Overheads and Profit in Construction (OH&P) Explained

Construction projects involve a wide range of costs, from materials and labor to equipment and permits. However, two critical components that often go overlooked...

Construction projects involve a wide range of costs, from materials and labor to equipment and permits. However, two critical components that often go overlooked are overheads and profit (or OH&P).

In the construction industry, overheads refer to the indirect costs associated with running a construction project, such as insurance, rent, utilities, and office expenses. Profit, on the other hand, is the amount of money left over after all costs have been paid. While these two components may seem insignificant, they can have a significant impact on a project’s overall success or failure.

In this article, we will delve into the importance of understanding overheads and profit in construction and explore how effective management of these components can help construction companies ensure profitability and long-term success.

What are overheads and profit in construction (OH&P)?

according to the NRM, As a general guideline the term “Main contractor’s overheads and profit” refers to the costs incurred by the main contractor for head office administration, which are distributed across each building contract. This cost also includes the main contractor’s return on investment.

However, it should be noted that the “Main contractor’s preliminaries” do not include costs associated with subcontractor’s overheads and profit, which should instead be factored into the unit rates applied to building works.

Overheads and Profit in Construction (OH&P)

Overheads

In construction, overheads refer to the indirect costs associated with running a construction project. These costs are not directly tied to the production of goods or services, but are essential for the smooth running of the project. Overheads can include rent, insurance, utilities, office expenses, and other general administrative expenses.

One of the biggest challenges in managing overheads in construction is accurately estimating and controlling these costs. Overheads can vary depending on the type of project, location, and other factors. For example, overhead costs in a large commercial project may be higher than those in a small residential project.

Effective management of overheads is crucial for ensuring the profitability of a construction project. Overheads can eat into the project’s profit margin, and if not controlled, can even cause a project to fail. Accurate estimation of overhead costs allows a construction company to set realistic profit margins and ensures that the project is profitable.

To manage overhead costs effectively, construction companies should regularly evaluate their overhead expenses and look for ways to reduce them. For example, they can implement cost-saving measures such as using energy-efficient lighting or choosing more cost-effective suppliers.

Monitoring overhead expenses regularly and making necessary adjustments can help keep these costs under control and improve the overall profitability of the project.

Profit

Profit is the amount of money left over after all costs associated with a construction project have been paid. It is a critical component of any construction project, as it represents the reward for the time, effort, and resources invested in the project. In construction, profit can be divided into gross profit and net profit.

Gross profit is the difference between the total revenue generated by the project and the cost of materials and labor. This figure does not take into account any indirect costs or overheads associated with the project. Gross profit is an essential indicator of a project’s profitability and is often used to determine the success or failure of a project.

Net profit, on the other hand, is the profit after all indirect costs and overheads have been deducted from the gross profit. This figure provides a more accurate representation of the project’s profitability and takes into account all the costs associated with the project.

In construction, profit margins can vary widely, depending on factors such as labor costs, material costs, and project duration. Construction companies must set realistic profit margins to ensure that the project is profitable. Unrealistic profit margins can lead to underestimation of costs and, ultimately, project failure.

Effective management of costs is crucial for maintaining profit margins in construction projects. Construction companies should strive to minimize costs by sourcing materials and labor efficiently, negotiating with suppliers, and implementing cost-saving measures. Regular monitoring of costs and adjustments to the budget can also help improve the project’s profitability.

Overheads and Profit in Practice

To better understand the significance of overheads and profit in construction, let’s look at a case study.

Case Study: ABC Construction Company has been awarded a contract to build a commercial office building. The project is estimated to cost $5 million and will take 18 months to complete. ABC Construction estimates overhead costs of $250,000 for the duration of the project.

However, halfway through the project, ABC Construction realizes that they have underestimated their overhead costs. The company has spent $150,000 on overheads already, and they still have another year to go. As a result, their profit margins have decreased, and they may even end up losing money on the project.

This scenario highlights the importance of accurately estimating and controlling overhead costs in construction. Overheads are often overlooked in project planning, but they can have a significant impact on the project’s profitability.

Strategies for reducing overhead costs and increasing profit margins in construction projects include implementing cost-saving measures, such as using energy-efficient lighting, utilizing cloud-based software to streamline operations, and reducing office expenses. Construction companies should also monitor their overhead expenses regularly and adjust the budget accordingly to ensure that overhead costs remain under control.

In addition to managing overheads, effective cost management is crucial for maintaining profit margins in construction projects. Strategies for managing costs include sourcing materials and labor efficiently, negotiating with suppliers, and implementing cost-saving measures such as lean construction practices.

Ongoing monitoring and evaluation of overheads and profit margins throughout the project’s lifecycle are essential for ensuring that the project remains profitable. Regular reporting and analysis can help identify areas where costs can be reduced, and profit margins can be increased.

To sum up

In conclusion, overheads and profit are crucial components of any construction project. Accurate estimation and effective management of overheads and profit margins are essential for ensuring the project’s profitability and long-term success.

Overheads can eat into the project’s profit margin, and unrealistic profit margins can lead to underestimation of costs and, ultimately, project failure. It is vital to implement cost-saving measures, monitor costs regularly, and adjust the budget accordingly to keep overhead costs under control.

Similarly, sourcing materials and labor efficiently, negotiating with suppliers, and implementing cost-saving measures can help manage costs effectively and maintain profit margins. Regular monitoring and evaluation of overheads and profit margins are also necessary to ensure that the project remains profitable throughout its lifecycle.

By understanding and managing overheads and profit effectively, construction companies can improve their project profitability and ensure long-term success.

FAQ’s regarding overheads and profit in construction (OH&P)

What does OH&P stand for in construction?

OH&P stands for “Overheads and Profit” in construction. It refers to the indirect costs associated with running a construction project, such as insurance, rent, utilities, and office expenses, as well as the profit earned by the main contractor. Effective management of OH&P is crucial for ensuring the profitability of a construction project.

How do you calculate OH&P?

OH&P (Overheads and Profit) are typically calculated as a percentage of the total cost of a construction project. The percentage can vary depending on the specific project, location, and other factors.

To calculate OH&P, you can use the following formula:

OH&P = (Total Cost x OH&P Percentage)/100

For example, if the total cost of a construction project is $1,000,000 and the OH&P percentage is 15%, then:

OH&P = (1,000,000 x 15)/100 = $150,000

This means that the main contractor’s OH&P costs for this project would be $150,000. It is important to note that the OH&P percentage can vary depending on the specific project and negotiation with the contractor.

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