To take a simple, real-life example, if you decide to build a house, the first thing to do is set the budget. When you have a sense of how much to spend on the project, the next step is to divide the high-level budget into expenses for sub-tasks and smaller line items. The budget will determine critical decision points such as: which designer to hire—a high-end one who will construct and deliver the project end-to-end, or someone who can help with a few elements and be able to work for a smaller budget?
How many stories should the house have? What quality of materials should be used? Without a predefined budget, not only is it difficult to answer these questions, but it becomes impossible to assess whether you are progressing in the right direction once the project is underway.
In large organizations, the scale of this problem is further magnified due to concurrent running of multiple projects, change in initial assumptions and the addition of unexpected costs. While cost management is viewed as a continuous process, it helps to split the function into four steps: resource planning, estimation, budgeting and control. Or, the variances observed during the control process can call for estimate revisions.
Resource planning is the process of identifying the resources required to execute a project and take it to completion. Examples of resources are people such as employees and contractors and equipment such as infrastructure, large construction vehicles and other specialized equipment in limited supply. To get started, project managers first need to have the work-breakdown structure WBS ready. They need to look at each subtask in the WBS and ask how many people, with what kind of skills are needed to finish this task, and what sort of equipment or material is required to finish this task?
By adopting this task-level approach, it becomes possible for project managers to come up with an accurate and complete inventory of all resources, which is then fed as an input into the next step of estimating costs. Cost estimation is the process of quantifying the costs associated with all the resources required to execute the project. To perform cost calculations, we need the following information:.
Estimation is arguably the most difficult of the steps involved in cost management as accuracy is the key here. Also, project managers have to consider factors such as fixed and variable costs, overheads, inflation and the time value of money. The greater the deviation between estimation and actual costs, the less likely it is for a project to succeed. However, there are many estimation models to choose from.
Analogous estimation is a good choice if you have plenty of historical cost data from similar projects. This is because, apart from other project components such as Time, scope and Quality, Project Cost Management is always considered as one the key components of project management. The project cost is a cost required to procure all the needed products, services and resources to deliver the project successfully.
Example: In an example of a construction project, the cost estimation starts from land acquisition cost, construction cost, materials cost, administration cost, labor cost and other direct and indirect costs. No project starts without a budget. Project success is decided by how well the project cost has been handled in the project. Many times it happens that, the project may not be completed within the project cost.
It means that when compared the Project Cost Vs Project Profit, Project Cost might have exceeded and it is of course considered as a project failure. Any Cost which is fixed throughout the project life cycle and would not change by quantity, time or any other project factors called for a fixed cost. Fixed cost Example: In a software project, rent for the company space, systems cost, software license cost, salaries are considered as a fixed cost.
Note that fixed costs are not fixed permanently. They will change over a period of time. Here we are referring to the project fixed cost which means that they are fixed in relation to the delivery of the project. On the contrary to fixed cost, the Variable cost is a cost which varies or changes in proportion to product or service that the project produces.
Imagine you are running a pizza shop. Once you make, boxed and delivered the pizza to the customer, you have encountered several variable costs. Which are prices mentioned below are just for the sake of illustration ,. All these costs are variable. And, also these costs are directly proportionate to the numbers of pizzas are sold.
They have decided to hire the additional resources externally when needed. Which means that these additional resources will be paid based on the number of hours they have worked or the output they have produced.
Note that the salary for the permanent employees will be considered as a fixed cost, while the wages of the additional resources will be considered as a variable cost.
Costs which are directly visible and accountable to produce the project output are called direct costs. Direct Cost Example: Materials which are used to produce a product can be considered as the direct cost. Logistics, Human Resources, project development cost used specifically to the project can also be considered as a direct cost. Costs which do not directly contribute or specific to the output of the project are called indirect costs.
It may be either variable or fixed. Indirect Cost Example: Overhead Cost, Electricity consumption, rent, salary, administrative, security cost. These costs are not directly related to the production. A project manager is considered as an overhead cost or indirect cost as he is not directly involved in the production whereas developer of a project will be considered as a direct cost.
Sunk Costs are costs which are already spent, but failed to incur any business value and cannot be recovered and permanently lost. Let me take an example from our day to day life. Imagine the chaos that would ensue if you chose to undertake a project without budgeting for and managing your time and expenses.
The first part of the project runs smoothly, but you run into supplier issues in the second half. Then your project lead is injured on the job and you have to replace them with another lead, who has to be brought up to speed on the project, taking another week. Using project cost control would not have prevented any of the above circumstances from occurring.
Starting with accurate cost estimates, there are a variety of tips that can help you better manage your next project. These tips include the following:.
To realistically account for possible budgetary adjustments, you have to factor variances into your initial project cost. Remember, you have no control over your suppliers, and any change in pricing will directly affect the cost of your project. Accounting for variances in your project budget from the start makes it more likely that your project can be completed under or at budget and on time. When creating your initial budget, take past experiences into consideration.
If your projects have gone over budget in the past, use that experience to better plan for your next one. Instead, factor in potential issues and material cost increases into your initial budget forecasting.
One thing you can expect is the unexpected. But what you can do is prepare for them by including them in your budget. Torrential rain, hurricanes, or tornadoes are all unplanned natural disasters, but you can budget for them. The same goes for unexpected delays due to illness and accidents. For example, using a project management software application can help you keep track of the various stages of each project, serving to notify you should time, labor, or other expenses approach your baseline.
Cost management software or procurement software such as PLANERGY can also help manage both material and supply procurement and threir associated costs. Using project management software, you can also set some key performance indicators KPIs for each phase of your project and monitor your progress accordingly.
Doing this regularly allows you to make proactive adjustments as the project progresses rather than dealing with the repercussions after the project has been completed. By regularly implementing these measures, project managers can quickly identify variances and take corrective action when needed.
Without cost control measures in place, cost management is simply an unused budget. Only by implementing proper cost management processes before a project begins will you be able to adequately manage a project.
Acumatica R2 carries forward a full set of project accounting features. It incorporates useful applications to help businesses analyze and monitor the cost of projects, including:. Cost tracking, budget reporting and flexible, accurate billing are just a few advantages of using Acumatica for project accounting. Other beneficial functions include:. Acumatica also supports multi-currency project accounting. Project managers and accountants can see actual revenues and costs and calculate profitability using the project currency, while customers can see costs in their native currency.
With revenue recognition, billing rules can be defined to identify revenue from completed tasks or a percentage of project completion. To learn more about Acumatica Project Accounting, contact us for a free product tour or software demo.
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