT SUMMARY AS IN THE CASE OF LABOUR AND PLANT.
Other Head Contract Formula
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8. If there are other Head Contract Formulae for items such as nominated subcontracts a separate Escalation Detailed Listing is maintained for each formula. The calculations etc. are exactly as above except that the contract value and payments for any period would relate to only those items of the estimate covered by the particular formula.
Escalation on Commitments
9. If any particular commitment, such as a major material order or subcontractor, is subject to escalation an Escalation Detailed Listing must be maintained for each separate order or subcontract. Providing the escalation formula for the commitment is similar to the form of the Head Contract Formula the procedure is exactly as above except that the contract value and payment for the period relates to the value of the order or subcontract.
10. The values of escalation for each commitment (to date and balance) are entered into the Commitment Allocation Record as shown in Attachment #.
THE FACILITIES FOR COMMITMENT ESCALATION FORMULAE ARE SIMILAR TO THOSE FOR THE HEAD CONTRACT FORMULA. AGAIN THE REPORT SHOULD AUTOMATICALLY CALCULATE RESULTS INTO THE APPROPRIATE COMMITMENT ALLOCATION RECORD.
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Project Administration, Procedure No: 1
PROJECT COST CONTROL