Project Cost Management

CHAPTER NINE RESOURCE, COST, CONTROL

Learning Objectives
• Manage cost in projects
• Plan and allocate resources in a project
• Estimate costs and how to budget
• Measure resources, schedule, and cost
• Identify and measure cost variances and earned value management
• Monitor and control projects
• Learn how to control project performance factors
Learning Objectives
• Understand the importance of project cost management
• Explain basic project cost management principles, concepts, and terms
• Describe the process of planning cost management
• Discuss different types of cost estimates and methods for preparing them
• Understand the benefits of earned value management and project portfolio
management to assist in cost control
• Describe how project management software can assist in project cost
management
• Download Free over 500 Project Management Templates
PMBOK Mapping to Cost Management
Importance of Cost Management
• IT projects have a poor track record for meeting budget goals
• The CHAOS studies found the average cost overrun (the additional
percentage or dollar amount by which actual costs exceed estimates)
ranged from 180 percent in 1994 to 43 percent in 2010
• A 2011 Harvard Business Review study reported an average cost
overrun of 27 percent. The most important finding was the discovery
of a large number of gigantic overages or “black swans”
 What Went Wrong?
• The U.S. government, especially the IRS, continues to provide
examples of how not to manage costs
• A series of project failures by the IRS in the 1990s cost taxpayers more than
$50 billion a year
• In 2006, the IRS was in the news for a botched upgrade to its fraud-detection
software, costing $318 million in fraudulent refunds that didn’t get caught
• A 2008 Government Accountability Office (GAO) report stated that more than
400 U.S. government agency IT projects, worth an estimated $25 billion, suffer
from poor planning and underperformance

• The United Kingdom’s National Health Service IT modernization

program was called the greatest IT disaster in history with an
estimated $26 billion overrun. It was finally scrapped in 2011.
What is Cost and Project Cost Management?
• Cost is a resource sacrificed or foregone to achieve a specific
objective or something given up in exchange
• Costs are usually measured in monetary units like dollars
• Project cost management includes the processes required to
ensure that the project is completed within an approve budget
Project Cost Management Processes
• Planning cost management :determining the policies,
procedures, and documentation that will be used for planning,
executing, and controlling project cost.
• Estimating costs: developing an approximation or estimate of
the costs of the resources needed to complete a project
• Determining the budget: allocating the overall cost estimate to
individual work items to establish a baseline for measuring
performance
• Controlling costs: controlling changes to the project budget
Project Cost Management Summary
Basic Principles of Cost Management
• Most members of an executive board better understand and are
more interested in financial terms than IT/project terms , so IT
project managers must speak their language
• Profits are revenues minus expenditures
• Profit margin is the ratio of revenues to profits
• Life cycle costing considers the total cost of ownership, or
development plus support costs, for a project
• Cash flow analysis determines the estimated annual costs and
benefits for a project and the resulting annual cash flow
Monitoring and Controlling Projects
• Monitoring and controlling of project work encompasses a process of
tracking, reviewing, and regulating the progress of a project to meet the
performance objectives defined in the project management plan.
• Projects benefit only from a properly conceived and implemented project
controls strategy.
• Controls are essential in managing projects to success. and if proper controls
are in place and if the dynamics of the project escalation process are
understood, project managers and executives can learn to avoid failure.
• Monitoring a project includes collecting, measuring, and distributing
important information that is accomplished throughout the length of a
project.
Monitoring and Controlling Projects
Continued
• The monitoring and controlling of a project are associated with the
following:
• Comparing actual project factors such as scope, cost, schedule,
resources, performance, and values against the project management
plan
• Identifying new risks
• Analyzing, tracking, monitoring, and managing already identified
risks as well as newly identified risks
• Making sure that appropriate risk mitigation plans are being
executed
Monitoring and Controlling Projects
Continued
• Assessing project performance and implementing corrective and
preventive actions as necessary
• Providing information to project plans using the inputs from project
teams and other stakeholders
• Forecasting to update current costs, resource allocations, and
schedules
• Monitoring implementation of approved changes as they occur
Integrated change control
• Integrated change control focuses on identifying the factors that influence the
proposed changes, evaluating such influences, and managing the changes in real
time during project implementation.
• To accomplish integrated change control, the inputs are project management plan,
work performance information, change requests, environmental factors, and
organizational process assets.
• Work performance information is essential to the project management plan and
includes the following:
• Progress of projects or status of projects
• Progress of project deliverables or status of project deliverables
• Start status and completed status of project activities
• Budgeted costs versus actual incurred costs
• Resource utilization details
Integrated change control continued
• The integrated change control process includes reviewing all change
requests, approving or denying changes, and controlling the approved
changes throughout the project lifespan.
• The change management activities in a project are part of the
integrated change control process.
• When a change request is received, the following steps have to be
accomplished:
• The requested change needs to be identified within the project.
• The factors that are affected by the change have to be identified.
Benefits of Integrated change control
• The benefits of such a change have to be evaluated.
• The criticality of the change has to be determined.
• The impact of the change with respect to the six success factors has
to be evaluated.
• All alternative solutions including crashing, fast tracking, and critical
chain project management have to be analyzed and evaluated.
• The change must be communicated to key management, customers,
and other stakeholders for their approval.
Configuration Management
• Configuration management is the process of managing change in
hardware, software, documentation, and measurements.
• Focuses on identifying and controlling the functional and physical
design of systems and products along with their supporting
documentation.
• It also helps to capture the revision history of the configuration item,
which is the goal of baseline identification.
• A baseline depicts an approved configuration item
• For example, an approved scope document in its initial state that is
used as a basis for comparison against future revisions of the scope
document
Cost Managment
• Cost is a resource expended to achieve a specific objective, in our
case, a project.
• Cost management in projects is the process by which companies
control and plan the costs of implementing projects.
• Before a project is started, the anticipated costs should be identified.
• These costs should then be evaluated and approved before any
procurement.
• During the implementation of a project, all costs should be recorded,
tracked and monitored to control the costs and kept in line with initial
expectations.
 Cost of Downtime for IT Applications

Source: The Standish Group International, “Trends in IT Value,” www.standishgroup.com (2008).

 What Went Right?
• Many organizations use IT to reduce operational costs
• Technology has decreased the costs associated with processing an ATM
transaction:
• In 1968, the average cost was $5.
• In 1978, the cost went down to $1.50
• In 1988, the cost was just a nickel.
• In 1998, it only cost a penny.
• In 2008, the cost was just half a penny!
• Investing in green IT and other initiatives has helped both the
environment and companies’ bottom lines. Michael Dell, CEO of Dell,
reached his goal to make his company “carbon neutral” in 2008. As of
March 2012, Dell had helped its customers save almost $7 billion in
energy costs
Types of Costs and Benefits
• Tangible costs or benefits are those costs or benefits that an
organization can easily measure in dollars
• Intangible costs or benefits are costs or benefits that are
difficult to measure in monetary terms
• Direct costs are costs that can be directly related to producing
the products and services of the project
• Indirect costs are costs that are not directly related to the
products or services of the project, but are indirectly related to
performing the project
• Sunk cost is money that has been spent in the past; when
deciding what projects to invest in or continue, you should not
include sunk costs
 More Basic Principles of Cost Management

• Learning curve theory states that when many items are produced
repetitively, the unit cost of those items decreases in a regular pattern
as more units are produced
• 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 ).
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
Types of Cost Estimates

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 More on Cost Estimates
• The number and type of cost estimates vary by application area.
The Association for the Advancement of Cost Engineering
International identifies five types of cost estimates for
construction projects: order of magnitude, conceptual,
preliminary, definitive, and control
• Estimates are usually done at various stages of a project and
should become more accurate as time progresses
• A large percentage of total project costs are often labor costs
Cost Estimation Tools and Techniques
• Basic tools and techniques for cost estimates:
• Analogous or top-down estimates: use the actual cost of a
previous, similar project as the basis for estimating the cost of the
current project
• Bottom-up estimates: involve estimating individual work items or
activities and summing them to get a project total
• Parametric modeling uses project characteristics (parameters) in a
mathematical model to estimate project costs
Typical Problems with IT Cost Estimates
• Estimates are done too quickly
• People lack estimating experience
• Human beings are biased toward underestimation
• Management desires accuracy
Cost Estimation
 Budgetary rough order of magnitude estimate (BROME)
 Approximate historical estimate (AHE);
 Definitive estimate (DE)
Cost Estimation
Surveyor Pro Project Cost Estimate
 Cost Management Process

 Costs are estimated using resource planning.

 The estimated costs are budgeted by an organization, and the project manager
controls the budget.

 A project that stays within budget is usually an exception, not the rule.

 A project manager has to control schedule, performance, scope, value, and

resources in order to control the costs.
Typical Problems with Cost Estimating
• Estimates are done too quickly
• People lack estimating experience
• Human beings are biased toward underestimation
• Management desires accuracy
Determining the Cost Budget
• Cost budgeting involves allocating the project cost estimate to
individual work items over time
• The WBS is a required input to the cost budgeting process since it
defines the work items
• Important goal is to produce a cost baseline
• a time-phased budget that project managers use to measure and monitor
cost performance
Controlling 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
Earned Value Management (EVM)
• EVM is a project performance measurement technique that
integrates scope, time, and cost data
• Given a baseline (original plan plus approved changes), you can
determine how well the project is meeting its goals
• You must enter actual information periodically to use EVM
• More and more organizations around the world are using EVM to
help control project costs
Earned Value Management Terms
• The planned value (PV), formerly called the budgeted cost of
work scheduled (BCWS), also called the budget, is that portion
of the approved total cost estimate planned to be spent on an
activity during a given period
• Actual cost (AC), formerly called actual cost of work performed
(ACWP), is the total of direct and indirect costs incurred in
accomplishing work on an activity during a given period
• The earned value (EV), formerly called the budgeted cost of
work performed (BCWP), is an estimate of the value of the
physical work actually completed
• EV is based on the original planned costs for the project or
activity and the rate at which the team is completing work on
the project or activity to date
Earned Value Management Terms
• Actual Cost (AC): Actual amount spent in completing the work
accomplished within a given time period
• Cost Variance (CV): The cost variance compares deviations only
from the budget and does not include schedule into account
• Schedule Variance (SV): The schedule variance compares
deviations only from the schedule and does not include cost
into account
• Cost Performance Index (CPI): Ratio of earned value to actual
cost; if CPI>1 , project under budget
• Schedule Performance Index (SPI): Ratio of earned value to
planned value; if SPI >1, then project behind schedule
 EV Equations
Earned Value Earned Value Equation
PV: Planned Value Planned completion % * Budget at completion
EV: Earned Value Actual completion % * Budget at Completion
AC: Actual Value Actual costs
CV: Cost Variance EV – AC
SV: Schedule Variance EV – PV
CPI: Cost Performance Index EV / AC
SPI: Schedule Performance EV / PV
Index
EAC: Estimate at Completion (AC/EV) * Budget at completion
ETC: Estimate to Complete EAC – AC
VAC: Variance at Completion Budget at Completion – EAC
Rate of Performance
• Rate of performance (RP) is the ratio of actual work completed
to the percentage of work planned to have been completed at
any given time during the life of the project or activity
• Brenda Taylor, Senior Project Manager in South Africa, suggests
this term and approach for estimating earned value
• For example, suppose the server installation was halfway
completed by the end of week 1. The rate of performance would
be 50% because by the end of week 1, the planned schedule
reflects that the task should be 100 percent complete and only
50 percent of that work has been completed
Variances
Question on project What should be
used?
How much work is planned? PV
How much work is done already? EV
How much have we spent so far? AC
What is the total cost of the project? BAC
What do we expect project cost to be now? EAC
What is the estimate to complete the project? ETC
What is the future of this project? VAC
Earned Value Calculations for One Activity
After Week One
Earned Value Formulas
Rules of Thumb for Earned Value Numbers
• Negative numbers for cost and schedule variance indicate
problems in those areas
• CPI and SPI less than 100% indicate problems
• Problems mean the project is costing more than planned (over
budget) or taking longer than planned (behind schedule)
• The CPI can be used to calculate the estimate at completion
(EAC)—an estimate of what it will cost to complete the project
based on performance to date. The budget at completion
(BAC) is the original total budget for the project
Earned Value Chart for Project after Five
Months
Global Issues
• EVM is used worldwide, and it is particularly popular in the
Middle East, South Asia, Canada, and Europe
• Most countries require EVM for large defense or government
projects, as shown in Figure 7-6
• EVM is also used in such private-industry sectors as IT,
construction, energy, and manufacturing.
• However, most private companies have not yet applied EVM to
their projects because management does not require it, feeling it
is too complex and not cost effective
Earned Value Usage

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Download also:
• Project Risk Management
• Project Cost Management Plan
• The Basic Process of Project Planning
• Project Cost Tracking Excel Template
• Standard Cost Proposal Excel Template