Your cost estimates forecast the amount of money needed to complete a project. This information is crucial because it helps you decide if it is worth bidding for the project. The numbers make the difference between whether it’s worth pursuing the project or not. Good project costings help you make informed decisions about which projects to progress and which won’t have a sufficient return on investment. Accurate project costings help you prioritize profitable projects. They are also essential for securing funding for projects, and they provide the baseline for project managers to track financial performance.
But how do you get accurate project costs? Here’s our quick guide to the 5 steps for accurate project costing.
1. Understand the scope of the work
First, you need to understand what it is the project is going to deliver. Start with the client’s brief. Use what you already know to create a work breakdown structure. This is a graphical representation of the work to be done. It’s useful for highlighting the different areas of project scope, the tasks and effort required. Involve the project team and subject matter experts, the client (where you can, at this stage) and any other stakeholders in the discussions. Your aim is to get a complete picture of what’s needed to deliver the project so you know what you need to estimate. You should end up with a graphic or list of the full scope of the project: everything. These are all items that need financial figures against them, and that’s what the next step is about.
2. Estimate the work
Next, estimate the work. Take each item on the project scope list you put together in Step 1 and work out the financial cost of it. Guesstimates aren’t good enough. You need accurate estimates to put together an accurate project budget.
There are a number of different estimating techniques. These are the most common:
- Parametric estimating: Good for work that has repeatable chunks which can be costed per unit
- Analogous estimating: Good for when you have similar past projects and can use their actual budgets as a basis for your estimate
- Bottom up estimating: Good for when you have a complete picture of all the work and can cost each individual element at a granular level
- Expert judgement: Good for when you trust your subject matter experts to be able to estimate accurately, based on their prior experience and knowledge
- Three point estimating: Good for when you want to allow for best, worst and most likely scenarios or you have a number of subject matter experts telling you different things.
You don’t have to use the same estimating technique for each project element. Use the approach that make the most sense depending on what you are estimating. Compare your estimates back to the list of project scope items.
Have you included everything? Here are some typical cost categories you can use to cross-check nothing has been forgotten:
- Labor
- Equipment and materials
- Professional services that you need to procure e.g. legal fees
- Software
- Hardware
- Facility rental.
As you write down the estimates, document any assumptions made. At this point in any project, there will be things you don’t yet know. Later on you’ll be able to review the assumptions made and see if they still hold true. If they don’t, you may need to revise your costs, and it’s helpful at this point to be able to refer your client back to those original assumptions. When you have finished estimating, add up your totals. You’ll have an overall cost for the work that needs to be delivered.
3. Include all other costs
This is the step many project managers miss out. You’ve costed the project work, but what about everything else? Projects are made up of a mix of direct cost and indirect cost. Depending on how your finance team expect you to budget, you may have to include indirect costs in your project financial estimates. Indirect costs are items like heating and lighting, subsidized snacks, building security costs. They are items that cannot be easily attributed to an individual project and your project may need to include a share of these charges.
Other costs your project should consider include:
- Staff recruitment and onboarding, especially if you need specific skills not available in the team currently
- Training
- Tax
- Costs related to risk management actions
- Fees related to decommissioning old products that are being replaced by your project e.g. secure disposal of old computer hardware etc.
Talk to your finance team to see if there are standard charges you need to budget for. You may not be able to charge these to the client directly, but they all eat into your margin.
4. Add contingency
However good you feel your estimates are, it’s always sensible to add reasonable contingency. Contingency is an amount of money added to the budget to be used for unforeseen situations, such as emergency change requests or currency and pricing fluctuations due to market forces. The amount of contingency your project needs depends on the complexity and certainty of the work. If you know what you are going to do, and have experience doing very similar things, you can assume your budgeted costs are accurate. If you are about to embark on a unique and uncertain program, with a high degree of risk, you’ll want to budget more contingency. You can always release contingency funds later if they aren’t needed. Agree an amount of contingency to add to the costs you have so far. Make it explicit and transparent, and agree how it will be accessed if it is needed.
5. Review, review, review
By this point, you are probably so close to the numbers that you wouldn’t be able to spot mistakes. Take a break from it. Come back to your spreadsheets and software so that you can look at the figures with fresh eyes. At the same time ask other people to review your project costings. Get a second, or even third, review of the budget. Ask them to look at the assumptions. Challenge them to find something you’ve forgotten. It’s far better to uncover errors and omissions at this point than later in the project when a mistake means having to go to the project sponsor or client and ask for more money. Your manager, a trusted colleague, someone from the finance team or another project manager can review your numbers for you.
Once you’ve got a final set of project costs that are accurate and reliable, you can share these with the management team. However, here’s a bonus tip. It’s unlikely that you’ll incur all your costs in one go. Now you have a total amount for the project cost that seems accurate, work out how that will be phased across the life cycle of the project. This is a useful step because it helps clients manage cash flow – executives appreciate knowing how the budget breaks down over time!
You’ve created an accurate project costing. However, you’ll need to keep it up to date. Project costs evolve over time as you learn more about the project and can clarify some of those assumptions you made earlier. Keep your project costs under review using PSA software, regularly updating your actual figures and revising the estimates accordingly.
Good project financial data gives you more control over the project and helps with accurate billing. Learn how you can automate the whole time and expense process so that your costs always reflect the true picture in this webinar.