PMI CAPM – Estimate, Budget, and Control Project Costs Part 3

  1. Control Project Costs

Cost control management and stakeholder relations are two of the most sensitive topics in a project. They anticipate that costs will remain low in comparison to your cost baseline. So we need to control costs. We need to take a proactive approach to control. The project’s costs must be kept under control. We have to consider everything, from changes, errors, and omissions to any type of variance or fluctuation from vendors. We have to account for that because it can really just mushroom into a big cost problem, which we don’t want to happen. And then we have to report that we’re going to show project performance. So this is one of the things we’ll talk about in this section about controlling project costs. So this is seven and four in the Pinbox talking about cost control, that we’re monitoring the project’s status, how much we’re spending in relation to how much we’re creating, that there should be a symbiotic relationship between how much we spend and how much we deliver, that those two are linked. We do want to manage changes to the cost baseline.

So if we’re not necessarily gold plating, but if we’re having scope creep, that’s doing activities that aren’t in the scope, and you’re paying for that time and for anything that’s added on, So we do not want scope creep because, really, it’s stealing from things that are in scope, and we should be paying for variance management and corrective action. So what do you do when there’s a cost variance? So you have to study what the variance is and then find a way to plan to accommodate that variance and bring it back into alignment. And if we want to balance project risk and reward, we’ll talk more about this in chapter eleven, of course, but the idea is that we may have a risk that has an impact of, let’s say, $10,000, a nice even number, and it has a probability of 30%. So there’s a 70% chance that risk is not going to happen.

But if it does happen, it’s going to cost your project $10,000. So the risk and reward here is that I could say, “Well, there’s only a 30% chance that it’s going to happen.” So you could say, “Well, I’m comfortable that 70% of the time it’s not going to happen.” So that’s the idea I don’t have; I might have to spend $6,000 to eliminate the risk, but that’s $6,000 out of my budget. If I roll the dice and say it’s not going to happen, I save the $6,000 that I would have spent on a risk that only has a 30% chance of happening. So I have to work on that mindset. Of course, this is all made up, but it gives you an idea of how much these costs are in terms of probabilities and so on.

But, when we have risk in our project, we must consider how much it would cost to manage the risk versus how much it would cost to mitigate the risk’s actual impact. And so that’s the balance between the probability, the impact, the expected monetary value of the risk event, and how much you would spend to prevent, avoid, or mitigate the risk event. So we’ll talk more about that in chapter eleven. But it’s tied to cost because you have to do some math and some studying to really think about the probability impact and how much you’re willing to spend to counteract that risk event. So, let’s talk about the factors or activities you’ll do in cost control; you’re influencing change factors that you don’t necessarily want to change for the project.

Change often brings risk. So there’s our next point. If a change is submitted as part of project integration management and integrated change control, we must consider what risks, if any, are being introduced to our project, and if the change is approved, we may need to perform some risk management for that approved change. So we have to fold that into our project plan and our risk management plan and do a study just as we would with any part of the project scope. Unapproved changes could bring some risk as well, because you might have some unhappy stakeholders whose change request was not approved. Tracking costs is very important.

We need to be proactive in tracking costs in our project. When there is a cost variance, you don’t want any surprises, and neither do your stakeholders. So I’m really adamant about tracking costs. So this is an example of accounting as a general management skill that you must possess. When we do have a cost exception, then we have to isolate it, do some root cause analysis, and see why this cost more than what we predicted. Earned Value Management is a suite of formulas to show project performance. We’ll also look at earned value management, which is mentioned in this lecture: communicating cost status. So in performance reports, you have to show where we stand on cost in relation to what was planned. And if there is a cost overrun, then we have to say, all right, we’re over by 1%, but we have a range of variance of plus or minus 5%, for example. So we’re still okay in our window. But that’s something to be aware of and certainly something to communicate to your stakeholders.

So cost control is a really important topic on our exam. Okay, let’s take a look at the edo for cost control, the edo for cost controller inputs, the project management plan, project funding requirements, work performance data, and the raw data that we are going to gather based on the performance of cost OPA tools and techniques, earn value management forecasting, and see where you’re likely to end up. Then we have the two complete performance indices, the TCPI, and we’ll talk about that in our Earn Value Management conversation, along with performance reviews, project management software, and reserve analysis.

Our outputs include work performance information, cost forecasts, change requests, project management plan updates, project document updates, and organisational process assets updates. Now that we’re measuring project performance, Earned Value Management is a way to see how we’re performing based on what was spent in relation to what was accomplished. So we’re going to be looking at that in just a moment. Forecasting means we’re going to predict where we’re likely to end up based on the current performance of the project. Our goal is to measure overall project performance on time and cost. Earn Value Management is a suite of formulas to show project performance. You will not have 100 questions on the EVM on your exam.

You’ll have a few questions on your exam. It’s a little tedious; I’m not going to lie to you. It’s a little tedious, these formulas, and there’s a lot of stuff to remember. But if you just go over these over and over and plug them in over and over, you’ll get the hang of it. But if you say, “Oh, you’re not a math person and you don’t want to do this,” then go ahead and skip over it at your own peril. But if you learn these formulas, this is one of three, four, or five questions that you’re going to get on your exam. Because once you know the formulas, you can do the math.

And there is a calculator in the exam software that you can use. So just be aware of that. Let’s talk about these formulas. So earned. Value Management. Is our conversation over? So in Earned Value Management, this box that we see on the screen here represents your whole project. And your project will cost $100,000 when completed. So that’s what you think the whole thing is going to cost. So BAC equals budget at completion. Right now, you are 25% complete with your project. And so that green area is called “earned value.” It’s your percent complete times the budget at completion.

So in this example, 25% of a hundred thousand is $25,000; So your earned value is $25,000. Pretty simple, right? Pretty straightforward. Good. Then we have the actual cost. So how much did you spend to get here? Well, you made a few mistakes. You were really waiting on a vendor to sign off on something, and, you know, you had a little rework, you know, whatever the case may be, but you ended up spending $27,000 to get 25% of your project done.

So that is the final price. So the actual cost is just how much did you spend to get to this point in the project? Then your planned value is based on your calendar. Your plan’s worth is: where are you now and where should you be now? So the plan value is what the project should be worth at this point in time. So in this project, you’re already out to month six, and you’re supposed to be 50% done at month six. So if that’s true, you’re supposed to be 50% done. You’re supposed to be worth $50,000 today. So your plan value is what the project should be worth at this point in time.

Now, I know your projects would never do this. I made this a really big example just to show what we’re going to look at on the next slide in variances. Okay, so the first one is the cost variance; with $25,000 as your earn value, you’re 25% finished. We know the earned value is $25,000. But you had to spend $27,000 to get here. So you have spent more than you are worth on this project. So you have a cost variance of negative $2,000, Its earned value is $2,000 less than its actual cost of $25,000-$27,000. So you have a $2,000 cost difference. Now let’s go to month six. So I’ve made it out there, right? You’re supposed to be worth $50,000 today, but you’re only worth your earned value. You’re only worth $25,000. So our schedule variance has earned value. Minus plan value is between 25,000 and 50,000, so we have a negative 25,000. So that’s what we’re supposed to be worth. It was 50. And so we have a cost variance of 25.

Variances are pretty straightforward. Now let’s look at an index. So we’re going to measure performance. This formula to measure performance is going to require us to divide something by something else. The first one is the cost performance index. The cost performance index shows how well you are performing on costs. The closer to one that this value is, the better you’re doing on cost. So the formula is “earned value” divided by “actual cost.” It’s a ratio. So we have 25,000 divided by 27,000, which gives us a cost-performance index of zero (93). So you could say that for every $1 that we spend on the project, you’re losing $0.07. It’s not great, but it’s not the worst either. But you’re about 7% off your budget, and that’s going to add up, right? If you keep losing $0.07 on every dollar, you’re not doing too hot on your project. As a result, CPI earns value when divided by actual cost.

Now the next one is very similar; it’s our schedule performance. It’s earned value divided by planned value. So this one’s pretty straightforward. You’re worth 25,000; you should be worth 50,000 EV divided by PV. So 25,000 divided by 50,000 is exactly 50% off schedule at 00:50. So you want that number to be as close to one as possible. A common question I get is, “Can these ever be one, three, five, or one?” Yeah, it’s very possible that you could be above one dot or whatever; that can be good. But the truth is that if you’re too far away from one, it probably means that your budgets and estimates are flawed, that you predicted it would take longer to get here than reality has revealed. So it’s not always something to celebrate. It could look like you just bloated your estimates in your timeline, and that could be frowned upon. The goal is to be as close to one as possible. Now we want to predict the future. So we have a couple of formulas here to predict what’s going to happen in our project. The first one is your estimate at completion.

So, if we keep moving forward with the project as we are now, how much will we be over budget at the end? So if we’re losing $0.07 on every dollar right now, then what’s that going to do to us at the end of the project? So, to find the estimate at completion, you take your original budget at completion, which was $100,000, and you divide that by your CPI, which was zero point 93. As a result, this works out to be Your estimate at completion will be $107,526.

So based on where you are right now, you can already see we’re going to have a variance of $7,526. When we’re done, that’s negative; you have a variance; you’re upside down. The next one here is the estimated completion date. If we think it’s going to be $107,526 as our new estimate at completion and we’ve already spent $27,000, how much more are we going to have to put into this project? Well, making the assumption that there are no other variances and that things are going to be smooth sailing from here on out, we could simply take the new EAC minus what we’ve already spent, our actual cost, and that will tell us our estimate to complete.

So the estimate to finish here is: we take the 107 526 and subtract your actual cost of $27,000. Our completion estimate is $80,000, 526. That’s how much more we need to get to the end of the project. So these are some ways that we can predict the future. Our next formula is the two-dimensional complete performance index. So the two Complete Performance Indexes: what happens here? We’re saying, what is the likelihood of the project meeting the original budget at completion? So with how much effort, how likely is it to meet the BAC? Or how likely is it to meet the EAC, the estimate at completion?

So there are two different formulas here. So the first one is using the original budget at completion. It’s budget at completion minus the earned value divided by budget at completion minus your actual cost. So, based on where you are in the project and how much you’ve spent on it, this number, which we’ll plug in in a moment, will tell us how likely you are to be able to hit your original budget at completion. The next one is, well, how likely are you to hit the EAC? So it’s very similar: you take your budget at completion minus earned value divided by your estimate at completion minus actual cost. So the EAC is the one variable that changes here. All right, let’s look at this in action for our TCPI using the budget at completion.

So in this instance, our budget at completion was $100,000 and our earned value was $25,000, so we’re going to take 100,000 minus 25,000 as the first part of the formula, so we know that 75,000 divided by 100,000 minus 27,000 is 73, so that gives us our TCPI of 1273. So the greater the number, the less likely it is that you’re going to be able to hit your target. So in this example, the BAC probably isn’t going to hit your original BAC because you already have a small variance in it. As you can see, it’s slightly above the hole, but it’s not looking like you’ll be able to hit it. Let’s try this with the EAC. All right, so the EAC is 100,000 minus 25,000, which stays the same, divided by 107,526 because, remember, we’re now accommodating the CPI. The money that we’re losing, we’re basically accommodating the variance basically.

So 75,000 divided by 80,526 gives us a TCPI of zero (93).So we’ve got a lot of room there, right? We’ve got pretty good odds that we can hit our EAC under the assumption that we don’t have more variances. I have five earned value management rules for you. In our formulas, earned value always comes first. So EV is always first. Variance means something less than something. An index means something divided by something less than one is bad in an index. Negative, of course, is bad at a variance. Okay, in the next lecture, we have a practise activity to try out. So I’ll see you in just a moment, and we’ll walk through this practise activity dealing with earned value management.

  1. Activity: Earned Value Management

We just finished talking about earned value management and the various formulas for it. We’re now going to go in and look at a practice activity. And I have an exercise here for you to do to try all of these formulas. Before we get into the actual activity, though, I want to show you something I’ve created just for you. And it is; let me hop over to Excel.

This is Microsoft Excel. It is a formula, or not just a formula. It’s all the Earn Value Management formulas. So you can use this to learn these EVM formulas. So on the first worksheet here, I have all the EVM formulas plugged in. And then we’ll look at the next tab in a second. There’s a little shortcut here for how to memories these for your exam. So let’s just walk through a scenario and look at the results of the Excel spreadsheet. Assume the project’s budget is $850,000. So you just want to mess around with this. So you say, “All right, I want to have a project that’s $850,000.” And let’s say the project is now 30% complete.

So in the next cell, how complete is the project? I’m going to type in 30%. How complete should the project be? Let’s say it’s supposed to be 35%. We’ll make it pretty tight. So 35%. Then, how much money has been spent on the project? So what’s your actual cost? So I’m going to say, in this instance, that we have spent what I’m doing. I’m looking down to see what my earnings are worth. And so I want to make a variance. So I’m going to say that it’s $269,000. That’s how much the project has cost to date. Okay? So just by putting in those factors up top, you or Excel can calculate all of the formulas. So look at the next chunk of this at the bottom here; we have this budget at completion notice.

It’s just lowering it from the top, 850,000. Then we have our actual cost of $269,000. Our earned value You can see the EB if you hover over the cell. Please leave a note here. It’s the foundation for all the rest. You’ve got to get this one right, or it’s going to affect all the other answers. So I know you’ll have it right. So EB, we said it was 30% of 850,000. So therefore, it’s 255,000. We should be worth $297,500 because we’re supposed to be 35%. Done. We have a cost variance of $14,000. So there’s the tidbit about the formula EV minus AC. Our schedule variance is -45 days. You can also see the formula EV minus PV. Our CPI is zero at 95 based on this business. So EV is divided by AC, and our SPI is zero, which is EV divided by plan value. Our estimate at completion, our budget at completion divided by CPI, is going to be $896,000 and some change.

And then, for our estimate to be complete, how much more do you need? EAC less the actual cost So 627,006, 6 and 7. Then we have our BAC-TCPI. So in this instance, it’s 1.2. So we’re a little bit above where we should be. It doesn’t look very likely that we’ll hit our BAC. I mean, unless we recoup some costs somehow. Then we have our TCPI using the EAC, which looks pretty good, right? We’re under, so it looks pretty good. Then there’s our variation at the end. Right now, we have a variance of almost 47,000. So the best thing you can do is learn these formulas. So, write out all of the formulas and then make up a little scenario in your head to spare. All right, the budget is $350,000, and do all this on paper and then calculate all the formulas. You can use a calculator; there’s a calculator in the actual exam. and then come into this spreadsheet. It’s called the EVM worksheet. And then put in your values.

So let’s just say you made it to 325,000. Let’s say the project is supposed to be 80% done. You’re only 75% done, and the amount you’ve spent so far—let’s say you’ve had to spend $325,000—is only 75% of what you actually owe. So you’ve actually spent your whole budget, and you’re only 80% done. So you can say, “All right,” so now, just by making up these weird scenarios, you can see what’s happened in your project. So let’s go back. Let’s say that the project is only 75% complete, whereas it’s supposed to be 80%. I kind of had those backwards. So then it’ll do some work here. It looks like we had an error in one of my formulas. I don’t know why I did, but I did. So I’ll look at that and make sure that when I upload it, it’s correct. not seen that before. Perhaps it didn’t like the fact that I had spent my entire budget. Let’s see if we make it to 25,000. It was what it was if it likes it now. Okay, so this is a handy little worksheet you can play around with. It’ll help you learn the formulas. Just some quick charts for fun over on the right. shows you your CPI at SPI. So you can compare which one is performing better or worse in the areas where you want your variances.

You’re upside down, focusing more on cost than schedule. Now click on the next tab down here at the bottom that says “Memorize.” Let’s look at that. So here’s a goofy little way to memorise the stuff: All right, so it’s a mnemonic. So you can see—yeah, it’s a little silly, I admit—but it’ll help you memorise these formulas. The first letter of the phrase will help you remember the order of the formulas. If you don’t like it, don’t use it. So please eat Carl’s sugar candy.

See the Taffy violin? Now, what you’re going to do is either take your workbook or look on the next slide; I have the order of all of these formulas. So you are going to complete this chart if you have Excel, and you’re going to say, “Okay, well, the next formula here is for please eat.” As a result, we plan value and then earn value. CPI, SPI, and so on. That was cost variance, schedule variants, etc., and EAC. So it’s just a little way that I want you to actually write in the formulas to practise writing the formulas. And if you’re stumped, like I said, on the next slide you’ll see the ones that you’re going to calculate in your workbook at the very end. These are part of the PMP memory sheets at the very end of that workbook that you can print out, or you can go back in the lesson and look to see what the formulas were. So this is a worksheet for you. You can download it; it’s part of the resources.

If you will take the time to memorise these, you’re going to do much better on your exam. This is what you’re going to do in this exercise. So here’s a typical exam question. So consider that you’re the project manager for the BGQ project. This project has a budget of 1,000, 500, and 6100 dollars, and you are 30% complete. You are, however, supposed to be 35% complete today. In addition, you have spent $512,000 to reach this point. I want you to calculate your earn value, plan value, cost variance, schedule variance, CPISPI, EAC estimate to complete, TCPI using the BAC, and then tell me what the variance at completion is based on current performance. So it’s going to take a little bit of time. So if you want to pause the video now, that’s a great idea because in the next slide I’m going to walk through the solution, and then we’re actually going to take it over to Excel and we’ll plug it into the Excel spreadsheet to check everything out.

All right, so I’m going to give the answer away in 3 seconds. Ready? So if I want you to pause, when you’re done, you can play again. So three, two, one. Here comes the answer. Great job finishing that little exercise. I know you paused it and went through all the math here and checked it out. So, let’s take a look at Earn Value management. So our EVM response is, “Well, I’m going to pullup, let’s see what we have here.” So our earned value—I’m assuming you calculated the plan value. I’m going to pull up the Excel spreadsheet again. All right, so I’ve got the Excel spreadsheet up, and in this case we said the project had a budget of $1,560,000 and you are 30% complete. However, you’re supposed to be 35% complete. And how much of the budget has been spent? $512,000. All right, so based on this information, we have our earned value of $468,000.

Our planned value is 546,000. We have a cost variance of 44,000 and a scheduled variance of negative 78,000. Our CPI is zero (91), our SPI is zero (86), our EAC is 1.7 with some change, and our Etc is almost 1.2. And then, based on our TCPI, with the budget at completion, we’re at 1.4, so it’s not very likely to hit it. And our EAC 91, well, we’re looking pretty good. We’re accommodating the $0.09 we’re losing on every one. And based on this, right now we’re going to have a variance of completion of 146,667. Now your answers may be just slightly different because it depends on how many decimal places you left out. Like in your CPI, generally you can go to two decimal places, which is fine unless you want to be very precise. All right, good job. That is the end of this section on Earth Value Management. doing this little exercise in the next lecture. I have a great little learning game for you. So I want you to try that out. Now, a little fun thing to do with all of these formulas and all the things we’ve talked about in this section on cost management So good job; keep moving forward. I’ll see you in the next section, where we’re going to talk about project quality.

  1. Section Wrap

You finished this section on cost management. Good job. Are you feeling OK? I couldn’t help but putt poorly. So, cost management, you knocked it out of the park. You talked an awful lot about cost management, including some really important stuff you’ll need to know for your exam. We started our conversation by creating the cost management plan and all of those different facets of cost management: how do you do estimating?  how do we do budgeting? how will you control costs? and what are your thresholds? How do you know you’re performing well on cost, and what are you going to do? You’re going to report to, and how should you have a variance? So a cost variance to create an exception report or a variance report is what we’ll see in Chapter 10 of the Pinbach on communications management. So it all comes down to cost management planning. Then we got into cost estimating, and remember, we had our ROM, our budget, and our definitive, and then we accounted for everything that we were going to spend money on in the project.

We did analogous estimating just like we did in time, where we are creating an analogy between two projects, a parametric estimate where it’s x amount of dollars per unit and you’ve got 100 units, 1000 units, or whatever the case may be. And remember we talked about the learning curve, especially when we are paying for labor. We’re paying for a person’s time, and they’re doing the same activity over and over and over. Well, the learning curve is that they’re going to become more and more efficient, and as they become more and more efficient, their productivity could go up, but not necessarily so parametrically that we have to think about the learning curve. We looked at bottom-up estimating based on the WBS.

This is the definitive estimate. It’s the most accurate, but it takes the longest to do. We also talked about three-point estimating, and then we got into determining your budget, the aggregate of the cost of our work packages. I know sometimes the budget is set up for you on your exam, though we have to sometimes take the approach that I’m going to create the budget based on how much the work packages, the labor, the resources, whatever it takes to complete this thing in my WBS, cost. So we have to take that approach on the exam, and that becomes our authorised cost baseline. Remember that management reserves are not included and performance is measured against the budget. So that sets us up for earned value management. We talked about funding limit reconciliation. You have to reconcile variances—where did you spend the money? So we have planned and actual costs, which brings us to cost control. This is where we talked about changes to costs. A scope change could be a cost change, but you could have a cost change that is not necessarily a scope change. The cost of materials could go up. You have to use a different vendor or a different resource, or you have one of those costs that fluctuates throughout the project. So it’s a variable cost. So all this we have to track and study and keep our eyes on, as those little, tiny changes in costs can cause our project budget to really get blown away.

Earned Value Management I know there are a lot of formulas for earned value management in the workbook. At the end of the workbook, I have all of the formulas in those final few pages, those memory sheets. Then there’s the EV worksheet for Microsoft Excel, which includes all of these as well. So we talked about earning value. Planned value. Planned Value. They always have to tell us how we have no idea where someone is going to be. So we have to know the plan value because they’re going to tell us the plan value. the cost variance and the schedule variance. We looked at Estimated Completion and Estimated to Complete in CPI and SPI. And then we have the TCPI using the BAC and the TCPI using the EAC, and then finally the variance at completion. All right, great job finishing up this section. I know it was a big section with a lot of information. Cost management is so important for your exam. So I want you to really know these formulas, know the different approaches, and have a good understanding of cost management in this knowledge area. Okay? Good job. You’re making great progress. Let’s keep moving forward.