Project Cost Management 6

CTEC210
Fundamentals of
Project Management
Project Cost Management

 Includes the processes involved in

estimating, budgeting and controlling costs so
that the project can be completed within the
approved budget.
 Plan Cost Management
 Estimate Costs
 Determine Budget
 Control Costs

2
Types of Costs

 Direct costs  Fixed costs

 Costs incurred directly by  Will be constant,
the project regardless of the size of
the project
 Readily identified

 Indirect costs  Variable costs

 Will vary in size with the
 Costs allocated to the
size of the project
project by the
 Related to specific
organization
project parameters or
 Cost of doing business objectives

3
Types of Costs
 Sunk cost  Expense
 Cannot be recovered  Cost deducted against
 Costs already expended income for current year
 Related to operations
 Opportunity costs  Capital costs
 Benefits not realized due
 Not an expense,
to choosing a particular
alternative depreciated over time
 Not a true cost, and  Related to projects
difficult to confirm

4
Plan Cost Management

 The process that establishes the policies,

procedures, and documentation for planning,
managing, expending, and controlling project
costs.
 Provides guidance on how the project costs
will be managed throughout the project

5
7.1 Plan Cost Management

Inputs Tools and Outputs

• Project charter
Techniques • Cost management
• Expert judgment
• Project management plan
• Data analysis
plan
• Meetings
• Enterprise
environmental factors
• Organizational process
assets

Adapted from Figure 7-2, A Guide to the Project Management Body of Knowledge (PMBOK® 6
Guide) - Sixth Edition, Project Management Institute, Inc., 2017. Copyright and all rights reserved.
Material from this publication has been reproduced with the permission of PMI.
Cost Management Plan

 A cost management plan is a document

that describes how the organization will
manage cost variances on the project
 A large percentage of total project costs are
often labour costs, so project managers must
develop and track estimates for labour

7
Plan Cost Management: Outputs

 Cost management plan

 Units of measure
 Level of precision
 Level of accuracy
 Organizational procedures links
 Control thresholds
 Rules of performance measurement
 Reporting formats
 Additional details – strategic funding choices, currency
exchange rates and project cost reporting
8
7.2 Estimate Costs

 Developing an approximation of the monetary

resources needed to complete project activities
 An estimate is not usually accurate
 May also be called a forecast, calculation, etc.
 Cost estimating versus pricing
 Pricing includes other elements – e.g., profit
 Estimating includes identifying and investigating
various costing alternatives

9
Estimating Costs

 Project managers must take cost estimates

seriously if they want to complete projects
within budget constraints
 It’s important to know the types of cost
estimates, how to prepare cost estimates,
and typical problems associated with IT cost
estimates

10
7.2 Estimate Costs

Inputs Tools and Outputs

• Project management
Techniques • Cost estimates
• Expert judgment
plan • Basis of estimates
• Analogous estimating
• Project documents • Project documents
• Parametric estimating
• Enterprise updates
• Bottom-up estimating
environmental factors
• Three-point estimates
• Organizational process
• Data analysis
assets
• Project management
information system
• Decision making

Adapted from Figure 7-4, A Guide to the Project Management Body of Knowledge (PMBOK® 11
Guide) - Sixth Edition, Project Management Institute, Inc., 2017.Copyright and all rights reserved.
Material from this publication has been reproduced with the permission of PMI.
 Definitive -5% to 10%
Budget -10% to +15%
Estimate Classes Order of Magnitude -50% to 100%

Class of Expected Scope & Time Estimating

Estimate Accuracy Resources Procedure

1 Definitive  complete plans and priced from quotes

5% specs and detailed
(detailed)  detailed time schedule calculations
2 Capital  complete design, priced from unit
10% outline specs rates and measured
 basic time schedule quantities
3 Approximate  design elements, final priced from
15% features composite rates
(Budget)  summary time plan
4 Preliminary  final concept, general prices prorated
20% features from similar
(appropriation)  phase time plan projects
5 Feasibility  preliminary concept, priced from main
25% and assumed features components
 milestone time plan
6 Order of  relative size priced in
30%  target completion date comparison with
magnitude other projects
(ballpark)
12
Parametric Modelling

 Use formulae derived from projects

 Two methods are available to calculate a parametric formula
1 Statistical analysis
2 Logical analysis
 Either approach can result in valid models
 Both require recent data from similar projects
 For Detailed Estimates - Class 2 or 3
 Use complex models from extensive statistical or logical
analysis
 Best to use separate value for each parameter
 For Preliminary Estimates - Class 4 or 5
 Use simple models based on average rates

13
Analogous (Top-Down) Estimating

 Used for Class 6 - Order of Magnitude

 Compare total costs for similar projects
 Advantages
 Fast, understandable, inexpensive
 Information may be readily available
 Based on actual cost expenditures
 Disadvantages
 Lack of similar projects
 Lack of reliable information

14
Detailed (Bottom-Up) Estimating

 Used for Class 1 - Definitive Estimates

 Requires detailed measurement of all
components (e.g., quantity surveying)
 Uses established rates for each part, based
on industry standards, known labour input,
and supplier costs
 Possible only when the design and
specifications are complete

15
Typical Problems with IT Cost
Estimates
 Estimates are done too quickly
 Lack of estimating experience
 Human beings are biased toward
underestimation
 Management desires accuracy

16
Detailed Cost Estimating Process

 Determine project scope and timing

 Measure quantities of components
 Prepare estimate from existing unit rates
 Obtain quotes and implement project
 Find actual total and component costs
 Analyse costs and obtain rates
 Adjust unit rates due to new information

17
7.3 Determine Budget

 Process of aggregating the estimated costs

of individual activities or work packages to
establish an authorized cost baseline

18
7.3 Determine Budget

Inputs Tools and Outputs

Techniques
• Project management • Expert judgment • Cost baseline
plan • Cost aggregation • Project funding
• Project documents • Data analysis requirements
• Business documents • Historical information • Project documents
• Agreements review updates
• Enterprise environmental • Funding limit
factors reconciliation
• Organizational process • Financing
assets

Adapted from Figure 7-6, A Guide to the Project Management Body of Knowledge (PMBOK® 19
Guide) - Sixth Edition, Project Management Institute, Inc., 2017. Copyright and all rights reserved.
Material from this publication has been reproduced with the permission of PMI.
Determine Budget: Inputs

 Project management  Product documents

plan  Basis of estimates
 Cost management plan  Cost estimates
 Resource  Project schedule
management plan  Risk register
 Scope baseline
 Business documents
 Business case
 Benefits management
plan

20
Determine Budget: Outputs

 Cost baseline

Cumulative Cost
 Time-phased
 Tracks the
cumulative costs
Cost Baseline
 S-curve usually
 Why?

Time
Surveyor Pro Project Cost Estimate

22
Surveyor Pro Project Cost Baseline

23
Project Budget Components

24
7.4 Control Costs

 Monitoring cost performance to detect

variances from the baseline
 Ensuring that all appropriate changes are
recorded accurately and authorized

25
Control Costs

 Project cost control includes:

 Monitoring cost performance
 Ensuring that only appropriate project changes
are included in a revised cost baseline
 Informing project stakeholders of authorized
changes to the project that will affect costs
 Many organizations around the globe have
problems with cost control

Information Technology Project 26

Management, Sixth Edition
7.4 Control Costs

Inputs Tools and Outputs

Techniques
• Project management • Expert judgment • Work performance
plan • Data analysis information
• Project documents • To complete • Cost forecasts
• Project funding performance index • Change requests
requirements (TCPI) • Project management
• Work performance • Project management plan updates
data information system • Project document
• Organizational updates
process assets

Adapted from Figure 7-10, A Guide to the Project Management Body of Knowledge (PMBOK® 27
Guide) - Sixth Edition, Project Management Institute, Inc., 2017. Copyright and all rights reserved.
Material from this publication has been reproduced with the permission of PMI.
How are we doing?
 A software development  A bookstore chain company
company is three months  Plans to install systems in
into a new project 12 outlets this year
 The project manager totals  Can complete one outlet
the staff hours per month
 She finds them above her  PM has separate contracts
estimates for each store
 She complains to the team  Six months into the year,
leaders only five are open
 They reply that staff have  Controller says that cash
been working hard and flow is as expected
doing really well  VP has asked for status
 Should the PM be report
concerned?  What is the situation?

28
Actual vs. Plan can be Misleading

 Over budget at project mid-  Earned Value

point Management
 Overspent or ahead of  A financial project tool
schedule?
 A method of performance
 Under budget at project measurement
mid-point
 Supplies the missing
 Cost savings, or
insufficient work? accomplishment data
 On budget at project mid-  Can be used to monitor the
point progress of
 Excellent, Good or Poor?  external consultants and
contractors
 The missing data is
accomplishment  internal groups and staff

29
Earned Value Management
 Earned value is useful for
 Monitoring outside vendors and suppliers
 Reporting project status to senior management
 Assessing project trends
 Determining schedule (ahead/behind)
 True budget status (over/under)
 Work packages are at the heart of EV system
 A project is divided and subdivided into logical, measurable
work packages
 Usually done from a work breakdown structure (WBS)
 Work packages provide the units for comparing progress in
 Work planned, funds spent and deliverables

30
Earned Value Management:
The Key Components
1 PLANNED VALUE (PV): What did we plan to achieve by now?
 also called: the budgeted cost of the work scheduled (BCWS)
 the portion of the approved cost estimate planned to be spent on
the activity during a given period
 includes both direct and indirect costs

2 EARNED VALUE (EV): What have we achieved so far?

 also called: the budgeted cost of the work performed (BCWP)
 a percentage of the total budget equal to the percentage of the
work actually completed
 can include an estimated value for partly completed activities

31
Earned Value Management:
The Key Components
3 ACTUAL COST (AC) What have we spent so far?
 also called: the actual cost of the work performed (ACWP)
 the total of direct and indirect costs incurred in accomplishing
work on the activity in a given period

 A simple example...
 Scope: develop a new software application
 Budget: $100,000 including contingencies
 Schedule: One year (four quarters) starting January 1
 see diagram following...
A simple example Total Budget
100,000 $100,000

75,000 Planned
Dollar value

Status Date Expenditures

50,000
Planned Value
$25,000
Actual Cost
25,000 $22,000

Earned Value
$20,000
0
Q1 Q2 Q3 Q433
Financial Quarters
Earned Value Variance
Measures
 Subtract the Actual Cost or Planned Value from
Earned Value to show deviation to date
 What are the current variances for this example?
 Cost Variance
CV = earned value - actual cost = BCWP - ACWP
CV = EV - AC
negative CV is the $ value that performance lags behind costs

 Schedule Variance
SV = earned value - planned value = BCWP - BCWS
SV = EV - PV
negative SV is the $ value that performance is behind plan

34
Earned Value Performance
Indices
 Divide the Earned Value by the Actual Cost or
Planned Value to indicate trends to date
 What are the current indices for this example?
 Cost Performance Index
CPI = earned value / actual cost = BCWP / ACWP
CPI = EV/AC
CPI gives performance as a ratio of actual costs to date

 Schedule Performance Index

SPI = earned value / planned value = BCWP / BCWS
SPI = EV/PV
SPI gives performance as a ratio of the budget to date

35
A Simple Example Total Budget
100,000 $100,000

SV = EV-PV = 20,000- CV = EV-AC = 20,000-

25,000 = -5,000 22,000 = -2,000
SPI = EV/PV = CPI = EV/AC =
75,000 = 0.8
20,000/25,000 20,000/22,000 = 0.92
Planned
Dollar value

Status Date Expenditures

50,000
Planned Value
$25,000
Actual Cost
25,000 $22,000

Earned Value
$20,000
0
Q1 Q2 Q3 Q436
Financial Quarters
Determining the Earned Value of a
Work Package
 Not started: No earned value (of course)
 Completed: Earned value is equal to the planned
value for that task
 In progress: Different ways to calculate:
 Percent complete – Based on reports from staff
 Effort Left - Input from staff
 The 0/100 Rule – No value given until task is complete
 The 50/50 Rule – Task is given half the PV when started,
the balance when completed
 Other approaches can be used for certain tasks

37
 Actual Cost
Simple example $110,000

Continued Total Budget

Over budget
100,000 $100,000

75,000
Dollar value

Earned Value
Assume this $100,000
50,000 situation
continues

Actual end
25,000 of project

Planned end Finish late

of project
0
Q1 Q2 Q3 Q4
38
Financial Quarters
Forecasting Final Results

 Management wants to know:

 How will it all end?
 Final results determined by
 quality of the project plan
 actual performance results
 management’s desire to affect results
 Forecasting variables
 value of the work remaining
 performance efficiency factor
 total actual costs to date
Forecasting Final Cost Results:
Estimate at Completion
1. Actuals to date plus an new estimate
 Assumes all of the original estimating was seriously flawed
 Take your costs to date, then add a new estimate for the
remaining work
EAC = Actual Costs + New Estimate for Balance of Scope

2. Actuals to date plus remaining budget

 Assumes current cost variances are atypical
 Take your costs to date, then add the remaining budget for
the remaining work
EAC = Actual Costs + (Total Budget - Earned Value)
EAC = AC + BAC - EV
Forecasting Final Cost Results:
Estimate at Completion
3. Cumulative CPI Estimate at Completion
 Most commonly used approach for EAC
 Take your remaining work, divide it by your cost efficiency
to date, then add your costs to date
EAC = Actual Costs + (Total Budget - Earned Value)
Cumulative CPI

 Cumulative CPI EAC Simplified

 Above formula can be simplified through algebra…
 Divide your total budget (BAC) by cost efficiency to date
EAC = Total Budget / Cumulative CPI = BAC / CPI
Problem: The Quantum Project
400,000

Total
Budget
300,000 $400,000
Planned
Expenditures

Expenditures
Earned
200,000 Value
$120,000
Planned
Value
100,000 $100,000

Actual Cost
$80,000
0
Q1 Q2 Q3 Q4
Financial Quarters
Problem: The Quantum Project

 The Quantum Project has a total budget of $400,000 and a

schedule of 12 months. At the end of 3 months, the project
should have achieved $100,000 worth of work.
 Just before the Q1 status meeting the project manager
discovered that the work completed had a value of $120,000. In
addition, the expenditures and commitments to date for that
completed work totalled $80,000.
1. Should the project manager be pleased or not? Why?
2. What is the Cost Variance in dollars?
3. What is the Schedule Variance in dollars?
4. What is the Cost Performance Index?
5. What is the Schedule Performance Index?
6. What is the estimated cost at completion (Cumulative CPI EAC)
for the project at this point?

43
Problem: Phase 1 Status Report

 It is Saturday, and Fred is at the office completing

his Phase 1 Status Report. Today he should be the
end of Phase 1 - Planning.
 A number of those planning activities have been
completed; however, some of the activities that were
planned to be complete at this point have not been
finished yet. None of the Phase 2 activities are
underway yet.
 Fred has been studying the status reports from his
team leaders, and comparing his budget with the
cost records for actual expenditures and contract
commitments. They show the following:

44
Problem: Phase 1 Status Report
Activity description Approved Budget Payments and Invoices Value of Tasks
Amounts to date Completed to date
Concept Development 100,000 120,000 100,000

Feasibility Analysis 60,000 50,000 60,000

Project Definition 40,000 40,000 40,000

Preliminary Analysis 160,000 140,000 160,000

Secondary Analysis 100,000 100,000 80,000

Recommendations 20,000 15,000 10,000

1. What activities have not been finished?

2. What was the Budget for Phase 1?
3. How much has been spent (or committed to be spent) in Phase 1?
4. What is the value of the work that has been completed so far?
5. Is this phase of the project on budget?
6. Is this phase of the project on schedule?
7. If the rest of the project proceeds like Phase 1, will it finish on time?
45
Earned Value Example
A($100/$80) At Reporting Date:
PV = $ ( 100 + 200+ 400 + 400/2 +400) = $ 1300
EV = $ ( 100 + 200 + 400 + 400/2 + 0 + 600) = $ 1,500
B($200/$230) AC = $ ( 80 + 230 + 380 + 270 + 620) = $ 1,580
CV = EV – AC = 1,500 – 1,580 = - 80 Bad News
CPI = EV/AC = 1,500/1,580 = 0.94
SV = EV – PV = 1,500 – 1300 = 200 Good News
C($400/$380)
SPI = EV/PV = 1,500/1300 = 1.15
D($400/$270)

E($600/$620)

Legend F($400/) G($500/$0)

Activity (PV/AC) Time

Reporting
Planned and completed Date

Planned, started but not completed

Planned, but not started yet
46
Solution: The Quantum Project

1. Yes, the project is ahead of schedule and under budget.

2. CV = EV – AC = 120,000 – 80,000 = 40,000
3. SV = EV – PV = 120,000 – 100,000 = 20,000
4. CPI = Earned Value / Actual Cost = 120,000 / 80,000 = 1.5
5. SPI = Earned Value / Planned Value = 120,000 / 100,000 = 1.2
6. EAC = Total Budget / CPI = 400,000 / 1.5 = 266,667

47
Solution: Phase 1 Status Report
1. What activities have not been finished?
 Secondary Analysis and Recommendations
2. What was the Budget for Phase 1?
 $480,000
3. How much has been spent or committed so far in Phase 1?
 $465,000
4. What is the value of the work that has been completed so far?
 $450,000
5. Is this phase of the project on budget?
 No, over budget CV = EV – AC = - 15,000
6. Is this phase of the project on schedule?
 No, behind schedule SV = EV – AC = - 30,000
7. If the rest of the project proceeds like Phase 1, will it finish on
schedule?
 No.
48