Client note: Contractor variations resulting in a credit

At the commencement of a building contract, the scope of works and construction cost represents an informed estimate for your project as documented. There are, however, scenarios that may affect the estimated total cost of your project. Some of these scenarios may be related to:

• excessive early works cost due to latent conditions – for example subsoil rock not identified in the soil testing for the site
• cost escalations – for example increased material supply costs or the addition of scope
• protracted project program
• reselection of finishes which may result in additional cost or a credit when compared with the contract specification.

Where the budget is projected to exceed your expectations and contingency, you may consider reducing the overall scope of works to better align with your budget. Similarly, if your financial situation changes during the project necessitating a reduction in scope to meet a revised, lower budget, a reduction in scope may be required. In these cases, the reduction of scope is administered contractually through a credit variation.

Reducing the scope of works

Managing project costs is a critical aspect of any project. Reducing the scope during construction should be viewed as part of the budget and estimation process in your project. To change the scope of works, you should request and authorise it through your architect. Variations (a change in the type, extent or quality of work being undertaken) too often are assumed to add scope, cost and time. If you need or want to reduce the scope of works, your architect should obtain a quote to ascertain the effects to the contract.

It is essential to understand if the proposed reduction in the scope of works will have the effect expected on either the project budget or program.

Overhead, profit and opportunity cost

When you receive a variation for a reduction in the scope of works, you will note the contractor does not provide a credit on their overhead and profit allowances for any given portion of work. The contractor's margin represents the cost of administration, profit and overheads. It also represents the opportunity cost of the contract — in agreeing to your project, the contractor is unable to take on other projects.

The right of the contractor to include for overheads and profit in a variation claim is found in the ABIC SW and MW contracts under Clause H2.1 b.2 and in the ABIC BW contract under Clause H2.1 c.

A contractor will use specific guidelines to select a project, as much as you will use criteria to choose a contractor. Your project may represent an investment in time and give the contractor cashflow assurances for their company. A contractor is running a business employing staff and trades, all of which has been budgeted for as part of their original quotation. A contractor's margin contributes to its overheads and profits, which allows the company to continue trading, including during your project. Overhead costs include attendance and management, business administration such as bookkeeping and maintaining an office, finance costs as well as unplanned costs during the defects liability period. These are costs which will be incurred by the contractor even after a reduction in the scope of works occurs.

It is fair and reasonable for the contractor to keep the margin on works expected. This margin will often be nominated in your contract, and your architect can track this against the overall cost of the project. It is also fair and reasonable for the contractor to charge an additional administration fee for coordinating the change to the scope of works. This may include returning materials, amending orders, adjusting the work program and rescheduling subcontractors.

Summary

A contractor is a building professional, just like your architect and engineers are design professionals. Their time is valuable and they incur the costs of running a business based on the agreements they enter into. If your costs begin to increase or your financial position changes, communicate any concerns with your architect. Your architect can discuss how best to navigate the challenge and possibly consider a reduction in scope resulting in a credit variation. They can also assist you in identifying cost savings in a way that minimises the overall impact on the intent of the project and administer these credits through the contract.

Further reading

• Client note: Managing your project costs
• Client note: Variations to scope of work