Project Cost Management

1. Project Cost Management

2. Chapter One
Plan Cost Management
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3. Learning Outcome
After this chapter, you should be able to:
• Understand how to developing the cost management
approach
• Understand how to Create a Project Budget
• Understand how to managing changes to the project budget
• Understand how to How to develop a cost management
plan
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4. Plan Cost Management
• Mismanaging project costs is the single fastest way to cause
project failure. The project costs represent the many multi-
faceted experiences that occur on the project, however
stakeholders see only the bottom line and rapidly draw
conclusions from them.
• For this reason, the planning of the management of project
costs is the focus of the Project Management Body of
Knowledge’s Plan Cost Management process, contained
within the Project Cost Knowledge Area.
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• Plan Cost Management is the process used to estimate,
budget, manage, monitor, and control the project costs.
• This process establishes the policies, procedures, and
documentation for planning, managing, expending, and
controlling project costs.
• This process guides and direct how the project costs would be
managed throughout the project life cycle.
• Plan Cost Management is the process of defining how the
project costs will be estimated, budgeted, managed,
monitored, and controlled. The key benefit of this process is
that it provides guidance and direction on how the project
costs will be managed throughout the project
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6. What is Project Cost Management?
• Project cost management is the process of estimating,
budgeting and controlling costs throughout the project life
cycle, with the objective of keeping expenditures within the
approved budget.
• For a project to be considered a success, it’s necessary that
• it delivers on the requirements and scope
• its execution quality is of a high standard
• it’s completed within schedule and
• it’s completed within budget.
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• Hence, project cost management is one of the key pillars of
project management and is relevant regardless of the
domain, be it manufacturing, retail, technology, construction
and so on. It helps to create a financial baseline against
which project managers can benchmark the current status of
their project costs and realign the direction if needed.
Why is Project Cost Management Important?
• The importance of cost management is easy to understand.
To take a simple, real-life example, if you decide to build a
house, the first thing to do is set the budget. When you have
a sense of how much to spend on the project, the next step is
to divide the high-level budget into expenses for sub-tasks
and smaller line items.
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• The budget will determine critical decision points such as:
which designer to hire — someone who will construct and
deliver the project end-to-end, or someone who can help
with a few elements and be able to work for a smaller
budget? How many stories should the structure have? What
quality of materials should be used?
• Without a predefined budget, not only is it difficult to
answer these questions, but it becomes impossible to assess
whether you are progressing in the right direction once the
project is underway.
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• In large organizations, the scale of this problem is further
heightened due to concurrent running of multiple projects,
change in initial assumptions and the addition of unexpected
costs. That’s where cost management can help.
• By implementing efficient cost management practices, project
managers can:
• Set clear expectations with stakeholders
• Control scope creep by leveraging transparencies
established with the customer
• Track progress and respond with corrective action at a
quick pace
• Maintain expected margin, increase ROI, and avoid losing
money on the project
• Generate data to benchmark for future projects and track
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10. Creating Processes for Developing the Project
Budget
• Before we jump to the ins and outs of creating a project
budget, let’s define what a project budget is in the first place.
• The budget for a project is the combined costs of all
activities, tasks, and milestones that the project must fulfill.
In short: it’s the total amount of money you’ll need to finish
the project that should be approved by all the stakeholders
involved.
• You start creating a project budget during the kickoff phase
of the project and continue monitoring it till the project
reaches the finish line.
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• A meticulously planned project budget is the holy grail of
the new service economy where scaling smoothly and
sustainably is critical to company survival.
Why a project budget is important
• There are at least three reasons to explain the importance of
having a project budget plan.
 First, it’s an essential part of securing project funding.
 Second, a well-planned budget provides the basis for project
cost control.
 Third, a project budget has a direct effect on the company's
financial viability.
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How to Create a Project Budget?
• As mentioned earlier, there are a lot of different
factors necessary to create a budget such
as fixed and variable costs, labor, direct and indirect
costs, materials and licenses, etc.
• To meet all of the different needs and requirements of the
project, the budget has to be created with the utmost
dedication and keep track of all of the aspects of the project
so that nothing goes unattended that required funding.
• To create the perfect budget, here are seven different steps
that can be use.
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1. Use previous data history
2. Use the acquired knowledge
3. Contact the experts
4. Confirm accuracy
5. Keep the budget dynamic
6. Update the budget in real time
7. Get on track
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14. Managing Changes to the Project Budget
• Budget overruns are a project manager's nightmare. These
budget management strategies will keep your project budget
under control and your stakeholders happy — even during
uncertain times
• Budget overruns have always been a litmus test for project
success or failure. During the current uncertainty pandemic
made staying within budget became a bigger nightmare,
with the most successful companies, and the best project
managers, put to the ultimate test of prudently managing
financial resources during massive uncertainty.
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• Many stakeholders have had to reexamine their changing
priorities, budgets, and project success or failure definition.
The global uncertainty now fuels the increasing pressure for
project leaders and their teams to change their budgeting
strategy and project execution. As such, effective budget
management is a primary area of focus for project managers
who value their careers.
• Following are six strategies for maintaining control of the
project budget during a time of increased uncertainty before
it succumbs to whopping cost overruns.
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1. Understand stakeholder’s true needs and wants
• The need or want in a project isn’t as simple as it may seem
upfront. This can lead to unidentified goals and expectations
on both sides of the table.
• We need to be sure & give much time as is required to get a
deeper understanding of what stakeholders expect. Finally
everything, including the budget, is defined by stakeholder
expectations, deliverables, and other requirements.
• So the first step to an effectively managed project budget is
to ensure project requirements are accurately identified,
documented, and confirmed with all stakeholders. This
crucial step should be completed before budgets are set.
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2. Recognize when circumstances have changed
• When it comes time to estimate costs, be realistic — leave room for
unforeseen changes. When circumstances change, make sure to get input
from all applicable stakeholders. More importantly, build in
contingencies.
• Many factors outside of your control can impact your budget, including
the pricing of supplies, resources, labor, financing, product/service
shortages, currency exchanges, and so on.
• In Today’s environment price are changed frequently and make sure
vendors can deliver on their promises and prepare a backup plan.
• Getting input from other stakeholders and vetting suppliers and vendors
can go a long way to setting a more realistic budget that can be met, even
when there are unforeseen circumstances that impact costs. Plan for
surprises, so you aren’t blindsided.
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3. Keep stakeholders informed
• Once you become aware of changes that might impact your
projects and stakeholders, it’s critical to loop them in and let
them know what’s changed, how it affects them and the
project outcome, and what’s being done to keep as close to
budget as possible.
• If maintaining the current project budget is not possible,
stakeholders should know the root cause of any potential
overruns to make informed decisions about proceeding.
Scope changes are likely necessary. The important point here
is that uncertainty in the broader sense.
• Stakeholders such as the customer may need to decide
whether the time or circumstances are right to continue,
defer, or stop a project altogether.
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4. Precisely identify and manage change
• Change management is one of the most underestimated areas
when managing projects.
• Project management specialists understand the importance of
communication and how processes impact stakeholders.
Something may seem like a slight change in any process yet
can significantly increase costs and throw off budgets.
• Change management specialists should work with project
teams to identify, document, and communicate the precise
strategies to deal with internal and external changes that can
push costs over budget.
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5. Develop relevant KPIs
• You can’t effectively manage a project budget without
establishing key performance indicators (KPIs). KPIs help
you ascertain how much has been spent on a project, the
extent to which the project’s actual budget differs from what
was planned, and so on. Here are just a few commonly
known and used project KPIs that are essential to effective
project budget management:
 Actual cost (AC), also known as actual cost of work
performed (ACWP), shows how much money has been
spent on a project to date.
 Cost variance (CV) indicates whether the estimated
project cost is above or below the set baseline.
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 Earned value (EV), also known as budgeted cost of work
performed (BCWP), shows the approved budget for
performed project activities up to a particular time.
 Planned value (PV), also known as budgeted cost of
work scheduled (BCWS), is the estimated cost for project
activities planned/scheduled as of the reporting date.
 Return on investment (ROI) shows a project’s
profitability and whether the benefits have exceeded the
costs.
• Update KPIs as circumstances change to ensure the right
information is being captured and measured for decision
making.
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6. Revisit, review, re-forecast
• A project left to run without budget management and re-
forecasting will lead to failure. Frequent budget oversight is
essential in preventing budgets from getting too far out of
hand. A 10% budget overrun is far easier to correct than a
50% overrun, and if you don’t keep an eye on your budget
and reforecast, that 10% overrun can turn into a 50% overrun
before you know it. Your chances of keeping a project on
track with frequent budget review are far greater than if you
forecast once and forget about it.
• Just as a project’s budget needs to be constantly revisited to
keep it on track, so too do the project’s resource usage, since
the people working on a project contribute to its cost.
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• Project managers should review the number of people currently
working on a project and the project’s future resource needs on a
weekly basis. Doing so will ensure that you’re fully utilizing the
resources you have and that you have the right resources ready
for the rest of the project. Regularly revisiting the resource forecast
and current needs will help keep your project budget on track.
Scope creep is one of the leading causes of project overruns.
• The current uncertainty ensure a significant amount of unplanned
work made its way into many projects globally — creating an
increase in billable hours and out of control project budgets.
Project managers must carefully manage scope by creating change
orders for work that isn’t covered by the project’s initial
requirements. Change orders authorize additional funding for the
project to cover the cost of extra work and thus keep the project
aligned with its new budget.
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24. Creating the Cost Management Plan
• When planning a project, it's important to create a data-
driven strategy for managing costs.
• A cost management plan can help you establish a budget,
determine how to use your resources and monitor funds.
• Understanding how to create a cost management plan may
help you deliver a project successfully.
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• A cost management plan is a document that helps you map
and control a budget. It enables project managers to estimate
their costs, allocate resources to the right areas, and control
overall spending.
• Cost management plans keep all project costs in one place,
including direct and indirect costs. A project manager will
track these costs to ensure there are no budget overruns.
• A cost management plan example could be the budget for a
home improvement project. Direct costs would include hired
labor and building materials. Indirect costs would include
equipment rental fees, insurance, and general maintenance.
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Elements of a cost management plan
• Here are the elements of a successful cost management plan:
Units of measurement
• Units of measurement are the standards you use to measure
budget and variations in project scope. Decide what units
you want to use to measure project aspects such as monetary
amounts, dimensions and quantities. Establishing units of
measurement is important if you're working with multiple
calculations or currencies, and this reference point can make
communication easier.
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Performance measurement
• Performance measurement refers to the practice of analyzing
project progress. An example of performance measurement
is percent completion. You can use one or more methods of
measurement to determine how close you are to meeting
project objectives or completing certain tasks.
Control thresholds
• Control thresholds help you manage the control costs of a
project throughout completion. These figures depend on the
project size and budget and help you stay within budgets
and deadlines. For example, if a project's budget is $50,000,
you might set your control threshold at $1,000. If an aspect
of the project exceeds the budget by $1,000, it's necessary to
resolve the issue.
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Levels of precision
• This element lists the standards you measure so that you and
your team have more insight into the project. Determining
the level of precision is necessary when measuring amounts
or making calculations. For example, you might state in your
project plan that measurements can vary by up to 2
centimeters or that it's necessary to include three decimal
points in calculations. Setting consistent levels of precision
and ensuring all team members understand them can help
you maintain an accurate cost estimation.
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Levels of accuracy
• Levels of accuracy are similar to levels of precision but
involve percentages and the degree to which they can vary
before you respond to them. If you set your level of accuracy
at 8%, for example, costs can fluctuate up to 8% above your
planned budget before you respond. Levels of accuracy can
help you control costs while allowing for inevitable
variations.
Reporting formats
• Determine how and when you plan to report project progress
so that you can identify potential variations. It's important to
use a consistent format for every report so that team
members know what they're looking for each time. Identify
which details you want to include in each report, and set
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Cost management terms
• Cost management plans include many figures and
calculations that have established names. Before creating
your plan, it's important to understand the terminology so
you can measure the correct items and produce an accurate
report.
• Here are some terms you may use when creating a cost
management plan:
• Cost baseline: The cost baseline is an estimate of project
costs based on the project's set timeline. You can use this
baseline to assess project performance.
• Earned value measurement: This technique involves
measuring project progress based on the amount of work
completed.
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• Three-point estimation: This technique uses a formula to
create the minimum and maximum estimates of a project's
costs, length and amount of work so you can calculate the
ideal estimate value.
• Bottom-up estimation: With bottom-up estimation, you
estimate the costs of the smallest details and add them
together to estimate the total project cost.
• Analogous estimation: You can calculate this estimate by
comparing the costs of all past projects to your current
ones.
• Parametric estimation: This estimate involves calculating
the unit cost of each task, adding them together and
comparing them to your budget.
• Work breakdown structure: This visual layout of a project
shows the tasks you expect all team members to perform.
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Why is a cost management plan important?
• A cost management plan is important because it creates a
detailed outline of your project budget. It helps project
managers to stay organized and on track to hit their project
deliverables.
• If you don’t estimate costs accurately, allocate sufficient
resources where they are needed, and regularly monitor
spending, you run the risk of budget overrun. This can lead to
project failure. Therefore, cost planning in project management
is an essential exercise in ensuring project success.
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• A project cost management plan can also be highly beneficial
for cutting unnecessary costs. One of the biggest challenges
project managers face is an overstretched budget with no
clear indication of excess spending.
• According to Harvard Business Review, “ to cut costs
effectively, companies must connect costs to their strategy.”
• A cost management plan will help project managers to
assess cost priorities and save money.
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How to develop a cost management plan
• Here are the steps you can take to create an effective cost
management plan:
1. Plan resources
• Before starting a project, determine the resources it requires,
which might include certain people, skills, materials, tools,
equipment and funds. You can use a work breakdown
structure to illustrate the project and assign individuals and
resources to each task. This outline also lets you visualize the
costs associated with each stage of the project. Consider
using the resource inventory you gather to estimate costs
accurately.
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2. Estimate costs
• An accurate estimation of a project's cost compared to its
actual cost is necessary for success. Consider not only the
resources identified in the work breakdown structure but
also factors such as fixed costs, variable costs, overhead,
inflation and the time value of money.
• Here's the information you might need in your cost
estimation:
• The resources you identified in the previous step
• The price of each resource
• How long you need each resource
• Potential risks
• Costs of similar projects
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• You can use a variety of techniques to estimate the project's
costs, depending on the information you have available. If
you have a large amount of data about costs from similar
projects you've completed in the past, you might use
analogous estimation. If you don't, you might consider a
bottom-up approach. Use your cost estimation to make
decisions about the project's budget and schedule. You can
also change your estimate as the project and its scope
change. Some project managers create a new estimate for
each stage of the project.
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3. Create a budget
• Calculate all the expenses of your project so that you can accurately
determine how much funding it needs. To create a budget, project
managers need:
• Cost estimates
• The project schedule
• The project scope
• Organizational process assets, which are the company's
plans, policies and procedures
• Determine how much money you assign to each task and for how
long. Then, establish a cost baseline you can use to measure the
project's performance. To manage costs more accurately, create a
separate budget for each phase that you can control and adjust
depending on the project's progress. You might meet your
budgeting goals easier if you're doing it by milestone or stage,
rather than trying to match the budget for the entire project.
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4. Perform cost control
• Cost control involves comparing the differences between
your cost baseline and actual costs and making adjustments
to keep the project within budget. You can perform cost
control repeatedly throughout the project to monitor and
reduce spending or increase the budget as needed. Use your
predetermined control thresholds to determine when it's
necessary to resolve any issues.
5. Measure performance
• Create reports in consistent formats and at regular intervals
throughout the project to monitor performance. Reporting
can help you identify variations in the planned budget versus
the actual budget. It can also help you determine whether
you're meeting your goals and milestones. You can look back
at your reports for reference when planning future projects.
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