COSTING & BUDGETING OF A PROJECT

COSTING & BUDGETING OF A PROJECT

Some projects are relatively straightforward to cost but most are not. Even simple figures like the cost per man/hour of labor can be incredibly difficult to calculate and in most cases approximations are used. Some fundamental principles to keep in mind are derived from standing accounting practice as below:

The Concept of 'Prudence'  - You should be pessimistic in your accounts (“Anticipate No Profit and provide for all possible losses”). Provide yourself with a margin for error and not just show the best possible financial position. It’s the old maxim: promise low-deliver / high once again.

The 'Accruals' Concept     - Revenue and costs are accrued or matched with one another and are attributed to the same point in the schedule. For example if the costs of hardware are in your budget at the point where you pay the invoice, then ALL the costs for hardware should be “Accrued” when the invoice is received.

The ‘Consistency’ Concept - This is similar to accruals but it emphasizes consistency over different periods. If you change the basis on which you count certain costs you either need to revise all previous finance accounts in line with this or annotate the change appropriately so people can make comparisons on a like-for-like basis.

Costing

At a basic level the process of costing is reasonably simple. You draw up a list of all your possible expenditure and put a numerical value against each item; the total therefore represents the Tangible Cost of your project.

Tangible Costs

Capital Expenditure - Any large asset of the project which is purchased outright. This usually includes plant, hardware, software and sometimes buildings although these can be accounted for in a number of ways

Lease Costs - Some assets are not purchased outright but are leased to spread the cost over the life of the project. These should be accounted for separately to capital expenditure since the project or company does not own these assets

Staff costs  - All costs for staff must be accounted for and this includes (but is not limited to): Salary and Pension (superannuation) costs; insurance costs; recruitment costs; anything which can be tied directly to employing, training and retaining staff

Professional services  - All large-scale projects require the input of one or more professional groups such as lawyers or accountants. These are normally accounted for separately since a close watch needs to be kept upon expenditure in this area. Without scrutiny the costs of a consultant engineer, accountant or lawyer can quickly dwarf other costs

Supplies and Consumables  - Regular expenditure on supplies is often best covered by a single item in your budget under which these figures are accrued. 

One-off costs - One-off costs apply to expenditure which is not related to any of the above categories but occurs on an irregular basis. Staff training might be an example. While it might be appropriate to list this under staff costs you might wish to track it independently as an irregular cost. The choice is yours but the principles of prudence and consistency apply.

Overheads – Sometime called indirect costs, these are costs which are not directly attributable to any of the above categories but never-the-less impact upon your budget. For example it may not be appropriate to reflect the phone bill for your project in staff costs, yet this still has to be paid and accounted for. Costing for overheads is usually done as a rough percentage of one of the other factors such as “staff costs”.

Intangible Costs

It has become fashionable to account for “Intangible” assets on the balance sheets of companies and possibly also projects. The argument goes like this: some contributions to a project are extremely valuable but cannot necessarily have a tangible value associated with them. 

Typical things you might place in the budget under intangibles are “Goodwill” and “Intellectual Property”. Personnel-related figures are a frequent source of intangible assets and so you might find things like “Management Team”, “Relationships” & “Contacts” on an intangibles balance sheet.

Budgeting

Once you have costed your project you can then prepare an appropriate budget to secure the requisite funds and plan your Cash Flow over the life of the project. An accurate cost model will of course entail a fairly detailed design or at the very least requirement specification so that you can determine your scope of work. This is normally completed well into the design phase of the project.

The sad truth of the matter however is that more often than not you are required to prepare some sort of indicative budget before approval of the project and you are often held to your original estimates. You must be extremely careful with initial estimates and always follow the “Promise Low / Deliver High” commandment.

Costing and Budgeting follow the Iterative life cycle as do other tasks within the project. As you refine your design, so you will need to refine the costing which is based upon it. As in scheduling, you need to build in adequate contingency (reserves) to account for unexpected expenditure. For example, if due to a failure in the critical path a task is delayed and a milestone (like software purchase) falls due in the month after it was scheduled. This can wreck your carefully planned cash flow. But if you have carefully budgeted your project then variations should be relatively easy to spot and cope with as they arise.