PMP Chap 7 - Project Cost Management - Part 1

By: Anand Bobade (nmbobade@gmail.com)
Plan Cost
management
Estimate Cost Determine Budget Control Cost
Monitoring &
Controlling
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PMBOK Chapter 7 :
Project Cost Management
(Part 1)
Planning

7. Project Cost Management
L : Lesson
Introduction
Cost Management Definition
Cost Management Processes
Cost management related terms
Processes in details:
Review of all processes
Exam Essentials & Tips
Self Assessment
Additional Resources
P1 P2 P3 P4

By: Anand Bobade (nmbobade@gmail.com)By: Anand Bobade (nmbobade@gmail.com)
7. Project Cost Management -> Introduction
Provide cost management framework.
Develop a cost estimates.
Finalize budget including contingency reserves.
Prepare cost baseline
Control project cost.

7. Project Cost Management-> Definition
It includes processes involved in estimating, budgeting,
& controlling costs, so that project can be completed
within approved budget.
PM must make sure their projects are well defined, have accurate
time, cost estimates & have a realistic budget.
within
Approved budget
Estimating
Budgeting
Controlling

7. Project Cost Management Processes
7.1 Plan Cost Management:
Establishes the Policies, procedures, and documentation for
planning, managing, expending, controlling project costs.
7.2 Estimate Cost:
Developing an APPROXIMATION of the monetary resources needed
to complete project activities.
7.3: Determine Budget:
AGGREGATING the estimated costs of individual activities or WP to
establish cost baseline.
7.4 Control Cost:
MONITORING the status to update costs and managing changes to
the cost baseline

7. Project Cost Management -> Key Terms
Direct Cost
• Charged directly to the Project
Indirect Cost
• Company cost incurred across multiple projects
Fixed Cost
• Do not change
Variable cost
• Vary depending on the output
Opportunity Cost:
• The potential cost in choosing one project over another.
Sunk cost
• Already incurred cost

7. Project Cost Management -> Key Terms-> Direct & Indirect cost
Costs that can be directly
related to producing the
deliverable of the project.
E.g., Salaries, hardware &
software purchased for the
project.
Direct costs
Costs that are not directly
related to deliverable of the
project, but are indirectly
related to performing project.
E.g., Rent, Electricity, Internet
and office supplies.
Indirect costs

7. Project Cost Management -> Key Terms-> Variable cost
Variable Costs:
• Change with the amount of Production.
• E.g., cost of input material changes as per volume of
production.
If you want to increase the production volume, you will need to
increase input materials, resulting in increased input cost.

7. Project Cost Management -> Key terms -> Fixed Cost
Fixed Costs:
• Do not change with production.
• E.g., Rent, initial setup costs, monthly salary.
Initial factory setup cost & machines cost stays same, irrespective of
factory is fully used to its potential or not.

7. Project Cost Management -> Key terms -> Sunk Cost
Sunk cost
• Money that has been spent in the past.
• When deciding what projects to invest in or continue, you
should not include sunk costs.
• Sunk costs should be forgotten.
E.g., Advertisement , Marketing study & Research

7. Project Cost Management -> Key terms -> Opportunity cost
Opportunity Cost:
• The potential cost in choosing one project over
another.
• The cost of not chosen initiative/project.
Project 1: Build resort
Cost: $20 million
Project 2: Build a hotel.
Cost: $22 million
The opportunity cost of
not building hotel is $22
million
If you decide to build a
resort

• Money that has been spent in
the past;
• When deciding what projects
to invest in or continue, you
should not include sunk costs.
• Sunk costs should be
forgotten
Sunk cost
The cost given up by selecting
one project over another.
Opportunity Cost:
7. Project Cost Management -> Sunk Cost Vs. Opportunity cost

7. Project Cost Management -> Key Terms-> Cash flow
Cash flow:
• Refers to the movement of cash into or out of
the project.
• Can restrict/delay execution of the project.
Q1 Q2 Q3 Q4
Money Received 100,000 200,000 200,000 100,000
Expenses
Vendor1 Payment 0 100,000 100,000 75,000
Vendor1 Payment 0 150,000 100,000 75,000
Money spent 0 250,000 200,000 150,000
Cash Flow 100K -50K 0 -50K
Cash Balance 100K 300K-250K=50K 250K-200K=50K 150K-150K=0

By: Anand Bobade (nmbobade@gmail.com)By: Anand Bobade (nmbobade@gmail.com)
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7.1 Plan Cost Management
Plan Cost Management Definition
Plan Cost Management : ITTO
What are Analytical Techniques?
What is inside cost Management plan?
What is Life cycle costing?
Data flow diagram
Review
Guidelines for exam questions
Self Assessment
6.1 I T&T O

How PM will plan and execute the Cost management activities
Cost planning is very critical Starts early in the project
Involves Estimating,
Budgeting & controlling
Report cost (Cash flow) to
concern stakeholders

Establishes Policies, procedures & documentation for
planning, managing, expending & controlling project
costs.
It provides guidance and direction on how the project
costs will be managed throughout the project.
Establishing
Planning Managing
Expending Controlling
7.1 Plan Cost Management -> Definition

Inputs (4)
• Project
management
plan
• Project charter
• Enterprise
environmental
factors
• Organizational
process assets
Tools & Techniques (3)
• Expert judgment
• Analytical techniques
• Meetings
Outputs
• Cost
management
plan

7.1 Plan Cost Management-> Inputs
PMP
Project
Charter
EEF OPA

7.1 Plan Cost Management->Inputs->PMP
PMP
• Scope statement and WBS detail.
Scope
baseline
• When the project costs will be incurred.
Schedule
baseline
• Risks (Risk reserves)
• Communications (for reporting).
Other details

7.1 Plan Cost Management->Inputs->Project charter
Project
Charter
Provides the summary budget
Approval requirements that will influence the
management of the project costs.
Measurable
objectives &
success criteria's
High level risks Summary
milestone
schedule
Summary budget Stakeholder list Project approval
requirements

7.1 Plan Cost Management->Inputs->EEF
EEF
Market conditions, Currency exchange rates.
Published commercial information (resource cost)
Project management information system.
Organizational culture and structure.

7.1 Plan Cost Management->Inputs->OPA
OPA
Existing cost policies, procedures, and guidelines
(e.g., invoicing process)
Financial controls procedures.
Historical information and lessons learned (e.g., past
cost escalation issues)
Financial databases (E.g., internal resource rates)

7.1 Plan Cost Management -> Tools & Techniques
Expert
Judgment
Analytical
Techniques
Meetings

7.1 Plan Cost Management ->T&T->Expert Judgment
Expert
Judgment
They provides valuable insight on costing methods.
Apply experience & information from prior similar projects.
Examine & compare different approaches (Cost of Quality, Cost
benefit analysis etc).
Provide input for financial analytical techniques (ROI, IRR etc)

7.1 Plan Cost Management ->T&T->Analytical Techniques
Analytical
Techniques
Analyse ways to finance resources:
Make Buy Rent Lease
Financial Techniques used for analysis:
Payback period
Return on
Investment(ROI)
Internal Rate of
Return (IRR)
Net Present Value
(NPV)
Planning may involve choosing strategic options to fund
Self-funding Funding with equity Funding with debt
PM may not be involved in financial decisions.

7.1 Plan Cost Management ->T&T->Meetings
Meetings
Any one with cost planning, estimation, budgeting related
responsibilities should attend meetings.
Discuss & analyse
ways to finance
resourcesDiscuss & agree
on funding
options
Meetings will be used to discuss how to estimate &
manage cost.
Project
Manager
Sponsor
Key team
members
Financial
experts
Key
Stakeholde
-rs

7.1 Plan Cost Management-> Output->Cost Manag. Plan
Cost
Management
Plan

7.1 Plan Cost Management-> Output->Cost Manag. Plan
Cost
Management
Plan
How the project costs will be planned, structured, and
controlled.
Units of
Measure
Level of
Precision
Level of
Accuracy
Organizational
procedure links
Control
Thresholds
Rules for Perfor.
Measurement
Reporting
Formats
Additional
Details
Guidelines to establish Cost baseline.
Cost change control procedures.
Details about all three processes.
Funding decisions.
Guidelines for dealing with fluctuating cost.
Roles & responsibilities for cost related activities.

7.1 Plan Cost Management->Output->Cost Management Plan
Cost
Management
Plan
Units of Measure:
• Resources : Staff hours, days or lump sum cost
• Road construction project: Kilometer or Miles.
Level of Precision:
• Degree to which cost estimate will be rounded.
• E.g., 100.49 => AED 100 or 99.85 => 100
Level of Accuracy:
• Acceptable range (+ or – 10%)
• Initial-Rough order of magnitude(–25% to 75%)
• later - Definite estimate –5 to +10%.
Organizational procedure links:
• WBS provide framework for cost management.
• Helps maintain consistency in estimations.
• Control Account - Code linked to accounting system.

Cost
Management
Plan
Control Thresholds:
• Agreed amount of variation to be allowed.
• 1% Schedule variance to schedule baseline.
Rules for Performance Measurement:
• Define points in WBS -> Measure Control Accounts
performance.
• Established EVM techniques (Weighted milestones,
fixed formula, % complete)
• Specify tracking methodologies (Calculating EAC)
• Used in Performance based contracts.
Reporting Formats:
• Agreed reporting format to share cost reports,
Cash-flow’s etc.

Cost
Management
Plan
Process Description:
• Each of the three cost management Processes
are documented.
Additional Details:
• Details like how the project will be funded.
• Description of strategic funding choices.
• Procedure to manage currency fluctuation.

Life Cycle Costing:
• Broader view of Project Cost Management
• Consider effect of cost decisions on using,
maintaining & supporting the product,
service or result of the project.
• Life cycle costing together with value
engineering can improve decision making
• Used to reduce cost and execution time.

7.1 Plan Cost Management -> Data Flow Diagram

7.1 Plan Cost Management -> Review
Cost planning is very critical
Starts early in the project
Involves estimating, budgeting, and controlling costs
T&T-> Expert, analytical techniques & meeting
Funding (Self-funding, Funding with equity, Funding with debt)
Analyse ways to finance resources (Make or Buy, Rent or Lease)

7.1 Plan Cost Management -> Question1
To assist in budget control, it is suggested that an estimate
be created at the _____ ____ ______ level of the WBS
Answer: B- Lowest
Work package is the lowest unit of work to estimate cost and duration.
• HighestA
• LowestB
• Major work effortC
• ThirdD

Which type of project cost estimate is the most accurate?
• PreliminaryA
• DefinitiveB
• Order of magnitudeC
• ConceptualD
Answer: B- Definitive
Definitive estimates are in range -5% to 10% in accuracy. Page 201, PMBOK 5

Which of the following is a direct project cost?
• Lighting and heating for the corporate officeA
• Workers Compensation insuranceB
• Piping for an irrigation projectC
• Stationary costD
Answer: C - Piping for an irrigation project
Cost of resources used in a project. See Page 202, PMBOK 5

7.2 Estimate Cost
Estimate Cost Definition
Key terms
Estimate Cost : ITTO
What are key estimation techniques?
What are contingency & management reserves?
Data flow diagram
Review
Guidelines for exam questions
Self Assessment
6.1 I T&T O

7.2 Estimate Cost -> Key Terms
Internal Rate of Return[Discounted Cash flow]:
Payback Period:
Benefit Cost Ratio(BCR)
Cost Benefit ratio (CBR)
Straight-Line Depreciation
Double Declining Balance

7.2 Estimate Cost->Key Terms -> IRR
Internal Rate of Return[Discounted Cash flow]:
• It is a project selection technique that takes a comparative approach for
project selection.
• Interest rate received for an investment consisting of payments &
income that occur at regular periods.
• Select Project with higher IRR.
Invest in Call Center
•Return 10% per year
Invest in Software firm
•Return 9% per year
Investment of 5 million
Invest in Call Center
• Return 5% first year
• Return 10% next 3 years
Invest in Software firm
• Return 9% for 4 year
Investment of 5 million1 2
10% of 5,000,000 = 500,000
500,000 * 4 = 2,000,000
9% of 5,000,000 = 450,000
450,000 * 4 = 1,800,000
Y1 => 5% of 5,000,000 = 250,000
Y2,3,4 => 10% 5,000,000 = 500,000
250,000 + (500,000 * 3) = 1,750,000
9% of 5,000,000 = 450,000
450,000 * 4 = 1,800,000

7.2 Estimate Cost->Key Terms -> Payback period
Payback Period:
• The time it takes to recover your investment in the
project before you start accumulating profit.
• Less payback period is better.
Plan to buy property
worth 1 million
Return 200K per year
Payback period = 5 years
Return 250K per year
Payback period = 4 years

Interest rate received for an
investment consisting of
payments and income that
occur at regular periods
Internal Rate of Return:
The time it takes to recover
your investment in the project
before you start accumulating
profit.
Payback Period:
7.2 Estimate Cost->Key Terms

7.2 Estimate Cost->Key Terms -> Questions
There are four projects:
- Finance System upgrade with IRR of 10%
- Upgrading company infrastructure with IRR of 12%
- Setting centralized call centre with IRR of 14%
- CRM implementation with IRR of 14.5%
During Investment review board meeting CEO asked your recommendation to select the project.
What is you suggestion?
A) Finance System upgrade
B) Upgrading company infrastructure
C) Setting centralized call centre
D) CRM implementation
Answer :.
D) CRM Implementation
Note that, you select project with highest IRR.

During Investment review board meeting CEO asked your recommendation to select
the project. What is you suggestion?
A) Project A requires an initial investment of $100,000 and will give monthly return of 5,000.
B) Project B requires an initial investment of $200,000 and will give monthly return of 8,000
C) Project C requires an initial investment of $100,000 and will give annual return of 40,000
D) Project D requires an initial investment of $200,000 and will give annual return of 60,000
Answer :
Lets calculate how much is yearly return of each project.
Project A – 60,000, Project B – 96,000, Project C – 40,000 & Project D – 60,000
Project B is giving highest yearly return, however project can not be selected based only on returns.
Lets calculate how soon we can recover this investment.
Project A – 20month, Project B – 25 months, Project C – 30 months & Project D – 40 months
Project A’s investment is recovering very fast…. What to choose A or B???
IRR should always be looked as a barometer to measure project % wise like fixed deposit. Higher the returns the better it is.
Project A – 60,000 / 100,000 = 0.6 which is 60%, Project B – 96,000 / 200,000 = 0.48 which is 48%
Project C – 40,000 / 100,000 = 0.4 which is 40%, Project D – 60,000 / 200,000 = 0.3 which is 30%
For option A it is 60% as compared to the other options. Hence Answer is A ) Project A

Project A has an IRR of 15% and an NPV of 2 Million for a 2 year duration.
Project B has an IRR of 14% and an NPV of 3 Million for a 4 year duration.
What is the opportunity cost, if you select project A instead of project B?
A) 5 Million
B) 1 Million
C) 2 Million
D) 3 Million
Answer : The opportunity cost when selecting between two projects is simply the value of
the project that is not selected.
In this case project B is not selected hence answer is D) 3 Million
Note that all other information (IRR, duration) are irrelevant.

It is the default method used to
gradually reduce the carrying amount
of a fixed asset over its useful life.
E.g., Server cost= 1 Million & Life span is 4
years
Depreciation will be 25% per year
Straight-Line Depreciation
The double declining balance
depreciation method is an accelerated
depreciation method that counts twice
as much of the asset's book value each
year as an expense compared to
straight-line depreciation.
E.g., Server cost= 1 Million & Life span is 4
years
Depreciation will be 40% first year, 30% 2nd
year, 20% 3rd year & 10% 4th year
7.2 Estimate Cost->Key Terms-> Depreciation methods

Finance team is concern about depreciation rate of project assets which they
estimate to be 40%. Asset costs 200,000 & has been used for less than 3 months,
however it has an expected life of 5 years. Which of the following depreciation
methods is most likely used by finance team?
A) Straight-Line Depreciation
B) Double Declining Balance.
C) Diminishing value depreciation method
D) Rapid Declining Balance.
Answer : First look at the most important information that is life span which is 5
year & depreciation rate which is 40%.
Step1: Calculate straight line depreciation => 100%/life span = 100/5 = 20%
Step2: Finance team is depreciating by 40%, which is double, hence answer is B)

• It indicates how much benefit (as %)
you will get for each unit of cost that
you will invest.
• BCR = Benefit / Cost
• BCR < 1 is bad.
• BCR > 1 is good.
• The project with the bigger BCR is
the better one.
• Also, called as profitability index
Benefit Cost Ratio(BCR)
• Compares costs to benefits.
• CBR = Cost/Benefit
• CBR > 1 is bad.
• CBR < 1 is good.
• The project with the smaller CBR is
the better one.
Cost Benefit ratio (CBR)

Using the Benefit Cost Ratio, which of the following projects do you
select?
A) Project A with a BCR of 1.2
B) Project B with a CBR of 0.90 and cost of 100,000
C) Project C with a cost of $100,000 and benefits of 110,000
D) Project D with a BCR of .90
Answer :
The higher the BCR the better.
Project A has the highest BCR of 1.2, hence answer is A) Project A with a BCR of 1.2
Note: For option B; We cannot compare a CBR to a BCR. We have to first calculate its BCR.
Step1: Calculate benefit => CBR = Cost/Benefit; Benefit= cost/CBR = 100,00 / 0.9 = 111,111
Step2: Calculate BCR = Benefit/Cost = 111,111 /100,000 = 1.11.
Hence, Project A has higher BCR ‘1.2’ compare to project B ‘1.11’

• Internal Rate of Return (IRR)Higher
• Benefit Cost ration (BCR)Higher
• Pay back Period (PBP)Lower
Project selection : Select project with

7.2 Estimate Cost->Introduction
Scope is key for estimating cost.
Estimation can be done at activity or work package level.
Estimate activity resource is linked to cost estimation.
Information is
taken from
PM has to consider all types costs:
Resources (Human,
Equipment, Hardware,
Software)
Facilitates Direct & indirect cost

Estimate activity resource is linked to cost estimation
Estimate Activity
Resource:
• Who will work on the
each activities
Estimate Activity
Duration:
• How long activities will
take & resource work on
project?
Estimate Cost
• How much Project will cost (By
combining all activities)
Activity
Cost
Estimates

Cost estimates are predictions that is based on
the information available at that time.
Cost trade-offs and risk should be considered
(Make or Buy decision)
It should be reviewed & refined during course
of project to reflect additional details as it
become available.
Assumptions should be continuously tested.

7.2 Estimate Cost->Definition
The process of developing an APPROXIMATION of the
monetary resources needed to complete project
activities.
It determines the amount of cost required to complete
project work.
Project Cost
Approximation
Time Management processes

7.2 Estimate Cost -> ITTO
Input (7)
• Cost management plan
• Human resource
management plan
• Scope baseline
• Project schedule
• Risk register
• Enterprise
environmental factors
• Organizational process
assets
Tools & Techniques
(10)
• Expert judgment
• Analogous estimating
• Parametric estimating
• Bottom-up estimating
• Three-point estimating
• Reserve analysis
• Cost of quality
• Project management
software
• Vendor bid analysis
• Group decision-making
Outputs (3)
• Activity Cost
Estimate
• Basis of
estimates
• Project
documents
updates

7.2 Estimate Cost -> Input
Cost Management
Plan
Human Resource
Management Plan
Scope Baseline Project Schedule
Risk Register EEF OPA

7.2 Estimate Cost ->Input->Cost Management Plan
Cost
Management
Plan
Define how project costs will be planned, structured, and
controlled.
Define how each Cost Management Process is executed.
Specify preferred method or techniques to be used.
Provides below key details.
Units of
Measure
Level of
Precision
Level of
Accuracy
Process
Description

7.2 Estimate Cost ->Input->HR Management Plan
Human Resource
Management Plan
Provides input on Human resource cost, which is key cost
to the project.
Staffing management plan (Acquisition of staff, staff
Calendar's etc)
Employee benefits & Rewards.

7.2 Estimate Cost ->Input->Scope Baseline
Scope Baseline
• Project Scope (Inclusion & exclusions)
• Assumptions and constraints.
Scope
Statement
• Activity groups in to deliverables or
work packages.
• WBS provide framework for cost
management.
WBS
• Control account.
• Deliverable details.
• Resources.
WBS
Dictionary

7.2 Estimate Cost->Input->Project schedule
Project Schedule
Cost estimation is linked to the estimate activity
resources process.
You can get resources assigned to activities along
with it’s quantity & duration from project schedule.
Cost is always time bound, hence its important to
know when these activities are scheduled.
Estimate Activity Resource
• Who will work on the each activities
Estimate Activity Duration
• How long activities will take & resource
work on project?
Type Quantity

7.2 Estimate Cost->Input->Risk Register
Risk Register
Examine cost & schedule related risks.
Reserve should be planned to mitigate & inspect Risks.
Potential benefits from the positive risk should be
considered.

7.2 Estimate Cost->Input->EEF
EEF
Internal EEF:
• Internal Human resource
rates.
• HR policies - Terms &
conditions.
• Organizational culture &
structure.
External EEF:
• Market condition.
• Published Commercial
information databases
(Rates, inflation).
• Exchange rates.

7.2 Estimate Cost->Input->OPA
OPA
Existing cost policies, procedures, and guidelines (e.g.,
invoicing process)
Financial controls procedures.
Historical information and lessons learned (e.g., past
cost escalation issues)
Financial databases (Old project finance details)

7.2 Estimate Cost -> Tools & Techniques
Expert
Judgment
Analogous
estimating
Parametric
estimating
Bottom-up
estimating
Three-point
estimating
Reserve
Analysis
Cost of
Quality
PM Software
Vendor bid
Analysis
Group
Decision
Making

7.2 Estimate Cost -> Tools & Techniques
Analogues
estimation
Parametric
estimation
Three point
estimation
Estimation Techniques: Same in Time management & Cost management

7.2 Estimate Cost->T&T-> Analogues estimation
Analogues
Estimation
Estimate cost of the activity using historical data
from a similar activity or a project.
• Something similarThink “Analogy”:
• Cost, budget/measures (size, weight) &
complexity
Uses values:
• Actual cost of previous, similar projectsRelies on:
• Limited amount of information availableUsed when:
• For expert judgment.
Uses historical
information:
• Less costly, less time consuming, less
accurate.
Everything is less:

Analogues
Estimation
Computer Lab in School A Computer Lab in School B
Used when:
• Only limited information
available.
• Similar project information
available
• Experienced estimator
In this scenarios - Information
available is
• Computer configurations
• Computer installation duration
- 30 min
• No of computer configured -
20
Similar

Analogues
estimation
Door A Door B
Similar

Advantages
Quick
No need to identify activities
Less costly to create
Cost constraints created by management during project
initiation gives PM data to evaluate project feasibility
Management can put cap on the overall project cost.
disadvantages
Less accurate
Estimation is done based on limited information & high level
understanding of the project
Require considerable experience
Possibility of infighting to gain biggest piece of the budget
without being able to justify the need.
Extremely difficult to estimate projects with high uncertainty
Does not consider difference between projects.

7.2 Estimate Cost->T&T-> Parametric estimation
Parametric
Estimation
Sophisticated algorithm are used to calculate Cost based
on Historical data & multiple quantifiable parameters.
• Between historical data & other
variables
Uses statistical
relationship:
• Depending upon the sophistication of
algorithm or tools.
• Underlying data built into the model.
Can produce
higher levels of
accuracy:
• A total project or segments of a project.
• In conjunction with other estimating
methods.
Can be applied
to:

Parametric
Estimation
E.g., CCS – Construction Computer Software (CANDY)
CANDY Software

Parametric
Estimation
Project A (completed):
• Installation of 1,000 meter
Cable
• Installation type: simple
• Resource:1
• Duration taken: 40 hours
• Productivity: 25 meter’s per
hour’s
• Cost: 40*AED 100/hour =
4,000
Project B (New)
• Installation of 2,000 meter
Cable
• Installation type: complex
• Resource:1
• Productivity: 20 meter’s per
hour’s (by applying
complexity factor)
• Duration Required: 100
hours (2,000 /20)
• Cost: 100 & AED 1000/hour
= 10,000
• Function Point Models
• COCOMO II (COnstructive COst MOdel ) Model
• SLOC (Source lines of code) Model
Software
Parametric Cost
Models
Most industries has their own estimation model.

7.2 Estimate Cost->T&T-> Three point estimation
Three point
estimation
A technique used to estimate cost by applying an average
of optimistic, pessimistic & most likely estimates
Used when there is uncertainty with the individual
activity estimates.
• Based on analysis of the best-case
scenario.
Optimistic
(O):
• Based on realistic effort assessment for
required work & any predicted expenses
(or ML)
Most likely
(M) :
• Based on analysis of the worst-case
scenario.
Pessimistic
(P).

7.2 Estimate Cost->T&T-> Three point estimation
Three point
estimation
• = (O + M + P) / 3Triangular Distribution
• = (O + 4M + P) / 6
Beta Distribution
(Weighted average)
• = ( P – O ) / 6Standard Deviation (SD)
• = SD ^ 2Activity variance
Activity O M P Trangular SD PERT
Activity1 6 20 30 18.67 4.00 19.333
Activity2 10 20 40 23.33 5.00 21.667
Activity3 13 20 50 27.67 6.17 23.833
This is also called as PERT techniques (Program
evaluation and review technique). PERT formulas
are as below.

7.2 Estimate Cost->T&T-> Bottom up estimate
Bottom up estimate
Estimating project cost by aggregating the estimates
of the lower-level components of the WBS.
When an activity cannot be estimated with
confidence, the work within activity is decomposed
further.
These estimates are then aggregated into a total
cost for each of the activity (Summarised or Rolled-
up to higher level)

Reserve Analysis
7.2 Estimate Cost->T&T-> Reserve Analysis
Project A
Baseline: 35 million
• Cost: 34 million
• Contingency: 1 million
Project B
Project C
Projects department get
budget of 100 million to
start the projects.
Initiates projects worth : 95 Million
Management reserve: 5 Million

Reserve Analysis
Contingency Reserve:
It is a budget within cost baseline that is allocated
for identified & accepted risks (known-unknowns)
Management Reserve:
Reserved for unforeseen risks (unknown
unknowns) related to the work that is within
scope of the project.

575
25
550
50
500
250
150
50 50 50
100
25 25 50
250
100 100 50
250
Cost Budget
Management Reserve
Cost Baseline
Contingency Reserve
Project Estimates
Control Account estimate
Work Package estimate
Activity Estimate
Reserve Analysis

Reserve Analysis
Contingency Reserve:
It is a budget within cost baseline that is allocated for identified &
accepted risks (known-unknowns)
Allocation can be for specific activity/ Project, or both.
Allocation can be % of the estimated cost or a fixed number-
Quantitative analysis.
Contingency can be reduced, or eliminated.
Contingency should be clearly documented.
It is a part of the cost baseline & overall funding requirements.

Reserve Analysis
Management Reserve:
It is project budget withheld for management control purposes.
Reserved for unforeseen work that is within scope of the
project (unknown unknowns).
Not included in the cost baseline.
But is part of the overall project budget and funding
requirements.
When management reserve used, it is added to cost baseline,
thus requiring an approved change to cost baseline.

7.2 Estimate Cost->T&T-> Cost of Quality
Cost of Quality
Cost of quality should be included in estimate.
Assumptions about costs of quality is used to
prepare activity cost estimate.

7.2 Estimate Cost->T&T->Project Mang. software
Project
Management
Software
Any group or person with specialized knowledge in resource
planning and estimating can provide such expertise
Can automatically aggregate cost estimates
Can help manage & track cashflow
Can generate reports
Assist , simplify, facilitate estimations & helps in
rapid alternative estimations.
Plan, organize & manage the
resource costs.
Develop resource estimates

7.2 Estimate Cost->T&T->Vendor Bid Analysis
Vendor bid
Analysis
Analysis of project cost, based on the bids from vendors.
Additional cost estimating may be required to examine price
of each deliverables & Supports final total project cost.
Proposal1
Proposal2
Proposal3
Criteria1
Criteria2
Criteria3
Vendor Bid analysis

7.2 Estimate Cost->T&T
Group Decision
Making
Team based estimation approach. Helps to get
commitment on emerging estimates.
Required to improve estimation accuracy.
Brainstorming & Delphi or nominal group techniques.

7.2 Estimate Cost -> Output
Activity Cost
Estimates
Basis of Estimates
Project doc.
Updates

7.2 Estimate Cost -> Output->Activity Cost Estimate
Activity Cost
Estimates
Estimation of probable costs required to complete each
activity (summary form or in detail)
Can be at activity level or Work Package level.
Direct Cost Indirect Cost
Variable cost Fixed Cost

7.2 Estimate Cost -> Output-> Basis of Estimate
Basis of
Estimates
Documentation contain:
The basis of
estimate
All assumptions
made
Any known
constraints
Estimation may be indication of :
Range of possible estimates:
• e.g., AED 1,000 (±10%)
Confidence/Accuracy level (as per PMI):
• Rough order of magnitude – ROM (–25 to
+75%) – During project initiation
• Definite (–5 to +10%) – after baseline.
Supporting documentation detailing how cost
estimate was derived.

7.2 Estimate Cost -> Output-> Basis of Estimate
Basis of
Estimates
Rough Order of
Magnitude
• Low confidence
• Early estimates
• Analogous estimate
• Unknown projects
• -25% to +75 %
Definitive estimate
• High confidence
• When
scope/requirements
are clear
• Bottom up estimate
• Repetitive project
• -5% to +10 %
• Do not communicate single number estimate
• Give range of estimate mentioning type &
degree off confidence.
Communicating
estimates &
setting
expectations:

7.2 Estimate Cost -> Data Flow Diagram

7.2 Estimate Cost -> Review
Lot of information gathering need to be done before estimation
Cost Estimation is tightly linked to time management
Do not communicate single estimate (communicate ROM & definitive)
Different type of estimation techniques
Contingency & management reserve
Cost of quality should be considered in estimation

Your company has been hired to install software in 100 computers. All computers
need equal time to configure. The contract for the project is set at a fixed cost, and
the incentive based on how fast the project work is going to be completed.
Management has requested that you study the work method to determine a faster,
less costly, and a better method to complete the project. This scenario is an example
of _________.
• Time ConstraintA
• Schedule ConstraintB
• Value Analysis/EngineeringC
• Learning CurveD
C – Value Analysis/EngineeringValue Analysis is a systematic approach to find less costly ways to complete the same work. A
and B are incorrect, as this situation does not describe a specific time or cost constraint. D is
incorrect: the learning curve happens as the project team completes the work.

Your portfolio team is currently analysing 3 new projects waiting for selection.
They are Project Diamond with an NPV of Rs.15,00,000,
Project Gold with an NPV of Rs 17,00,000 and
Project Silver with an NPV of Rs.13,00,000.
You present these 3 projects at the monthly project selection board meeting. After initial discussion it was
immediately decided that Project Silver will not be pursued at all. At this point a lengthy discussion begins
about the benefits of both Project Diamond and Project Gold. After about an hour, the CEO asks you:
“What is the opportunity cost of selecting Project Diamond instead of Project Gold?” What should be
your answer
• 17,000A
• 15,000B
• 20,000C
• 25,000D
A – 17,000
The opportunity cost when selecting between two projects is simply the value of the project that is not selected.
Project Gold has an NPV of Rs.17,00,000. If this project is not done, then the lost opportunity is Rs.17,00,000.

You have two possible projects to manage, but you can only choose one. Project
Contact Centre upgrade is worth 23Million, while Project CRM system
implementation is worth 25Million. Management elects to choose CRM. Which one
of the following is the opportunity cost of this choice?
A– 23 Million
The opportunity cost is the amount of the project that was not chosen.
• 23 MillionA
• 27 MillionB
• 4 MillionC
• 50 MillionD

One of the types of cost estimation is Rough Order of Magnitude. This
estimate:
• is performed when detailed information is availableA
• is performed after the scope is clearly definedB
• is a near perfect estimateC
• Usually made before project is designed, & must therefore
rely on cost data of similar projects built in the past.
D
D - Usually made before the project is designed, and must therefore
rely on cost data of similar projects built in the past.
Page 201, PMBOK 5

The process that establishes the policies, procedures and
documentation for planning, managing, expending, and
controlling project costs is known as
• Control CostsA
• Estimate CostsB
• Plan Cost ManagementC
• Determine Budget.D
C- Plan cost management
Page 193, PMBOK 5

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