Project Cost Management

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What is Cost and Project Cost Management?
 Cost is a resource sacrificed or fore-gone to achieve a
specific objective or something given up in exchange
 Costs are usually measured in monetary units like birr,
dollar, etc
 Project cost management includes the processes
required to ensure that the project is completed within
an approved budget
 Project managers must make sure their projects are well
defined, have accurate time and cost estimates and have a
realistic budget that they were involved in approval.
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 The Importance of Project Cost Management

 Software 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% in
1994 to 43% in 2002; other studies found overruns to be
33-34%
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 Reasons for Cost Overruns
 Not emphasizing the importance of realistic project cost
estimates from the outset
 Many of the original cost estimates for IT projects are low
to begin with and based on very unclear project
requirements
 Many software professionals think preparing cost estimates is
a job for accountants when in fact it is a very demanding and
important skill that project managers need to acquire
 Many software projects involve new technology or business
processes which involve untested products and inherent risks
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 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
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 Basic Principles of Cost Management

 Life cycle costing is estimating the cost of a project over

its entire life
 Cash flow analysis is determining the estimated annual
costs and benefits for a project
 Sunk cost are retrospective (past) costs that have already
been incurred and cannot be recovered
 Sunk costs should not be a criteria in project selection
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 Cost of Software Defects
Phase of Software Development Relative Cost to Repair Defects
Requirements and Analysis 1
Coding and Unit Test 5
Integration and System Test 10
Beta Test 15
Post-Product Release 30
NB:  is a normalized unit of cost and can be expressed in dollars, person-hours, et.

 It is much more cost-effective to spend money on defining user

requirements and doing early testing on IT projects than to wait for
problems to appear after implementation
 If it would cost $1,000 to repair a software defect in the
requirements and analysis phase but it would cost $30,000 to fix it in
7 the post-product release phase
 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 it acquire the people,
equipment, and materials that are capable and available for
performing the work?
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 Cost Estimating
 An important output of project cost
management is a cost estimate
 There are 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
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 Types of Cost Estimates
Type of Estimate When Done Why Done How Accurate
Rough Order of Very early in the Provides rough –25%, +75%
Magnitude (ROM) project life cycle, ballpark of cost for
often 3–5 years selection decisions
before project
completion
Budgetary Early, 1–2 years out Puts dollars in the –10%, +25%
budget plans
Definitive Later in the project, < Provides details for –5%, +10%
1 year out purchases, estimate
actual costs

• A ROM estimate that actually cost $100,000 would range between $75,000 to $175,000.
• A budgetary estimate that actually costs $100,000 would range between $90,000 to $125,000.
• A definitive estimate that actually costs $ 100,000 would rang between $95,000 to $110,000.

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 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
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 Typical Problems with Cost Estimates
 Developing an estimate for a large software project is a complex
task requiring a significant amount of effort. Remember that
estimates are done at various stages of the project
 Many people doing estimates have little experience doing them.
Try to provide training and mentoring
 People have a bias toward underestimation. Review estimates and
ask important questions to make sure estimates are not biased
 Management wants a number for a bid, not a real estimate.
Project managers must negotiate with project sponsors to create
realistic cost estimates
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 Cost Budgeting

 Cost budget involves allocating the project cost

estimate to individual work items and providing a

cost baseline
 For example, in the Business Systems Replacement
project, there was a total purchased costs estimate for
FY97 of $600,000 and another $1.2 million for
Information Services and Technology.
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 Cost Control
 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
 Earned value management is an important tool
for cost control
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 Earned Value Management (EVM)

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 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.
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 Earned Value Management

 Earned Value Analysis is an industry standard way to:

• measure a project’s progress,
• forecast its completion date and final cost, and
• provide schedule and budget variances along the way.
 By integrating three measurements, it provides consistent,
numerical indicators with which you can evaluate and
compare projects.

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 EMV enables

1. Knowing where you are on schedule?

2. Knowing where you are on budget?

3. Knowing where you are on work

accomplished?

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 Earned Value Management Terms
 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
 Earned value (EV), formerly called the budgeted cost of
work performed (BCWP), is the percentage of work
actually completed multiplied by the planned value
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 Earned Value Formulas
TERM FORMULA

Earned Value EV = BAC  Percent Completed

Cost Variance CV = EV – AC

Schedule Variance SV = EV – PV

Cost Performance Index CPI = EV/AC

Schedule Performance Index SPI = EV/PV

To estimate what it will cost to complete a project or how long it will take based
on performance to date, divide the budgeted cost or time by the appropriate
index.
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 Rules of Thumb for EVA Numbers

 Negative numbers for cost and schedule variance indicate problems in

those areas.
 The project is costing more than planned or taking longer than planned

 Zero variance shows that the project is running according to the plan

 CPI and SPI > 1.0 indicate exceptional performance

 CPI and SPI < 1.0 indicate poor performance

 If CPI or SPI = 1, it shows that the project is performing according to its

plan
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 Example
 Suppose you have a software project which is planned to be
completed in 9 months with a budget of Birr 900,000.
 After a month,10% of the project is completed at a total
expense of Birr 100,000, but the planned completion was
15%.
 Given:
 Budget At Complete (BAC) = Birr 900,000
 AC = Birr 100,000

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 Compute
a) PV
b) EV
c) CV - interpretation
d) SV - interpretation
e) CPI - interpretation
f) SPI - interpretation
g) Forecast -Budget at complete
h) Forecast - Time at complete
i) Overall project’s traffic light status
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 …solution

a) Planned Value = Planned Completion (%) * BAC

= 15% * Birr 900,000
= Birr 135,000
b) Earned Value = Percent Completed (%) * BAC
= 10% * Birr 900,000
= Birr 90,000
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 …continued
 CV = EV – AC The project is
costing more
= 90,000 – 100,000 than planned
because CV is
= -10,000 less than zero.

 SV = EV – PV
= 90,000 – 135,000
The project is
= - 45,000 taking longer
than planned
because SV is
less than zero.

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 …continued
 CPI= EV / AC
= 90,000 / 100,000
= 0.90 It shows Poor
Performance
 SPI= EV/PV because CPI
and SPI are
= 90,000 / 135,000 less than one.

= 0.67

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 Forecasting Cost
 If the project continues at the current
performance, what is the true cost of the project?
 Estimate at Complete
= Budget at Complete (BAC) / CPI
= Birr 900,000 / 0.90 = Birr 1,000,000
 At the end of the project, the total project cost
will be Birr 1,000,000

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 Forecasting Time

 If the project continues at the current

performance, what is the true time of the
project?
 Estimate at Complete
= Original Time Estimate / SPI
= 9 months / 0.67 = 13.43 months
 The project will be completed by the end of
13.34 months.
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 Establish Ranges to Guide Traffic Light
Status

 Traffic light status is useful in conveying overall project’s

status with one color
 Establish objective SPI and CPI ranges to determine the true
project color.
 Average of CPI & SPI i.e. (CPI+SPI)/2

Green [1.0 - 0.95] Good

Warning
Yellow [0.94 - 0.85]
Bad
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Red [0.84 - 0]
  Therefore, for the above example, overall

project’s traffic light status is

= (CPI+SPI)/2
= (0.90+0.67)/2
= 0.78 Bad

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