IT Project Management

Topic 5: Cost Management

Lecture1: What is cost? Why is cost management important?
Learning Outcomes

At the end of this topic, you should be able to:

✓ Describe 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
✓ Apply some of the processes involved in cost budgeting and preparing a
cost estimate and budget for an information technology project
✓ Discuss the benefits of Earned Value Management (EVM) to assist in
cost control
 What is cost?

It is resources (money or other collateral) expended

to achieve an objective

• Typically, this is measured in monetary amounts

(time, resources, etc. = $)
What is
• They can be challenging to estimate through Cost
Cost Management Management?

• Basically, How much will the work cost?

Source: Schwalbe, 2018 (Chapter 7)

What is cost management?
It is a series of activities for estimating,
allocating and controlling costs within a project

• Effective cost management allows unique

resourcing and funding needs to be identified
and managed Why is
it so
• So, the project can be completed successfully
(on-time, and on-budget) important?

Source: https://mymanagementguide.com/project-cost-management-–-definition-process-and-software/
How big is the challenge?

✓ On average ICT project cost

overrun = 27%
✓ In one in six (1/6 - ~16%)
ICT projects the cost overrun
was 200%

Sources: https://blog.mavenlink.com/21-shocking-project-management-
statistics-that-explain-why-projects-continue-to-fail &
https://hbr.org/2003/09/why-good-projects-fail-anyway
Why you need to take cost management
seriously?
Queensland Health Payroll System (Australia) – 2010

Planned Budget: $6 million AUD

Final Cost: $1.2 billion AUD
Issues:
• Incomplete requirements
• Underestimation of complexity
• Customisation of off-the-shelf software (SAP) without adequate
testing
• Resulted in thousands of payroll errors and under/over payments

Healthcare.gov (USA) – 2013

Planned Budget: ~$93 million USD

Final Cost: Over $1.7 billion USD
Issues:
• Rushed development timeline
• Poor coordination among contractors
• Incomplete testing before launch
• Political pressure led to launching before the system was stable
 Cost as the biggest cause of project failure
A key reason for failure is that cost estimates are so poor – Leads to cost blowouts

Cost overruns can

jeopardise you and your
organisation

Source: http://www.pwc.com/gx/en/industries/capital-projects-infrastructure/publications/correcting-the-course-of-capital_projects.html
 Understanding some key terms
• Costs = resources (money or other collateral)
expended to achieve an objective
• Fixed costs: Costs that are constant no matter what changes in
the situation (e.g., rents for building, etc.)
• Variable Costs: Costs that vary in step with business/operational
activities

COSTS
VARIABLE COSTS Project Managers typically
need to focus on variable
FIXED COSTS costs

Source: Model developed from information in Waud (1986), Carbaugh (2016), Elder-Vass (2016); Turvey (2019); Peirson & Bird (2000)
Understanding some key terms
Type of costs Definition Examples
Tangible Costs Costs that can be readily measured Cost of equipment, personnel, etc.,
Costs that are difficult to measure in
Intangible Costs monetary terms
Creating poor morale, negative social media posts

Costs that are directly associated with the

Direct Costs project
Cost of equipment, personnel, etc.) PM FOCUS

Costs are not directly related but have a flow

Indirect Costs on effect to the project
Administration costs

The unrealised loss related to other

If I put an expert onto one project rather than
Opportunity Costs alternatives/benefits when another option is
another, what do I lose/gain
chosen
Money that has already been spent Spent money on a new application, but does not
VARIABLE COSTS
Sunk costs meet user needs
The Total Cost of Ownership (TCO) for a Total cost of a system solution including ongoing
Life Cycle costs system maintenance and any future upgrades
FIXED COSTS
The costs associated with loss/impact on Unexpected issues during data migration such as,
Downtime costs businesses due to failure of ICT systems website down or customers can’t create tickets
Quiz Question 1

Within the context of what has just been discussed, what do

we mean by Tangible Costs (TC) and Intangible Costs (IC)?
This is a multiple-choice question.
 Understanding some key terms
• Revenue/Benefits = resources (money or other
collateral) created due to activities (e.g., a project)
REVENUE / BENEFITS

➢ Tangible benefits: Money or other directly measurable benefits to the

organisation (e.g. cash from a project)
➢ Intangible benefits: Other non-measurable benefits accrued from
activity (e.g. improved morale/experience)

Don’t underrate the

COSTS
VARIABLE COSTS
importance of intangible
FIXED COSTS benefits

Source: Model developed from information in Waud (1986), Carbaugh (2016), Elder-Vass (2016); Turvey (2019); Peirson & Bird (2000)
 Understanding some key terms
Accounting Profit/Loss = Revenues/Benefits – Costs
REVENUE / BENEFITS

The normal focus is on accounting profit/loss

ACCOUNTING

➢
PROFIT

➢ However – don’t forget about intangible

benefits/costs

COSTS
VARIABLE COSTS

FIXED COSTS
Source: Model developed from information in Waud (1986), Carbaugh (2016), Elder-Vass (2016); Turvey (2019); Peirson & Bird (2000)
 Understanding some key terms
Profit & Loss can be influenced by:
REVENUE / BENEFITS

➢ Learning Curve Theory. Through experience costs

ACCOUNTING

can be driven down (e.g., streamline systems to avoid

PROFIT

problems)
➢ Economies of Scale. When mass producing - the
unit/activity costs can be reduced

COSTS
VARIABLE COSTS

FIXED COSTS
Source: Model developed from information in Waud (1986), Carbaugh (2016), Elder-Vass (2016); Turvey (2019); Peirson & Bird (2000)
 RESERVE
Understanding some key terms
Most projects try to include Reserves - spare resources
available for:
REVENUE / BENEFITS

ACCOUNTING

➢ Contingency. To cover specific issues that cannot be

PROFIT

clarified when planning (known unknows)

➢ Management. Covering future non-specific issues that
cannot be foreseen (unknown unknowns)

COSTS
VARIABLE COSTS Contingency is normally
included in the Project Cost
Baseline, whereas Management
FIXED COSTS
Reserve is not.
Source: Model developed from information in Waud (1986), Carbaugh (2016), Elder-Vass (2016); Turvey (2019); Peirson & Bird (2000)
Quiz Question 2

Contingency is normally included in the baseline cost when

planning the project, whereas Management reserves are
typically kept separate. Select either True or False in the
Quiz in relation to this statement.
IT Project Management

Topic 5: Cost Management Process

Cost Management Processes
1. Plan Cost Management. Determining the policies,
procedures, and documentation that will be used for planning,
executing, and controlling project cost

2. Estimate Costs. Developing an approximation or estimate of

the costs of the resources needed to complete a project

3. Determine Budget. Allocating the overall cost estimate to

individual work items to establish a baseline for measuring
performance

4. Control Cost. Controlling project budget (actual vs accrual vs

forecast/budgeted)
Relationship between the steps
Steps Plan Cost Management Estimate Costs Determine Budget Control Costs

• PMP, CMP,
• CMP, Quality MP
• Project Charter Resource MP
(QMP) • PMP, CMP,
• PMP • Cost Baseline
• Cost Baseline Performance
• Enterprise Environment • Basis of estimates,
Inputs • Schedule, Resource, • Cost Baseline
Factors (EEF) Cost estimates,
Risk, • Lessons learnt
• Organisational Process Schedule, Risk
• Lessons Learnt • OPA
Assets (OPA) Register
• EEF & OPA
• EEF & OPA

• Expert Judgement
• Expert Judgement
Estimation (Analogous, • Expert Judgement
• Expert Judgement • Cost aggregation &
Tools & Parametric, Bottom-up, • Data analysis (e.g.
• Data Analysis Data analysis
Techniques 3-Point, Data Analysis EVM)
• Meetings • Past info, funding
• Information systems • Information systems
limits
• Decision making

• Cost baseline
• Cost estimates • Performance info
• Funding
• Cost Management Plan • Basis of estimates • Cost forecasts
Outputs requirements
(CMP) • Project Document • Change requests
• Project Document
updates • Document updates
updates
 When do these steps get done?
PLANNING EXECUTION CLOSING
START

INITIATION

END
(& PRE-INITIATION) MONITORING & CONTROL

Plan Cost Management Set the structures/policies in place early

Estimate Costs Identify likely costs for work packages/resources, etc.

Determine Budget Aggregate costs & establish baseline

Control Costs

Monitor and proactively manage in relation to the budget and changes

Let’s look at the steps in more detail

Planning Cost Management
✓ The project team uses expert judgment, analytical techniques,
and meetings to develop the Cost Management Plan
✓ The Cost Management Plan lays the groundwork for the
following steps

Cost Management Plan Activity cost estimates Cost Baseline Project

Plan Cost Basis of Estimation Funding Requirements
Management Estimate
Costs Determine
Budget
Control Costs
Planning Cost Management
✓ A Cost Management Plan typically includes info on:
• Levels of accuracy and units of measure
• Organisational procedures and links For most
• Control thresholds organisations this is
predominantly boilerplate
• Rules of performance measurement (follow their rules &
formats)
• Reporting formats
• Process descriptions

All of this helps to manage Cost Variance

Estimating Costs

Why? …necessary for:

• Working out what resources are needed (e.g., money for
expenses) to…

• … determine expected project costs; and

• decide whether the project will be

profitable/worthwhile

Source: Schwalbe, 2018 (Chapter 7)

Quiz Question 3

Cost Management Plan helps to manage Cost Variance for

Projects. Name at least 3 things that a typical organisation
will include? (Hint: these are typically considered as
“boilerplate” in many organisations that will remain standard
and reusable for all projects).
Remember …

• Project managers 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

Let’s begin with

the types
 Types of Cost Estimates
PLANNING EXECUTION CLOSING
START

INITIATION

END
(& PRE-INITIATION) MONITORING & CONTROL
FINAL
ROM Budgetary Definitive Accuracy +/- 0

Type of Estimate When is it done? Why is it done? Level of Accuracy

Rough order of Magnitude Estimates for selection -25% to + 75%

Early in the project life-cycle
(ROM) decisions (e.g. Charter) (Relatively Low accuracy)

Provide relatively accurate -10% to +25%

Budgetary Late in the Planning Phase
figures (best guess) (Moderate to high accuracy)

During Execution (often late Uses previous expenses to -5% to +10%

Definitive
in this process) tighten up final costs (High level of accuracy)
Estimation Techniques
There are a range of techniques used - including:
✓ Analogous (Top-Down Estimates)
➢ Use cost information from previous
projects
➢ Can provide useful insights (but only
if good records are kept)
➢ Be careful – small differences can
have major cost implications
Estimation Techniques
There are a range of techniques used - including:

✓ Bottom-up estimates
➢ Identify likely costs for individual
Work Packages (WP)
➢ Aggregate these into a common
estimate
➢ Be careful – can include duplication
of effort, but it is commonly used
Estimation Techniques
There are a range of techniques used - including:
✓ Bottom-up estimates
➢ This also often includes vendor
analysis
➢ Developed through discussions,
simple quotes, RFTs, RFQs, etc
➢ Be careful – must be contractually
binding for vendors
Estimation Techniques
There are a range of techniques used - including:
✓ Parametric modelling
➢ There are a range of different
parametric models
➢ Examples include Function Points
(FP), Source Lines of Code (SLOC)
and the Constructive Cost Model
(COCOMO)
Function Points
A method for measuring software size based on what the software will
do for end users
✓ Aligned to key ISO standards (COSMIC, FISMA,
IFPUG, Mark-II & Nesma)
✓ Based on outputs, enquiries, inputs, internal files and
external interfaces (assessed for complexity)
✓ Be careful – sometimes masks algorithmic complexity

✓ An example calculator can be found at:

http://groups.umd.umich.edu/cis/course.des/cis375/projects/fp99/table.html
Source Lines of Code (SLOC)
Helps to identify the number of lines of code required (based on expected
size of code base)

✓ Rationalises physical lines of code, comments & logical

lines of code
✓ Language and environment specific (e.g. can be quite different
for different languages & object orientation)
✓ Lots of calculators available (pick one that aligns to the
language/environment you are using)
✓ Be careful – this can be badly affected by unknown
unknowns (needs expert analysis)
An Overview of COCOMO
Developed for estimating software development
✓ COCOMO accounts for:
➢ SLOC – Source Lines of Code
➢ PREC – Precedentedness (done before?)
➢ FLEX – Development Flexibility
➢ RESL – Architecture Risk Resolution
➢ TEAM – Team Cohesion
➢ PMAT – Process Maturity
➢ Cost Drivers

Have a play with it

✓ You can download a Demo at this URL: http://www.softstarsystems.com/demo.htm
Quiz Question 4

What does SLOC mean & how is it used to estimate cost?

Remember to …
✓ Implement mixed methods as appropriate
✓ Use previous examples as benchmarks (make sure that you are assessing
Apples & Apples)
✓ Leverage computerised tools (Excel, MS Project, Parametric Calculators)
✓ Remember the GIGO Concept (Garbage-in-Garbage-out) – so be
careful with analysis/assumptions
✓ And you will typically add Reserve for Contingency/Management
✓ Base this on organisational standards & risk profile
✓ Make sure you draw on expert advice
✓ Apply weighting using techniques like PERT (Three Point
Analysis)
USING PERT FOR ESTIMATION

Best Case • PERT uses probabilistic cost estimates -

(Most optimistic) Duration estimates based on using:
• optimistic
Likely Case • most likely, and
(Most likely?)
• pessimistic estimates This uses the
Worst Case of activity costs 3 Point Estimate
(Most pessimistic) Technique
APPLYING THE PERT FORMULA

Weighted Average Most Most

Cost
= optimistic
Cost
+ 4x Most
Likely Cost + Pessimistic
Cost

Most Most Most

Optimistic Likely Pessimistic

Example Weighted
Average Cost
$9K + 4 x $14K + $17K = $13.6K
6
Quiz Question 3: PERT Analysis

You are working through a cost analysis. The team has

identified the following Best case, Most Likely case and Worst-
case information:
Best Case = $ 24,600
Most Likely Case = $ 36,800
Worst Case = $56,200
Use the PERT formula to identify the cost you would allocate
and select the correct option within the quiz.
Determine Budget
✓ Aggregate the Estimates (Typically Bottom-Up)
• Link Work Packages into Elements (e.g. hardware, software, development, etc.)
• Link Elements into Workstreams/Deliverables

✓ This creates a Cost Baseline:

• Aggregated budgetary estimates (as close as possible to correct, & containing reserves)
• It must be time phased (so cashflow issues can be determined)
• It must include clear assumption information (these must be associated with the PMP &
Risk Management Plan)

✓ Must be approved – you will typically not be able to do the project

until authorisation is granted (so it is important to get this right early)
• You may be expected to justify each line item/cost and assumption

✓ Must be kept up to date … Use the Cost Baseline for Cost Controls
An Example Cost Baseline
Control Costs

PROACTIVE 3 1 BUDGET &

UPDATE A/R Managed through an iterative process
RESPONSE
1.Budget & Update as required. Start with
the baseline, but update this because of the
next two steps
CONTROLLING 2.Monitor & Assess. Capture outflows/inflows
COSTS and progress. Assess these against the
A COMMON budget and schedule
APPROACH
3.Proactive Response. Identify differences
from budget and schedule and take proactive
steps as needed
Continue the cycle (This must be conducted
consistently throughout the project)
MONITOR & 2
ASSESS
Control Costs
PROACTIVE 3 1 BUDGET & There are many methods available to
RESPONSE UPDATE A/R manage this:
• Facilitated by Project Management software
(e.g. MS Project, MS Excel)
CONTROLLING • Different organisations use different
COSTS assessment models (you will need to use
A COMMON
APPROACH
theirs)
• A common approach entails Earned Value
Management (EVM)

MONITOR &
ASSESS
2
We’ll introduce EVM here
Understanding EVM Key Terms
EAC = BAC / CPI Estimate at Completion (EAC) = current projected
EAC final cost for the project
COST

Variance at Completion (VAC)

VAC = BAC - EAC
BAC Budget at Completion (BAC) = Total Project Budget
(Baseline & evolving)

Schedule Performance Index (SPI) Cost Performance Index (CPI)

SPI = EV/PV CPI = EV/AC
AC
Cost Variance (CV)
PV
Schedule Variance (SV) CV = EV - AC
SV = EV - PV
EV
Earned Value (EV) or Budgeted Cost of Work Performed (BCWP)
Planned Value (PV) or Budgeted Cost of Work Scheduled (BCWS)
Actual Cost (AC) or Actual Cost of Work Performed (ACWP)

Point in TimePoint in Time TIME

Key EVM Formulas

EVM Formulas
are available in
Topic 5 Section
on the LMS
What We Covered
✓ the importance of project cost management

✓ the basic project cost management principles, concepts, and terms

✓ the various costs that could be involved in a project

➢ PM focus may often involve direct costs (fixed and variable costs)
✓ How to manage costs on a project (follow the cost management process)
✓ Plan for cost management – set policies and procedures for estimating, budgeting and controlling costs.
✓ Estimate costs (including ROM, budgetary, and definitive). Cost estimates get more accurate as the project progresses
➢ Based on previous projects (Top-down approach); based on vendor analysis, RFTs and RFQs (bottom-up
approach); and parametric modeling – software sizing (function points, SLOC, and COCOMO)
✓ Develop the budget from estimates – a cost baseline, which must be approved and updated A/R
✓ Control costs – guided by the budget
✓ EVM as an approach to cost control – used to check or predict cost variances
Thank you
ANY QUESTIONS