Cost Budgeting

As you can see, the budgeting process can get very complex. Let s walk through creating a project budget (including some special funding categories), establishing a budget baseline, and setting budget targets for future tracking.

Creating Your Budget

Using your approved cost estimate and your project schedule, you are now ready to create the project budget. But before we get into details about setting up the project budget, let s take a look at two discretionary funds you may see included in a project budget.

Contingency funds and managerial reserves are two types of special funding that some organizations use. These funds are not allocated to all projects. If your company uses either of these budget categories, you will need to learn the policies that dictate both the allocation of these funds and the authority to spend these funds.

Contingency Fund A contingency fund is an amount of money set aside and dedicated to the project to be used to cover unforeseen costs within the original scope of the project that were not identified as part of the planning process. There is no set rule for defining the amount of a contingency fund, but organizations that use this allocation often set the contingency find amount at a percentage of the total project cost.

A contingency fund is designed to help reduce risk. Risk planning is covered in Chapter 6, but for now be aware that a project manager should not request a contingency fund just to have extra money. Contingency funds are frequently used in projects that are considered leading edge. The cost estimates of projects that are breaking new ground are much more likely to be incorrect, because there is no historical data and people may have little experience with activities required.

The project manager typically controls the use of the money allocated to the contingency fund.

Managerial Reserve A managerial reserve is an amount set aside by upper management to cover future situations that cannot be predicted . As with the contingency fund, the amount of a managerial reserve is typically based on a percentage of the total project cost.

What makes the managerial reserve different from the contingency fund is who controls the spending of this fund. Upper management usually controls the managerial reserve, and the project manager cannot spend this money without prior approval from upper management.

One other use you may see for managerial reserve is the funding for rewards and recognition.

Project budgets are usually broken down by specific cost categories defined by finance. A few examples of common cost categories include salary, hardware, software, travel, training, and materials.

In some organizations a finance representative or someone from the PMO may develop the project budget or assist you in developing the budget. In other organizations, and particularly in smaller companies, you may be required to set up the budget as one of your responsibilities as project manager. Either way, you need to obtain a copy of your organization s cost categories with a list of the specific cost items included in each category so that you understand how each of your resources is classified .

A budget is typically created in spreadsheet format broken into monthly or quarterly increments . Let s take our cost estimate figures from Table 5.4 and spread them across a target 3-month schedule. The salary and contract labor dollars are spread across all 3 months based on when the work is scheduled. The bill for the new server will be paid in February. Table 5.5 is a simple budget spreadsheet for our sample project.

It can be difficult to develop an accurate project baseline, as numerous variables can impact when costs are actually recorded. For that reason, some project managers choose to split costs, especially the salary dollars, equally across all of the months. This certainly makes the budgeting process easier, but this approach can cause problems during project execution when the actual expenses are tracked.

The project budget is used to create the cost baseline, which is a tool used during project execution.

Cost Baseline

The completed project budget should be reviewed with the project team. Depending on who actually created the budget, it may be appropriate to have the review conducted by a representative from the finance department(s) or the PMO. The project team needs to understand the critical link between the schedule and the budget. Any questions about either budget categories or how the dollars are spread across the project timeline should be addressed at this time.

Once the budget review with the project team is complete, it is time to create a cost baseline , which is a copy of the budget prior to the start of project work. This is very similar to the schedule baseline created in Chapter 3. The cost baseline is used during project execution to track the actual cost of the project against the planning numbers . It is also used to project future costs based on what has been spent to date and the projected cost of the remaining work. The cost baseline includes all of the estimated project costs, excluding any monies that were approved for either a contingency fund or managerial reserve.

The project manager communicates information about the cost baseline to the project stakeholders. Some stakeholders may want a copy of the total project budget baseline, while others may only be interested in what will be spent during each phase. The spending by phase is obtained by setting budget targets.

Budget Targets

Project budgets are normally set up to meet the guidelines of the finance department. Although the budget categories and monthly reporting provide good detail on how and when project dollars are spent, it is not necessarily the only tool or the best tool to manage the project budget.

As project manager, you may need to report on the amount of money spent on a particular phase of the project, so it is a good idea to set targets based on the activities included in each phase. When you get into project execution and actually start tracking both the schedule and the budget, you will need to know that both of these are on track. If you set target amounts of the budget for each phase, you will have a warning sign that your actual spending may not be as on track as it appears on the monthly report. As an example, let s take a standard IT development project using life cycle phases for requirements, design, build, test, and release. You have estimated that $50,000 of your budget will be spent in the requirements phase, and according to the project schedule baseline, that phase will take 4 weeks and should complete March 31. When you get the March monthly budget report, it shows that $49,000 was spent, which might make everyone think you are in great shape; you even have a little money to spare. But if your schedule tracking shows that the requirements phase did not complete on March 31 and will probably take another 3 weeks, your project could be in trouble. You have spent the money allocated to complete the requirements phase, but over half the work is not yet done. This is why it is important to set targets or milestones in your budget.

Don t be concerned right now as to what action you should take if you find yourself in this situation. Sometimes after you ve created what you think is a solid budget, you find that there are differences in the costs than what you initially planned. These are called cost variances and we will discuss them in depth in Chapter 9.

To load the salaries, and for ease of understanding in this case study, assume that the salary of each individual who works for the winery and is associated with this project is $50/hour. For the purpose of including the benefits percentage, you ll add 40 percent to come up with a total salary figure of $70/ hour .

Next you go into Microsoft Project and click View Resource Sheet to find the place where you can load your salary values (see graphic below). Note that you ve already pre-loaded the various resources for this project. Chaptal Admin is you. Also included are St. Croix, Fourche, Jay, and Sanchez, whom you ll be relying on to help with this project. Additionally, you are going to need some contractors in each location to help you set up the WAN gear (routers and switches). Ideally, these contractors will be associated with the telecommunications company through which you provision the E1 or T1 circuits, but you may wind up having to use a third party to do the work. In either case, you re budgeting an estimated fee of $225/hour for each contractor, so you ve keyed this into the resource sheet as well.

Note that you re using a resource called All , which means the intranet programmer and each of the Chaptal winery employees (St. Croix, Fourche, et al). at the various sites to do some testing. Because of this, you can just lump together the hourly figures to come up with a $575/hour cost to perform certain testing elements alongside the contractor.

Finally, you budget money to pay the telecommunications vendors working on the actual T1 connectivity (i.e., the demarcation point, testing, validating the circuit, etc.). So key in figures that represent what you think the costs will be for each these individual s hourly rates. You could obtain this information from the actual telecommunications company or use analogous figures obtained from previous projects or colleagues of yours who ve recently provisioned telecommunications circuits.

Note that all employees are exempt status, meaning they re not eligible for overtime. If you had a person who could obtain overtime (non-exempt), you d have to figure out and key in that value as well. Common situations where this occurs might be with testers, PC technicians, etc.

Next navigate back to the normal project sheet by clicking View Gantt Chart. In this view, the columns Fixed Cost, Total Cost, Baseline, Variance, Actual, and Remaining are added. Also in this view you ll see the Resource Names and the Duration that each of the tasks is estimated to take.

Note that Microsoft Project generally uses a bottom up budget, which means that you don t necessarily know the pot of money you have, you re instead relying on the combination of costs the project will incur plus the estimated hours for each of the tasks in order to arrive at a project budget. Top down budgeting will be a little harder to manage because you re given a pot of money and told to make the project s deliverables come about within those confines. Unless the pot is huge, you have to be very careful to delineate tasks and durations precisely and to clearly understand all facets of the project s requirements so you don t make a false step that costs you ( potentially the project). Sometimes companies will use top down budgeting when they re inventing a new service or product and they have a certain profit margin that they need to meet ”they cannot exceed that potential for profit with a costly project!

Note that, looking at the graphic above, by keying in the salary figures, Project looks at the hours entered for a given task and calculates the cost of that task. This does not account for other costs that might need to be entered in (such as the cost of hardware, per diem and travel expenses, etc.) Also note that you have baseline column in which you can type in your initial expectations (derived from quality estimating techniques) and Project will show you how far away from baseline each of the tasks were. It also tallies the major task subtotals and the total of the project for you.

If you had a contingency pot, you might opt to manage it as a resource within Project or choose to simply keep track of the contingency fund as a separate pot of money that you can draw on in an emergency. Realize that just because there s a contingency fund out there doesn t mean you can loosely manage your project because you have a safety net hanging out there. The fund is there for unforeseen circumstances. Your manager will still be watching you closely to see how well you estimate and how effectively you can bring in a project on time and under budget. Too many times drawing from a contingency fund will get you a reputation for not managing projects very well!