Chapter 9. Budget and Procurement
9.1 Project Costs
One of the criteria for project success is completing the project within budget. A critical project management skill is developing and controlling a project budget to accomplish the project objectives. Although stakeholders expect the project to be executed effectively and efficiently, pressures to remain within budget vary based on the unique constraints and priorities of the project. On some projects, the project completion date is the highest priority, leading to a more flexible budget that accommodates the inflexible deadline. Moreover, the project’s scope may be scaled back if it is too ambitious to finish in time. On other projects, for example, ones with limited funding available, remaining within budget is the highest priority. Effective cost management is imperative when this is the case, and trade-offs with scope, quality, and/or time may be required.
9.1.1 Project Failures Due to Project Costs
One of the notorious examples of project budget overrun is Boston’s Big Dig project although its outcome had significant benefits for Boston residents by lowering traffic jams and pollution[1]. Central Artery/Tunnel Project, the project’s official name, was the largest, most challenging highway project in the history of the United States. This project aimed to reduce traffic and improve mobility in one of America’s oldest, most congested major cities. Although the project had been planned in the 1980s, it was completed in 2007. Its original completion was scheduled in the late 1990s, and its original cost was estimated to be about 3 million dollars[2]. However, including the interest to be paid, the total cost was estimated to be 24 million dollars[3]. As listed by Greiman and Warburton (2009)[4], common causes for cost escalation on the Big Dig included the failure to include a cost for inflation in each contract, delays in project completion, and the actual inflation rate greater than the planned estimate. Other factors that impacted the Big Dig were financing shortfalls and interest rates, scope changes, shortages of materials and labor, price increases and market changes, weak project managers, technical and design complexity, unexpected events and force majeure, and political and legal risks.
The Big Dig project is considered a mega project. Unfortunately, many mega projects suffered a substantial cost overrun as well as other problems regarding the scope, schedule, risks, and resources, leading to cost overruns. However, smaller projects, even our personal projects such as moving to another house and going on a summer vacation, may experience problems with the cost. When problems start in a project, the sponsor, clients, and other stakeholders first realize the abnormality in the budget, which explicitly reflects something going bad. The more money we spend over the estimated budget, the more it hurts the stakeholders since the financial assets of a project, organizations, and individuals can be analogous to the blood of a living thing.
Some of the reasons why projects fail to keep themselves on track concerning their budget can be outlined below:
- Project activities may not be identified in accordance with the project objectives and product scope. For example, if the project manager doesn’t include the travel and accommodation expenses required for the factory test in another city or country.
- The duration of project activities may not be estimated correctly, thus leading to shorter or longer duration. For example, if an activity’s duration is determined as one week, which requires at least two weeks to complete all the tasks, an additional week would lead to more labor and material costs.
- Underestimation of costs per activity and resource. Let’s assume that the minimum hourly wage of a systems analyst is currently $30, and it is difficult to find one who can accept a wage below $30. However, we take into account the costs of a similar project which was completed two years ago. Thus, we estimated $20 per hour for a systems analyst. If two analysts work for 100 hours in total, this underestimation could cause us to spend an additional $1,000 in the best scenario.
- Risk identification is an essential process during the planning phase. If risks cannot be identified properly (see Chapter 10), for instance, if a risk that may put the project in jeopardy is overlooked, we will need to allocate an additional budget in case the risk occurs. Worse, the project may fail, which cannot be saved with an additional budget.
9.1.2 Project Cost Types
There are generally three different types of project costs:
- Direct costs
- Project-induced overhead costs
- General administrative costs
The primary difference between these costs is how closely related they are to the project’s specific activities.
Direct costs are directly related to specific project tasks. These costs represent the labor, time, and materials associated with specific tasks. If a software developer works on our m-commerce project for 40 hours, each hour they work on coding the mobile application will be a direct cost. These are generally variable costs, as for software developer costs.
Project-induced overhead costs are incurred due to the project’s existence but are not directly related to specific tasks. These costs represent the compensation paid to individuals supporting the project, such as the project leader and their support staff (project analysts, coordinators, etc.). These costs also represent materials, facilities, and related equipment purchased to support the project in general. The rental and maintenance of workspace for the project team members, as well as their computers and related information technology, supplies, and lunch (if provided), are all examples of overhead costs. If we rent an office for the developers and testers to work together, this fixed cost would also be a direct cost.
Lastly, general administrative costs are indirectly related to a project and are incurred even if the project is not carried out. Examples of this type of cost include marketing, human resources, and accounting department-related expenses. These departments may provide ad-hoc and minimal support to the project teams. As a result, the project sponsors may want a portion of their costs allocated to all projects underway in the organization. Allocating a portion of the costs to the project provides the executive with a full picture of all costs incurred due to the implementation of strategic change initiatives in the organization. Since the allocation methods are often very subjective, many organizations exclude general administrative costs from the project budget.
It is important to note that some projects require the direct involvement of these administrative functions. This should be clearly identified in the project’s work breakdown structure. For instance, a project that involves introducing new technology will alter how people work, and this may require members of the human resources department to reevaluate existing job descriptions, compensation levels, and so forth. In this instance, the human resources function is a work package, and the costs associated with their work are direct costs.
- The Big Dig: project background. (n.d). Highway Division - Massachusetts Department of Transportation. Retrieved from https://www.mass.gov/info-details/the-big-dig-project-background ↵
- Retrieved from https://interestingengineering.com/7-big-facts-about-the-big-dig ↵
- Tran A.B. (2014). Federal spending on Massachusetts transportation over time. Retrieved from https://www.bostonglobe.com/2014/12/05/federal-spending-massachusetts-transportation-over-time/eIx7CAnnHS33eaIFbuinIM/story.html ↵
- Greiman, V. & Warburton, R. D. H. (2009). Deconstructing the Big Dig: best practices for mega-project cost estimating. Paper presented at PMI® Global Congress 2009—North America, Orlando, FL. Newtown Square, PA: Project Management Institute. ↵
