IT Project Management Individual Assignment
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Lesson11ProjectCostMgmt.pptxIT Project Management
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Diploma in Information Technology
Copyright © 2020 by Singapore Institute of Management Pte Ltd. All rights reserved.
Lesson 11: Project Cost Management
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Learning objectives
Understand the importance of project cost management
Explain basic project cost management principles, concepts, and terms
Discuss different types of cost estimates and methods for preparing them
Understand the processes involved in cost budgeting and preparing a cost estimate and budget for an information technology project
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Learning objectives
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
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11.1 The importance of cost management
Project success is often measured by how well the project meets the triple constraint (project scope, schedule, and budget) and provides quality deliverables.
Cost overruns are a frequent element contributing to unsatisfactory project performance measurements. As many as 85% of projects encounter cost overruns.
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11.1.1 Basic Finance
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 ($)
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Most members of an executive board better understand and are more interested in financial terms than IT terms, so IT project managers must speak their language.
Profits are revenues minus expenditures.
Profit margin is the ratio of revenues to profits
$2 profit per $100 revenue
2% profit margin
11.1.1 Basic Finance
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11.1.2 What is cost management?
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 approving.
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11.1.3 Basic principles of Cost management
Cash flow analysis determines the estimated annual costs and benefits for a project and the resulting annual cash flow.
Too many projects with high cash flow needs in the same year may not be able to be supported which will impact profitability.
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Tangible costs or benefits are those costs or benefits that an organisation can easily measure in dollars.
A task that was allocated $150,000 but actually cost $100,000 would have a tangible benefit of $50,000 if the assets allocated are used for other projects.
11.1.3 Basic principles of Cost management
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Intangible costs or benefits are costs or benefits that are difficult to measure in monetary terms.
Costs – resources used to research related areas of a project but not billed to the project.
Benefits – goodwill, prestige, general statements of improved productivity not easily translated in dollars.
11.1.3 Basic principles of Cost management
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Direct costs are costs that can be directly related to producing the products and services of the project.
Example: Salaries, cost of hardware and software purchased specifically for the project
Indirect costs are costs that are not directly related to the creating of products or services of the project, but are directly related to performing the project.
Example: Cost of electricity, paper towels
11.1.3 Basic principles of Cost management
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Sunk cost is money that has been spent in the past; when deciding what projects to invest in or continue, we should not include sunk costs.
To continue funding a failed project because a great deal of money has already been spent on it is not a valid way to decide on which projects to fund.
Sunk costs should be forgotten.
11.1.3 Basic principles of Cost management
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11.1.3 Reasons why cost overruns
Not emphasising 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.
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Many IT 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 IT projects involve new technology or business processes which involve untested products and inherent risks.
11.1.3 Reasons why cost overruns
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11.2 Cost management processes
There are 3 project cost management processes:
Cost estimating: developing an approximation or estimate of the costs of the resources needed to complete a project
Cost budgeting: allocating the overall cost estimate to individual work items to establish a baseline for measuring performance
Cost control: controlling changes to the project budget
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11.2 Cost management processes
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11.3 Costs estimating
After developing a good resource requirements list, PMs and their teams must develop several estimates of the costs for these resources
PMs 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
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11.3.1 Rough Order of Magnitude
A rough order of magnitude (ROM) estimate provides an estimate of what a project will cost.
Also referred to as a ballpark estimate, a guesstimate or a broad gauge.
Done very early in a project, often three or more years prior to project completion, or even before a project is officially started to help PMs make project selection decisions.
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Its’ accuracy is typically (-50% to +100%), meaning the project’s actual costs could be 50% below the ROM estimate or 100% above.
For example: A ROM estimates of an actual cost of $100,000 would range between $50,000 to $200,000. The accuracy range is often much wider for IT projects.
Often IT project estimates for software development are doubled because of the history of cost overruns.
11.3.1 Rough Order of Magnitude
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11.3.2 Budgetary Estimate
Many organisations develop budgets at least two years into the future. Budgetary estimate is used to allocate money into an organisation’s budget.
Budgetary estimates are made 1 to 2 years prior to project completion.
Its’ accuracy is typically (-10% to +25%)
For example: A budgetary estimate that actually costs $100,000 would range between $90,000 to $125,000.
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11.3.3 Definitive Estimate
A definitive estimate provides an accurate estimate of project costs (most accurate of the three types).
Definitive estimates are used for making many purchasing decisions for which accurate estimates are required and for estimating final project costs.
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For example, if a project involves purchasing 1000 personal computers from an outside supplier in the next 3 months, a definitive estimate would be required to aid in evaluating supplier proposals and allocating the funds to pay the chosen supplier.
Definitive estimates are made 1 year or less prior to project completion
Accuracy range is normally (-5% to +10%)
11.3.3 Definitive Estimate
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11.3.4 Comparisons of the 3 estimates
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11.3.5 How to manage costs variances?
A cost management plan is a document that describes how the organisation will manage cost variance on the project
For example, how to respond to proposals from suppliers that are higher or lower than estimates
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A large percentage of total project costs are often labor costs, so project managers must develop and track estimates for labor
Many organisations estimate the number of people or hours they need by department or skill over the life cycle of a project
11.3.5 How to manage costs variances?
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11.3.6 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 authorised changes to the project that will affect costs
Many organisations around the globe face challenges with cost control
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Performance review meetings can be a powerful tool to help control project costs
People will perform better if they need to report on the progress of the project.
Performance measurement is another important tool for cost control
There are many general accounting approaches for measuring cost performance but earned value management (EVM) is a tool unique to project management
11.3.6 Cost Control
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11.3.7 Problems with IT cost estimates
Estimates are done too quickly
Many estimates must be done quickly, before clear system requirements have been produced.
Lack of estimating experience
The people developing the costs estimates often don’t have much experience, especially on large projects.
There is not enough accurate, reliable project data available on which to base estimates.
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Human beings are biased toward underestimation
Senior team members make estimates based on their skill level but should take into account the junior people on the project
Management desires accuracy but wants to spend less in order to win a bid or internal funding
Top management never forgets the first estimate and rarely, if ever, remembers how approved changes affect the estimate.
11.3.7 Problems with IT cost estimates
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11.4 Project Budgeting Process
The process of determining budget for a project is an activity of aggregating the cost estimates of individual activities, or a work package, to develop the total cost estimate that allows setting a formal cost baseline.
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11.4 Project Budgeting Process
It involves 2 steps:
The project cost estimate is allocated to the various work packages in the project WBS (work breakdown structure).
The budget for each work package is distributed over the duration of the work package so that's possible to determine how much of its budget should have been spent at any point in time.
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11.5 Earned Value Management
EVM is a project performance measurement technique that integrates scope, time, and cost data
Given a baseline (original plan plus approved changes), we can determine how well the project is meeting its goals
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11.5 Earned Value Management
Must enter actual information periodically to use EVM
Was a WBS item completed or approximately how much of the work was completed?
Actual start and end dates
Actual cost
More and more organisations are using EVM to help control project costs
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11.5.1 Terminology in EVM
Planned value (PV) is that portion of the approved total cost estimate planned to be spent on an activity during a given period.
Actual cost (AC) is the total of direct and indirect costs incurred in accomplishing work on an activity during a given period.
$20K AC to accomplish task over two weeks - $15K AC on week 1 and $5K on week 2
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Earned value (EV) is an estimate of the value of the physical work that is 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.
11.5.1 Terminology in EVM
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11.5.1 Terminology in EVM
Cost
Time
Now
EV
PV
AC
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11.5.1 Terminology in EVM
Scheduled Variance (SV) = EV – PV
+ve: indicates ahead of schedule
-ve: indicates behind schedule
SV
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11.5.1 Terminology in EVM
Schedule Performance Index (SPI) = EV / PV
<1 : Behind Schedule
=1 : On schedule
>1 : Ahead of schedule
Cost
Time
Now
EV
PV
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11.5.1 Terminology in EVM
A project has a budget of $120,000. The PM calls for a review after 3 months. At this point, the value of work planned (PV) is $40,000 and the project is 40% complete while 50% of the budget has been spent to perform the work done to date. Compute the Earned Value (EV) & Scheduled Variance (SV) of the project at this time.
Workings:
Planned Budget = $120,000
Planned Value (PV) = $40,000
Project Budget Spent = $60,00 (50% x 120,000) = Actual Cost (AC)
Earned Value (EV) = $48,000 (40% x 120,000)
Scheduled Variance (SV) = EV – PV = $48,000 - $40,000 = + $8,000
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11.5.1 Terminology in EVM
Cost Variance (CV) = EV – AC
+ve: indicates cost is not exceeded
-ve: indicates cost is exceeded
CV
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11.5.1 Terminology in EVM
Cost Performance Index (CPI) = EV / AC
< 1 : Over spent
= 1 : Spent according to plan
> 1: Under spent
Example: CPI = 0.5 means the project is earning 50 cents for every $1 spent.
Cost
Time
Now
EV
AC
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11.5.1 Terminology in EVM
An one-year project with a budget of $200,000 has been in progress for 3 months. At this time, the PM calls for a review and found that the project has an Earned Value (EV) of $80,000 and Actual Cost (AC) of $120,000. Compute the Cost Variance (CV).
Workings:
Planned Budget = $200,000
Planned Duration = 12 months
Planned Value (PV) = (6/12)* $200,000 = $100,000
Earned Value (EV) = $80,000
Actual Cost (AC) = $120,000
Cost Variance (CV) = EV – AC = $80,000 - $120,000 = -$40,000
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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.
11.5.1 Terminology in EVM
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Rate of performance (RP)
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% complete and only 50% of that work has been completed.
The EV would thus be 50% after week 1.
11.5.1 Terminology in EVM
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Project portfolio management (PPM) is referred as “the centralised management of one or more project portfolios to achieve strategic objectives”.
Projects are often connected in some way – budget, resources, or outputs. Rather than manage projects individually, PPM looks at all projects across all departments.
11.6 Project Portfolio Management
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Project management software uses data to generate a detailed project budget.
It accurately monitor the project’s financial performance and track actual costs while comparing them to budget.
Project budget data can also be used to forecast financials for future projects as well.
11.7 PM Software in Cost Management
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It has the tools for cost management planning across all phases of the project.
Some PM softwares are cloud-based, so that project data is delivered in real time. Project manager can immediately gauge the accuracy of the cost estimates against the actual expenditure.
11.7 PM Software in Cost Management
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Resource management feature is available to keep workload balanced, which reigns in costs.
11.7 PM Software in Cost Management
Other feature such as “project dashboard” which tracks project costs in real time, so project manager can keep a close eye on the budget.
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Questions?
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