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The Importance of Project Cost
Management
• Projects have a poor track record for meeting cost goals
• Average cost overru...
What is Cost and Project Cost
Management?
Project Cost Management Processes
1. Resource planning: determining what resources and
quantities of them should be used
2...
Basic Principles of Cost Management
• Most CEOs and boards know a lot more about finance than
technical/engineering, so te...
Example : Cost of Defects
When Defect is Detected
User Requirements
Coding/Unit Testing
System Testing
Acceptance Testing
...
Basic Principles of Cost Management
1. Tangible costs – can easily measured.
2. Intangible costs – difficult to measure.
3...
Unit Cost

Basic Principles of Cost Management

Quantity Produced

When many items are produced repetitively, the unit
cos...
Reserves are dollars included in a cost estimate to mitigate
cost risk by allowing for future situations that are difficul...
Resource Planning
The nature of the project and the organization will affect
resource planning
Some questions to conside...
Cost Management Plan
• A cost management plan is a document that
describes how the organization will manage cost
variances...
Figure 7-1. Surveyor Pro Project Cost Estimate
Figure 7-2. Surveyor Pro Software Development Estimate
Common Sources of Project Cost
 Labor
 Materials

 Subcontractors
 Equipment & facilities

 Travelling, Mileage, Allo...
Eg: Labour Costs
Name

Hours
Needed

Overhead
Charge

Personal
Time Rate

Hourly
Rate

Total Direct
Labor Cost

John

40

...
Building Lease

Expedite

X

X

Copyright © 2010 Pearson
Education, Inc. Publishing as
Prentice Hall

X
X

X
X

8-16

Expe...
Cost Estimating
• An important output of project cost management is
a cost estimate
• Several types of cost estimates and ...
Cost Estimation
Ballpark  Yellow Pad  Guesstimate 30%
Comparative 15%

Feasibility 10%
Definitive 5%
Copyright © 2010 ...
Types of Cost Estimates
Type of Estimate
Rough Order of
Magnitude (ROM)

Budgetary
Definitive

When Done

Why Done

How Ac...
Cost Estimation Tools and Techniques
• 3 basic tools and techniques for cost
estimates:
–analogous or top-down: use the ac...
Copyright © 2010 Pearson
Education, Inc. Publishing as
Prentice Hall

8-21
Problems with Cost Estimation
Low initial estimates
Unexpected technical difficulties

Lack of definition
Specificatio...
Copyright © 2010 Pearson
Education, Inc. Publishing as
Prentice Hall

8-23
Creating a Project Budget
WBS
Project
Plan
Scheduling

Budgeting

• Top-down
• Bottom-up
• Activity-based costing (ABC)
Co...
Activity-Based Costing
Projects use activities & activities use resources
1. Assign costs to activities that use resources...
Copyright © 2010 Pearson
Education, Inc. Publishing as
Prentice Hall

8-26
Months
Activity

January

Survey

February

March

April

May

4,000

4,000

Design

5,000

Clear Site

4,000

Foundation
...
Budget Contingencies
The allocation of extra funds to cover
uncertainties and improve the chance of finishing
on time.

•
...
ABC VIDEO

Booz Allen User
Copyright © 2010 Pearson
Education, Inc. Publishing as
Prentice Hall

8-30
• Project Management Institute – home of the Project
Management Body of Knowledge (PMBOK)
http://www.pmi.org/Pages/default...
Project Management C8  -cost_estimation_and_budgeting
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Transcript of "Project Management C8 -cost_estimation_and_budgeting"

  1. 1. The Importance of Project Cost Management • Projects have a poor track record for meeting cost goals • Average cost overrun from 1995 CHAOS study was 189% of the original estimates; improved to 145% in the 2001 study • The 2003 CHAOS studies showed the average cost overrun (the additional percentage or dollar amount by which actual costs exceed estimates) was 43 percent. • In 1995, cancelled projects cost i.e IT in the U.S. over $81 billion • U.S. lost $55 billion in projects i.e IT in 2002 from cancelled projects and overruns compared to $140 billion in 1994.* *The Standish Group, “Latest Standish Group CHAOS Report Shows Project Success Rates Have Improved by 50%,” A Standish Group Research Note (3/25/03).
  2. 2. What is Cost and Project Cost Management?
  3. 3. Project Cost Management Processes 1. Resource planning: determining what resources and quantities of them should be used 2. Cost estimating: developing an estimate of the costs and resources needed to complete a project 3. Cost budgeting: allocating the overall cost estimate to individual work items to establish a baseline for measuring performance 4. Cost control: controlling changes to the project budget
  4. 4. Basic Principles of Cost Management • Most CEOs and boards know a lot more about finance than technical/engineering, so technical project managers must speak their language – Profits are revenues minus expenses – Life cycle costing is estimating the cost of a project plus the maintenance costs of the products it produces – Cash flow analysis is determining the estimated annual costs and benefits for a project – Benefits and costs can be tangible or intangible, direct or indirect – Sunk cost should not be a criteria in project selection
  5. 5. Example : Cost of Defects When Defect is Detected User Requirements Coding/Unit Testing System Testing Acceptance Testing After Implementation Typical Cost of Correction $100-$1,000 $1,000 or more $7,000 - $8,000 $1,000 - $100,000 Up to millions of dollars It is important to spend money up-front on projects to avoid spending a lot more later.
  6. 6. Basic Principles of Cost Management 1. Tangible costs – can easily measured. 2. Intangible costs – difficult to measure. 3. Direct costs - directly related to producing products and services. 4. Indirect costs - not directly related to the products or services of the project 5. Sunk cost - money that has been spent in the past
  7. 7. Unit Cost Basic Principles of Cost Management Quantity Produced When many items are produced repetitively, the unit cost of those items decreases in a regular pattern as more units are produced
  8. 8. Reserves are dollars included in a cost estimate to mitigate cost risk by allowing for future situations that are difficult to predict. Contingency reserves allow for future situations that may be partially planned for (sometimes called known unknowns) and are included in the project cost baseline. Management reserves allow for future situations that are unpredictable (sometimes called unknown unknowns). Booz Allen User
  9. 9. Resource Planning The nature of the project and the organization will affect resource planning Some questions to consider: How difficult will it be to do specific tasks on the project? Is there anything unique in this project’s scope statement that will affect resources? What is the organization’s history in doing similar tasks? Does the organization have or can they acquire the people, equipment, and materials that are capable and available for performing the work?
  10. 10. 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 labor costs, so project managers must develop and track estimates for labor.
  11. 11. Figure 7-1. Surveyor Pro Project Cost Estimate
  12. 12. Figure 7-2. Surveyor Pro Software Development Estimate
  13. 13. Common Sources of Project Cost  Labor  Materials  Subcontractors  Equipment & facilities  Travelling, Mileage, Allowances, Refreshments Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-14
  14. 14. Eg: Labour Costs Name Hours Needed Overhead Charge Personal Time Rate Hourly Rate Total Direct Labor Cost John 40 1.80 1.12 $21/hr. $1,693.44 Bill 40 1.80 1.12 $40/hr. 3,225.60 J.P. 60 1.35 1.05 $10/hr. 850.50 Sonny 25 1.80 1.12 $32/hr. 1,612.80 Total Direct Labor Cost = $7,382.34 Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-15
  15. 15. Building Lease Expedite X X Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall X X X X 8-16 Expedited X Normal X Variable X X Material Non-recurring Fixed X Indirect Direct Direct Labor X X X Costs Recurring Cost Classifications X X
  16. 16. Cost Estimating • An important output of project cost management is a cost estimate • Several types of cost estimates and tools and techniques to help create them • It is also important to develop a cost management plan that describes how cost variances will be managed on the project VO = Variances Order
  17. 17. Cost Estimation Ballpark Yellow Pad Guesstimate 30% Comparative 15% Feasibility 10% Definitive 5% Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-18
  18. 18. Types of Cost Estimates Type of Estimate Rough Order of Magnitude (ROM) Budgetary Definitive When Done Why Done How Accurate Very early in the project life cycle, often 3–5 years before project completion Early, 1–2 years out Provides rough ballpark of cost for selection decisions –25%, +75% Puts dollars in the budget plans –10%, +25% Later in the project, < 1 year out Provides details for purchases, estimate actual costs –5%, +10%
  19. 19. Cost Estimation Tools and Techniques • 3 basic tools and techniques for cost estimates: –analogous or top-down: use the actual cost of a previous, similar project as the basis for the new estimate –bottom-up: estimate individual work items and sum them to get a total estimate –parametric: use project characteristics in a mathematical model to estimate costs
  20. 20. Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-21
  21. 21. Problems with Cost Estimation Low initial estimates Unexpected technical difficulties Lack of definition Specification changes External factors Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-22
  22. 22. Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-23
  23. 23. Creating a Project Budget WBS Project Plan Scheduling Budgeting • Top-down • Bottom-up • Activity-based costing (ABC) Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-24 The budget is a plan that identifies the resources, goals and schedule that allows a firm to achieve those goals
  24. 24. Activity-Based Costing Projects use activities & activities use resources 1. Assign costs to activities that use resources 2. Identify cost drivers associated with this activity 3. Compute a cost rate per cost driver unit or transaction 4. Multiply the cost driver rate times the volume of cost driver units used by the project Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-25
  25. 25. Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-26
  26. 26. Months Activity January Survey February March April May 4,000 4,000 Design 5,000 Clear Site 4,000 Foundation Framing Plumb & Wire Monthly Planned Cumulative Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall Total by Activity 3,000 8,000 4,000 7,500 7,500 8,000 2,000 10,000 1,000 4,000 5,000 4,000 9,000 10,500 9,000 6,000 4,000 13,000 23,500 32,500 38,500 8-27 38,500
  27. 27. 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 Murphy’s Law is present Cost estimation must anticipate interaction costs Normal conditions are rarely encountered Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-28
  28. 28. ABC VIDEO Booz Allen User
  29. 29. Copyright © 2010 Pearson Education, Inc. Publishing as Prentice Hall 8-30
  30. 30. • Project Management Institute – home of the Project Management Body of Knowledge (PMBOK) http://www.pmi.org/Pages/default.aspx • NYS Project Management Guidebook Release 2 http://www.oft.state.ny.us/pmmp/guidebook2/index.htm • FNS Handbook 901, Chapter 5 http://www.fns.usda.gov/apd/Handbook_901/V_1-2/Chapter_5.pdf Booz Allen User
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