Pmbok 4th edition chapter 7 - Project Cost Management

CHAPTER 7

PROJECT COST MANAGEMENT

Ahmad H. Maharma
PMP®

PM Knowledge Areas & Process Groups
PM Process Initiating Process Planning Process Group Executing Process Monitoring & Controlling Closing
Groups / Group Group Process Group Process
Knowledge Group
Area Processes
Project Develop Project Charter Develop Project Management Direct and Manage Project Monitor and Control Project Work Close Project
Management Plan Execution Integrated Change Control
Integration

Project Scope Collect requirements Verify Scope
Management Define Scope Control Scope
Create WBS

Project Time Define Activity Schedule Control
Management Sequence Activity
Estimating Resource
Estimating Duration
Develop Schedule

Project Cost Estimating Cost Control Cost
Management Budgeting Cost

Project Quality Quality Planning Perform Quality Assurance Perform Quality Control
Management

Project HR Human Resources Planning Acquire Project Team
Management Develop Project Team
Manage Project Team

Project Identify Stakeholders Plan Communications Distribute Information Performance Reporting
Communications Manage stakeholders
Management expectations

Project Risk Plan Risk Management Risk Monitoring and Control
Management Risk Identification
Qualitative / Quantitative Risk
Analysis
y
Risk Response Planning

Project Plan procurement Conduct procurement Administer Contract Close
Procurement procurement
Management

Project Cost Management
Monitoring &
Controlling Processes

Planning
Processes

Enter phase/ Initiating Closing Exit phase/
Start project Processes Processes End project

Executing
Processes

Process
Knowledge
Area Monitoring &
g
Initiating
I iti ti Planning
Pl i Executing
E ti Closing
Cl i
Control

Cost Estimating
Cost Cost B d ti
C t Budgeting
Cost Control

Project Cost Management includes the processes involved in estimating,
budgeting, and controlling costs so that the project can be completed
within the approved budget. Figure 7‐1 provides an overview of the Project
within the approved budget Figure 7 1 provides an overview of the Project

Cost Management processes which include the following:
7.1 Estimate Costs The process of developing an approximation of the monetary
7.1 Estimate Costs—The process of developing an approximation of the monetary
resources needed to complete project activities.

7.2 Determine Budget—The process of aggregating the estimated costs of
g p gg g g
individual activities or work packages to establish an authorized cost baseline.

7.3 Control Costs—The process of monitoring the status of the project to
update the project budget and managing changes to the cost baseline.

The cost management plan can establish the following:
• Level of accuracy. Activity cost estimates will adhere to a rounding of
the data to a prescribed precision (e.g., $100, $1,000),
the data to a prescribed precision (e g $100 $1 000)
based on the scope of the activities and magnitude of the project,
and may include an amount for contingencies.

Units of measure. Each unit used in measurements (such as staff hours,
staff days, weeks, or lump sum) is defined for each of the resources.

• Organizational procedures links. The work breakdown structure (WBS)
provides the framework for the cost management plan,
allowing for consistency with the estimates, budgets,
and control of costs. The WBS component used for the project cost
d t l f t Th WBS t d f th j t t
accounting is called the control account (CA).

Each control account is assigned a unique code or account number(s)
Each control account is assigned a unique code or account number(s)
that links directly to the performing organization’s accounting system.

• Control thresholds: Variance thresholds for monitoring cost performance may be
specified to indicate an agreed‐upon amount of variation to be allowed before some
action needs to be taken.
ti d t b t k

Thresholds are typically expressed as percentage deviations from the baseline plan.

• Rules of performance measurement. Earned value management (EVM) rules of performance
measurement are set. For example, the cost management plan could:

‐ Define the WBS and points at which measurement of control accounts will be performed
Define the WBS and points at which measurement of control accounts will be performed,

‐ Establish the earned value measurement techniques (e.g., weighted milestones, fixed‐
formula, percent complete, etc.) to be employed, and

‐ Specify the earned value management computation equations for determining the
projected estimate at completion (EAC) forecasts and other tracking methodologies.


• Reporting formats: The formats and frequency for the various cost
reports are defined.

• Process descriptions. Descriptions of each of the three cost management
processes are documented.

All of this information is included in the cost management plan,
a component of the project management plan, either as text within the body
t f th j t t l ith t t ithi th b d
of the plan or as appendices.

The cost management plan may be formal or
The cost management plan may be formal or
informal, highly detailed or broadly framed, based upon the needs of the project.

7.1 Cost Estimating
7.1 Cost Estimating
• Estimate Costs is the process of developing an approximation
y p
of the monetary resources needed to complete

• Cost estimates are generally expressed in units of some
currency (i.e., dollars, euro, yen, etc.), although in some
instances other units of measure, such as staff hours or staff
days, a e used to ac tate co pa so s by e
days, are used to facilitate comparisons by eliminating the
at g t e
effects of currency fluctuations.

• Cost estimates should be refined during the course of the
project to reflect additional detail as it becomes available.

11

7.1 Cost Estimating
7.1 Cost Estimating
• The accuracy of a project estimate will increase as the project
p g
progresses through the project life cycle.
g p j y

• Hence cost estimating is an iterative process from phase to
phase. For example, a project in the initiation phase could
have a rough order of magnitude (ROM) estimate in the range
o 50%
of ±50%.

• Later in the project, as more information is known, estimates
could narrow to a range of ±10%. In some organizations, there
are guidelines for when such refinements can be made and
the degree of accuracy that is expected.
the degree of accuracy that is expected.

12

7.1 Cost Estimating
7.1 Cost Estimating
• Costs are estimated for all resources that will be charged to
p j
the project.

• This includes, but is not limited to, labor, materials,
equipment, services, and facilities, as well as special
categories such as an inflation allowance or contingency costs.

• A cost estimate is a quantitative assessment of the likely costs
for resources required to complete the activity.

13

Table 7 3. Types of Cost Estimates
Table 7‐3. 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 j t
b f 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
l

14

Estimates

Charter Plan
Pre-Launch
P L h Approval Launch
L h Approval Execute

Size Estimates (Macro) Task-based Estimates Project Schedule

+/- 35% range +/- 15% range +/- 10% range

15

Quality/Accuracy of Cost
Estimation
Estimate Accuracy

Rough Order
• Most difficult to estimate as very little project info
of Magnitude +/- 50% is available, made during initiating process
(ROM)

-10% • Used to finalize the Request for Authorization
Budget
(RFA), and establish commitment, made during
Estimate
E i +25% planning phase

Definitive -5%
• During the project and refined
Estimate 10%

Types of Cost
• Variable Costs
– Change with the amount of production/work
– e.g. material, supplies, wages
l l
• Fixed Costs
– Do not change as production change
– e.g. set‐up, rental

• Direct Costs
– Directly attributable to the work of project
– e.g. team travel, recognition, team wages
• Indirect Costs
Indirect Costs
– overhead or cost incurred for benefit of more than one project
– e.g. taxes, fringe benefit, janitorial services

• The process involved in estimating, budgeting, and controlling cost
so that the project can be completed within approved budget
p j p pp g
• Life cycle costing
– Looking at the cost of whole life of the p
g product (
(include
maintenance)
• Value analysis (value engineering)
– Looking at less costly way to do the same work within
the same scope
• Law Time value of money (depreciation)
• of Diminishing Returns
–•E.g. will also affect the schedule to task may not get the task
Cost adding twice resource
•done in vs Type of contract
Cost risk vs. cost/time
half

7.1 Cost Estimating
7.1 Cost Estimating ‐ Inputs
• 1. Scope Baseline

Scope statement. The scope statement (Section 5.2.3.1) provides the product
description, acceptance criteria, key deliverables, project boundaries,
assumptions, and constraints about the project

Work breakdown structure. The project WBS (Section 5.3.3.1) provides the
relationships among all the components of the project and the project
p g p p j p j
deliverables (Section 4.3.3.1).

WBS dictionary. The WBS dictionary (Section 5.3.3.2) and related detailed
WBS dictionary The WBS dictionary (Section 5 3 3 2) and related detailed
statements of work provide an identification of the deliverables and a
description of the work in each WBS component required to produce each
deliverable.

19

7.1 Cost Estimating
2. Project Schedule

• The type and quantity of resources and the amount of time which those
resources are applied to complete the work of the project are major
factors in determining the project cost.

• Schedule activity resources and their respective durations are used as key
inputs to this process.
p p

• Estimate Activity Resources (Section 6.3) involves determining the
availability and quantities required of staff and material needed to
availability and quantities required of staff and material needed to
perform schedule activities.

20

7.1 Cost Estimating
3. Human Resource Plan
• Project staffing attributes, personnel rates, and related
rewards/recognition (Section 9.1.3.1) are necessary components for
developing the project cost estimates.

4. Risk Register

• The risk register (Section 11.2.3.1) should be reviewed to consider risk
The risk register (Section 11 2 3 1) should be reviewed to consider risk
mitigation costs.
• Risks, which can be either threats or opportunities, typically have an
impact on both activity and overall project costs.
impact on both activity and overall project costs
• As a general rule, when the project experiences a negative risk event, the
near‐term cost of the project will usually increase, and there will
sometimes be a delay in the project schedule.
sometimes be a delay in the project schedule

21

7.1 Cost Estimating
5. Enterprise Environmental Factors

• The enterprise environmental factors that influence the Estimate Costs
process include, but are not limited to:

Market conditions. Market conditions describe what products, services,
and results are available in the market, from whom, and under what
terms and conditions. Regional and/or global supply and demand
g / g pp y
conditions greatly influence resource costs.

Published commercial information. Resource cost rate information is often
Published commercial information Resource cost rate information is often
available from commercial databases that track skills and human resource
costs, and provide standard costs for material and equipment. Published
p
seller price lists are another source of information.

22

7.1 Cost Estimating
6. Organizational Process Assets

• The organizational process assets that influence the Estimate Costs
process include but are not limited to:
– Cost estimating policies,
– Cost estimating templates,
– Historical information, and
– Lessons learned.

23

7.1 Cost Estimating Tools and Techniques
7.1 Cost Estimating ‐ Tools and Techniques
1. Expert Judgment

Cost estimates are influenced by numerous variables such as
labor rates, material costs, inflation, risk factors, and other
variables.

2. Analogous Estimating “Top‐down Estimating”
2 Analogo s Estimating “Top do n Estimating”

Analogous cost estimating uses the values of parameters,
Analogous cost estimating uses the values of parameters
such as scope, cost, budget, and duration or measures of scale
such as size, weight, and complexity, from a previous, similar
project as the basis for estimating the same parameter or
j t th b i f ti ti th t
measure for a current project.
24

• When estimating costs, this technique relies on the actual
cost of previous, similar projects as the basis for estimating
p , p j g
the cost of the current project.

• Analogous cost estimating uses historical information and
expert judgment.

• Analogous cost estimating is generally less costly and time
consuming than other techniques, but it is also generally less
accurate.
• Analogous cost estimates can be applied to a total project or
to segments of a project, used in conjunction with other
to segments of a project used in conjunction with other
estimating methods.
25

3. Parametric Estimating

• Parametric estimating uses a statistical relationship between
historical data and other variables (e.g., square footage in
construction) to calculate an estimate for activity parameters,
such as cost, budget, and duration.

• This technique can produce higher levels of accuracy
depending upon the sophistication and underlying data built
into the model.
• Parametric cost estimates can be applied to a total project or
to segments of a project, in conjunction with other estimating
to segments of a project in conjunction with other estimating
methods.
26

4. Bottom‐Up Estimating

• Bottom‐up estimating is a method of estimating a component
of work.
• The cost of individual work packages or activities is estimated
with the greatest level of specified detail.
• The detailed cost is then s mmari ed or “rolled p” to higher
The detailed cost is then summarized or “rolled up” to higher
levels for subsequent reporting and tracking purposes.
• The cost and accuracy of bottom‐up cost estimating is
y p g
typically influenced by the size and complexity of the
individual activity or work package.

27

5. Three‐Point Estimates

• The accuracy of single‐point activity cost estimates can be
improved by considering estimation uncertainty and risk.

• This concept originated with the program evaluation and
review technique (PERT).
re ie techniq e (PERT)

• PERT uses three estimates to define an approximate range for
PERT uses three estimates to define an approximate range for
an activity’s cost.

28

PERT analysis calculates an Expected (Te) activity duration
using a weighted average of these three estimates:
Te = (To+4Tm+Tp)/ 6
Te = (To+4Tm+Tp)/ 6

Duration estimates based on this equation (or even on a
q (
simple average of the three points) may provide more
accuracy, and the three points clarify the range of uncertainty
0f the duration estimates.
0f the duration estimates

Points Estimate (PERT)

Expected Standard Variance
Deviation

P + 4Μ + Ο P−Ο ⎡P − Ο2 ⎤
⎢ ⎥
6 6 ⎣ 6 ⎦

SD=
S ∑variance
a a ce

7. Cost of Quality (COQ)

• Assumptions about costs of quality (Section 8.1.2.2) may be
used to prepare the activity cost estimate.

8. Project Management Estimating Software

• Project management cost estimating software applications,
computerized spreadsheets, simulation, and statistical tools
computerized spreadsheets simulation and statistical tools
are becoming more widely accepted to assist with cost
estimating.

31

9. Vendor Bid Analysis

• Cost estimating methods may include analysis of what the
project should cost, based on the responsive bids from
qualified vendors.
• Where projects are awarded to a vendor under competitive
processes, additional cost estimating work can be required of
processes additional cost estimating work can be required of
the project team to examine the price of individual
deliverables and to derive a cost that supports the final total
project cost.
j

32

7.1 Cost Estimating
7.1 Cost Estimating ‐ output
1. Activity Cost Estimates

• Activity cost estimates are quantitative assessments of the
probable costs required to complete project work.

• Cost estimates can be presented in summary form or in detail.

• Costs are estimated for all resources that are applied to the
activity cost estimate.
activity cost estimate

• This includes, but is not limited to, direct labor, materials,
equipment, services, facilities, information technology
33

7.1 Cost Estimating
2. Basis of Estimates

• The amount and type of additional details supporting the cost
estimate vary by application area.

• Regardless of the level of detail, the supporting
documentation should provide a clear and complete
doc mentation sho ld pro ide a clear and complete
• understanding of how the cost estimate was derived.

• Supporting detail for activity cost estimates may include:

• Documentation of the basis of the estimate (i.e., how it was
developed), 34

7.1 Cost Estimating
3. Project Document Updates

• Project documents that may be updated include, but are not
limited to, the risk register.

35

7.2 Determine Budget
• Determine Budget is the process of aggregating the estimated
p g
costs of individual activities or work packages to establish an
authorized cost baseline.

• This baseline includes all authorized budgets, but excludes
management reserves.

• Project budgets constitute the funds authorized to execute
the project.

• Project cost performance will be measured against the
authorized budget.
th i d b d t
38

7.2 Determine Budget ‐ Inputs
1. Activity Cost Estimates

Cost estimates (Section 7.1.3.1) for each activity within a work
package are aggregated to obtain a cost estimate for each
work package.

2. Basis of Estimates
2 Basis of Estimates

Any basic assumptions dealing with the inclusion or exclusion
Any basic assumptions dealing with the inclusion or exclusion
of indirect costs in the project budget are specified in the
basis of estimates.

39

3. Scope Baseline
Scope Statement, Work breakdown structure, WBS dictionary.
Scope Statement Work breakdown structure WBS dictionary

4. Project Schedule
j

• The project schedule (Section 6.5.3.1), as part of the project
management plan, includes planned
• start and finish dates for the project’s activities, milestones,
work packages, planning packages, and control accounts.
work packages planning packages and control accounts
• This information can be used to aggregate costs to the
calendar periods in which
• the costs are planned to be incurred.
40

5. Resource Calendars

• Resource calendars provide information on which resources
are assigned to the project and when they are assigned.
• This information can be used to indicate resource costs over
the duration of the project.

6. Contracts

• Applicable contract information and costs relating to
products, services, or results that have been
• purchased are included when determining the budget.
41


• The organizational process assets that influence the
Determine Budget process include, but are not limited to:

– Existing formal and informal cost budgeting‐related policies,
procedures, and guidelines,
– Cost budgeting tools, and
– Reporting methods.

42

7.2 Determine Budget Tools and techniques
7.2 Determine Budget – Tools and techniques
1. Cost Aggregation

• Cost estimates are aggregated by work packages in
accordance with the WBS.

• The work package cost estimates are then aggregated for the
higher component levels of the WBS (such as control
higher component le els of the WBS (s ch as control
accounts) and ultimately for the entire project.

43

Cost Aggregation
• Reserves & risk management are Cost Budget
important while estimating!
Management reserves
– Contingency reserves: Cost
Baseline Cost baseline
the cost impacts of the
the cost impacts of the Contingency reserves
C ti
remaining risk
Project estimates
–M
Management reserves:
t Cost
C t Control account estimates
Budget
Work package estimates
extra fund to cover unforeseen
risk or changes to the project Activity estimates

Cash Flow, Cost Baseline and Funding
, g

2. Reserve Analysis

• Budget reserve analysis can establish both the contingency
reserves and the management reserves for the project.

• Contingency reserves are allowances for unplanned but
potentially required changes that can result from realized risks
potentiall req ired changes that can res lt from reali ed risks
identified in the risk register.

• Management reserves are budgets reserved for unplanned
changes to project scope and cost.

46

3. Expert Judgment

• Judgment provided based upon expertise in an application
area, Knowledge Area, discipline, industry, etc., as appropriate
for the activity being performed should be used in
determining the budget.

• Such expertise may be provided by any group or person with
specialized education, knowledge, skill, experience, or
training.

47

4. Historical Relationships

• Any historical relationships that result in parametric estimates
or analogous estimates involve the use of project
characteristics (parameters) to develop mathematical models
to predict total project costs.

• Such models can be simple (e.g., residential home
construction is based on a certain cost per square foot of
space) or complex (e.g., one model of software development
costing uses multiple separate adjustment factors, each of
which has numerous points within it).
which has numerous points within it).

48

5. Funding Limit Reconciliation

• The expenditure of funds should be reconciled with any
funding limits on the commitment of funds for the project.

• A variance between the funding limits and the planned
expenditures will sometimes necessitate the rescheduling of
e pendit res ill sometimes necessitate the resched ling of
work to level out the rate of expenditures.

• This can be accomplished by placing imposed date constraints
for work into the project schedule.

49

7.2 Determine Budget – Outputs
1. Cost Performance Baseline

• The cost performance baseline is an authorized time‐phased
budget at completion (BAC) used to measure, monitor, and
control overall cost performance on the project.

• It is de eloped as a s mmation of the appro ed b dgets b
It is developed as a summation of the approved budgets by
time period and is typically displayed in the form of an S‐
curve.

50

2. Project Funding Requirements

• Total funding requirements and periodic funding
requirements (e.g., quarterly, annually) are derived from the
cost baseline.

• The cost baseline ill incl de projected e pendit res pl s
The cost baseline will include projected expenditures plus
anticipated liabilities.

51

3. Document Updates
• Project documents that may be updated include but are not
Project documents that may be updated include but are not
limited to:
– Risk register,
– Cost estimates, and
– Project schedule.

52

7.3 Control Cost
7.3 Control Cost
• Control Costs is the process of monitoring the status of the
p j
project to update the project budget and managing changes
p p j g g g g
to the cost baseline.

• Project cost control includes:

1. Influencing the factors that create changes to the authorized
1 Infl encing the factors that create changes to the a thori ed
cost baseline,
2. Ensuring that all change requests are acted on in a timely
g g q y
manner,
3. Managing the actual changes when and as they occur,
4. Ensuring that cost expenditures do not exceed the
authorized funding, by period and in total for the project, 55

7.3 Control Cost
7.3 Control Cost
5. Monitoring cost performance to isolate and understand
pp ,
variances from the approved cost baseline,

6. Monitoring work performance against funds expended,

7. Preventing unapproved changes from being included in the
reported cost or resource usage,
reported cost or reso rce sage
8. Informing appropriate stakeholders of all approved changes
and associated cost,,
9. Acting to bring expected cost overruns within acceptable
limits.

56

7.3 Control Cost
7.3 Control Cost ‐ Inputs
1. Project Management Plan

• The project management plan described in Section 4.2.3.1
contains the following information that is used to control cost:

• Cost Performance baseline. The cost performance baseline is
compared with actual results to determine if a change,
compared ith act al res lts to determine if a change
corrective action or preventive action is necessary.

57

7.3 Control Cost
2. Project Funding Requirements

• Project funding requirements are described in Section 7.2.3.2.

3. Work Performance Information

• Work performance information includes information about
project progress, such as which deliverables
• have started their progress and which deliverables have
have started, their progress and which deliverables have
finished.
• Information also includes costs that have been authorized
and incurred, and estimates for completing project work.
58

7.3 Control Cost

• The organizational process assets that can influence the
Control Costs process include, but are not limited to:
– Existing formal and informal cost control‐related policies, procedures,
and guidelines;
– Cost control tools; and
– Monitoring and reporting methods to be used.

59

7.3 Control Cost Tools and techniques
7.3 Control Cost – Tools and techniques
1. Earned Value Management

• Earned value management (EVM) in its various forms is a
commonly used method of performance measurement.

• It integrates project scope, cost, and schedule measures to
help the project management team assess and measure
help the project management team assess and meas re
project performance and progress.

• It is a project management technique that requires the
formation of an integrated baseline against which
performance can be measured for the duration of the project.
f b d f th d ti f th j t
60

What Is Earned Value Analysis?
What Is Earned Value Analysis?
WBS Formal Reporting System

Project Schedule
Earned Value Early Warning & Detection

Resource Planning/ Informed Management
Cost Estimating Management Decisions

Define/Assign Corrective Actions
Schedule/Budget System Recovering Planning
Establish Baseline

uthorization
Time Sheet System

Work Au
t

61

Planned Value (PV) [was Budgeted Cost of Work
Planned Value (PV) [was Budgeted Cost of Work
Scheduled (BCWS)]
How much work should be done (what you planned to do)

JAN FEB MAR APR MAY

40 40 40 100 60
Work Package #1

100 50 70 20
Work Package #2
g

40 40 60
Work Package #3

50 70 60 120
Work Package #4

PV = 140 180 220 240 180 BAC = 960

Cumulative PV = 540

62

Earned Value (EV) [was Budgeted Cost of Work
( )[ g
Performed (BCWP)]
How much work is done on a budgeted basis (what you’ve actually
done)
d )
Work completed during a given period of time = “Earned Value”

JAN FEB MAR APR MAY

40 40 40 100 60
Work Package #1 100% Complete (280)

100 50 70 20

40 40 60

50 70 60 120

PV = 140 180 220 240 180 BAC = 960

PV = 540
EV = 590

63

Actual Cost (AC) [was Actual Cost of Work
Performed (ACWP)]

How much did the “is done” work cost (what you actually
is done
spent or what it actually cost)

JAN FEB MAR APR MAY

40 40 40 100 60

100 50 70 20

40 40 60

50 70 60 120

PV = 140 180 220 240 180 BAC = 960

PV = 540
EV = 590
AC = 560 (not calculated here)

64

Schedule Variance (SV)
Schedule Variance (SV)
• EV ‐ PV: “Value of Work Performed less value of Work Scheduled”
• *A Negative number indicates a “Potential Slip”
• Schedule Variance status does:
Example:
– indicate the dollar value difference between
– work that is ahead or behind the plan PV = $
$250
– reflect a given measurement method EV = $200
• Schedule Variance status does not:
SV = EV - PV
– address impact of work sequence
– address importance of work = $200 - $250
– reflect critical path assessment = - $50
– indicate amount of time it will slip
i di t t f ti it ill li
– identify source (labor & material) of difference
– indicate the time ahead/behind (or regain) schedule
– indicate the cost needed to regain schedule
indicate the cost needed to regain schedule

65

Cost Variance (CV)
Cost Variance (CV)
EV - AC: “Value of Work Performed for Each Dollar’s
Value Dollar s
Worth of Work Scheduled”

*A Negative number indicates an “Overrun”

Example:
p
EV = $200
AC = $190
CV = EV - AC
= $200 - $190
= $10

66

Schedule Performance Index (SPI)
Schedule Performance Index (SPI)
Is a Measure of Contractor “Schedule Efficiency”
Schedule Efficiency

Example:
SPI = EV/PV
PV = $250
EV = $200
SPI = EV/PV
= $200/$250
= .80
80

Less Than 1.0 is unfavorable = BEHIND schedule
Greater Than 1.0 is favorable = AHEAD of schedule
67

Cost Performance Index (CPI)
Cost Performance Index (CPI)
Is a Measure of Contractor “Cost Efficiency
Cost Efficiency”

Example:
CPI = EV/AC EV = $200
AC = $190
CPI = EV/AC
= $200/$190
= 1.05
1 05

Less Than 1.0 is unfavorable = Cost is GREATER than budgeted
Greater Than 1.0 is favorable = Cost is LESS than budgeted
68

2. Forecasting

• As the project progresses, the project team can develop a
forecast for the estimate at completion (EAC) that may differ
from the budget at completion (BAC) based on the project
performance.

• If it becomes obvious that the BAC is no longer viable, the
project manager should develop a forecasted EAC.

69

Budget at Completion (BAC)
Budget at Completion (BAC)

What is Budget at Completion (BAC)
• Sum of the total budgets for a p j
g project

BAC = Cum PV (BCWS) for all work packages in the
p j
project

70

Forecasting ‐ Estimate at Completion (EAC)
g p ( )

What is Estimate at Completion (EAC)
• Expected total cost for a defined scope of work
• Forecast of most likely total project cost
Techniques for developing EAC:

EAC = Actuals to date plus a new estimate for all remaining work (AC + ETC)
*What is ETC? Estimate to Complete (ETC) is the cost for all remaining
What
work.

EAC = BAC/CPI Total project budget divided by the cost performance index

EAC = AC +BAC – EV

EAC = AC + (BAC – EV)/CPI
( )

71

Forecasting EAC
• Common alternative way to calculate EAC

Table captured from Practice Standard for Earned Value Management, PMI © 2005

Earned Value Graph
Earned Value Graph
Cost
$360M EAC
(Forecast)
Cost Overrun

$300M BAC
(Total Budget)

BCWS (PV)
(Planned)

Spending
ACWP (AC)
Variance (Actual)
Cost CPI
Schedule Variance
Variance
Schedule
BCWP (EV) Slippage
(Accomplishment)

24 Mos. 40 Mos. 52 Mos. Time 73

Earned Value Technique
Terms and Formulas Definition

Budget t
B d t at completion (BAC)
l ti How
H much did we BUDGET for the TOTAL project effort?
h f th j t ff t?

Estimate at Completion (EAC) What do we currently expect the TOTAL project cost (a
= BAC / CPI forecast)?
f t)?

Estimate to Complete (ETC) From this point on, how much MORE do we expect it to cost to
= EAC - AC finish the project (a forecast)?

Variance at Completion (VAC) As of today, how much over or under budget do we expect to
= BAC – EAC be at the end of the project?

• EAC is an important forecasting value.

Earned Value: Graphical
Representation TODAY
(Reporting day)
Projection of
schedule delay
at completion
Estimate at
Completion
EAC (
(EAC)
)
Projection of
cost variance
at completion
BAC (VAC)

AC Budget at
Completion
(BAC)
COST

Cost
Variance
(CV)

PV

Schedule
Variance
(SV)
ACTUAL
EV
PLAN

EARN
VALUE

TIME
Project is over budget & behind schedule

Earned Value Management

EV can b calculated by
be db
(%progress) x (planned man-days)

Image captured from Practice Standard for Earned Value Management, PMI © 2005

4. To‐Complete Performance Index (TCPI)

• The to‐complete performance index (TCPI) is the calculated
projection of cost performance that must be achieved on the
remaining work to meet a specified management goal, such
as the BAC or the EAC.
• If it becomes obvious that the BAC is no longer viable the
If it becomes obvious that the BAC is no longer viable, the
project manager develops a forecasted estimate at
completion (EAC).
• Once approved, the EAC effectively supersedes the BAC as
• the cost performance goal. Equation for the TCPI based on the
BAC: (BAC – EV) / (BAC – AC).
BAC: (BAC – EV) / (BAC – AC)

77

To‐Complete Performance Index (TCPI)

• Helps the team determine the efficiency that must be achieved on
the remaining work for a project to meet a specified endpoint, such
as BAC or the team’s revised EAC

Work Remaining (BAC – EV)
• TCPI =
Funds Remaining (BAC – AC) or (EAC - AC)


79

4. Performance Reviews

• Performance reviews compare cost performance over time,
schedule activities or work packages overrunning and under
running the budget, and estimated funds needed to complete
work in progress.

• If EVM is being used, the following information is determined:

• Variance analysis. Variance analysis as used in EVM compares
actual project performance to
• planned or expected performance. Cost and schedule
variances are the most frequently analyzed. 80

5. Variance analysis.

• Variance analysis as used in EVM compares actual project
performance to planned or expected performance.
• Cost and schedule variances are the most frequently
analyzed.

• Trend analysis. Trend analysis examines project performance
over time to determine if performance is improving or
p p g
deteriorating.
• Graphical analysis techniques are valuable for understanding
performance to date and for comparison to future
f t d t df i t f t
performance goals in the form
81

6. Project Management Software

• Project management software is often used to monitor the
three EVM dimensions (PV, EV, and AC), to display graphical
trends, and to forecast a range of possible final project results.

82

7.3 Control Cost
7.3 Control Cost – Outputs
1. Work Performance Measurements

• The calculated CV, SV, CPI, and SPI values for WBS
components, in particular the work packages and control
accounts, are documented and communicated to
stakeholders.

2. Budget Forecasts

• Either a calculated EAC value or a bottom‐up EAC value is
documented and communicated to stakeholders.

83

7.3 Control Cost
3. Organizational Process Assets Updates

• Organizational process assets that may be updated include,
but are not limited to:
– Causes of variances,
– Corrective action chosen and the reasons, and
– Other types of lessons learned from project cost control.
Other types of lessons learned from project cost control.

4. Change Requests

• Analysis of project performance can result in a change request
to the cost performance baseline or other components of the
to the cost performance baseline or other components of the
project management plan.
84

7.3 Control Cost
5. Project Management Plan Updates

• Elements of the project management plan that may be
updated include, but are not limited to:
– Cost performance baseline. Changes to the cost performance baseline
are incorporated in
– response to approved changes in scope, activity resources, or cost
estimates. In some cases,
– cost variances can be so severe that a revised cost baseline is needed
to provide a realistic
– basis for performance measurement.

85

7.3 Control Cost
6. Project Document Updates
Project documents that may be updated include, but are not
Project documents that may be updated include but are not
limited to:
– Cost estimates, and
– Basis of estimates.

86

Summary of Terms and Formulas

TERM DESCRIPTION INTERPRETATION
How much work should be done (What you
PV Planned Value
planned to do)
How much work is done on a budgeted basis
EV Earned Value
(What you’ve actually done)
How much did the “is done” work cost (What you
AC Actual Cost
Actually spent)
BAC Budget at Completion How much you budgeted for the total project.
EAC Estimate at Completion What you currently expect the total project to cost
From a given point in time, what you currently
ETC Estimate to Complete
expect the remaining cost to be
p g
VAC Variance at Completion How much over or under budget you expect to be

87


NAME FORMULA INTERPRETATION
Cost Variance
EV-AC Negative means over budget, Positive means under budget
(CV)
Schedule
EV PV
EV-PV Negative means behind schedule, Positive means ahead of schedule
Variance (SV)
V i
Cost
Performance EV/AC You are getting X cents out of every $1
Index (CPI)
Schedule
Performance EV/PV You progressing at X% of the rate originally planned
Index (SPI)
Estimate at
BAC/CPI or AC
Completion What, at this time, you expect the total project to cost
+ ETC
(EAC)
Estimate to
Completion EAC - AC What, at this time, you expect the remaining scope to cost
(ETC)
Variance at
What, at this time, you expect the final project cost to be more or less
Completion BAC - EAC
then budgeted.
(VAC)

88

Present Value (PV) and
Net Present Value (NPV)
Present Value (PV) - means the value today of future cash flows or
costs

PV = FV/(1 + r)n Note: FV = Future value,
value
r = interest rate
n = number of time periods

Net Present Value (NPV) - means the total benefits less the costs.
NPV is done by calculating the present value of all benefits and costs,
then subtracting the total benefits from the total cost.

89

Internal Rate of Return (IRR): Payback Period and
Benefit Cost Ratio (BCR)
B fi C R i (BCR)

• Payback Period
Payback Period
– number of time periods it takes to recover your
investment.  The shorter time the better.
• Benefit Cost Ratio (BCR)
– Compares the cost to the benefits on a project.  When
dealing with multiple project options, you would
select the project with the greatest BCR.  BCR > 1
means benefits are greater than costs, BCR < 1 means
means benefits are greater than costs, BCR < 1 means
costs are greater than benefits, and BCR = 1 means
they are the same.

90

Earned Value Management
• Method to measure project performance against scope, schedule
and cost baseline (performance measurement baseline)

• Interpretation of basic EVM performance measures
– Cost Performance Index (CPI)
– Schedule Performance Index (SPI)

Earned Value Technique Example:
Project Budget: $400K
Project Schedule: 4
j
At the 3 month
checkpoint:
Spent: $200K
months Work completed: $100K

Terms and Formulas Definition Example

Earned Value (EV) As of today, what is the estimated value of the
work actually accomplished? $100K

Actual Cost (AC) As of today, what is the actual cost incurred for
the
th work accomplished?
k li h d? $200K

Planned Value (PV) As of today, what is the estimated value of work
planned to be done? $300K

Cost Variance (CV) Negative is over budget $100K – $200K
= EV - AC Positive is under budget = ($100K)

Schedule Variance (SV) Negative is behind schedule $100K - $300K
= EV - PV Positive is ahead schedule = ($200K)

Cost Performance Index We are getting $__ worth of work out of every $100K/$200K
(CPI) = EV/AC $1 spent. Are funds being used efficiently? = 0.5 i.e. 50%

Schedule Performance We are (only) progressing at __ percent of the $100K/$300K
Index
I d (SPI) = EV/PV rate originally planed = 0.33 i e 33%
0 33 i.e

4/0.33
Revised Total Duration Baseline Duration/Schedule Performance Index
= 12 months

Exercise
• You have a project to build a box. The box is six sided. Each side is to take one
day to build and is budgeted for $1000 per side. The sides are planned to be
completed one after the other. Today is the end of day three.

• Using the following project status chart, calculate PV, EV, AC, BAC, CV, CPI,
SV, SPI, EAC, ETC, VAC.
, , , ,
• Describe your interpretation based on the calculation!

Task Progress
g Cost spent
p
Side 1 ||||||||||||||||||||||||||||||||||||||||100% $1,200

Side 2 ||||||||||||||||||||||||||||||||||||||||100% $1,000

Side 3
Sid 3 ||||||||||||||||||||||||||||||75% $750
$750

Side 4 ||||||||||||||||||||50% $500

Side 5 0% $0

Side 6 0% $0

Exercise Solution
Parameter Calculation Result
PV
EV
AC
BAC
CV
CPI
SV
SPI
EAC
ETC
VAC

Project is below/over budget?
Project is late/ahead schedule?
How much more money we need?
H h d?

Exercise Solution
Parameter Calculation Result
PV 10 + 10 + 10 30
EV (% x ) + (% x ) + (% x 10)
10 10 10 10 75 + (% x 10)
50 3025
AC 120 + 10 + 750 + 50 3450
BAC 6 x 10 60
CV 3025 - 3450 -425

CPI 3025 / 3450 .8
0
SV 3025 - 30 25
SPI 3025 / 30 .01
1
EAC 60 / 0. 8 .18
681
ETC .18
681 - 3450 .18
368
VAC 60 - 681.18 -.18
81

• over budget, getting 0.88 dollar for every dollar we spent,
• ahead schedule, progressing 101% of the rate planned,
• probably will spend $6818 at the end (estimation),
• need $3368 to complete,
• over budget at the end for about $818 (estimation)

Earned Schedule ‐ An emerging
EVM practice
EVM practice
• SPI($)
– At project start SPI is reliable
– At some point SPI accuracy diminishes
– Toward the project end it is useless (SPI = 1 at project end)
– Doest not show weeks/months of schedule variance

• SPI(t)
– Time based schedule measures
– Create a SPI that is accurate to the of the project

SV(t) = ES – AT
SPI(t) = ES / AT

• ES = Earned Schedule (Planned time)
• AT = Actual time
See more resources about earned schedule at http://www.earnedschedule.com

EVM – Hints to remember
• EV comes first in every formula
• If it’s variance, the formula is EV – something
it’ i th f l i thi
• If it’s index, EV / something
• If it relates to cost use Actual Cost
cost,
• If it relates to schedule, use PV
• Negative numbers are bad, p
g , positive is g
good

Copied from Rita’s book

Earned Value Chart

98

Basic Principles of Cost Management
Basic Principles of Cost Management
• Most members of an executive board have a better
understanding and are more interested in financial
terms than IT terms, so IT project managers must
speak their language.
– Profits are revenues minus expenses.
– 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.
99

Cash Flow, Cost Baseline and Funding
, g

Extra reserve at
end of project
mulative Values
s

Cost baseline
e

Funding
Cum

Expected Cash Flow

Time 100

For more information do not hesitate to
contact me.

Ahmad H. Maharma ‐ PMP®

• Ramallah, Palestine
• Phone: + (972) (2) 2968644
• Mobile: + (972) (599) 001155
E‐Mail: ahmad.maharma@gmail.com

Pmbok 4th edition chapter 7 - Project Cost Management

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