Ideally at contract award, the lower bound optimism bias for capital expenditure should be achieved through sufficient risk mitigation provided the cost of risk mitigation is less than the cost of the residual risk.
If we now consider the above example at contract award, the resultant capital expenditure optimism bias after effective management of project risks should approach/be equal to the lower bound optimism bias of 4 % for non-standard buildings. To achieve this lower bound value, a 92 % reduction in optimism bias contribution is required. Therefore we need to have identified the project risks within each of the project risk areas and put in place effective risk management strategies. As a result the remaining % contribution to optimism bias is 8 %, which is calculated as follows:
Managed optimism bias contribution = Reduction in optimism bias = 92 %
Resultant capital expenditure optimism bias = (100 % - 92 %) * 51 = 4 %
In this case the estimated final NPC capital expenditure, taking into account optimism bias and cost of risk management, is £104 m plus the cost of risk management, which is calculated as follows:
(£100 m x ((100 % + 4 %) / 100 %)) + cost of risk management = £104 m + cost of risk management
Therefore if for example the total cost of managing project risks is £7 million, then the final NPC capital expenditure would be £111 m (i.e. £104 m + £7 m).