Cost management is an important pillar of effective and successful project management. It allows the project to proceed as planned, on schedule, and within the planned budget. Managing the costs of any project involves the accurate estimation of expenditures, the budgeting of costs, and the effective implementation of a cost control, monitoring, and reporting system. These processes occur throughout the life cycle of any given project. The principal objective of project cost management is to keep all expenditures within the predetermined and duly-approved budget for the project.
Relationship between Cost Estimating, Budgeting and Cost Management
Project cost management is a process that ensures the successful completion of a project on schedule and within budget. It includes four very important steps that organisations must execute in order to manage the overall project costs.
The first step in the project cost management process is planning the project resources. The project management team needs to identify the different resources that are necessary to complete the project. These can include human, physical, information, and financial resources.
Planning the project resources also include an estimation of resources – the number of resources needed to complete project tasks and activities, the availability and accessibility of these resources, the limitations that can impact these resources, and the optimisation of the resources throughout the life cycle of the project.
The completion of the resource planning paves the way for the succeeding steps. These steps include cost estimation, budgeting, and cost control.
Cost estimation involves the quantification of the costs of the planned resources. This step involves the use of techniques that will transform quantified data into information and financial data.
Budgeting follows cost estimation, although many project management gurus consider this step to be an important sub-step of cost estimation. Budgeting involves the allocation of cost accounts that that will form the basis for effective cost control measures.
Cost control focuses on the determination of variances between the actual costs and the cost baseline of any given resource. It involves the monitoring and reporting of these variances, so that corrective action can be instituted.
Overall, cost estimation and budgeting are very important steps to an effective project cost management. Without these steps, it would be impossible to ascertain a project that provides expected deliverables on time and within budget.
Cost Estimation in Projects
Estimating project costs requires information from resource planning, including the price of the individual resources and the required duration for each project resource. Project teams must also list assumptions, identify potential risks, and evaluate information related to industry benchmarks and the costs of past projects. Cost estimation also requires an accurate insight into the financial health of the organisation.
In general, the project team will have to be familiar with the following concepts.
- Commitments
These are the legal undertakings of an organisation to commit or pledge capital for identified resources to be secured in the future. Management experts consider commitments as a form of liability. A good example of a commitment is the awarding of a project contract to a third party.
- Planned Expenditure
Once the commitment has been made, the project team can determine the cost that the organisation will have to incur for the identified resources. This can include accruals or known costs that the organisation has yet to invoice.
- Actual Expenditure
This reflects the true cost of the resources. In general, there is a variance between the planned and the actual expenditure. This is unavoidable. In most cases, the actual expenditure can be lower than what the organisation planned.
- Accruals
These are the expenses that an organisation incurs within an accounting period. It can include purchase orders, asset acquisitions, and recurring and non-recurring costs. It can also include resources already received by the organisation, but still awaiting acceptance.
Budgeting and Forecasting
Budgeting and forecasting are two approaches that are critical to effective project cost management. Budgeting focuses more on the quantification of the organisation’s revenue expectations by allocating costs of resources. Forecasting is more concerned about the accurate estimation of the costs that the organisation will incur after a given time period. Forecasters make their estimates based on both current and past information. There are two important concepts in forecasting.
- Cash Flow Forecasts
These are planning that the organisation makes, identifying how much money it can expect or anticipate to generate (cash in) and spend (cash out) within a certain time frame. It reflects the movement of money through the organisation.
- Forecast Outturn Cost
This is the projected or the anticipated cost of the project at the end of a predetermined time period. It serves as a basis for the evaluation of the cost management efforts of the organisation. Forecast outturn costs can include fixed and variable costs, risk allowances, fluctuations, and variations.
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Cost Control
Estimating and budgeting are two important steps to effective project cost management. These processes provide direction for the organisation’s project management team. The next step is the actual control and management of the estimated and budgeted costs. The main objective of cost control is to make sure that the actual project costs are within the estimated or forecasted costs.
- Cost Monitoring
Monitoring project costs is a continuous, ongoing process. This included activities, tools, and techniques that monitor the progress of the project, especially in terms of project expenses. Careful monitoring allows the project team to identify any deviation or variance between the planned project costs and the actual project costs. The identification of such discrepancies can form the basis of a corrective action.
- Cost Control
The identification of any variance is one thing. The project team needs to institute corrective measures. This is only possible if the cost controller can identify the reason behind the variance. It is important for the cost controller to explain the cause of the variance.
- Cost Reporting
An important aspect of cost control is the documenting and reporting of observed or identified variances between planned and actual project costs. Key stakeholders and other decision-makers must be made aware of the progress of the project, especially in terms of its costs.
Cost management is a very important element of effective project management. The success of any given project is predicated on the judicious management of resources. In general, all projects must produce the final deliverables without incurring more expenditures than initially planned.