Budgeting: Are contingency, unforeseen and management reserve the same?

Budgeting: Are contingency, unforeseen and management reserve the same?

Ron Petersen EMFC RC
Director Cost Management at Vijverberg Management Consultants

Written by: Ron Petersen EMFC RC | Director Cost Management at Vijverberg

Budgeting: Are contingency, unforeseen expenses and management reserve the same thing?

In practice, there is much confusion about the items contingency and management reserve. According to the PMBOK, the contingency relates to “known unknowns” and the management reserve relates to “unknown unknowns”. In other words, the contingency are uncertainties in the project budget which are related to (inherent) risks that are known, or at least should have been known, at the time the budget was drawn up. On the other hand, the management reserve is used for risks that are not identified at the moment the project budget was set and approved. If the risks are specifically identifiable in advance or can be foreseen, they should be included in the contingency.

Link with work packages

The unforeseen expenses is part of the budget for a work package. A work package is a building block of the work breakdown structure and is most detailed. A work package brings together scope, planning and cost. At the start of large building and construction projects, the elaboration of the scope is usually the largest “known unknown”. For a detailed design in a work package, the budget can be determined much more accurately compared to conceptual design. At an early stage of the project design, 30% contingency reserve is not unrealistic.

In practice

In practice often both unforeseen and management reserve are merged in the budget when unforeseen is unintentionally confused with the management reserve. Vijverberg argues that the distinction between the items unforeseen and management reserve should be maintained with the aim of retaining realistic control information for the project.

Ownership of the budget

A matter of debate is the use of the contingency and management reserve during the execution of the project. Both items are part of the budget. The project manager is the owner of the contingency, but explicitly not of the management reserve. If risks occur whereby the project manager wishes to charge to the management reserve, the project manager will first have to ask the (internal) client of the project for approval. The conduct of the management reserve creates insight in the risks that have occurred during the project and the finance of the risks.

 

Cost-Management-Ron

About Ron Petersen

Ron Petersen is Director Cost Management at Vijverberg in Rotterdam. Ron started his career in accountancy. He has over 25 years of experience in cost management for large projects in real estate, industry and infrastructure. Ron was responsible for setting up the financial project management structures for energy companies and contractors. On the contractor side, Ron has over 10 years’ experience in the financial management of portfolios of small and medium-sized construction projects. Ron has specific experience in the valuation of work in progress.

Vijverberg is an independent project management consultancy for complex building projects. Vijverberg advises, amongst others, on the preparation of budgets for projects. Please feel free to contact Ron Petersen for any related questions on this subject.