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Lecture 6_7

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0% found this document useful (0 votes)
6 views26 pages

Lecture 6_7

Uploaded by

mena7akim
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Cost Estimation and Budgeting

Project Management Cost & Budget


Course Structure
Introduction
Projects and Strategy
Project Selection and Portfolio Management
Project Cost Estimation and Budgeting
Project Scheduling: Lagging, Crashing and Activity Networks
Project Scheduling: Networks, Duration estimation, and Critical
Path
Risk Management
Resource Management
Project Evaluation and Control
Agile Project Management
Critical Chain Project Scheduling
8-2
Project Management Cost & Budget
Common Sources of Project Cost

 Labor
 Materials
 Subcontractors
 Equipment & facilities
 Travel
…
8-3
Project Management Cost & Budget

Types of Costs
Direct Vs. Indirect
Direct: clearly assigned
Indirect: overhead, administration, marketing

Recurring Vs. Nonrecurring

Fixed Vs. Variable

Normal Vs. Expedited Expedited cost = cost of an activity


when it is speeded up

8-4
Project Management Cost & Budget
Direct vs. Indirect Costs

• The formula for determining total direct labor costs for


a project is straightforward:

(direct labor rate)(total labor hours) =


total direct labor costs
• Indirect costs generally are linked to two features:
overhead, and selling and general administration.

Total direct labor cost =


(hourly rate) x (hours needed) x (overhead charge) x
(personal time)
8-5
Project Management Cost & Budget
Direct vs. Indirect Costs
The programmer is paid an annual salary of $75,000, which translates to an
hourly rate of approximately $37.50/hour. The programmer’s involvement in
the new project is expected to be 80 hours over the project’s life. Remember,
however, that we also need to consider overhead charges. The firm uses an
overhead multiplier of 65%.

Hourly rate Hours needed Overhead charge Total direct labor cost

($37.50) * (80) * (1.65) = $4,950

8-6
8-6
Project Management Cost & Budget
Direct vs. Indirect Costs

• Meredith and Mantel (2003) have argued that if such personal


time is not included in the original total labor cost estimate, a
multiplier of 1.12 should be used to reflect this charge, increasing
the direct labor cost of our senior programmer to

• The use of overhead (indirect costs) involves the manner in


which overhead may be differentially applied across job
categories.
Project Management Cost & Budget
Recurring Vs. Nonrecurring Costs

• Nonrecurring costs might be those associated with


charges applied once at the beginning or end of the
project, such as preliminary marketing analysis,
personnel training, or outplacement services.

• Recurring costs are those that typically continue to


operate over the project’s life cycle. Most labor,
material, logistics, and sales costs are considered
recurring because some budgetary charge is applied
against them throughout significant portions of the
project development cycle.
8-8
8-8
Project Management Cost & Budget

Fixed Vs. Variable Costs

• Fixed costs, For example, when leasing capital equipment or other


project hardware, the leasing price is likely not to go up or down with
the amount of usage the equipment receives. Whether a machine is
used for 5 hours or 50, the cost of its rental is the same. When
entering fixed-rate contracts for equipment, a common decision
point for managers is whether the equipment will be used sufficiently
to justify its cost.

• Variable costs are those that accelerate or increase through usage;


that is, the cost is in direct proportion to the usage level. Suppose,
for example, we used an expensive piece of drilling equipment for a
mining operation.

8-9
8-9
Project Management Cost & Budget

Normal Vs. Expedited Costs

• Normal costs refer to those incurred in the routine


process of working to complete the project according to
the original, planned schedule agreed to by all project
stakeholders at the beginning of the project (based on
the baseline project plan).

• Expedited costs are unplanned costs incurred when


steps are taken to speed up the project’s completion.

8-10
8-10
Project Management Cost & Budget
Cost estimation

• Clear definition of project costs at the beginning


decreases the possibility of estimation errors.

• With greater initial accuracy the likelihood of


completing within budget estimates is greater.

• To be able to create good estimations the project


must be broken down by deliverables, work
packages and tasks.
8-11
Cost Estimation Methods
1. Ballpark estimates— used when either information or time
is scarce.
2. Comparative estimates—based on the assumption that
historical data can be used as a frame of reference for
current estimates on similar projects.
3. Feasibility estimates—based as a guideline on real numbers,
or figures derived after the completion of the preliminary
project design work.
4. Definitive estimates—given only upon the completion of
most design work, at a point when the scope and capabilities
of the project are quite well understood.
Project Management Cost & Budget
Learning Curves
• Experience and common sense teach us that
repetition of activities often leads to reduction in the
time necessary to complete the activity over time.

Yx  aX b
Where :
Yx = time required for the x unit of output
a = time required for the initial unit of output
X = the number of units to be produced
b = learning curve slope = log(learning %)/log(2)
8-13
Project Management Cost & Budget
Learning Curves
Project Management Cost & Budget
Problems with Cost Estimation

Low initial estimates

Unexpected technical difficulties

Lack of definition

Specification changes

External factors
8-15
Budgeting

8-16
Project Management Cost & Budget
Creating a Project Budget
Work
Breakdown The budget is a plan
Structure
WBS
that identifies the
resources, goals and
Project
schedule that allows
Plan
a firm to achieve
Scheduling Budgeting those goals

• Top-down: from overall project costs to major wp-s

• Bottom-up: from work packages to overall project cost

• Activity-based costing (ABC) 8-17


Project Management Cost & Budget
Budget Contingencies

The allocation of extra funds to cover


uncertainties and improve the chance of finishing
on time.

Contingencies are needed because


• Project scope may change
• Cost estimation must anticipate interaction costs
• Normal conditions are rarely encountered
8-18
Project Management Cost & Budget
Planned and actual costs

• Planned cost – Committed cost = Cost variance


• Variance can be positive or negative
• Negative variance is always bad, but the
positive is not necessarily good.
Project Management Cost & Budget

Examples
• What is the variance if the budgeted cost is 200 and the actual
cost is 250?
200 – 250 = variance thus
Variance = -50

• What is the actual cost if the budgeted cost is 2000 and the
variance is 500?
2000 – actual cost = 500 thus
Actual cost = 1500

• What is the planned cost, if the actual cost is 120 and the
variance is -30?
Planned cost – 120 = -30 thus
Planned cost = 90
Project Management Cost & Budget
Example
• There is a project with three activites planned for a year
– ‘a’ with a planned cost of 1000,
– ‘b’ with a planned cost of 500 and
– ‘c’ with a planned cost of 1500.
• ‘a’ activity turned out to be more expensive (with an
additional 200).
• ‘b’ was done as budgeted.
• ‘c’ is not finished in the year, and only 1000 was spent on it.
• An additional ‘d’ activity was needed and performed with a
cost of 300.

• What is the cost variance for the given year?


(1000+500+1500) – (1200+500+1000+300) = 0
Project Management Cost & Budget
Cost & schedule variances
• For any instant we can calculate:
– BCWS: budgeted cost of work scheduled
– BCWP: budgeted cost of work performed
– ACWP: actual cost of work performed
• From these, two variances can be derived:
– Schedule variance in cost terms = BCWP – BCWS
– Cost variance = BCWP – ACWP
Project Management Cost & Budget
Cost & schedule variances
"Test hardware" estimated to run from 1 January to 10 January
and to cost $1000, and that this is a simple effort with no
overhead or allocated costs. However on 5 January, halfway
through the time allowed, the work is 30% complete and has
spent $250.

1. BCWP is $1000 (budgeted cost) times 30% = $300


2. BCWS is $1000 (budgeted cost) times 50% = $500
3. ACWP is $250

8-23
Project Management Cost & Budget
Problem solving
• There is a small project with the
following network diagram: a b d e

• The following table contains the information on the


activity durations and costs:
Activity label Duration (day) Cost of the activity

a 1 100
b 1 50
c 2 60
d 3 90
e 2 40
Project Management Cost & Budget

• Plot a Gantt chart from the information above and calculate the
BCWS for every day of the project.
a b d e

Solution c

Task Day 1 Day 2 Day 3 Day 4 Day 5 Day 6 Day 7


A 100
B 50
C 30 30
D 30 30 30
E 20 20
BCWS 100 180 240 270 300 320 340
Project Management Cost & Budget

Problem solving
• In the previous project, the project manager receives a
progress report of the first 4 days, with the following
information:
– Activity ‘a’ is completed
– Activity ‘b’ is completed
– Activity ‘c’ is 50% completed
– Activity ‘d’ is 33.33% completed
– Costs are calculated with completition ratio
• Calculate BCWP for the first 4 days

Solution
BCWP = 100 + 50 + 0.5(60) + 0.33(90) = 210

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