Cost Estimating

Now that you have documented your project resource requirements, you are ready to begin cost estimating , the process of approximating what you will spend on all of your project resources. A cost estimate is the input for developing the project budget. The key thing to remember about cost estimating is 'approximate.' Cost estimating is a guess. You have no way of knowing exactly what the cost of your project will be, and some estimating methods are more accurate than others. To increase the precision of your guess, it is important to use all of the data and tools available to you.

Warning  

Cost estimates are communicated to the project stakeholders. Any predictions related to the cost of a project tends to be cast in stone, so a project manager needs to be very clear about the potential accuracy of an estimate, especially those estimates made early in the planning process.

If multiple estimates are made during the course of project planning, always communicate the new estimates to the stakeholder group if there is a significant change, and provide background information on the new estimate to explain how it differs from the previous estimate both in terms of content and accuracy. We will discuss the final planning cost estimate a little later in this chapter when we discuss the cost baseline. Communications about revised estimates should highlight the information you now have that was not available when the first estimate was made.

A number of different techniques are used for cost estimating. We will look at three types of cost estimates: analogous estimates, parametric models, and definitive estimates. We will also provide some tips to help you work through the estimating process.

Cost Estimating Techniques

There are three major categories of cost estimating techniques: analogous estimating, definitive estimates, and parametric modeling. You may use each one of these methods at various stages of project planning, or you may use one type of estimating for part of the activities and another method for the rest.

The methods have varying degrees of accuracy and each method can produce different results, so it is very important to communicate which method you are using when you provide cost estimates. Let's take a look at each of these estimating methods in more detail and how they work.

Analogous Estimates

You may remember this term from schedule planning. For cost estimating, an analogous estimate approximates the cost of the project at a high level by using a similar past project. (You may also hear this referred to as top down estimating or an order of magnitude estimate.) This type of estimate is typically done as part of a business case in the initiation process or during the early planning process of scope planning, when there is not a lot of detail on the project. Analogous estimating uses this historical data along with expert judgment of the person responsible for the estimate to create a big picture estimate. An analogous estimate may be done for project as a whole, or for selected phases or deliverables. It is not typically used to estimate individual work packages.

For example, if you know that a sales consultant desktop tool project 2 years ago cost $5 million, an analogous estimate for a customer care desktop tool might be $5.2 million, accounting for increased costs of resources or inflation.

It is impossible to find a previous project exactly like your new project (after all if your exact project had been done before, what you are doing now would not be unique, and therefore, would not be a project). If you are lucky, you may find a project that is similar in size and scope, which at least gives you a starting point.

Note  

Analogous estimates have a very low level of accuracy, and can range between -25% and +75% of the actual cost of the project.

Analogous estimating may be the best you can do at an early stage of the project when you have very little detail to go on. The key here is to make sure that everyone involved understands how imprecise this estimate is. 'Because of the newness of this project I am using analogous estimating for these cost figures and they do not have a very high accuracy level,' you might say.

Parametric Modeling

Parametric modeling uses a mathematical model to compute costs. The type of project you are working on drives whether parametric modeling is an appropriate estimating technique. The most common parametric models are used in the construction industry. Homebuilders typically estimate new home construction based on a parametric model that provides a cost estimate per square foot .

Probably the most widely known parametric model in the IT world is the COnstructive COst MOdel (COCOMO and COCOMO II) for software development, which uses parameters that address the complexity of the software, the capabilities of the team, the processes used to develop the product, and the tools used for development.

Many organizations have developed a parametric model internally; there are also commercial parametric modeling packages available.

Parametric modeling is dependent on the accuracy of the data used to create the model. The most frequent drawback mentioned in relation to parametric models is that a model may not be scalable.

If your organization uses parametric modeling, you need to learn more about the specific models that are used and if this technique is appropriate for your specific project.

If you want to learn more about COCOMO or parametric modeling, there are numerous websites with more information, including the NASA Parametric Cost Estimating Handbook at www.jsc.nasa.gov/bu2/PCEHHTML/pceh.htm or the USC Center for Software Engineering at http://sunset.usc.edu/research/cocomosuite/suite_main.html.

Definitive Estimates

The most precise cost estimating technique is the definitive estimate , which assigns a cost estimate to each work package. The definitive cost estimate typically falls between -5% and +10% of the actual budget. The definitive estimate is also referred to as bottom up estimating. The WBS and the project resource requirements are critical inputs for a definitive estimate. You start at the lowest level of activity (the bottom of your WBS) and calculate the cost of each low level task. The sum of all these low level estimates provides the estimate of total project cost.

When we discussed schedule planning in Chapter 4, we talked about duration estimates for each task to determine the length of your project. When you are doing cost estimates, you need to base the estimate on work effort , which is the total time it would take for a person to complete the task if they did nothing else from the time they started until the task was complete. A work effort estimate is also referred to as a person- hour estimate. As an example, for schedule planning, a task to write the technical requirements document has an activity duration estimate of 4 days. When you do cost planning, if the technical writer is allocating 5 hours a day to the project, the estimate of the total elapsed time the technical writer spends to complete the task gives you a work effort estimate of 20 hours.

The difference between task duration and task work effort may seem confusing, so you need to remember that you are looking at two entirely different outputs. The duration estimates that you complete in schedule planning help you define how long the project will take to complete. The work effort estimates that you obtain in cost planning are used to define how much the project will cost. For purposes of creating a schedule, you need to know that a task will take 2 weeks. For purposes of a cost estimate, you need to know it will take 30 hours.

Let's take a look at how at how this works by adding a work effort estimate to the tasks from our Resource Assignment Matrix. Table 5.2 shows the work effort estimated for each of these activities.

The final piece of data you need for a definitive cost estimate is the rate for each resource. Rates for labor and leased equipment are typically calculated on an hourly or daily rate. Access to a central or shared system may include a per use fee, while the purchase of materials or equipment will have a fixed price.

TABLE 5.2 : Sample Project Work Effort Matrix

Task	Resource	Work Effort
A	Tech Writer	20 hours
B	Programmers (2)	100 hours
C	Server	N/A
C	Testers (3)	60 hours
D	Programmers (4)	200 hours
E	Marketing	30 hours

Deciding the correct rate to use for cost estimating can be tricky. For materials or equipment, the current cost of a similar item is probably as accurate as you will get. The largest overall cost for many projects is the human resource or labor cost, and this cost is often the most difficult to estimate. The actual rate that someone will be paid to perform work, even within the same job title, can fluctuate based on education and experience level. Rates vary if you are contracting temporary resources to complete part of the work or using a consultant. Typically, you can get information on either average rates for a given job title or a range of rates. The people doing the individual estimates need to determine which of these ranges is the most accurate based on the complexity of the task. A task requiring an experienced tester may carry a higher rate than another task that requires a tester with less experience.

Table 5.3 shows the rate assigned for each of the resources we will be using in our sample project. For this example, we have used the current market price for the server and a range of employee rates for the tech writer and the testers. We are estimating the programmers at the standard organizational contract rate. A marketing consultant will perform Task E, with the rate estimate provided by marketing.

TABLE 5.3 : Sample Project Resource Rates

Task	Resource	Work Effort	Rate
A	Tech Writer	20 hours	$30/hr
B	Programmers (2)	100 hours	$50/hr
C	Server	Fixed rate	$100,000
C	Testers (3)	60 hours	$30/hr
D	Programmers (4)	200 hours	$50/hr
E	Marketing	30 hours	$60/hr

Now that you have the resource requirements and associated work effort and rate for each task, you can complete the cost estimate by adding a total column to your table. The cost of each task is calculated by multiplying the work effort for each resource by the rate for that resource. This will give you the total project cost estimate. Table 5.4 shows a completed cost estimate for the tasks in our sample project.

TABLE 5.4 : Sample Project Cost Estimate

Task	Resource	Work Effort	Rate	Total Cost
A	Tech Writer	20 hours	$30/hr	$600
B	Programmers	100 hours	$50/hr	$5,000
C	Server	Fixed rate	$100,000	$100,000
C	Testers	60 hours	$30/hr	$1,800
D	Programmer	200 hours	$50/hr	$10,000
E	Marketing	30 hours	$60/hr	$1,800
TOTAL				$119,200

Estimating Tips

Cost estimating can be very complex, and cost estimates often become broadcast as the official cost of the project before you have the proper level of detail. You will probably never have all of the information that you would like when you do cost estimates, but that is the nature of project management. Here are some thoughts to keep in mind as you work through the estimating process.

Brainstorm with your project team. Although looking to the cost of each activity is a great way to get a detailed cost estimate, you may miss items, because they are not linked to a specific task or they span multiple tasks.

Will any of the project team members require special training? If the project involves deployment of software, will there be travel involved or can the installation be done remotely?

Getting the team together to talk about other possible costs is a good way to catch these items.

Communicate the type of estimate you are providing. Project cost estimates get cast in concrete quickly. Although you may not be able to stop this from happening, you can be crystal clear about the type of estimate you are providing.

If you are preparing an analogous estimate based on a similar project, be very clear on how far off it might be from the actual cost of the project. You should point out any significant cost impacting differences between your project and the project used to create the estimate. Any risk or uncertainly caused by using a previous project for estimating also need to be spelled out.

Tip  

In addition to emphasizing the potential inaccuracies of an analogous estimate, provide stakeholders with a timeline for a definitive estimate. A project sponsor is more willing to accept that your current estimate may be 75 percent lower than the actual cost of the project if he or she understands both why the current estimate is vague and what work is being done to provide a more accurate estimate.

Make use of any available templates. Many companies have cost-estimating templates or worksheets. Make sure to use these even if they are not required. Looking at all the possible categories of capital and expense is a good checklist to make sure you have included everything in your cost estimates.

Templates may also be a good source of rate estimates. The salary of the people on your project will vary based on both their job title and specific experience. Standard rates may have been developed for cost-estimating purposes. Standard estimating rates are usually based on either the average salary for a particular job title or what is referred to as a loaded rate , which includes a percentage of the salary to cover employee benefits such as medical, disability, or pension plans. Individual corporate policies will determine if loaded rates are used for project cost estimates.

Note  

Some project managers have a term for the exercise of populating a project template with human and material resources (as well as human resource salaries). We call this resource loading .

Get estimates from the people doing the work. The reason that a bottom up estimate is the most accurate is that work effort estimates are provided for each work package. This accuracy will not hold up if someone unfamiliar with the task completes the estimate. If your project includes tasks brand new to your company or uses an untested methodology, you may need to

Real-World Scenario: Resource Loading: Where to Start?

The reason resource loading is so tricky has to do with the fact that people vary so widely in their operational characteristics. Suppose, for example, that you have a team of four programmers. Imagine that your most senior person isn't exactly a self-starter. While he's very competent and knows what to do and when to do it, you have to really work hard to light a fire under him. Conversely, you might have a junior person who's a firecracker. She's constantly at your door looking for the next project. When she's not tied up with project work, she's researching new resource materials or online Webinars to learn more about her craft. Sure she's slow, but she's steady, persistent, and will stick with the task until it's complete. Further, everyone knows that when she finishes a task, she finishes it correctly and it runs well.

Your senior guy makes $85/hour (including benefits), your junior person only $65. Your senior guy (provided you can get him motivated and working straight ahead on his task) can bring in a project anywhere between a day to a week sooner than his junior counterpart , depending on the complexity of the task.

So, if you decide to resource load your projects, what figure should you pick to represent both sides of the equation? Should you key in $85/hour for all programming tasks, $65/hour, or perhaps strike a middle ground at $75/hour and hope it all comes out in the wash?

Note too that some material resources change very little, are used quite often in projects, and thus qualify for resource loading. Consider a T1 data telecommunications circuit. It's a very common thing to link two buildings in a campus together with T1 lines. Generally speaking, the installation cost and monthly charges are well known for a given telco, as well as the time to deliver. By resource loading well-known resources, you can save time in approximating the budget. However, you always need to keep in mind the 'sketchiness' factor that the resources bring with them: that is, they're subject to change, people work differently, rates and prices increase, etc.

 

look outside for assistance with work effort estimates. This could come from published industry standards or by hiring a consultant to assist with the estimating process.

Include money for team recognition. Every project manager wants to recognize team members who make an outstanding contribution to the project; however, it is difficult to accomplish this without funding. We will talk about the various types of rewards and recognition later in this book, but whether you are looking at team celebration at the end of the project, prizes for outstanding achievement, or cash bonuses, the money needs to come from somewhere. Not all organizations approve an allocation for rewards and recognition, and you may need help from your sponsor to get this approved.

Document any assumptions you have made. If you have identified hourly rates based on internal resources, note that information on the estimate. IT projects often end up using contract labor, which will have a different hourly rate. If there is a decision at a later point in time to use contract resources, you can immediately advise the stakeholders that there will need to be revisions to the budget to account for this new rate.

Now that you have completed all of these cost estimates, they will be used to create the project budget.