Pmi Cost Notes

PMI PMP Exam Prep PMI Mile High Chapter North Area Study Group
Cost Presentation Prepared by Denise Robertson 8 March 2003

Denise Robertson
Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials
Page 1
Cost Estimating
Concepts for working with cost estimates:
Estimates are resource driven and based on the WBS Estimates should be made by person responsible for the work Estimate accuracy is improved by historical information
Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials Page 2
Denise Robertson
Cost Estimating
Concepts for working with cost estimates (continued):
Costs should be managed to cost estimates (toe the line) A cost baseline should be kept and not changed except for project changes Plans should be revised as necessary during work
Denise Robertson
Cost Estimating
Concepts for working with cost estimates (continued):
Corrective action should be taken when (cost) problems occur Management estimates should not be taken at face value; the PM is responsible for performing his own estimates and reconciling any differences
Denise Robertson
Earned Value Analysis

Measures scope, time project performance Integrates cost, time, scope Can be used to forecast future performance and project completion date EV charts are in texts. You may want to substitute them for old terminology placemat features or use the following to match the placement format.
Denise Robertson
Cost Estimating Terms

Old and New Terminology
OLD TERM Budgeted Cost of Work Scheduled Budgeted Cost of Work Performed Actual Cost of Work Performed OLD ACRONYM BCWS BCWP ACWP NEW ACRONYM PV EV AC NEW TERM Planned Value Earned Value Actual Cost
Denise Robertson
Page 6
New Placemat EV Chart

In Alphabetical Order AC CV = MINUS MINUS EV PV = SV
CPI
= DIVIDED BY DIVIDED BY
SPI
Denise Robertson
Page 7
New Placemat Cost Analysis

IF THEN AC > EV CV < 0 CPI < 1 The project is Over Budget AC = EV CV = 0 CPI = 1 On Budget AC < EV CV > 0 CPI > 1 Under Budget
Denise Robertson
Page 8
New Placemat Schedule Analysis

IF
THEN
PV > EV
SV < 0 SPI < 1
PV = EV
SV = 0 SPI = 1 On Schedule
PV < EV
SV > 0 SPI > 1 Ahead of Schedule
The project is Behind Schedule
Denise Robertson
Page 9
New Terminology Formulae (table slightly expanded)

CV
SV CPI SPI
Cost Variance
Schedule Variance Cost Performance Index Schedule Performance Index
CV = EV - AC
SV = EV - PV CPI = EV / AC SPI = EV / PV EAC = BAC / CPI ETC = EAC - AC VAC = BAC - EAC
EAC Estimate At Completion ETC Estimate To Completion VAC Variance At Completion
Denise Robertson
Page 10
Types of Cost Estimating

Analogous Bottom-up Parametric Top-down estimating using expert judgment performed by managers based on previous similar products. Least accurate. Based on WBS tasks, staff contributes estimates to roll up into project total. Most accurate. Mathematical modeling to predict project costs. 2 types:
1. Regression
2. Learning Curve
Scatter diagram.
Improved efficiency based on repetition.
Computerized Tools Software packages for many industries that automate Analogous, Bottom-up and Parametric estimating.
Denise Robertson
Page 11
Analogous Estimating
Advantages

Quick Less Costly Tasks need not be identified Causes overall project costs to be capped Least accurate Difficult to use for projects with uncertainty Risks management politicking
Disadvantages

Denise Robertson
Bottom-up Cost Estimating
Advantages

Most accurate Gains buy-in from team Provides basis for monitoring and control Time intensive Encourages padding Risks team politicking
Disadvantages

Denise Robertson
Earned Value Associations
Per Mulcahy, the PMP exam associates

Measure project performance continually. Refine control limits. Evaluate the effectiveness of corrective action.
with the controlling process group so consider thinking of them with EV.
Denise Robertson Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials Page 14
Resource Planning Activities Pertaining to Cost Estimation
Construct responsibility assignment matrix
Intersection of WBS and OBS (Organization Breakdown Structure) Identification of management leads and WBS resources
Calculate staff availability Calculate amount of work that can be completed within a given period of time
Work = (total hrs. * availability) * efficiency where efficiency is .70

Denise Robertson
Resources and Cost Estimating
Cost estimating involves developing an approximation of the cost of resources needed to complete project activities Cost estimating is resource driven Resource requirements are based on quantities of each element at the lowest level of the WBS.
Denise Robertson
Estimating Accuracy
Phase
Initiating Planning Planning Planning Planning
Range
Accuracy
Category
Order of Magnitude Conceptual Preliminary Definitive
Subcategory
Order of Magnitude Budget Budget Definitive Definitive
-25% to +75% lowest -10% to +25% -10% to +25% -5% to +10% fixed highest
Control
Denise Robertson
Page 17
Forecasting Concepts
Learning Curve: Over time the total cost will rise, but the cost per unit will drop because repetition increases efficiency. Law of Diminishing Returns: Over time, adding more resources may increase overall output, but will eventually decrease individual productivity.
Adding twice as many people to the same task may not cause the task to be finished twice as fast.
Denise Robertson
Project Selection Tools
Project Selection Tools are used to evaluate whether to go forward on Cost Estimating Phase. Tools include:

Payback Period (PBP) Cost Benefit Analysis Present Value/Future Value (PV/FV) Net Present Value (NPV) Internal Rate of Return (IRR) Return on Investment (ROI)
Denise Robertson
Payback Period (PBP)
PBP is speed of financial return expressed as number of time periods required to recover investments before profit starts to accumulate. If NPV > PBP then ignore PBP
Denise Robertson
Page 20
Cost Benefit Analysis
Cost Benefit Analysis determines the Benefit to Cost Ratio (BCR) in which benefits are revenue or payback

If BCR > 1 then Benefits > Costs If BCR = 1 then Costs = Benefits If BCR < 1 then Costs > Benefits
Denise Robertson
Page 21
Present Value and Net Present Value

Present Value (PV) is the value today of future cash flows. Net Present Value (NPV) is the present value of the total benefits (income or revenue) minus the costs.

NPV is normally used to evaluate project candidacy. A higher NPV is the better choice between projects because it means a better return. On exam questions, the time factor of the NPV is already calculated into the NPV, so choose higher NPV and ignore additional time data in question. If the Payback Period (PBP) is less, the NPV takes precedence in evaluation. Information quoted or derived from PMI,
Mulcahy, and Looking Glass Development's PMP exam prep materials Page 22
Denise Robertson
PV and NPV Formulae
You will probably not be expected to calculate according PV and NPV formulae on the exam. PV = FV / (1 + r)n or PV = CF / (1 + r)n NPV = CF0 + CF1/(1 + r)1 + CF2/(1 + r)2 + CF3/(1 + r)3 CFn/(1 + r)n
Where FV is future value, CF is future Cash Flow, r interest Rate, and n is number of time periods
Denise Robertson
Page 23
Internal Rate of Return (IRR)
IRR is the rate of interest at which revenues and costs are equal.

NPV = 0 Higher IRR is better than lower IRR Used to compare multiple projects In good investments: IRR > Business Cost of Capital or Discount Rate
Denise Robertson
Return on Investment (ROI)

ROI = Income / Invested Capital Measures overall effectiveness of generating profits with available assets. Higher ROI is better than lower ROI
Denise Robertson
Page 25
Cost Considerations
3 types of project costs to consider:

1. Life Cycle Costing (cradle-to-grave) 2. Opportunity Cost (cost of next best project) 3. Sunk Costs (monies already spent)
Denise Robertson
Page 26
Life Cycle Costing (cradle-to-grave)
Concept that PMs should not manage project costs to the exclusion of overall costs for Operations and Maintenance Phases. Project costs may be low at the expense of costs for the rest of the life of the project.
Denise Robertson
Opportunity Cost (cost of next best project)
Impacts cost estimating by reducing options to perform other projects. Value of the project that was not selected or the cost of the lost opportunity.
Denise Robertson
Page 28
Sunk Costs (monies already spent)
Sunk costs should not be considered in the estimating process. Never use them. Bad Project Manager, bad, bad!
Denise Robertson
Page 29
Cost Budgeting Definition
Cost Budgeting is allocating the overall project cost estimates to the individual work packages and activities to establish a Cost Baseline for measuring project performance.
Denise Robertson
Page 30
Cost Budgeting Concepts

An estimate is an approximation A budget is what youre allowed to spend WBS must be deliverable based Assign costs to deliverables Cost budget may be described by a cumulative S curve mapping cost of deliverables against time period
Denise Robertson
Cost Budgeting Activities

Establish control accounts Delineate accounting categories Establish management reserves Forecast cash flows Create cost baseline
Denise Robertson
Page 32
Control Accounts
Used in Cost Budgeting to divide WBS into cost packages to facilitate one or more cost baselines through:

cost assignment schedule tracking cost control reporting

Denise Robertson
Page 33
Accounting Categories
The following Accounting Categories are delineated during Cost Budgeting for consideration by PMs:
variable vs. fixed direct vs. indirect recurring vs. non-recurring capital vs. expense, (I.e., durable vs. consumable)
Denise Robertson
Managerial Reserves
Provided for risks outside defined project scope (Unknown-Unknowns) Not controlled by PM Granted through Change Control
Denise Robertson
Page 35
Cash Flow Forecasting
Forecasting cash flows that can be demonstrated as a cumulative S curve of cost vs. time for deliverables on a time based budget is a Cost Budgeting activity.
Denise Robertson
Page 36
Cost Baseline
The Cost Baseline is an output of the Cost Budgeting process that can be represented as a performance measurement baseline cumulative S curve showing budgeted cost of work scheduled and cumulative planned value.
Denise Robertson
Page 37
Depreciation Definition
Depreciation is the indirect cost of an assets (piece of capital equipments) value over time. The most common form of depreciation is Straight Line Depreciation (SL) in which the same amount is taken each year.
Denise Robertson
Forms of Depreciation
Usage
most common
Method
Straight Line
Type
Straight Line
Acronym Description
SL Same amount taken each year
used for machines
Straight Line
Unit of Production Input/Output
UP/O
[UP/O] = (Acquisition Cost Residual Value) / Estimated Productive Output in Units

Loses investment value faster than with SL depreciation Loses investment value faster than with SL depreciation
Page 39
ACRS
Accelerated
Double Declining Balance Sum of the Year Digits
DDB
ACRS
Accelerated
SYD
Denise Robertson
Cost Control and Firefighting

1. Fire prevention by influencing the factors which create changes to the cost baseline to ensure that the changes are beneficial. 2. Fire detection by determining that a cost baseline has changed and 3. Fire fighting by managing actual changes when and if they occur
Cost Budget := Cost Plan
Denise Robertson
Page 40
Cost Flow Analysis
Projects cash flow in and out of a project on a monthly basis Uses 2 types of cost accounting systems:
1. Cash based 2. Accrual based
Is a method of measuring project progress

Denise Robertson
Cost Accounting Methods
Cash Based Cost Accounting

Can have its own baseline Accounts for cash when it leaves hand Used by Finance Department Can have its own baseline Check based accounting for cost at time liability is incurred Used by Project Management
Accrual Based Cost Accounting

Denise Robertson
Paretos Principle
20% of the work packages account for 80% of the cost variances.
Denise Robertson
Page 43
Measuring Progress of Individual Tasks

Instead of guesstimates, WBS tasks use these rules:
Rule Task Begins Task is Completed Percent Progressed
50/50
50/50 20/80 20/80 0/100 0/100
Denise Robertson
Y
Y Y Y Y Y
N
Y N Y N Y
50%
100% 20% 100% 0% 100%
Page 44
Risks
Unknown-Unknowns: unknown risks outside the defined Project Scope Known-Unknowns: known risks See Risk sections of study guides for complete discussion and be aware unknown-unknowns and knownunknowns are sometimes referred to in Cost section of PMP exam.
Denise Robertson
Managing Change
Crashing: adding more resources to critical path tasks while maintaining scope. Usually results in increased costs. If a project is already late, do not crash. Fast Tracking: doing critical path tasks in parallel that were originally planned to be performed in series. Usually results in increased risk.
Denise Robertson
Page 46
Managing Tasks
Leveling: Resource leveling is using network analysis in which schedule decisions are driven by resource management concerns. Leveling lets schedule and cost slip in favor of having a stable number of resources each month. Floating is delaying a task without delaying the project completion.
Denise Robertson
Page 47

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PMI PMP Exam Prep PMI Mile High Chapter North Area Study Group

Cost Presentation Prepared by Denise Robertson 8 March 2003

Concepts for working with cost estimates:

Concepts for working with cost estimates (continued):

Concepts for working with cost estimates (continued):

Earned Value Analysis

Cost Estimating Terms

New Placemat EV Chart

New Placemat Cost Analysis

New Placemat Schedule Analysis

The project is Behind Schedule

New Terminology Formulae (table slightly expanded)

EAC Estimate At Completion ETC Estimate To Completion VAC Variance At Completion

Types of Cost Estimating

Bottom-up Cost Estimating

Earned Value Associations

Per Mulcahy, the PMP exam associates

Resource Planning Activities Pertaining to Cost Estimation

Construct responsibility assignment matrix

Work = (total hrs. * availability) * efficiency where efficiency is .70

Resources and Cost Estimating

Project Selection Tools

Payback Period (PBP)

Cost Benefit Analysis

Present Value and Net Present Value

PV and NPV Formulae

Internal Rate of Return (IRR)

Return on Investment (ROI)

3 types of project costs to consider:

Life Cycle Costing (cradle-to-grave)

Opportunity Cost (cost of next best project)

Sunk Costs (monies already spent)

Cost Budgeting Definition

Cost Budgeting Concepts

Cost Budgeting Activities

cost assignment schedule tracking cost control reporting

Cash Flow Forecasting

used for machines

Unit of Production Input/Output

[UP/O] = (Acquisition Cost Residual Value) / Estimated Productive Output in Units

Double Declining Balance Sum of the Year Digits

Cost Control and Firefighting

Cost Flow Analysis

Is a method of measuring project progress

Cost Accounting Methods

Cash Based Cost Accounting

Accrual Based Cost Accounting

Measuring Progress of Individual Tasks

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