How to estimate the project cost



The article talks about:

The essence of project cost estimatingTypes of costs in a project5 methods of project cost estimation5 basic principles of estimationEstimate and budget of the project
How to estimate the project cost

Project cost estimation is the process, without which the very realization of the idea becomes impossible. No one starts a business without preliminary calculations, such a short-sighted decision is a direct route to bankruptcy.

In addition, the answer to the question of how much it will cost to implement the idea is often important not only for the entrepreneur. Often a business can only be organized with the help of outside investors. And to make things work, these people or organizations need to provide complete information on the topic.




Why project cost estimation

Cost estimation refers to the process of estimating all the probable costs by which the entire project can be successfully implemented.

Project cost estimating is not limited to any one calculation, but continues throughout the entire project. Before work begins, a pre-project or conceptual estimate of their cost must be made.

It is clear that this calculation is very relative, although as close as possible to the desired result. The value of the initial estimate of the project cost may differ from its real price by an average of 50% with possible deviations in both directions. This difference is associated with constantly occurring risks.

Therefore, in the process of phased implementation of activities, there is a need to improve the accuracy of cost estimation of project development. According to statistics, the estimated cost comes as close as possible to the true value of the estimate and has a deviation from -10% to 25%.

How to estimate the project cost

By the time there is an agreed base price of the project, the final cost estimate should be done. Its value has a minimum variation of 5-10 % compared to the real values.

To calculate the cost figures, the manager should have all the necessary information about the project. At the initial stages it will be enough to have a Charter or a hierarchical structure of the project activities. At later stages of the calculation these data will no longer be enough, so it is necessary to provide an agreed project schedule.

At different iterations of the cost estimation its value is obtained differently. An enlarged value can be obtained when you already have a project idea and an approximate plan for its implementation. As you develop a clear understanding of the stages of the project, more information becomes available to provide a more accurate estimate.

Why is it impossible to make an accurate estimate of the cost of project implementation in the early stages? Because in the early stages of project formation there is no clear understanding of the real scope of work to be done. And to spend extra resources to calculate the exact cost is simply not reasonable, especially since the need for such a calculation will appear much later.




Types of costs in the project

During the implementation of the project inevitably there are costs that can be divided into three groups.

Obligations

The first group should include obligations - these are costs that arise as a result of signing agreements or contracts, ordering a variety of goods / services. And the amounts to be paid are known in advance. On the basis of the signed documents, suppliers issue an invoice, which the customer is obliged to pay.

The timing of payments on obligations can be different, are negotiated and agreed upon by all parties involved. The most common are:

full or partial prepayment;payment after signing of final documents (an act of fulfilled works, an acceptance certificate of goods, etc.);Payment upon production or delivery of materials;payment in accordance with the financial policy of the company, both on the part of the customer and on the part of the supplier.

Depending on how the company organizes its accounting, budget adjustments for the amount of confirmed obligations are made either immediately or later. Some organizations do not account for the costs of signed contracts until they receive an invoice or make payment on it.

With this development, the project manager has a distorted budget to analyze the situation, which will be a hindrance when determining further action.

Budgeted Costs

To the second group of costs are budgetary, which are prepared on the basis of the estimated cost and allocated in accordance with the calendar plan of work. In other words, it is the initial cost plan with information containing the planned amounts and timing of payments required to perform the work.

Actual costs

The third group of costs are the actual payments, according to which a full picture of the financial costs of the project is drawn. These costs are incurred during the implementation of the project works, when paying the invoices issued to the company, when making financial payments.

Giving an estimate of the current cost of the project, sum up absolutely all the costs that were spent during the implementation of the work. These include:

materials;components;payments for rent of areas, equipment, transport, etc.;leasing payments;labor costs;the cost of consumables;cost of personnel training and probation;logistics costs;expenses for business trips of employees;The cost of organizing seminars, conferences, meetings;entertainment expenses.
How to estimate the project cost

In order to correctly reflect the actual costs, the project manager will need the assistance of a competent employee of the estimate department or the involvement of line employees of each production vertical, who will carry out the necessary activities within their authority.




5 methods of estimating project costs

There are various methods for estimating project costs. In practice, the following are widely used:

Parametric estimation method

Already from the name it becomes clear that this method of cost estimation uses the statistical dependence between different parameters, which are obtained by analyzing historical data, and the operating cost. In this way, the cost of work is normalized. For example, the cost of 1 person/hour of work of a specialist, the cost of building 1m2 of living space, etc.

When calculating the cost per unit of production, certain, generally accepted formulas are used, and when determining the cost of the entire amount of work performed, the initial data is the cost per unit of production.

The estimation of the cost by analogy with the similar works, which were already realized in the course of this project or realized in other projects

The estimation by analogues can be realized to all works at once or can be used together with parametric estimation of project cost. In the second case, there must be information about the previously performed similar works, but in different volumes or under changed conditions. The main advantage of this method of cost estimation is increased accuracy.

The explanation is quite simple - not only the planned value of the work under analysis is known, but also its actual value. Based on the presence of a significant difference between the planned and actual values, the project manager can take the necessary actions.

The method of estimating the cost of a large amount of work "bottom-up" consists in summing up the estimates, typical of the small components, of the work being evaluated

If the hierarchical structure of the work is developed accurately and in detail, then the cost estimates of the project will also be accurate and correct. This method is the most accurate, which is confirmed by practice.

As an example, we can take the process of transferring the server to the customer. Like any other equipment, the server before the transfer needs to be tested. The cost of this process is the cost of normal testing, testing at maximum loads and a number of other standard procedures.

There is also the reverse top-down method

Compared to the previous method, this method is not as accurate. It is mainly used in cases where there is no detailed hierarchical structure of the work, there is not enough information about the materials and components that are needed to carry out the work. The process of cost estimation is similar to the previous method, only in reverse order.

First of all, the entire volume of work is evaluated in an aggregated format, and then it is broken down into its component parts - by type of work, by contractor, by place of production, etc. Most often, the evaluation is performed in such a way at the initial stage of the project. In the period when the project expediency is being decided, whether it is worth spending money for more accurate planning and evaluation.

How to estimate the project cost

Method of analysis of proposals from different performers

This method is relevant if the work can be done by several organizations. The terms of reference are sent to all potential contractors. In the commercial proposals received from them, the deadlines for performing the work, the price for each operation and the total cost of the work, as well as other conditions are spelled out. With the information from the performers, the project manager can perform a cost estimate.

The choice of cost estimating method depends on the specific details of each project, the manager's qualifications, and other criteria. For example, a good result when using the bottom-up method of cost estimation requires a well-developed hierarchical structure of works. By the way, this criterion is not superfluous in other evaluation methods. In its absence, the top-down method should be used.




The 5 basic principles of evaluation

The project manager should strive to improve the quality of the value estimating process. To do this, there are 5 basic principles that he should adhere to:

The "best responsible" principle. Its essence is that the best person to estimate the cost of the upcoming task will be the one who is best versed in it. Often the executor becomes the optimal responsible. After all, no one knows the solution better than he does, because only he has the necessary knowledge, and what is important - experience. By involving the performers at the planning stage, the project manager develops their motivational message and teaches them to work for the result.

The principle of "independence". It is based on the fact that the evaluation of the cost of the various works and its constituent operations is carried out independently of the evaluation of the works that are associated with them. Simply put, each work is considered independent of the other processes. Connections between activities and processes, and risks and deviations arising as a result of this connection, are taken into account in the analysis of information at further, more detailed, planning.

The principle of "adequacy of conditions". Evaluating and calculating the upcoming work, the specialist must proceed from the fact that he has the resources in the required quantity, the methods of work performance are applied in the most effective way, and the implementation takes place in adequate conditions. Such calculations are characteristic of the optimistic scenario. If it is necessary to obtain refined estimates, it is necessary to take into account the possible limitations of the project. This can lead to an understandable increase in the estimates.

The principle of "recognizing risks". In the implementation of any project, it is very difficult to achieve a perfect process. There are always risks of unforeseen circumstances that can have a significant impact on the final cost and timing of the work. Therefore, there is a practice to include provisions for risks in the cost estimate. But this value should not be taken from the "ceiling", but should appear as a result of detailed analysis and calculation. If the value of risks is included simply for safety precautions, it is a sign of ineffective planning, leading to an increase in the economic assessment of the project cost.

The principle of "the right to error". He who does nothing is not wrong. Any action can be done with an error, and the expert must minimize its consequences. In the case of the practice of penalizing the probability of making a mistake, there will be a fair amount of backing up in the planned data sets. This is the natural reaction of man, "so I don't get punished, I'll make more, and then that will be enough. This is a pessimistic development of the process, in which, despite the inherent margin, no savings will appear. According to Murphy's Law, "Any budget will be spent in full.




Project Estimates and Budget

Any project is not limited to just one estimate. Estimates come in:

Local - refer to primary documents that reflect the calculation and evaluation of the cost of both materials and work, at the current pricing level or with a projected price value.

Object - a document which reflects all cost estimates and calculations for a specific object or objects at the current or base price level.

Estimates for certain types of costs - reflect cost estimates and calculations for those costs which are not considered in the estimated standards. It can be additional payment of bonuses for early delivery of the object, payment of compensations and privileges, payment for auditor's services, etc.

Summary Estimate - the final document, which reflects the full cost of the project, combining all the above estimates, in current or forecast prices.

There is a practice according to which an explanatory note should be attached to the final document. With her help, the ill-informed people will be easier to understand and navigate in the document.

To summarize the concept of an estimate, we can conclude that this is a document reflecting the information about the necessary amount of funds and what they will be used for during the implementation of the project.

The project budget is the main planning document, which defines the planned indicators of the project. The project budget development stage will provide an answer to the question "when should money be spent and when can it be spent".

Developing an entire budget, complete and real, almost never succeeds the first time. It is subject to constant edits and adjustments over the course of the project. There are several types of budgets, depending on the stages of the project and the purpose. Each type has its own accuracy, but gradually, with the input of refining data, the margin of error is reduced.

The budgeting process is the structuring of the costs of the project being implemented in accordance with the chart of accounts of cost accounting. The budget can be structured by:

by accounting periods;by cost items;by type of work;by probable risks;by other indicators.

Simply speaking, budgeting is the planning of the project cost, and its result is the budget, from which it becomes clear: how much, when and for what the financial resources will be spent.

Typically, the project budget is calculated in parallel with the development of a calendar plan, because without knowing the timing of this or that operation, it is impossible to correctly form the budget.

The budget differs from the estimate in having not only the part of the funds that is planned to spend, but also the part that generates revenue.

The most common form of budget presentation is a table. Sometimes, charts or bar charts are used for better understanding. The project manager must track and monitor budget execution.

Summarizing all of the above, you can understand that in any project, its manager is important to choose the right approaches to assess its value. Professionalism, regular consultations with customers, the use of different types of project cost estimation will reduce the risk of errors in its implementation.

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