“Never base your budget requests on realistic assumptions, as this could lead to a decrease in your funding.”
— Scott Adams, Dilbert
Determining budget is a project management activity to put together all identified costs for project activities and to come up with a cost baseline.
This cost baseline is very helpful in determining project performance.
In the Control Costs process we see that current actual cost figures are compared against cost baseline to determine whether project is consuming more budget than allocated or if it is within the budget.
What do you need?
A bunch of plans and documents.
Essentially you build upon the outcome of previous cost management processes, as this process is a logical next step that we build up from the cost planning process.
Cost management plan talks about processes around managing cost on the project is the guiding document and so first input for this process.
Since costing was determined from resources of activities we’ll use resource management plan.
You will get cost estimates of individual activities (or tasks) while estimating project costs. You would need to refer to the scope baseline (containing project scope statement, WBS and WBS dictionary), project schedule and resource calendars while determining budget, to ensure that none of activities that cost money are missed out from consideration.
Budgeting is closely associated with identifying risks related to project cost, and costs associated with risks – so Risk register is another important document to consider.
When you decide to contract out some part of your project work there are costs associated with floating request for proposal, calling in responses, giving out the work, and examining their outputs for conformance to requirements. All these costs have to be considered while coming up with budget. All the activities related to procurement management are explained in Project Procurement Management knowledge area. Hence, contracts and agreements too need to be considered.
Schedule, cost estimates and basis of estimates (outcome of cost estimating process) are referred to as well. So are the business case and benefits management plan.
You can save loads of time by using organizational templates, sample documents and tips from project managers of earlier projects. You will also need to consider any policies, procedures and guidelines around cost budgeting that your organization may have in place.
How do you do it?
Basically you just sum up the activity costs to get project budget. You simply roll them up to their corresponding WBS components, or control accounts, to arrive at the final budget figure. This is called cost aggregation.
Pretty logical, right?
But it may not be just that. We need few cross-verification or confirmation steps to ensure the cost figures are logically derived, optimal, and closer to being realistic. And we need to build some contingency measures – which are beyond the cost estimates we have for identified activities (or ‘known knowns’!).
So we do some analysis. One of which is reserve analysis.
Reserves are the budget we allocate beyond identified costs, to take care of ‘unknowns’ – things that we cannot plan for in advance but be prepared in case things go wrong. This also relates to risks.
Reserve analysis can establish both contingency reserve and management reserve.
What is the difference between Contingency reserve and Management reserve?
Contingency reserve is for situations when some of the identified risks materialize and you need money to manage those risks. In other words, contingency reserve is for ‘known unknowns’.
Management reserve is for situations when unplanned events occur that impact project constraints, and you would need money to fill those gaps. In other words, management reserve is for ‘unknown unknowns’.
Management reserve is not part of project cost baseline because cost baseline constitutes of funds that are authorized to be spent for planned activities of the project, and management reserves are only for activities that come up as a result of unplanned changes to project scope or cost.
In other words, project team is not responsible to keep aside money for impact resulting from events beyond their control.
Okay that makes sense. But where does management reserve figure in this whole budgeting exercise?
Management reserve is part of overall budget.
They are not part of Earned Value Management calculations (they are part of Control Costs process) and so the project manager would need to get approval to utilize the management reserve.
You cannot do this without involving experts who either have been trained or have gathered enough experience to do a good job at calculating project budget. Thus expert judgement is a tool/technique to be used in determining budget.
And a related technique is to look at historical information – from other projects conducted within the organization, or from industry specific knowledge repository – to get more accurate and reliable estimates.
Funding limit reconciliation is a check-and-balance step you can take regularly to figure out whether your spending are more than the budget limits. If for some reason they go beyond, you need to find the reasons and put check on unnecessary expenditure. In some cases you may need to go back to sponsors and ask for more budget or reduction of scope.
Where does the money come from?
Financing is about bothering about this. Size of the project, apart from other factors such as stakeholder influence, sponsor’s will, decide where the money comes from. Financing can be internally, or externally, and sometimes be even by entities such as the government.
Project Cost Baseline
A baselined document is a configuration item – which means that, (a) any changes to it should be approved by the change control board, and (b) thus changed document is given a specific version.
What is baselining?
Baselining means formally approving a particular version of a document to be a reference for performing project work. Baselining will make sure that all the stakeholders use same version of the document (or project artifact) for reference, and it undergoes controlled changes.
Cost baseline is the first output of this process. This gives us the Budget At Completion (BAC) of the project.
This is a summation of estimated costs for scheduled project activities plus contingency reserves for “known unknowns”.
Again, Cost baseline does not contain management reserves.
Why?
As we saw, cost baseline is a summation of estimated costs for scheduled project activities plus contingency reserves for “known unknowns”. Management reserve is for “unknown unknowns”, that is, for discovered activities that still fall under project scope. Because these are well within project scope you cannot go and ask for more budget for them and so cost for them comes from management reserve.
Click here for more details about ‘knowns and unknowns’, an interesting reference to this by Mr. Donald Rumsfeld..
What is the difference between Cost baseline and Project budget?
For this, let us see how to build costs at activity level into project budget.
- Cost estimates at activity levels do not inherently contain any buffer/reserve. Summing activity cost estimates and any activity contingency reserves up to work-package level (refer Create WBS process) gives us Work-package cost estimates.
- Further, summing up Work-package cost estimates and contingency reserves to control account level gives us cost estimates at Control accounts.
- Summing up of all control accounts cost estimates give us the Cost baseline!
- Now add to this the reserve for “unknown unknowns”, which is the management reserve, and you get Project Budget!
Let us understand this using a simple cost-buildup diagram –
You need to figure out periodic intervals when partial budgeted amount needs to be released towards project expenses. This depends on projected expenditure plan, which is prepared based on when certain resources are required during project execution.
For instance, once you have version 1.0 of your e-commerce application developed, you may need to do an exhaustive security audit on it. You might need a funding release to happen around this time.
Cost baseline = projected expenditures + anticipated liabilities
Total project funds (or total allocated budget, TAB) = cost baseline + management reserve
Funding is released at specific intervals, the amount and frequency may not be same. Look at the S-curve below to understand this –
You may end up updating few project related documents during this process such as risk register, cost estimates and project schedule. If those are baselined documents then you will need to run through Change Control project management activity.
Now that we have determined budget, let us worry a bit about controlling costs, shall we? 🙂
