PMI RMP – PMBOK GUIDE – FAST REVIEW part 4

5. COST MANAGEMENT

Hi and welcome to a new knowledge area, the project cost management. So in this lecture, as we are preparing for the Risk Management professional exam, I’m walking through the four processes of this knowledge area. I’m going to focus on the end value analysis techniques used in the control costs process. This topic is very, very important for the Risk Management professional exam and you might expect like three to four questions about the math formulas related to the control costs process. So the project cost management includes the processes involved in planning, estimating, budgeting, financing, funding, managing and controlling the project costs so that the project can be completed within the approved budget.

This is our aim. We want to complete our project within the approved budget. The cost management processes are presented as discrete processes with defined interfaces while in practice they overlap and interact. The cost estimating and the cost budgeting are tightly linked and usually they are done by the same person. There is a strong connection between the cost management and the schedule management. Actually the cost management, schedule management, resources management and scope management. These four knowledge area are very connected. They are tightly linked. You cannot find out the cost of performing one activity without knowing the duration.

This activity will take the resources required and the exact scope of this activity. So all these knowledge areas are currently linked together. The four processes we have in the project cost management plan cost management, estimate costs, determine budgets all are part of the planning processing group. Control costs as a part of the monitoring and controlling process group. Now as shown here, the cost management knowledge area processes are within the planning and the controlling process groups as taken from the project management body of knowledge. We have the plan cost management, estimate cost, determine budget and control the project costs. I’m going to highlight this process in this lecture.

Now, few key concepts the cost management is concerned with the cost of resources required to complete the project activities. This is the major concept of the cost management. To find out the cost estimates for an activity we need to know the resources required to complete this activity. Predicting and analyzing the prospective financial performance of the project’s product is performed outside the project. Project cost management can include this work but it will add additional processes and general financial management techniques such as the return on investment, the discounted cash flow and the payback period or analysis the lifecycle costing.

It’s a concept which involves looking at costs over the entire life of the product, not just the cost of the project to create the product. We as a project managers are usually not involved in predicting and analyzing the prospective financial performance of the project product. We are concerned with the project itself. So these efforts fall outside our scope as project managers. However, if it will be included in the work of the project, there will be additional processes. For all these efforts we have one more concept the cost risk. This concept relates to the cost risk and procurement management. It’s the cost related to the project presc.

Now, the first process we have is the plan post management as a part of the planning process group. It is the process of defining how the project costs will be estimated, budgeted, managed, monitored and controlled. This is what we are going to think about in the plant cost management process. The key benefit of this process that it provides guidance and direction on how project costs will be managed throughout the project. We are going to think in advance about creating the estimates techniques we are going to use, how we are going to finalize the project budget and how we are going to monitor and control the project cost.

We are going to think about all these issues and document our thinking in the cost management plan. Now this process is performed once on a predefined point throughout the project life and the cost management planning efforts occurs early in the planning stage and sets a framework for each of the cost management processes so that each of the processes will be efficient and coordinated. Now, the inputs of this process are the project charter, the project management plan considering the schedule and management plan and the risk management plan, we might need also a few enterprise environmental factors and the organization of the process.

Assets and techniques are the expert judgment data analysis techniques especially the alternative analysis in order to find out the way we are going to fund the project, the meetings as well and the only primary output is the cost management plan. So what is the cost management plan? It’s also called the budget management plan. It’s a component, a subsidiary plan of the project management plan that describes how the project cost will be planned, structured and controlled. So what’s inside the cost management plan? First of all we will have the units of measure. Each unit used in measurements is defined for each of the resources.

The level of precision, the degree to which cost estimates will be rounded up or down, the level of accuracy, acceptable range of estimates used in determining realistic cost estimates. The organization procedures links mainly with the water breakdown structure. As the water breakdown structure and the work packages will be our framework determining the project costs. The control threshold, any variance thresholds should be specified in the cost management plan. The rules of performance measurement, the reporting formats we are going to use in cost management types, formats and frequency of preparing these reports.

Funding Decisions you are responsible as a project manager for making sure the funds you need for the project are available within the organization. The roles and responsibilities of the cost management activities are all written in the cost management plan. So these are the major sections of the cost management plan. We plan for the cost management on our project. It’s the time now to estimate the costs. Estimate costs is very similar to the estimate activity duration process. We are almost using the same estimation techniques. Exactly. The estimation techniques are applied in the cost or duration estimate.

So the estimate cost process is the process of developing an approximation of the cost of resources needed to complete the project. So in this process we are going to find out the exact cost of each activity on the project. The key benefit of the process is that it determines the monetary resources required for the project and this process is performed periodically throughout the project as needed. The cost Estimate it’s a quantitative assessment of the likely costs for resources required to complete the activity. It’s a prediction that is based on the information known at a given point in time. Cost estimates should be reviewed and refined during the course of the project to reflect additional details as it becomes available and assumptions are tested.

The accuracy of these cost estimates will increase as the project’s progress and more details become clear. So what cost will you estimate? First of all, you need to include the costs of all efforts to complete the project tour. That includes the costs directly associated with the project, such as the labor, equipment, materials and training for the project team, as well as the following like the cost of the quality efforts, the quality control team the cost of the risk efforts, the cost of the project manager times, his or her salary, the cost of the project management team and the project management activities, the expenses for physical office spaces used directly for the project and the overhead costs, such as the higher management salaries and the general office or the headquarter expenses.

These are the additional costs you need to consider in addition to the costs required to complete the project. What now? Costs can be either fixed or variable. If it is a fixed cost, this cost does not change as production changes includes the cost of the setup and rent it’s fixed from day one till the end of the project. The variable Costs these costs change with the amount of production or the amount of work being accomplished, such as the cost of supplies, the salaries and the materials. If you are starting the project with ten team members, this is a variable cost in the middle of the project. In the middle of the project execution, you might need 20 team members. So the salaries are variable.

Costs costs can be fixed or variable. It also can be direct or indirect. Direct Costs these costs are directly attributable to the work on the project, such as the salaries and the materials. They are direct costs to the project. Indirect costs are overhead items or costs anchored for the benefit of more than one project, such as taxes and overhead. So costs can be fixed or valuable. It can be direct or indirect for the estimated cost process. We will need four inputs the project management plan we will need the cost quality management plan and the scope baseline. Few project documents, the recent land register, the project scheduled, the milestone list, the resources requirements and the risk registered, the enterprise environmental factors and the organizational process assets.

The tools and techniques of this process are the expert judgment. The estimation techniques are explained in the estimate activity duration process. In the previous lecture they are exactly the same, so I’m not going to explain them again. We have the top down or the analogous estimating which is usually used on the project level. The polymers are estimating that have an algorithm between two variables. The three point estimating considering a three point estimates for each activity, the most likely the optimistic and the pessimistic. The bottom up estimating, which is the most accurate one, still is time consuming data analysis techniques, the alternative analysis, the reserve analysis, the cost of quality decision making techniques and the project management information system.

The outputs also are the same of the estimate activity duration process. It’s just there the outputs were about the duration. Here the outputs are about the money, the cost coast estimates, basis of estimates, project document updates the project documents that might be updated are the rest registered assumption log and the lessons land register. Now, determined budget is the process of aggregating the estimated costs of individual activities or work packages to establish the authorized cost baseline. So this is the core reason why we are performing the determined budget process. We want to have the final version of the cost baseline. The key benefit of the process is that it determines the cost baseline against which the work performance can be monitored and controlled.

The cost baseline will be used as the basis of comparison between the plan and actual cost. This process is performed once or at predefined points of the project life. The project budget all the funds authorized to execute the project. The cost baseline is the approved version of the time phased project budget that includes the contingency reserves but excludes the management reserves. The cost baseline and the schedule of baseline have the same concept. They will include the contingency reserves but the management reserves are outside the scope sorry the cost or the schedule baseline. Now making the cost baseline at the end of the project will be a major of the project success.

Now the inputs of this process are the project management plan. We will need the cost management plan, resources management plan and the scope based plan. From the PM plan we will need a few project documents, the cost estimates, the basis of estimates, the project schedule, the risk register, the project business documents like the business case and the benefits management plan. Any agreement or contract will be a useful input for this process, the enterprise environmental factors and the organizational process assets. Now, the tools and techniques used for this process are the expert judgment, the cost aggregation technique, which I’m going to explain now.

Data analysis techniques like the reserve analysis, historical information review, the funding limited translation and the financing. The funding limited translation is about taking the funds you need for your project and meeting the finance people in your organization to make sure the funds are ready within the time frame you are suggesting for your project. You need to compromise, you need to reconsider. This is the funding limit recounts. The primary outputs of this process are the cost baseline and the project funding requirements. Few project documents might be updated like the cost estimates, the project schedule and the risk register.

Now what’s the cost aggregation technique? Cost estimates are aggregated by work packages with reference to the work breakdown structure. The work packages estimates are then aggregated into higher level components of the WPS and then to the project level. Now this model will explain what’s the cost aggregation. First of all we have the activity host estimates a one, A two, A three. We will go to the higher level. We will have the work package estimates WP one, WP two, WP three. Then we have the control account estimates, the project estimates. So up to here we have the estimation for the costs needed to perform all the project activities.

Then you will add the contingency reserves to the project estimates to have the cost baseline. With the cost baseline we will add the management reserves to have the final project budget or cost budgets. Now the primary output of this process is the cost baseline. It’s the approved version of the time phase project budget, excluding any management reserves which can be only changed through formal change control procedure. You cannot just change the cost baseline whenever you want. Any change affecting the cost baseline shall be analyzed, rejected or approved through the performance integrated change control process. It’s used as basis for comparison to actual results.

The post baseline is developed as the summation of the approved budgets for different schedule activities. And this chart also will confirm or will make sure you understand exactly what’s decided post baseline. Here is the activity cost estimates with the activity contingency reserves. Here is the work package cost estimates with the contingency reserves. Here is the control account. Now the summation of the control accounts will have the cost baseline. Adding the management reserves and the cost baseline will have the project budget. Now, the last process of the cost management knowledge area is the control costs as a part of the monitoring and controlling processing group.

This process is very important for the exam preparation for the risk management professional exam. So it’s the process of monitoring the status of the project, to update the project cost and to manage changes to the cost baseline. And the key benefit of this process is that the cost baseline is maintained throughout the project. This process is performed throughout the project as part of the monitoring and controlling processing group and updating the project budget requires knowledge of the actual costs spent to date. An increase in the authorized budget can only be approved through the performed degree to change control process.

Much of your efforts controlling the project cost involves analyzing the relationship between the consumption of the project funds and the work being accomplished. This is how we are going to make sure that the project costs are going as per the cost baseline. We will compare we will find the relationship between the consumption of the project funds, the money spent up to date with the work actually being accomplished on the project. Now, the inputs of this process are the project management plan with the cost management plan and the performance measurement baseline. We have the project documents delicious land register.

Actually we have the project funding requirements which was an output of the previous process, the enterprise environmental factors and the organizational process assets, the tools and techniques using the control cost process. First of all, we have the expert judgment data analysis techniques, the earn value analysis, the primary one values analysis, trend analysis and reserve analysis that complete performance index and the project management information system. I’m going to explain the earning value analysis now. The outputs are the word performance information, the cost forecasts, the change requests, the project management plan components that might be updated.

Updated are the cost management plan, the cost baseline and the performance measurement baseline. The project documents that might be updated are the assumption log, the basis of estimate, cost estimates, listens and register, and the risk register. So what is the earned value analysis? It compares the performance measurement baseline to the actual schedule and cost performance. The earned value measurement or management integrates the scope baseline, schedule baseline and cost baseline to form the performance measurement baseline. This is the strength of this technique to integrate the scope, schedule and cost baseline. Together, the end value measurement develops and monitors the three key dimensions for each work package and control account.

So what are the three key dimensions of this technique? First of all, we have the planned value PV. It’s the authorized budget assigned to schedule as of today, what is the estimated value of the work plan to be done? This is the exact definition of the planned value. As of today, what is the estimated value of the work plan to be done? The physical work that should have been accomplished, total planned value of the project. The total is known as the budget accomplishment, the total project budget. So the first key dimension of the earned value analysis is the plan value.

As of today, what is the estimated value of the work planned to be done? The earned value EV is a measure of the work performed expressed in terms of budget authorized for that work, the budget authorized work that have been completed, the earned value measure cannot be more than the planned value, the exact definition of the earned value as of today, what is the estimated value of the work actually accomplished. So here it’s the estimated value of the work planned to be done. Here, it’s the estimated value of the work actually accomplished, the actual cost or the AC, the realized cost for the work performed on an activity during a specific time period, actually what we spent on the project up to date.

This is the actual cost. So PV, AV, AC and BAC are the basis of all the earned value formulas. It’s very important to understand these terms before we process. Now the first part of the end value analysis is the variance analysis as used in the end value measurement, developed four key dimensions. The first one is the cost variance CV. It’s the amount of budget defect or should plus at a given point of time, expressed as the difference between the earned value and the actual costs. So the cost variance is the difference between the earnings value and the actual costs. It’s a measure of the cost performance on the project.

It’s equal to the earnings value minus the actual cost negative variance value of the kids project over budget. Positive variance indicates project within budget. The formula you need to memorize for the exam that the cost variance equals the earned value, one of the actual cost. The second dimension is the schedule variance SV. It’s the measure of schedule performance expressed at the difference between the earnings value and the plan value EV and PV. It’s the amount by which the project is ahead or behind the plan delivery date at a given point of time. It is a measure of schedule performance on a project.

It’s equal to the earning value minus the plan value EV minus PV. Negative values value indicates projects behind the schedule, while positive values indicates project ahead of schedule. So if you are having a negative schedule variance, you are late, you are behind schedule. If you are having a positive one, you are ahead of your schedule. The formula scheduled variance equals the earnings value minus the planned value. Third, we have the Cost performance index or the CPI. It’s the measure of the cost efficiency of budgeted resources, expressed as the ratio of the earning value to the actual costs. So the variance is a difference, the index is a ratio. The Cost Performance Index is the ratio of the end value to the actual costs. It measures the cost efficiency of the work completed.

A CPI value of less than one indicates a cost overrun or completed you are above budget. Now, a CPI value greater than one indicates a cost under run performance. To date, you are within budget. The formula CPI of Cost Performance Index equals the end value divided by the actual cost EV divided by AC. Schedule Performance Index or the SPI is the measure of the schedule efficiency expressed as the ratio of the M value to the plan value. It measures the schedule efficiency for the work completed. Now if the SPI value is less than one it indicates a work completed less than plan you are behind the schedule and if the SPI value is greater than one, it indicates more work completed than planned so you are ahead of schedule.

The SPI of schedule performance index equals the earning value divided by the plan value. You need to memorize these four formulas for the exam. Now the other part of the rent value analysis is the trend analysis. It examines the project performance over time to determine if the performance is improving or deteriorating. Graphical analysis are used for understanding performance today and for the comparison to future performance goals in the form of budget at completion versus estimate at completion and complement dates. This is the new concept of the earning value analysis. The estimate at competition, the budget accomplishment is what you determine at the beginning of your project.

Now, middle path of your project, you want to do a forecast for the estimate at the end of the project. It’s called the estimate at completion. Examples of the trend analysis used in this process are the charts. Three parameters of the planned value, earn value and actual costs can be monitored and reported on a period by period basis and on a cumulative basis. The forecasting. As the project progresses, the project team may develop a forecast for the estimate at completion EAC that may differ from the budget at composition BAC based on the actual project performance forecasting includes making projections of conditions and events in the project future. Now the new concept is the estimate accomplishing.

How to find out the estimate at competition we have four formulas. To find the estimate accomplishing, you need to understand the situation and the assumptions given the question to pick the right formula. So formula number one, estimate accomplishing, equals the actual cost plus the estimate. To complete this formula calculate the actual cost to date plus a new estimate for the remaining work it’s used in the original estimate. Assumptions are no longer valid. So when to use formula number one? When the original estimates assumptions are no longer valuable, they are no longer valid. It’s the actual cost plus the estimate to complete the remaining work of the project.

The second formula states that the estimate accomplishing equals the budget accomplishing divided by the CPI or the cost performance index. This formula is used if there is no variance from the budget accomplishing habitual or you will continue in the same rate of spending. The assumption made in the question or the scenario given the question states that everything is fine on the project and there is no major variances, you need to use formula number two. Formula number three says that the estimate at completion equals the actual cost plus the budget accomplishment minus the end value. This formula calculate the actual cost to date plus the remaining budget. It is used when current variances are true to be atypical of the future.

It is the actual cost plus the remaining value of the work to perform. So you are going to use this formula when the current variances are true to be atypical of the future. Formula number four states that the estimate accomplishment equals the actual cost plus the budget accomplishment minus the earning value divided by the CPI by the SPI. Now this formula calculate the actual cost to date plus the remaining budget modified by the performance. It is used when current variances are true to be typical of the future. So these are the four formulas you need to memorize and you need to understand for the data. Another formula here and the new concept is to complete performance index Tcpi.

It’s the measure of the cost performance that is required to be achieved with the remaining resources in the project in order to meet a specified management goal. It’s expressed as the ratio of the cost to finish the outstanding work. This is the cost to finish the outstanding work. BAC minus EV divided by the remaining budget which is the BAC minus the actual costs. The complete performance index. It’s the index you need to follow in order to achieve a management goal. If it becomes obvious that the BAC the budget accomplishment is no longer valid, the project manager should consider the forecasted estimate accomplishment.

So if the question requested to calculate the Tcpi and it states that the BAC is no longer valid or valid, you will replace this budget accomplishing here to that new forecasted estimate accomplishment. So you have two formulas to use for the Tcpi. A new formula here is the BAC the values accomplishing how much overall under budget will be at the end of the project. At the end of the project, the Vac equals the budget accomplishment minus the estimate at composition. The last formula we have is the estimate to complete. It is how much more money will the project cost. Can be found out using the following formula or by sending your project team to reestimate the remaining works valuation etc equals EAC minus the actual costs.

Now again into the earning value analysis the original spending plan has shown. This represents the plan value, what we plan to accomplish. The total plan value of the project equals the budget accomplishment and the actual spending or the AC, what we actually spend on the project up to date, the forecasting spending plan from today till the end of the project, how much we are expecting the project to cost. This is the estimate to complete and the new forecasted estimate accomplishment at the end of the project. The difference between the budget accomplishment and the estimate at completion is called the variant accomplishment.

And here’s an example of the charts used in the trend analysis. It will attract the actual cost, the plan value and the earned value. As shown, the planned value is determined from day one till the end of the project. This is the PV or the plan value. The total plan value that the budget has accomplished and actually work accomplished is represented by the earned value. And what we spent so far is the actual post. This dashed line represents the estimation to complete the remaining work on the project at the end. It’s the new estimate at completion.

And the difference between the budget accomplishment and the estimate accomplishment is called the value accomplishment and it was negative. It’s usually covered by the management reserves. Now, an example of the end value analysis. A project with earned value of $5,500, actual costs of $5,000, planned value of $7,000, and total project budget of $10,000. Assuming that the original estimate was fluid, and your team has given you a new estimate of completing the remaining board of $12,000, what’s the project value accomplishing? What’s? The project VA. C. Now the Vac is the budget accomplishment minus the estimate accomplishment.

This is the formula the Vac quotes the budget accomplishing minus the estimate accomplishment. Based on the assumption made that the original estimates was slow, we will use the formula EAC equals AC plus the estimate to complete it’s. Given clearly that the original estimates are no longer valid, they were flow. So you will select formula number one. AC is given in the question as $5,000, etc is given as well as $12,000. So the estimate accomplishing equals 5000 plus 12,000. It is $17,000. So the value equals 10,000 minus $17,000. It’s minus $7,000. That means that you are expecting to spend more $7,000 than the budgeted plan.

Another example here. Assuming that current variances are atypical and that the remaining work would be completed using original estimates, your project team prepares a forecast report for you with the following data the variance accomplishment is minus $70, the actual costs are $350 and the budget accomplishment, or the total project budget is $500. The report does not include the earned value. Using this information, given what’s the project earned value, so the posting is not asking about the variance accomplishment. The variance accomplishment is given. We need to find out the earned value. So we will do a reverse formula. We will start with a variance accomplishing formula which is given.

The budget accomplishment as well is given us $500 so we can easily find the estimated accomplishment. Now, based on the assumption that the current variances are atypical, we will use formula number three that states that the estimate accomplishing equals the actual cost plus the budget accomplishing minus the earned value. So 570 equals 350 plus 500 minus the earned value. 220 equals 500 minus the earned value. So the earned value is $280. This is all for the cost management. The earnings value analysis is very important. For the risk management professional exam, you need to memorize all the formulas, especially the ones related to the estimate accomplished. I’m going to revisit this topic in the math section of this course. Thank you so much. I will see you at the next lecture.