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    INSE 6230: Total Quali ty Project Managemen t

    Lectu re #8

    Project Cost Management

    Nov. 12, 2012

    Instruc tor: Dr. Zhigang (Wil l) Tian

    CIISE, Faculty of Engin eering and Comput er Science

    Conco rdia Univers i ty

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    Project Cost Management

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    What is Cost and Project Cost Management?

    Cost is a resource sacrificed or foregone toachieve a specific objective or something given upin exchange

    Costs are usually measured in monetary units like

    dollars

    Project cost management includes theprocesses required to ensure that the project is

    completed within an approved budget

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    Project Cos t Management Processes

    Estimating costs: developing an approximationor estimate of the costs of the resources neededto complete a project

    Determining the budget: allocating the overallcost estimate to individual work items to establisha baseline for measuring performance

    Controlling costs: controlling changes to the

    project budget

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    Project Cost Management Summary

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    Project Cost Estimation

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    Engineer ing Costs

    Fundamental cost concepts:

    Fixed and variable costs

    Marginal and average costs Sunk and opportunity costs

    Recurring and non-recurring costs

    Incremental costs, cash costs and bookcosts

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    Fixed and var iable costs

    Fixed costs are constant regardless oflevel of output or activity

    E.g. factory floor space and equipment

    Variable costs depend on level of outputor activity

    E.g. labor costs (depend on number ofemployees),

    E.g. production costs (depend on number ofitems produced)

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    Marginal and average costs

    Marginal cost is the cost of one more unit e.g. renting a hotel room and having to pay

    extra if the number of people exceeds say 2

    e.g. Sport shoes

    Average costs= Total cost / Number of units

    - e.g. Sport shoes

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    Example 1

    Cost components:

    Bus rental

    Event ticket

    Gas and other fuels

    Refreshments

    Bus driver

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    Example 1

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    Break-even Poin t

    Break-even point:- The level of business activity where total costs equaltotal revenue.

    Profit region

    Loss region

    Example 2

    - Charter ticket price: $35 per

    - Total cost as a function of the number of people on the trip

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    Break-even chart : Example

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    Cost Est imat ion Too ls and Techniques

    Basic tools and techniques for cost estimates

    Analogous ortop-down estimates:use the actualcost of a previous, similar project as the basis forestimating the cost of the current project

    Bottom-up estimates: involve estimating individualwork items or activities and summing them to get aproject total

    Parametric modeling:uses project characteristics

    (parameters) in a mathematical model to estimateproject costs

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    Analogous or top-down estimates

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    Analogous Methods : Cos t indexes

    Cost indexes Dimensionless numbers reflecting the

    change in price over time (commodity

    price indexes, e.g. labor costs, compositeindexes, e.g. Manufacturers Price Index)

    Cost at time A = Index value at time ACost at time B Index value at time B

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    Example 3

    Miriam is interested in estimating the annual labor and

    material costs for a new production facility. She obtained thefollowing data:

    Labor costs:

    Labor cost index value was 124 ten years ago and is 188

    today Annual labor costs for a similar facility were $575,500 ten

    years ago

    Material costs:

    Material cost index value was at 544 three years ago and is715 today

    Annual material costs for a similar facility were $2,455,000three years ago

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    Example 3: so lut ion

    Labor costs:

    Annual cost today = Index value today

    Annual cost 10 yrs ago Index value 10 yrs ago

    Annual cost today = (188/124)*$575,500 = $871,800

    Material costs:

    Annual cost today = Index value today

    Annual cost 3 yrs ago Index value 3 yrs ago

    Annual cost today = (715/544)*$2,455,000 = $3,227,000

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    Power-sizing model

    Used to estimate costs of industrial plants andequipment.

    Uses exponentx, thepower-sizing exponent, torepresent economies of scale in size or capacities

    Ifx=1, linear relationship;

    ifx>1, diseconomies of scale;

    ifx

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    Power-Sizing Model (cont)

    x

    BequipmentofcapacitySize

    AequipmentofcapacitySize

    BequipmentofCost

    AequipmentofCost

    )(

    )(

    Size (capacity) of A and B must be in the same

    physical units Costs for both A and B must occur at the samepoint in time

    If costs of A and B do not occur at the same time,

    cost indexes can be used to convert costs to thesame time

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    Examp le: Power-Sizing Exponent Values

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    Example 4: Combined Cost Est imat ing

    In the screening estimate of a new facility, a single parameter is often usedto describe a cost function. For example, the cost of a power plant is a

    function of electricity generating capacity expressed in megawatts, or thecost of a sewage treatment plant as a function of waste flow expressed inmillion gallons per day.

    The general conditions for the application of the single parameter costfunction for screening estimates are:

    1. Exclude special local conditions in historical data2. Determine new facility cost on basis of specified size or capacity3. Adjust for inflation index4. Adjust for local index of construction costs5. Adjust for different regulatory constraints6. Adjust for local factors for the new facility

    Some of these adjustments may be done using compiled indices, whereasothers may require field investigation and considerable professionaljudgment to reflect differences between a given project and standardprojects performed in the past.

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    Screen ing est imate for a ref inery

    The total construction cost of a refinery with a production

    capacity of 200,000 bbl/day in Gary, Indiana, completed in1999 was $100 million. It is proposed that a similar refinerywith a production capacity of 300,000 bbl/day be built inLos Angeles, California, for completion in 2003. For theadditional information given below, make an estimate ofthe cost of the proposed plant.

    (bbl/day = barrels/day)

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    Screen ing est imate for a ref inery

    1. In the total construction cost for the Gary, Indiana, plant,there was an item of $5 million for site preparation which

    is not typical for other plants.2. The variation of sizes of the refineries can be

    approximated by the exponential rule, power x = 0.6.3. The inflation rate is expected to be 8% per year from

    1999 to 2003.

    4. The location index was 0.92 for Gary, Indiana and 1.14for Los Angeles in 1999. These indices are deemed tobe appropriate for adjusting the costs between these twocities.

    5. New air pollution equipment for the LA plant costs $7

    million in 2003 dollars (not required in the Gary plant).6. The contingency cost due to inclement weather delay will

    be reduced by the amount of 1% of total constructioncost because of the favorable climate in LA (compared toGary).

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    Solut ion: Screening est imate for a ref inery

    On the basis of the above conditions, the estimate for thenew project may be obtained as follows:

    1. Typical cost excluding special item at Gary, IN is

    $100 million - $5 million = $ 95 million

    2. Adjustment for capacity based on the exponential law yields

    ($95)(300,000/200,000)0.6 = (95)(1.5)0.6 = $121.2 million

    3. Adjustment for inflation leads to the cost in 2003 dollars as

    ($121.2)(1.08)4 = $164.6 million

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    Solut ion: Screening est imate for a ref inery

    4. Adjustment for location index gives

    ($164.6)(1.14/0.92) = $204.6 million

    5. Adjustment for new pollution equipment at the LA plant gives

    $204.6 + $7 = $211.6 million

    6. Reduction in contingency cost yields

    ($211.6)(1-0.01) = $209.5 million

    Since there is no adjustment for the cost of constructionfinancing, the estimate for the new project is $209.5 million.

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    Bottom-up estimates

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    Example 5: Cost Est imating

    Surveyor Pro Project

    (Source: K. Schwalbe, Information Technology Project Management, Thomson, 2007)

    Goal of the project:

    - produce 100 handheld devices, continue developing the

    software (user interface), test the new system in the field,

    and train 100 surveyors on how to use the new system.

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    Example:

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    Example:

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    Example: Cos t Est imat ing

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    Determining the Budget

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    Determ ining the Budget

    Cost budgeting involves allocating the project cost

    estimate to individual work items over time

    The WBS is a required input to the cost budgeting process

    since it defines the work items. Activity cost estimates

    and project schedule are also needed.

    An important goal is to produce a cost baseline

    - A time-phased budget that project managers use to measure

    and monitor cost performance

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    Example: Surveyor Pro Project Cost Basel ine

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    Project Cost Control

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    Project cos t con tro l

    Project cost control includes: Monitoring cost performance:

    comparing Actual and Budgeted

    Determine the appropriate project changes to beincluded in a revised cost baseline

    Informing project stakeholders of authorized changesto the project that will affect costs

    Many organizations around the globehave problems with cost control

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    Earned Value Management (EVM)

    EVM is a project performance measurement

    technique that integrates scope, time, and costdata

    Given a baseline (original plan plus approved

    changes), you can determine how well the projectis meeting its goals

    You must enter actual information periodically touse EVM

    More and more organizations around the worldare using EVM to help control project costs

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    Earned Value Management (EVM) terms

    The planned value (PV), formerly called the budgeted cost

    of work scheduled (BCWS),also called the budget, is thatportion of the approved total cost estimate planned to bespent on an activity during a given period

    Actual cost (AC), formerly called actual cost of work

    performed (ACWP), is the total costs incurred inaccomplishing work on an activity during a given period

    The earned value (EV), formerly called the budgeted costof work performed (BCWP), is an estimate of the value of

    the physical work actually completed EV is based on the original planned costs for the project or

    activity and the rate at which the team is completing workon the project or activity to date: EV = PV to date * RP

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    Earned Value Management (EVM) terms

    Rate of performance (RP) is the ratio of actual work

    completed to the percentage of work planned to havebeen completed at any given time during the life of theproject or activity

    Example:Suppose the server installation was halfway completed bythe end of week 1; the rate of performance would be 50%because by the end of week 1, the planned schedule

    reflects that the task should be 100% complete and only50% of that work has been completed

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    Rate of performance (RP) est imat ion

    Units completed

    Incremental milestones

    Start/finish

    Supervisor opinion

    Cost ratio

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    Example 6: EVM terms

    Suppose according to the plan, it would take 1 week and

    $10,000 to complete the web server project. Suppose it actually took 2 weeks and $20,000 to complete

    the project: $15,000 in the first week, and $5,000 in thesecond week.

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    Example 7: PV, EV calcu lat ions

    Total cost: A: 18, B: 10, C: 20, D: 40.

    PLANNED VALUE (Budgeted cost of the work scheduled), BCWS= 18 + 10 + 16 + 6 = $50

    EARNED VALUE (Budgeted cost of the work performed), BCWP= 18 + 8 + 14 + 0 = $40

    ACTUAL COST (of the work performed), ACWP= $45 (Data from Acct. System)

    (Source: http://www.hyperthot.com/pm_cscs.htm

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    Earned Value Management (EVM) terms

    Cost Variance (CV): If CV

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    Earned Value Management (EVM) terms

    Cost Performance Index (CPI): If CPI

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    Earned Value Management (EVM) terms

    Budget at completion (BAC): the original total budget for the project.

    Estimate at completion (EAC): an estimate of the cost to complete

    the project based on performance to date. Estimate time to complete: an estimate of the time to complete the

    project based on performance to date

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    Example 8: EVM terms

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    Examp le 9: Earned value chart for a pro ject

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    Another case for est imat ing Est imate at completion (EAC)

    Case 1: The project continues under the same conditionexperienced to date:

    EAC = BAC/CPI

    Case 2: The project continues under the condition as

    originally planned:

    EAC= BAC + (AC- EV) at present

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    Example 10: EAC calculat ion

    A project has an original total budget of $1,000,000. At month

    10, the ACWP (or AC) is $800,000. Suppose CPI=1.2, and

    SPI=0.9. Calculate the EAC under the two situations:

    (1). The project continues under the same condition

    experienced to date.

    (2). The project continues under the condition as originally

    planned.


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