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The project cost management knowledge area includes processes to ensure that a project is completed on time and within budget. These processes include resource planning and cost budgeting. Each
process has a set of input and a set output. Each process also has a set of tools and techniques that are used to turn the input into output.

Reference Material to Study

- A Guide to the Project Management Body of Knowledge, Chapter 7 (1996 & 2000 edition)
- PMBOK Q&A, PMI
A Guide to the
Project...
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Project Planning, Scheduling & Control, Lewis, James P., 1995, Chapter 10
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Project Management, A Managerial Approach,, Chapters 5 (pg. 206), 7, 10. Meridith & Mantel
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Management:...
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The New Project Management, Frame, J. Davidson, 1994, Chapters 8-9, 11

The New Project
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Earned Value Project Management, Chapters 7, 8, 9. Flemming and Koppleman

Earned Value
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PMP Challenge, ESI International, Cost Section

PMP Challenge!

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What to Study?

The PMBOK phases of Project Cost Management: Resource Planning, Cost Estimating, Cost Budgeting, and Cost Control (Be familiar with Input, Tools and Techniques, and Output for each
phase)
Cost Estimates and Ranges: Order of Magnitude, Budgetary, and Definitive
Earned Value Analysis: BCWP, BCWS, ACWP, EAC, BAC, ETC, CV, SV, CPI, SPI
Cost Estimating Techniques: analogous, parametric, and bottom-up
Present Value and Net Present Value
Straight-Line, Double Declining Depreciation and Sum of Yrs Digits

Key Definitions

Baseline
The original plan plus or minus approved changes.
Budget At Completion (BAC)
The estimated total cost of the project when done.
Budgeted Cost of Work Performed (BCWP)
The sum of the approved cost estimates for activities completed during a given period (usually project-to-date).
Budgeted Cost of Work Scheduled (BCWS)
The sum of the approved cost estimates for activities scheduled to be performed during a given period.
Chart of Accounts
Any numbering system used to monitor project costs by category (e.g., labor, supplies, materials). The project chart of accounts is usually based upon the corporate chart of accounts of the
primary performing organization.
Code of Accounts
Any numbering system used to uniquely identify each element of the WBS.
Contingency Reserve
A separately planned quantity used to allow for future situations which may be planned for only in part ("known unknowns"). Contingency reserves are intended to reduce the impact of missing
cost or schedule objectives. Contingency reserves are normally included in the project's cost and schedule baselines.
Cost Budgeting
Allocating the cost estimates to individual project components.
Cost Control
Controlling changes to the project budget.
Cost Estimating
Estimating the cost of the resources needed to complete project activities.
Cost Performance Index (CPI)
The ratio of budgeted costs to actual costs (BCWP / ACWP). CPI is often used to predict the magnitude of a possible cost overrun using the following formula: original cost estimate/CPI =
projected cost at completion.
Cost Variance (CV)
Any difference between the estimated cost of an activity and the actual cost of that activity. In earned value, CV = BCWP-ACWP.
Earned Value

1. A method for measuring project performance. It compares the amount of work that was planned with what was actually accomplished to determine if cost and schedule performance is as
planned.
2. The BCWP for an activity or group of activities.

Definition (1) is also called Earned Value Analysis.

Estimate at Completion (EAC)
The expected total cost of an activity, a group of activities, or of the project when the defined scope of work has been completed. Most techniques for forecasting EAC include some adjustment of
the original cost estimate based on project performance to date.

EAC = Actuals-to-date + ETC.

(Also known as Forecast Final Cost)

Estimate To Complete (ETC)
The expected additional cost needed to complete an activity, a group of activities, or the project. Most techniques for forecasting ETC include some adjustment to the original cost estimate based
on project performance to date.
Fixed Costs
Costs that do not change based on the number of units. These costs are nonrecurring.
Life Cycle Costing
The concept of including acquisition, operating, and disposal costs when evaluating various alternatives. Also known as the total cost of ownership.
Management Reserve
A separately planned quantity used to allow for future situations which are impossible to predict. ("unknown unknowns") Management reserves are intended to reduce the risk of missing cost or
schedule objectives. Use of management reserves requires a change to the project's cost baseline.
Parametric Estimating
An estimating technique that uses a statistical relationship between historical data and other variables to calculate an estimate.
Payback Period
The number of time periods up to the point at which cumulative revenues exceed cumulative costs and, therefore, the project has turned a profit.
Percent Complete (PC)
The percentage of the amount of work which has been completed on an activity or group of activities.
Project Cost Management
A subset of project management that includes the processes required to ensure that the project is completed within the approved budget.
Schedule Performance Index (SPI)
The ratio of work performed to work scheduled. (BCWP / BCWS)
Schedule Variance (SV)
Any difference between the scheduled completion of an activity and the actual completion of that activity. In earned value, BCWP - BCWS.
Value Analysis
A cost-reduction tool that involves careful analysis of a design or item to identify all the functions and the cost of each. It considers whether the function is necessary and whether it can be
provided at a lower cost without degrading performance or quality.
Working Capital
Current assets minus liabilities.

Cost Management Processes

Resource Planning

The process of determining what physical resources and what quantities of each should be used to perform project activities.
Input includes: WBS, historical information, scope statement, resource pool description, and organizational policies.
Methods used:
Expert judgment: consultants, professional and technical associations, industry groups, other units within the performing organization.
Alternatives identification: Any technique such as brainstorming and lateral thinking used to generate different approaches to the project.
Output includes: Resource requirements - a description of what types of resources are required and in what quantities for each element of the WBS.

Cost Estimating:

The process of developing an estimate of the costs of the resources needed to complete project activities.
Input includes: WBS, resource requirements, resource rates, activity duration estimates, historical information, chart of accounts.
Methods used:
Analogous estimating: (top down estimating) Uses the actual cost of a previous similar project as the basis for estimating the cost of the current project. Analogous estimating is frequently
used to estimate total project costs when there is a limited amount of detailed information about the project. (e.g., in the early project phases) It is generally less costly than other estimating
techniques, but it is also generally less accurate. Most reliable when 1) the previous projects are similar in fact and not just in appearance, 2) the individuals or groups preparing estimates
have the needed expertise.
Parametric modeling: Uses project characteristics (parameters) in a mathematical model to predict project costs. Models may be simple or complex. Most reliable when 1) the historical
information used to develop the model was accurate, 2) the parameters used in the model are readily quantifiable, and 3) the model is scalable.
Bottom-up estimating: Involves estimating the cost of individual work items, then summarizing or rolling-up the individual estimates to get a project total. The cost and accuracy of bottom-
up estimating is driven by the size of the individual work items: smaller work items increase both cost and accuracy. The project management team must weigh the additional accuracy
against the additional cost.
Computerized tools: Project management software and spreadsheets can assist with cost estimating.
Output includes: cost estimates, supporting detail, and the cost management plan. The cost management plan describes how cost variances will be managed. It is a subsidiary element of the
overall project plan.

Cost Budgeting

The process of allocating the overall cost estimates to individual work items in order to establish a cost baseline for measuring project performance.
Input includes: cost estimates, WBS, and project schedule.
Methods used: cost estimating tools and techniques.
Output includes: Cost baseline - a time-phased budget used to measure and monitor cost performance. It is developed by summing estimated costs by period and is usually displayed in the form
of an S-curve.

Cost Control

The process of:

Influencing the factors which create changes to the cost baseline to ensure that changes are beneficial
Determining that the cost baseline has changed
Managing the actual changes when and as they occur.
Cost control includes:
Monitoring cost performance to detect variances from plan.
Ensuring that all appropriate changes are recorded accurately in the cost baseline.
Preventing incorrect, inappropriate, or unauthorized changes from being included in the cost baseline.
Informing appropriate stakeholders of authorized changes.
Input includes: cost baseline, performance reports, change requests, and cost management plan
The methods used in cost control include:
Cost change control system: Defines the procedures by which the cost baseline may be changed. Includes the paperwork, tracking system and approval levels necessary for authorizing
changes. (should be integrated with the overall change control system)
Performance measurements: Used to access the magnitude of any variations which do occur. (example: earned value analysis)
Additional planning: Prospective changes may require new or revised cost estimates or analysis of alternative approaches.
Computerized tools
Output from cost control: revised cost estimates, budget updates, corrective action, estimate at completion (EAC), and lessons learned.

Cost Management Concepts

Estimates

Order of Magnitude
Range: -25% + 75%
An approximate estimate made without detailed data
Used during the initial evaluation of the project (Concept)
Other terms: SWAG, feasibility, conceptual, ball park
Budget
Range: -10% + 25%
Used to establish the funds required for the project (Development)
Also used to obtain approval for the project
Other terms: appropriations
Definitive
Range: -5% + 10%
Prepared from well defined specifications, data, drawings, etc.
Used for bid proposals, bid evaluations, contract changes, extra work, legal claims, permit and government approvals.

Cost Estimating vs. Pricing

Cost Estimating involves developing an assessment of how much it will cost the performing organization to provide the product or service.
Pricing is a business decision -- how much the performing organization will charge for the product or service.

Life Cycle Costing

Project Cost Management is primarily concerned with the cost of the resources needed to complete the project.
A broader view of Project Cost Management is Life Cycle Costing.
Life Cycle Costing includes acquisition, operating, maintenance, and disposal costs.
Project Cost Management should consider the effect of project decisions on the cost of using the project product. (i.e., limiting the number of design reviews may reduce the cost of the
project but increase the product maintenance costs and customer operating costs.)

Cost Types

Sunk Costs: A historical or expended cost. Since the cost has been expended, we no longer have control over the cost. Sunk costs are not included when determining alternative courses of action.
Fixed Costs: Nonrecurring costs that do not change based on the number of units.
Variable Costs: Costs that rise directly with the size of the project.
Indirect Costs: Costs that are part of the overall organization's cost of doing business and are shared among all the current projects.
Opportunity Costs: The cost of choosing one alternative and, therefore, giving up the potential benefits of another alternative.
Direct Costs: Costs incurred directly by a specific project.

Depreciation

Straight-line Method: Takes an equal credit during each year of the useful life of an asset.
Accelerated Method: Writes off the expense even faster than straight-line.
Double-declining balance
Sum-of-the-years digits

Profitability Measures for Project Selection (in order of increasing complexity)

Return on Sales (ROS)

ROS = NEBT/Total Sales NEBT=net earnings before taxes (gross profit)
ROS = NEAT/Total Sales NEAT=net earnings after taxes (net profit)
Return on Assets or return on investment
ROA = NEAT/Total Assets
ROI = NEAT/Total Investment
Present Value (PV)
The value today of future cash flows based on the concept that payment today is worth more than payment tomorrow.
For a given future payment t years from now:

__M _
PV =
(1 + r)**t
M = amount of payment t years from now
r = interest rate (also called discount rate)
Benefit-cost ratio (BCR) = PV of revenue/PV of costs Target Revenue should be at least 1.3X the cost
IRR: Internal Rate of Return - the percentage rate that makes the present value of costs equal to the present value of benefits.

Earned Value Analysis

BCWS: Baseline, Scheduled or Planned Costs

BCWP: Amount budgeted for the work performed
ACWP: Actual Cost of Work Performed
BAC: Total Budgeted Costs
EAC: Estimated at Completion
VAC: Variance at Completion.
The difference between the total amount the project was supposed to cost (BAC) and the amount the project is now expected to cost (EAC).
VAC = BAC - EAC
CPI = BCWP / ACWP (measures efficiency)
CV = BCWP - ACWP
SPI = BCWP / BCWS (measures efficiency)
SV = BCWP - BCWS
Percent Complete (accomplished): BCWP / BAC (real value of work accomplished)
Percent Spent: ACWP / BAC
EAC = BAC / CPI or EAC = ACWP + ETC
ETC = EAC - ACWP
Rule of thumb: You can use indexes (CPI or SPI) to determine efficiency if you've completed at least 20% of the project.
50-50 Rule of progress reporting: When beginning a task, charge 50% of its BCWS to its account; when the task is completed, charge the remaining 50% to its account. Assumes: all tasks
generally are of the same size.

Sample Problems

Earned Value Analysis

Given the following problem and assume today's date is Jun. 30.:

Work Unit Completion Date Budget ($M) Work Performed ($M) Actual Cost ($M)
A Jan. 31 10 10 12
B Feb. 28 5 4 5
C Mar. 31 6 8 8
D May 12 15 13 12
E Jun. 30 20 20 30
F Jul. 18 3 0 0
G Aug. 30 35 0 0
H Sep. 22 22 0 0
I Oct. 29 22 0 0
J Nov. 30 9 0 0

1. What is the Cost Variance?

2. What is the Schedule Variance?
3. What is the CPI?
4. What is the SPI?
5. What is the BAC?
6. What is the EAC?
7. What is the ETC?
8. What is the Percent Complete?
9. What is the Percent Spent?
10. What can be said about this project?

Present Value and Net Present Value

1. What is the net present value of an annual income flow of $1600 at 10% over the next 3 years?
2. What is the present value of $1000 at 12% at the end of 5 years?
3. Given the following:

Years Revenue PV(r) Cost PV(c)

0 0 0 50,000 50,000
1 3,000 2,727 35,000 31,818
2 13,500 11,157 15,000 12,397
3 30,000 22,539 5,000 3,757
4 40,000 27,321 5,000 3,415
5 50,000 31,046 5,000 3,105
6 50,000 28,224 10,000 5,644
7 50,000 25,658 15,000 7,697
- - 148,672 - 117,833

A. Calculate the present value of both revenue and cost assuming a 10% interest rate.
B. Calculate the benefit-cost ratio.
C. Based on the BCR and profitability alone, would you do this project?

Depreciation

Year SL DDB SYD

1 $25,000 $50,000 $40,000
2 $25,000 $25,000 $30,000
3 $25,000 $12,500 $20,000
4 $25,000 $12,500 $10,000
Given $100,000 depreciated over 4 years, what would be the depreciation per year for the straight-line, double-declining, and sum-of-the-years-digits methods?

A. SL: Same amount depreciated each year / period.

B. Accelerated
C. DDB: 50% during the first year, then dividing into half each following year. Since we're depreciating it over 4 years, we depreciate the remainder in year 4.
D. SYD: No. of years left/Sum of the years
Year 1: 4/10 or 40%
Year 2: 3/10 or 30%
Year 3: 2/10 or 20%
Year 4: 1/10 or 10%

Sample Problem Answers

Earned Value Analysis:

Question Answer Notes

The Cost Variance is the difference between the estimated cost of an activity and the actual cost of that activity. In earned value that is CV = BCWP - ACWP. The current
$55 - $67 date for the problem is June 30. As of June 30, the BCWP is $55. This figure is obtained by adding up the budgeted cost of work performed for units A, B, C, D, and E.
1
= -$12 The BCWP is 10 + 4 + 8 + 13 + 20 = 55. Similarly, the ACWP is $67. (12 + 5 + 8 + 12 + 30 = 67). Using the cost variance formula, we have CV = BCWP - ACWP, or
CV = 55 - 67 = -12. Therefore, the cost variance is -$12.
The schedule variance is the difference between the scheduled completion of an activity and the actual completion of that activity. In earned value that is SV = BCWP -
$55 - $56
2 BCWS. Per question #1, the BCWP was calculated to be 55. The BCWS is calculated by adding the budget for units A, B, C, D, and E. In other words, BCWS = 10 + 5
= -$1
+ 6 +15 + 20 = 56. Now SV = BCWP - BCWS = 55 - 56 = -1. Therefore, the schedule variance is -$1.
55 / 67 = The cost performance index (CPI) is the ratio of budgeted costs to actual cost, BCWP / ACWP. The BCWP is already known to be 55. (from previous problems). The
3
0.82 ACWP is already known from previous problems to be 67. So the CPI = BCWP / ACWP = 55 / 67 = 0.82.
55 / 56 = The schedule performance index (SPI) is the ratio of work performed to work scheduled, BCWP / BCWS. The BCWP is known to be 55. Also, the BCWS has been
4
0.98 calculated to be 56. So SPI = BCWP / BCWS = 55 / 56 = 0.98.
The budget at completion (BAC) is the estimated total cost of the project when done. In this case it is the budgeted total of all units. In other words, BAC = A + B + C +
5 147
D + E + F + G + H + I + J = 147.
147 / The estimate at completion (EAC) is the expected total cost of an activity, a group of activities, or of the project when the defined scope of work has been completed. For
6 0.82 = the calculation, we need to add the actual cost of the work completed to the budget (estimate) of the work still needed. The EAC is calculated as BAC / CPI. From #5, we
$179.27 calculated BAC to be 147. From #3, we calculated CPI to be 0.82. Therefore EAC = BAC / CPI = 147 / 0.82 = 179.27.
$179.27 - The estimate to completion (ETC) is the expected additional cost needed to complete an activity, a group of activities, or the project. The ETC is the estimate at
7 $67 = completion minus the actual cost of work performed. In other words, ETC = EAC - ACWP. The EAC was calculated to be 179.27. The ACWP was calculated to be 67.
$112.27 Therefore, ETC = EAC - ACWP = 179.27 - 67 = 112.27.
55 / 147 The percent complete (PC) is the percentage of work that has been completed on an activity or group of activities. It is calculated by dividing the budgeted cost of work
8 = 0.37 = performed by the budget at completion. In other words, it is BCWP / BAC. The BCWP has been calculated as 55 and BAC as 147. Therefore, PC = BCWP / BAC = 55 /
37% 147 = 0.37 = 37%.
67 / 147
The percent spent (PS) is the percentage of budget consumed by the actual work completed. It is calculated by dividing the actual cost by the BAC. The ACWP is 67 and
9 = 0.46 =
BAC is 147. Therefore, PS = ACWP / BAC = 67 / 147 = 0.46 = 46%.
46%
Over
cost, a
The CV is negative which indicates that the project is over budget. A CPI less than one also indicates an over budget project. A negative SV indicates that the project is
10 little
behind schedule. An SPI less than one also indicates a behind schedule project.
behind
schedule

Present Value and Net Present Value:

Question Answer Notes

Yr 1/(1+.10)**t PV
1 0.909 $1600*.909 = $1454.55
1 2 0.826 $1600*.826 = $1322.31 -
3 0.751 $1600*.751 = $1202.10
NPV = $1454.55 + $1322.31 + $1202.10 = $3978.96
2 PV(5) = 1000/(1.12)**5 = $567.00 What is the present value of $1000 at 12% at the end of 5 years?

A. Calculate the present value of both revenue and cost assuming a 10% interest rate.
B. Calculate the benefit-cost ratio. BCR = PV(r)/PV(c)
3 BCR = 148,672/117,833 = 1.26 -
C. Based on the BCR and profitability alone, would you do this project?
Depends on who you ask. PMF class teaches "no". Should be 1.3 x cost before considering.

Depreciation

Question Answer Notes

A SL: Same amount depreciated each year / period. -
B Accelerated -
C DDB: 50% during the first year, then dividing into half each following year. Since we're depreciating it over 4 years, we depreciate the remainder in year 4. -
SYD: No. of years left/Sum of the years.
Year 1: 4/10 or 40%
D Year 2: 3/10 or 30% -
Year 3: 2/10 or 20%
Year 4: 1/10 or 10%

Sample Questions

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There are 74 questions related to project cost management. Simply click the 'All Questions' link in order to go to them.

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[1] Cost Management Pprocesses

[2] Cost Performance Index (CPI)
[3] Cost Budgeting
[4] Earned Value
[5] Earned Value
[6] Cost Management Pprocesses
[7] Cost Control
[8] Estimating
[9] Percet Complete
[10] Life Cycle Costing
[11] Estimating
[12] Estimate At Completion
[13] Estimating
[14] Cost Management Plan
[15] Cost Estimating
[16] Resource Planning
[17] Earned Value
[18] Earned Value
[19] Earned Value
[20] Earned Value
[21] Cost Management Processes
[22] Earned Value
[23] Estimating
[24] Estimating
[25] EarnedValue
[26] Work Packages
[27] Earned Value
[28] Earned Value
[29] Earned Value
[30] Earned Value
[31] Rework
[32] Earned Value
[33] Earned Value
[34] Earned Value
[35] Estimating
[36] Estimating
[37] Estimating
[38] Budgeting
[39] Feasibility Studies
[40] Project Financing
[41] Life Cycle Costing
[42] Earned Value
[43] Project Pricing
[44] Estimating
[45] Cost Control System
[46] Cost Overruns
[47] Contingency Allowance
[48] Contract Changes
[49] Earned Value
[50] Earned Value
[51] Earned Value
[52] Types of Costs
[53] Material Cost
[54] Payments
[55] Cash Flow
[56] Financial Audits
[57] Financial Audits
[58] Budgeting
[59] Earned Value
[60] Profit Targets
[61] Estimating
[62] Uncertainty
[63] Estimating
[64] Cost Allocation
[65] Earned Value
[66] Cost Changes
[67] Materials Management
[68] Project Financing
[69] Financing Plan
[70] Financing
[71] Financing
[72] Cash Flow
[73] Contracting
[74] Budgeting

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