Risk, Contingency, and Escalation
Three distinct concepts
Candidates must keep risk, contingency, and escalation separate. Risk is uncertain future variation in cost or schedule. Contingency is the budget reserved for known-unknowns within defined scope. Escalation is the expected change in price levels over time due to market and inflation-not a risk reserve. Management reserve covers unknown-unknowns outside the estimate's scope and is typically held above the project budget.
Quantifying risk
Know qualitative (risk registers, scoring) and quantitative methods: expected value (probability × impact), range estimating (three-point), Monte Carlo simulation, and risk-adjusted contingency derived from a confidence level. Understand that contingency corresponds to a chosen probability of not exceeding budget (e.g., P80), and that higher confidence requires more contingency.
Escalation
Escalation is applied with indices and time-phased spending; applying it to the wrong base or double-counting with contingency is a classic error.
Traps
Watch for: using contingency as a slush fund; adding escalation and contingency to the same base twice; confusing management reserve with contingency; and assuming Monte Carlo output is certainty rather than a distribution.
Worked example
A risk has 30% probability and $200k impact: expected value = 0.30 × $200k = $60k. Summing expected values across risks gives an indicative contingency before applying a confidence-level adjustment.