Collar Option Model for Managing the Cost Overrun Caused by Change Orders

Effective change order management is very important in maintaining the financial sustainability of various stakeholders related to construction projects by minimizing cost overruns. In this study, we propose a zero-cost risk management approach based on the collar option model in order to control fo...

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Main Authors: Sanghyo Lee, Kyunghwan Kim
Format: Article
Language:English
Published: MDPI AG 2015-08-01
Series:Sustainability
Subjects:
Online Access:http://www.mdpi.com/2071-1050/7/8/10649
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spelling doaj-bf83e98de55a4c4c9594c6df0b9c79b62020-11-24T22:44:28ZengMDPI AGSustainability2071-10502015-08-0178106491066310.3390/su70810649su70810649Collar Option Model for Managing the Cost Overrun Caused by Change OrdersSanghyo Lee0Kyunghwan Kim1Sustainable Building Research Center, Hanyang University, 55 Hanyangdaehak-ro, Sangrok-gu, Ansan-si, Gyeonggi-do 426-791, KoreaDepartment of Architectural Engineering, Konkuk University, 120 Neungdong-ro, Gwangjin-gu, Seoul 143-701, KoreaEffective change order management is very important in maintaining the financial sustainability of various stakeholders related to construction projects by minimizing cost overruns. In this study, we propose a zero-cost risk management approach based on the collar option model in order to control for the loss caused by change orders, the main cause of cost overruns in construction projects. We apply this model to actual projects for empirical analysis. The analysis, based on 237 projects, indicates that insurance buyers benefit from the collar option model in 46% of the cases, while insurance sellers do so in 53% of the cases. In most cases, the insurance buyer is the owner. According to the model, the owner experiences a loss when the cost overrun caused by change orders is lower than what was expected. In such cases, it is appropriate to conclude that the loss is not caused by the collar option model, but by the absence of additional revenue. However, the insurance seller suffers a loss if the cost overrun is higher than the strike price of the call option. Thus, the insurance seller needs to have expertise in construction management.http://www.mdpi.com/2071-1050/7/8/10649insurancechange orderscost overruncollar option modeloption theoryfinancial sustainability
collection DOAJ
language English
format Article
sources DOAJ
author Sanghyo Lee
Kyunghwan Kim
spellingShingle Sanghyo Lee
Kyunghwan Kim
Collar Option Model for Managing the Cost Overrun Caused by Change Orders
Sustainability
insurance
change orders
cost overrun
collar option model
option theory
financial sustainability
author_facet Sanghyo Lee
Kyunghwan Kim
author_sort Sanghyo Lee
title Collar Option Model for Managing the Cost Overrun Caused by Change Orders
title_short Collar Option Model for Managing the Cost Overrun Caused by Change Orders
title_full Collar Option Model for Managing the Cost Overrun Caused by Change Orders
title_fullStr Collar Option Model for Managing the Cost Overrun Caused by Change Orders
title_full_unstemmed Collar Option Model for Managing the Cost Overrun Caused by Change Orders
title_sort collar option model for managing the cost overrun caused by change orders
publisher MDPI AG
series Sustainability
issn 2071-1050
publishDate 2015-08-01
description Effective change order management is very important in maintaining the financial sustainability of various stakeholders related to construction projects by minimizing cost overruns. In this study, we propose a zero-cost risk management approach based on the collar option model in order to control for the loss caused by change orders, the main cause of cost overruns in construction projects. We apply this model to actual projects for empirical analysis. The analysis, based on 237 projects, indicates that insurance buyers benefit from the collar option model in 46% of the cases, while insurance sellers do so in 53% of the cases. In most cases, the insurance buyer is the owner. According to the model, the owner experiences a loss when the cost overrun caused by change orders is lower than what was expected. In such cases, it is appropriate to conclude that the loss is not caused by the collar option model, but by the absence of additional revenue. However, the insurance seller suffers a loss if the cost overrun is higher than the strike price of the call option. Thus, the insurance seller needs to have expertise in construction management.
topic insurance
change orders
cost overrun
collar option model
option theory
financial sustainability
url http://www.mdpi.com/2071-1050/7/8/10649
work_keys_str_mv AT sanghyolee collaroptionmodelformanagingthecostoverruncausedbychangeorders
AT kyunghwankim collaroptionmodelformanagingthecostoverruncausedbychangeorders
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