Budgets & Cost Codes — Allocating Costs and Cost Allocation Methods

Budgets & Cost Codes

• Overview: Budgets and cost codes are used to plan, track, and allocate costs in land development projects. The material includes definitions, methods, examples, and practical considerations for managing budgets and allocating costs across current and future phases.
• Source context: Content from the Master of Land and Property Development program materials (Texas A&M University).

Budgets

• A budget is an estimation of revenue and expenses over a defined future period.
• Function: A financial plan for a defined period or project that helps manage a financial undertaking.
• Uses beyond resource earmarking:
  • Setting goals
  • Measuring outcomes
  • Planning for contingencies
• Data source cited: Investopedia definition of budget.

Budgets - Focus on Costs

• In large builder/developer land development budgets, the primary focus is costs because revenue does not typically change after a purchase and sale agreement to sell lots is executed.
• Organizational roles:
  • Land team focuses on property/cost aspects.
  • Finance/accounting team handles revenue aspects.
• Implication: PMs for large builders/developers typically emphasize cost management while accounting handles the revenue portion.

Cost Categories and Cost Codes

• Budgets are often managed using two hierarchies:
  • Cost Categories: Broad classifications of cost types (e.g., Clearing & Grubbing, Utilities, Paving, Engineering, Dry Utilities, Entries, Amenities and Landscaping).
  • Cost Codes: Specific types of work within a Cost Category (detailed line items).
• Example of scope:
  • Cost Categories examples include: Clearing & Grubbing; Utilities; Paving; Engineering; Dry Utilities; Entries, Amenities and Landscaping.
• Number of categories/codes:
  • Lenders generally prefer high-level reports with 12–25 cost categories for loan budgets.
  • The example labeled “663 Cost Codes (L)” shows 17 Cost Categories and 93 Cost Codes.
• Practical notes:
  • Different companies vary in the number of cost codes per category depending on desired detail and other factors.
  • Some categories have few codes; others are highly detailed.

Cost Categories (examples)

• Clearing & Grubbing
• Utilities
• Paving
• Engineering
• Dry Utilities
• Entries, Amenities and Landscaping
• Other common headings observed in the slide deck (as shown in examples and tables)

Cost Codes (examples)

• Cost Codes are the granular line items under each Category (e.g., for Paving: On-Site Paving, Off-Site Paving, Left Turn Lane, Traffic Signal, Thoroughfare Paving).

Cost Tracking in Practice

• Tracking Costs: Projects may involve multiple contracts/proposals under a single cost code.
• Project managers may need to create internal tracking methods to separate each contract/proposal within a single cost code.
• Example scenario:
  • Cost Category: 8090 Engineering & Testing
  • Cost Code: 8091 Engineering_WSD could cover multiple related contracts (e.g., Water, sewer and drainage improvements; Lift station and force main; Detention pond).
• Tracking costs helps avoid under/over budgets when several contractual elements contribute to a single code.

Tracking Costs: Sample Invoice Tracker (conceptual)

• The Invoice Tracker sample demonstrates how proposals and invoices are associated with cost codes over multiple phases.
• It includes entries like:
  • Phase Common and Lift Station, Detention Pond, and other improvements that serve more than one phase.
  • Invoices and proposal amounts linked to specific phases and cost codes.
• Purpose: To visually trace expenditures against budgets and identify remaining fees and balance due.
• Note: The sample includes lines such as Proposal Amounts, Invoice Numbers, Dates, and Fee Remaining values to illustrate ongoing cost tracking and reconciliation.

Tracking Costs: Example (summary numbers)

• A summarized example shows a multi-contract tracking scenario with a total budget vs. actuals:
  • Total Budget: $539{,}120$
  • Actual: $413{,}356$
  • Net Variance (Over/Under): $125{,}764$ (underspent relative to budget at project-level)
• This demonstrates how tracking at the cost-code level can reveal variances across contracts within a single code.

Soft Costs vs Hard Costs

• Soft Costs: Typically non-tangible items such as design work, real estate fees, inspection fees, project management, and taxes.
• Hard Costs: The tangible components of construction, including utility improvements, paving facilities, site work, detention ponds, and landscaping.
• Practical implication: Distinguishing soft vs hard costs helps in budgeting, reporting to lenders, and evaluating profitability.

Allocating Costs

• Purpose: Allocate project costs across current and future periods to reflect benefits and to maintain a constant profit margin on lot sales over the project life.
• Key points:
  • Consider both current costs and costs to be incurred in future periods (e.g., entry monuments/roads billed to future lots; recreation centers funded by early lots but completed later).
  • Allocation requires judgment to determine which parts of the project benefit from specific costs.
  • In large projects, costs can be allocated to both present and future lots, spreading burden and aligning with revenue realization.
• Practical implication: Allocation supports consistent profitability across development stages and aligns cost recovery with beneficiary lots.

GAAP, FASB, and Allocation Standards

• FASB (Financial Accounting Standards Board) sets accounting standards used to prepare financial statements under GAAP (Generally Accepted Accounting Principles).
• FASB is recognized by the SEC as the authoritative standard-setter for public companies and widely recognized by other organizations (state Boards of Accountancy, AICPA).
• FASB Statement No. 67 outlines three methods to allocate costs:
  • Specific Cost
  • Relative Value (aka Relative Sales Value)
  • Area Method (Acres or Square Feet)
• Practical note: Some allocation methods (e.g., Front Foot) are used by private developers but are not approved by FASB/GAAP for public company reporting.

Specific Cost Allocation

• Concept: Costs are identified and assigned to individual project components based on specific identification (as applicable).
• When to use:
  • If a cost benefits a clearly defined, identifiable part of the project (e.g., a park in a specific section dedicated to that area).
• Example: If a park in a specific section benefits only that section, allocate that park's cost to that section.
• Significance: Provides precise cost attribution where benefits are isolated to a particular area.

Relative Value (Relative Sales Value) Allocation

• Concept: Costs are allocated to individual lots based on each lot’s sales price relative to the total sales price of all lots in the community.
• Key rule: The sales prices used for allocation should not be adjusted for anticipated price increases in future periods; i.e., ignore expected price increases when computing current allocations.
• Result: Higher-cost allocation goes to more valuable lots.
• Formula:
  • Let C be the total cost to allocate, and let pi be the sale price of lot i. Let P = \sumi p_i.
  • Allocation to lot i: $c<em>i = C imes \frac{p</em>i}{P}.$
• Example (Boulevard):
  • Lot Price data (from the slide):
  • Section 1: 80 lots, 50-ft width, Lot Price = $60{,}000$ per lot. Total section revenue = $80 \times 60{,}000 = 4{,}800{,}000<br />$.
  • Section 2: 60 lots, 65-ft width, Lot Price = $97{,}500$ per lot. Total section revenue = $60 \times 97{,}500 = 5{,}850{,}000<br />$.
  • Total lot revenue: $4{,}800{,}000 + 5{,}850{,}000 = 10{,}650{,}000<br />$.
  • Section 1 share: $\frac{4{,}800{,}000}{10{,}650{,}000} = 0.451\,(45.1\%)$
  • Section 2 share: $\frac{5{,}850{,}000}{10{,}650{,}000} = 0.549\,(54.9\%)$
  • Allocated costs for a total cost C = $500{,}000$:
  • Section 1: $c_1 = 0.451 \times 500{,}000 \approx 225{,}352$
  • Section 2: $c_2 = 0.549 \times 500{,}000 \approx 274{,}648$
• Significance: Ties cost allocation to the value of lots, emphasizing market-driven allocation to higher-valued lots.

Area Method Allocation

• Concept: Costs are allocated based on area measurements (acres or square feet) of each section/lot group.
• Variants:
  • Area Method (Acres): Use the share of total development acres used by each section.
  • Area Method (Lot Area): Use the share of total buildable area in square feet for each section.
• Example (Acres):
  • Section 1: 16 acres; Section 2: 20 acres; Total: 36 acres.
  • Shares: Section 1 = 16/36 = 0.4444, Section 2 = 20/36 = 0.5556.
  • Allocated costs for C = $500{,}000$:
  • Section 1: $0.4444 \times 500{,}000 = 222{,}222$
  • Section 2: $0.5556 \times 500{,}000 = 277{,}778$
• Example (Lot Area):
  • Section 1: 460,000 sq ft; Section 2: 468,000 sq ft; Total: 928,000 sq ft.
  • Shares: Section 1 = 460{,}000/928{,}000 = 0.496, Section 2 = 468{,}000/928{,}000 = 0.504.
  • Allocated costs:
  • Section 1: $0.496 \times 500{,}000 = 247{,}845$
  • Section 2: $0.504 \times 500{,}000 = 252{,}155$
• Significance: Useful when area is a good proxy for cost responsibility and when relative value is impracticable or yields similar results.

Front Foot Method (Width-Based Allocation)

• Not approved by FASB for public company reporting; used by private developers/builders.
• Concept: Costs allocated proportional to the frontage (front feet) of lots across different widths.
• Calculation steps:
  • For each width category i, compute total front feet: $F<em>i = n</em>i \times w<em>i$ where ni is the number of lots of width w_i.
  • Total front feet across all widths: $F<em>{total} = \sum</em>i F_i$.
  • Share for width i: $s<em>i = F</em>i / F_{total}$.
  • Allocate cost to width i: $C<em>i = s</em>i \times C_{total}$.
  • Per-lot cost for width i: $c<em>i = C</em>i / n_i$.
• Example (from slides):
  • Section 1: 80 lots, width 50 ft → front feet = 4{,}000
  • Section 2: 60 lots, width 65 ft → front feet = 3{,}900
  • Total front feet = 7{,}900
  • Shares: Section 1 = 4{,}000/7{,}900 ≈ 0.506; Section 2 = 3{,}900/7{,}900 ≈ 0.494
  • Allocated costs:
  • Section 1: $C_1 \approx 0.506 \times 500{,}000 = 253{,}165$
  • Section 2: $C_2 \approx 0.494 \times 500{,}000 = 246{,}835$
  • Per-lot costs (example):
  • Section 1: $c_1 = 253{,}165 / 80 \approx 3{,}164.56$ per lot
  • Section 2: $c_2 = 246{,}835 / 60 \approx 4{,}113.92$ per lot
• Significance: Allows allocation based on lot frontage, which is often correlated with paving/utility costs; however, public companies typically avoid this method.

Comparison of Allocation Methods (Summary)

• Relative Value vs Area Method (Acres) vs Area Method (Lot Area) vs Front Foot:
  • Relative Value assigns costs by share of lot sales value; more valuable lots bear more cost.
  • Area Method (Acres) assigns by land area; larger areas bear more cost.
  • Area Method (Lot Area) assigns by total buildable area in square feet; precise area-based share.
  • Front Foot Method assigns by frontage; wider lots bear more cost.
• Example outcomes (for a $500,000 total cost):
  • Section 1 and Section 2 allocations differ slightly across methods, illustrating how method choice influences cost distribution.
  • Appendix tables (A–D in slides) show concrete numbers for each method and allow quick cross-checks.

Why Allocate Costs?

• Rationale: To spread the cost of a common facility among all lots on a pro-rata basis (e.g., recreation centers, trails, detention facilities).
• Practical considerations:
  • Costs incurred in initial sections may be allocated to future lots.
  • Costs incurred in future sections may be allocated to initial sections.
  • It is common on large projects to allocate costs to both present and future lots to maintain consistent profitability and cash flow timing.
• Outcome: Helps maintain stable project economics and smooths profit margins across development phases.

Appendices and Practical Tools (Appendices A–G)

• Relative Value Appendix A: Allocation by Relative Value table (Boulevard example) showing lots, widths, acres, lot prices, and cost allocations.
• Area Method Appendix B: Allocation by Area Method (Acres) table with similar structure.
• Area Method Appendix C: Allocation by Area Method (Lot Area) table detailing lot areas and allocations.
• Front Foot Appendix D: Allocation by Front Foot Method table illustrating front feet, costs, and per-lot allocations.
• Method Comparison Appendix E: Side-by-side costs under each method for sections.
• Rec Center Appendix F and G: Allocation by Area Method for a Rec Center scenario with cost per lot by section.
• Note: These appendices provide accessible tables for quick reference and cross-verification of the numerical examples.

Practical Takeaways

• The choice of cost allocation method affects which lots bear higher or lower allocated costs. The method should reflect economic rationality and the benefit received from the costed item.
• For lenders, high-level reporting is preferred (often fewer cost categories and aggregated reporting). For private developers, finer cost codes and internal allocations may be used for management purposes.
• When allocating, always consider the timing of costs (current vs future periods) and the project’s overall profit margin goals.
• GAAP/FASB guidance (Spec. Cost, Relative Value, and Area Method) provides a structured framework, but some private-sector practices (e.g., Front Foot) may not be GAAP-compliant for public companies.

Quick Formulas to Remember

• Relative Value allocation to lot i:
  $c<em>i = C \times \frac{p</em>i}{\sum<em>j p</em>j}$
• Area Method (Acres) allocation to section i:
  $c<em>i = C \times \frac{A</em>i}{\sum<em>j A</em>j}$
• Area Method (Lot Area) allocation to section i:
  $c<em>i = C \times \frac{L</em>i}{\sum<em>j L</em>j}$ where L_i is the total lot area in square feet for section i.
• Front Foot Method allocation to section i:
  $c<em>i = C \times \frac{F</em>i}{\sum<em>j F</em>j}$ and per-lot cost for width i: $c<em>i\text{ per lot} = \frac{c</em>i}{n_i}$

Appendices and Illustrative Tables

• Appendix A: Allocation by Relative Value (Boulevard example)
• Appendix B: Allocation by Area Method (Acres)
• Appendix C: Allocation by Area Method (Lot Area)
• Appendix D: Allocation by Front Foot Method
• Appendix E: Method Comparison
• Appendix F & G: Rec Center allocations (Area Method tables)