Budgeting and Cost Estimation

In Chapter 5 we reviewed the planning process, gave some guidelines for designing the project plan, and then discussed the art of negotiation to achieve that plan in Chapter 6. We are now ready to begin implementation. First priority is, of course, obtaining resources with which to do the work. Senior management approval of the project budget does exactly that. A budget is a plan for allocating resources. Thus, the act of budgeting is the allocation of scarce resources to the various endeavors of an organization. The outcomes of the allocation process often do not satisfy managers of the organization who must live and work under budget constraints. It is, however, precisely the pattern of constraints in a budget that embodies organizational policy. The degree to which the different activities of an organization are fully supported by an allocation of resources is one measure of the importance placed on the outcome of the activity. Most of the senior managers we know try hard to be evenhanded in the budgetary process, funding each planned activity at the "right" level—neither overfunding, which produces waste and encourages slack management, nor underfunding. which inhibits accomplishment and frustrates the committed.

The budget is not simply one facet of a plan, nor is it merely an expression of organizational policy; it is also a control mechanism. The budget serves as a standard for comparison, a baseline from which to measure the difference between the actual and planned uses of resources. As the manager directs the deployment of resources to accomplish some desired objective, resource usage should be monitored carefully. This allows deviations from planned usage to be checked against the progress of the project, and exception reports can be generated if resource expenditures are not consistent with accomplishments. Indeed, the pattern of deviations (variances) can be examined to see if it is possible, or reasonable, to forecast significant departures from budget. With sufficient warning, it is sometimes possible to implement corrective actions. In any event, such forecasting helps to decrease the number of undesirable surprises for senior management.

Budgets play an important role in the entire process of management. It is clear that budgeting procedures must associate resource use with the achievement of organizational goals or the planning/control process becomes useless. If budgets are not tied to achievement, management may ignore situations where funds are being spent far in advance of accomplishment but are within budget when viewed by time period. Similarly, management may misinterpret the true state of affairs when the budget is overspent for a given time period but outlays are appropriate for the level of task completion. Data must be collected and reported in a timely manner, or the value of the budget in identifying and reporting current problems or anticipating upcoming problems will be lost. The reporting process must be carefully designed and controlled. It is of no value if the data are sent to the wrong person or the reports take an inordinately long time to be processed through the system. For example, one manager of a large computer company complained that, based on third-quarter reports, he was instructed to act so as to alter the fourth-quarter results. However, he did not receive the instructions until the first quarter of the following year.

In Chapter 5 we described a planning process that integrated the planning done at different levels of the project. At the top level is the overall project plan, which is then divided and divided again and, perhaps, still again into a "nest" of plans. Project plans were shown to be the verbal equivalents of the WBS. If we cost the WBS, step by step, we develop a project budget. If we cost project plans, we achieve exactly the same end. Viewed in this way, the budget is simply the project plan in another form.

Let us now consider some of the various budgeting methods used in organizations. These are described in general first, then with respect to projects. We also address some problems of cost estimation, with attention to the details and pitfalls. We consider some of the special demands and concerns with budgeting for projects Finally, we present a method for improving one's skills at budget estimation, or estimation and forecasting of any kind. Printouts of project budgets from PM software packages will be shown in Chapter 10 where we cover project management information systems.


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Project Management Made Easy

Project Management Made Easy

What you need to know about… Project Management Made Easy! Project management consists of more than just a large building project and can encompass small projects as well. No matter what the size of your project, you need to have some sort of project management. How you manage your project has everything to do with its outcome.

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