Introduction to Project Cost Management

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Lesson 5

• Introduction to Project Cost Management
• Key Concepts of Cost Estimating
• Estimating Fundamentals
• Inputs, Tools Techniques, Outputs
• Reserves
• Accuracy
• Learning Curve
• Types of Cost
• READ PMBOK 3rd Ed, 2004, Ch 6 (pgs 157 167)

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Three Major Processes of Project Cost Management
1. Cost Estimating Approximation of the Cost of
the Resources
2. Cost Budgeting Allocating the Overall Cost
Estimate to Individual Work Items
3. Cost Control Controlling Changes to the
Project Budget
PMBOK. PMI,2004
3
Cost Estimating Key Concepts

• Analogous Estimating
• Parametric Modeling
• Bottom-up Estimating
• Learning Curves
• Management Reserves
• Contingency Reserves
• Order of Magnitude

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Estimating Fundamentals

• Team Member Skills and Knowledge Will Affect
  Their Productivity, and the More Complex the
  Tasks Are, the More This Productivity Factor
  Counts.
• Projects Involving New Technology Will Face
  Questions About Reliability of the New Technology
  and Learning Curve
• Estimators Can Expect a Certain Number of
  Changes, but Usually Cant Predict How Many or
  How Extreme.

(Vertuh. 1999.)
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Estimating Fundamentals

• Business Case Uses Cost/benefit Analysis
  Inaccurate Estimates (High or Low) Can Lead to
  Bad Investment Decisions.
• Incorrect Time Predictions Will Cost Money.
• Project Managers and Team Members Know Theyll Be
  Evaluated Based on Their Ability to Meet
  Estimates and Budgets

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COST ESTIMATING STEPS

• Determine Use of the Estimate
• Determine Level of Detail
• Characterize the project
• Establish Ground Rules Assumptions
• Select Estimating Methodologies
• Develop Estimating Plan
• Document the Estimate

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GROUND RULES ASSUMPTIONS

• Income stream is known
• Price levels remain constant (in real terms)
• Cost of money (interest) remains constant
• Consumption patterns do not change
• Capital markets remain in equilibrium
• Expectations ex ante equal ex post

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Cost Estimating

• Developing an assessment of the likely
  quantitative results How much will it cost?

• Inputs
• Enterprise Environmental Factors
• Organizational Process Assets
• Project Scope Management
• WBS
• WBS Dictionary
• Project Management Plan
• Schedule Mgmt Plan
• Staffing Plan
• Risk Register

• Tools and Technique
• Analogous Estimating
• Parametric Estimating
• Bottom-up Estimating
• Determine Resource Cost Rates
• Project Management Software
• Vendor Bid Analysis
• Reserve Analysis
• Cost of Quality

• Outputs
• Activity Cost Estimates
• Supporting Detail
• Requested Changes
• Cost Management Plan

PMBOK, 3rd Ed. PMI, 2004
9
Inputs to Cost Estimating

• Enterprise Environmental Factors
• Market Place Conditions
• Commercial Databases
• Organizational Process Assets
• Cost Estimating Policies
• Cost Estimating Templates
• Historical Information
• Project Files
• Project Team Knowledge
• Lessons Learned
• Project Scope Management
• Business Need
• Justification
• Requirements
• Current Project Boundaries

PMBOK, 3rd Ed. PMI, 2004
10
Inputs to Cost Estimating

• WBS
• Relationship among components of the project and
  the project deliverables
• WBS Dictionary
• Description of the work in each element of the
  WBS
• Project Management Plan
• Overall Guidance and direction for executing,
  monitoring, and controlling the project
• Schedule Mgmt Plan
• Combines schedule activity duration with activity
  resource loading to determine the available
  quantities of staff, equipment, and material
  resources needed
• Staffing Plan
• Personnel attributes and rates needed for a
  schedule cost estimate
• Risk Register
• Necessary to consider risk responses when
  producing a cost estimate

PMBOK, 3rd Ed. PMI, 2004
11
Tools and Techniques for Cost Estimating

• Analogous Estimating Top-down Estimating
• Use Actual Cost of Previous Similar Projects
• Used to Estimate Total Cost When There Is a
  Limited Amount of Detail Information
• Uses Expert Judgment
• Less Costly Than Other Methods
• Generally Less Accurate
• Reliable When Previous Project Data Is Accurate
  and the Estimating Person(s) Have the Needed
  Expertise

PMBOK, 3rd Ed. PMI, 2004
12
Tools and Techniques for Cost Estimating

• Parametric Estimating
• Using Project Characteristics in a Statistical
  Relationship to Calculate Costs.
• Model Can Be Simple or Complex Large or Small
• Cost and Accuracy of Parametric Modeling Varies
• Level of accuracy depends on
• Accuracy of Historical Data Used to Develop Model
• Model sophistication
• The model should have readily quantifiable
  parameters
• The model should be scaleable
• Examples
• Required labor hours by cost per hours
• Required square feet of warehouse space by cost
  per square foot

PMBOK, 3rd Ed. PMI, 2004
13
Tools and Techniques for Cost Estimating

• Bottom-up Estimating
• Estimating the Cost of Individual Work Items,
  Then Rolling-up the Individual Estimates to a
  Project Total
• Cost and Accuracy Is Dependent on the Size of the
  Individual Work Items.
• Need to Weigh Additional Accuracy Against
  Additional Cost

PMBOK, 3rd Ed. PMI, 2004
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Tools and Techniques for Cost Estimating

• Determine Resource Cost Rates
• Gather quotes
• Obtain rates from commercial databases
• Apply standard escalation factors to known rates
• Estimate new rates

PMBOK, 3rd Ed. PMI, 2004
15
Tools and Techniques for Cost Estimating

• Project Management Software
• Computerized spreadsheets
• Statistical tools
• Scheduling software
• Earned Value Management Software
• Modeling and Simulation Software
• Risk Management Software

PMBOK, 3rd Ed. PMI, 2004
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Tools and Techniques for Cost Estimating

• Vendor Bid Analysis
• Should Cost Estimates
• Project Team Cost Estimate
• Shoulder to Shoulder Estimates
• Program Office Estimates
• Independent Cost Estimate

PMBOK, 3rd Ed. PMI, 2004
17
Tools and Techniques for Cost Estimating

• Reserve Analysis
• Contingency Reserves set aside for Known
  Unknowns
• Management Reserves set aside for Unknown
  Unknowns will usually be removed from a program
  by the CFO

PMBOK, 3rd Ed. PMI, 2004
18
Tools and Techniques for Cost Estimating

• Cost of Quality
• Based on a cost benefit analysis
• Example higher quality improves reliability and
  reduces rework, increases productivity and
  reduces costs.
• May be used to prepare the schedule activity cost
  estimate

PMBOK, 3rd Ed. PMI, 2004
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Outputs from Cost Estimating

• Activity Cost Estimates The Likely Cost of the
  Resources Required to Complete Project Activities
• May Be Presented in Summary or Detail
• Must Include All Resources (Labor, Materials,
  Supplies, Equipment, Services, Information
  Technology, Inflation, Cost Reserves)
• Define Unit of Currency (Dollars, Yen, Rubles,
  Etc.)
• Generally includes appropriate risk response
• Five types of estimates
• Order of Magnitude
• Conceptual
• Preliminary
• Definitive
• Control

PMBOK, 3rd Ed. PMI, 2004
20
Outputs from Cost Estimating

• Activity Cost Estimate Supporting Detail
• Description of the Schedule Activity
• Documentation of The Basis for the Estimate
• Documentation of Assumptions
• Documentation of Constraints
• Indication of Range of possible results

PMBOK, 3rd Ed. PMI, 2004
21
Outputs from Cost Estimating

• Requested Changes
• Processed through the Integrated Change Control
  Process
• Cost Estimate type of changes
• Activity Resource Requirements
• Other elements of the Project Management Plan

PMBOK, 3rd Ed. PMI, 2004
22
Outputs from Cost Estimating

• Cost Management Plan
• A Plan Which Describes How Cost Variances Will Be
  Managed.
• May Be Formal or Informal, Highly Detailed or
  Broadly Framed Based on Needs of the Project
  Stakeholders
• Should Be a Subsidiary Element of the Project Plan

PMBOK. PMI, 2000.
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Reserves

• Management Reserve
• Provisions for Future Situations That Are
  Unpredictable
• Contingency Reserve
• Provisions for Future Situations That May Be
  Anticipated

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Cost Estimating Accuracy

• Rough Order of Magnitude
• -25 to 75 Percent
• Used for Market Studies, Evaluation, and
  Screening
• Budget Estimate
• -10 to 25 Percent
• Used to Commit Budget, Purchase Equipment and
  Resources, and Set Contractor Fees
• Definitive Estimate
• -5 to 10 Percent
• Used for Budget Control and Reporting

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Learning Curve

• If a project involves work in which a firm has
  little experience, a cost estimate is more
  difficult, particularly for direct labor cost.
• In general, performance improves by a fixed
  percent each time production doubles. This
  percentage is the learning curve

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Learning Curve Example

• If 1st time output 10 minutes and 2nd time 8
  minutes, The learning rate is 80 percent.
• If rate is doubled again (four units), then
• 8 minutes x .8 6.4 minutes
• If rate is doubled again (8 units), then
• 6.4 minutes x .8 5.12 minutes

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Types of Costs

• Variable vs. Fixed
• Direct vs. Indirect
• Recurring vs. Non-recurring
• Sources of Costs
• Internal / External Labor
• Project Staff
• Internal /External Equipment
• Material

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Cost Estimating Considerations

• How Accurate Should the Estimate Be?
• How Much Reserve Should Be Included?
• How Much Contingency Should Be Planned?
• Have the Right People Make the Estimate
• Base the Estimate on Experience
• Dont Negotiate the Estimate-negotiate the
  Equilibrium

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Cost Estimating Challenges

• Maintenance costs
• Labor costs, fringe benefits, and indirect costs
• Software costs
• Obtaining good cost data (quotes)
• Taxes Depreciation
• Emerging Factors
• Environmental issues
• Safety Security
• International competition
• Documentation of costs

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Classic Mistakes
(Vertuh. 1999.)

• Ballparks in Elevators
• Estimating Without Complete Specifications
• Confusing an Estimate With a Bid
• Estimate Is a Projection of Cost
• Bid Is a Proposal Which May Include Estimates As
  Well As Profits
• Padding the Estimate

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Practical Application

• Understanding Cost
• for Management Decisions
• An Overview of Cost Analysis
• Harvard Case

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Exercise in Cost Estimating

• Prepare an Estimate for the Landscape Project

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Prepare for Lesson 6

• Communications Management
• Deming on Quality
• Cost Budgeting Key Concepts
• Inputs, Tools Techniques, Outputs
• S Curve
• Cost Baseline
• Practical Applications and Exercises
• READ PMBOK 3rd ed. Ch. 10 7 (pgs 167-171)