Cost Management - How to Develop and Manage Budgets

Table of Contents:

Summary

When the ancient Egyptians built the pyramids or when the Chinese constructed the Great Walls, the cost was often a postscript. After all, what can be more important to pharaohs who seek a never-ending life or to the Chinese of mitigating existential threats of invaders? In more recent times, the Manhattan Project began modestly, but as World War II continued, the project’s importance became paramount and cost was no obstacle. The United States spent $2 billion, which in 2016 dollars would be around $27 billion according to Wikipedia. Few projects today, government or private, have the luxury of the seemingly unlimited budget. Rarely do project managers complain of too much budget and not sure how to spend it. In business organizations, it is far more common that projects are underfunded, as management urges their project teams to “do more with less”.

In this chapter, we discuss the complexity and challenges of planning, estimating, and controlling project costs, as well as steps for determining the project budget. Tools and techniques for cost estimation, budgets, and cost management are explained, and common issues and consideration for project managers are emphasized.

This chapter focuses its attention on addressing these three essential questions pertaining to cost management:

  • 1. Why is project cost management important?
  • 2. What can go wrong?
  • 3- How to more effectively manage project costs?

Effectively Plan Project Cost

Projects can be costly, and when project costs are not properly managed, the negative consequences can become large. According to the PMI Pulse of the Profession1 report, as much as $122 million is wasted for every $1 billion spent, primarily due to poor project performance. Incorrect resource estimates, scheduling delays, scope creep, misaligned expectations, and other unforeseen factors can lead to increased costs and the failures to stay within project budget. Possibly the most relevant example of this is the Sydney Opera House. Its construction was subject to significant delays, and at its completion, the project had cost nearly ten times the allocated budget.[1] [2] For this reason, one of the primary responsibilities of the project manager is to plan, estimate, budget, manage, and control project costs in order to achieve project deliverables within the approved budget.

There are four processes in the cost management knowledge domain, namely:

  • 1. Proposing initial project costs (Ideation and Initiation Phases)
  • 2. Planning and estimating project costs and budget (Preparation Phase)
  • 3- Managing and controlling project costs (Implementation Phase)
  • 4. Transitioning and/or closing project costs (Transition and/or Closure Phase)

Proposing Initial Project Costs

During the Project Ideation Phase, once ideas move behind the initial stage of consideration, question of costs arises. After all, one major component of business cases of most initiatives is the financial feasibility analysis in which costs take center stage. Similar to schedule and resources, cost estimations during Ideation Phase are based on limited available information and limited expert resources. Initial project cost estimates are usually developed by the person or group who developed the idea.

Thus, the costs are likely to be inexact during the Ideation Phase. Throughout this phase, as ideas solidify into concrete initiatives and later into projects, cost estimates also become firmer.

After the approval of the business case, the project enters the Initiation Phase. Here, project managers examine the business cases, and working with a core team starts to develop the next level of project cost with the intention of formalizing various costs into a project budget. A preliminary budget is either embedded in project charter or done as a separate analysis, and this budget should include costs for both the project implementation and the project management work required to deliver the project successfully. Upon their approval, projects move into the Preparation Phase.

Planning and Estimating Project Costs and Budget

Planning and estimating projects and budget occur in the Project Preparation Phase, and it is the process of developing detailed costs and assembling them into a project budget. For Agile projects, the cost planning and budget estimation are similar to traditional project methods. The primary difference is that parts of the project costs may be predetermined by fixing the duration of each iteration and resources available. However, Agile projects often do not know the number of iterations at the beginning of the project, even though there can be good guesstimates. Plus, the scope is typically not as fixed and rigid. Therefore, the flexibility of the project scope and the number of iterations provides a degree of freedom for project managers to maneuver and optimize for the project outcome successfully.

  • [1] Project Management Institute. 2016. The High Cost of Low Performance: Pulse of the Profession.
  • [2] Moore, S. W„ 2009. The Sydney Opera House and project management. Strategic PPM.Retrieved from https://strategicppm.wordpress.com/2009/09/25/the-sydney-opera-hoiise-and-project-management/ on November 10, 2019.
 
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