PMI PMP Exam Prep PMI Mile High Chapter North Area Study Group

1. PMI PMP Exam Prep PMI Mile High Chapter North Area Study Group Cost Presentation Prepared by Denise Robertson 8 March 2003 Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

2. Cost Estimating • Concepts for working with cost estimates: • Estimates are resource driven and based on the WBS • Estimates should be made by person responsible for the work • Estimate accuracy is improved by historical information Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

3. Cost Estimating • Concepts for working with cost estimates (continued): • Costs should be managed to cost estimates (“toe the line”) • A cost baseline should be kept and not changed except for project changes • Plans should be revised as necessary during work Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

4. Cost Estimating • Concepts for working with cost estimates (continued): • Corrective action should be taken when (cost) problems occur • Management estimates should not be taken at face value; the PM is responsible for performing his own estimates and reconciling any differences Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

5. Earned Value Analysis • Measures scope, time project performance • Integrates cost, time, scope • Can be used to forecast future performance and project completion date • EV charts are in texts. You may want to substitute them for old terminology “placemat” features or use the following to match the placement format. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

6. Cost Estimating Terms Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

7. New Placemat EV Chart Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

8. New Placemat Cost Analysis Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

9. New Placemat Schedule Analysis Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

10. New Terminology Formulae(table slightly expanded) Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

11. Types of Cost Estimating Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

12. Analogous Estimating • Advantages • Quick • Less Costly • Tasks need not be identified • Causes overall project costs to be capped • Disadvantages • Least accurate • Difficult to use for projects with uncertainty • Risks management politicking Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

13. Bottom-up Cost Estimating • Advantages • Most accurate • Gains buy-in from team • Provides basis for monitoring and control • Disadvantages • Time intensive • Encourages padding • Risks team politicking Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

14. Earned Value Associations • Per Mulcahy, the PMP exam associates • “Measure project performance continually.” • “Refine control limits.” • “Evaluate the effectiveness of corrective action.” with the controlling process group so consider thinking of them with EV. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

15. Resource Planning Activities Pertaining to Cost Estimation • Construct responsibility assignment matrix • Intersection of WBS and OBS (Organization Breakdown Structure) • Identification of management leads and WBS resources • Calculate staff availability • Calculate amount of work that can be completed within a given period of time • Work = (total hrs. * availability) * efficiency where efficiency is .70 Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

16. Resources and Cost Estimating • Cost estimating involves developing an approximation of the cost of resources needed to complete project activities • Cost estimating is resource driven • Resource requirements are based on quantities of each element at the lowest level of the WBS. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

17. Estimating Accuracy Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

18. Forecasting Concepts • Learning Curve: Over time the total cost will rise, but the cost per unit will drop because repetition increases efficiency. • Law of Diminishing Returns: Over time, adding more resources may increase overall output, but will eventually decrease individual productivity. • Adding twice as many people to the same task may not cause the task to be finished twice as fast. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

19. Project Selection Tools • Project Selection Tools are used to evaluate whether to go forward on Cost Estimating Phase. Tools include: • Payback Period (PBP) • Cost Benefit Analysis • Present Value/Future Value (PV/FV) • Net Present Value (NPV) • Internal Rate of Return (IRR) • Return on Investment (ROI) Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

20. Payback Period (PBP) • PBP is speed of financial return expressed as number of time periods required to recover investments before profit starts to accumulate. • If NPV > PBP then ignore PBP Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

21. Cost Benefit Analysis • Cost Benefit Analysis determines the Benefit to Cost Ratio (BCR) in which benefits are revenue or “payback” • If BCR > 1 then Benefits > Costs • If BCR = 1 then Costs = Benefits • If BCR < 1 then Costs > Benefits Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

22. Present Value and Net Present Value • Present Value (PV) is the value today of future cash flows. • Net Present Value (NPV) is the present value of the total benefits (income or revenue) minus the costs. • NPV is normally used to evaluate project candidacy. • A higher NPV is the better choice between projects because it means a better return. • On exam questions, the time factor of the NPV is already calculated into the NPV, so choose higher NPV and ignore additional time data in question. • If the Payback Period (PBP) is less, the NPV takes precedence in evaluation. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

23. PV and NPV Formulae • You will probably not be expected to calculate according PV and NPV formulae on the exam. • PV = FV / (1 + r)n or PV = CF / (1 + r)n • NPV = CF0 + CF1/(1 + r)1 + CF2/(1 + r)2 + CF3/(1 + r)3… CFn/(1 + r)n • Where FV is future value, CF is future Cash Flow, r interest Rate, and n is number of time periods Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

24. Internal Rate of Return (IRR) • IRR is the rate of interest at which revenues and costs are equal. • NPV = 0 • Higher IRR is better than lower IRR • Used to compare multiple projects • In good investments: IRR > Business Cost of Capital or Discount Rate Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

25. Return on Investment (ROI) • ROI = Income / Invested Capital • Measures overall effectiveness of generating profits with available assets. • Higher ROI is better than lower ROI Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

26. Cost Considerations • 3 types of project costs to consider: • Life Cycle Costing (cradle-to-grave) • Opportunity Cost (cost of next best project) • Sunk Costs (monies already spent) Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

27. Life Cycle Costing(cradle-to-grave) • Concept that PMs should not manage project costs to the exclusion of overall costs for Operations and Maintenance Phases. • Project costs may be low at the expense of costs for the rest of the life of the project. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

28. Opportunity Cost(cost of next best project) • Impacts cost estimating by reducing options to perform other projects. • Value of the project that was not selected or the “cost of the lost opportunity.” Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

29. Sunk Costs (monies already spent) • Sunk costs should not be considered in the estimating process. • Never use them. Bad Project Manager, bad, bad! Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

30. Cost Budgeting Definition • Cost Budgeting is allocating the overall project cost estimates to the individual work packages and activities to establish a Cost Baseline for measuring project performance. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

31. Cost Budgeting Concepts • An estimate is an approximation • A budget is what you’re allowed to spend • WBS must be deliverable based • Assign costs to deliverables • Cost budget may be described by a cumulative S curve mapping cost of deliverables against time period Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

32. Cost Budgeting Activities • Establish control accounts • Delineate accounting categories • Establish management reserves • Forecast cash flows • Create cost baseline Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

33. Control Accounts • Used in Cost Budgeting to divide WBS into cost packages to facilitate one or more cost baselines through: • cost assignment • schedule tracking • cost control • reporting Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

34. Accounting Categories • The following Accounting Categories are delineated during Cost Budgeting for consideration by PMs: • variable vs. fixed • direct vs. indirect • recurring vs. non-recurring • capital vs. expense, (I.e., durable vs. consumable) Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

35. Managerial Reserves • Provided for risks outside defined project scope (Unknown-Unknowns) • Not controlled by PM • Granted through Change Control Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

36. Cash Flow Forecasting • Forecasting cash flows that can be demonstrated as a cumulative S curve of cost vs. time for deliverables on a time based budget is a Cost Budgeting activity. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

37. Cost Baseline • The Cost Baseline is an output of the Cost Budgeting process that can be represented as a performance measurement baseline cumulative S curve showing budgeted cost of work scheduled and cumulative planned value. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

38. Depreciation Definition • Depreciation is the indirect cost of an asset’s (piece of capital equipment’s) value over time. • The most common form of depreciation is Straight Line Depreciation (SL) in which the same amount is taken each year. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

39. Forms of Depreciation Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

40. Cost Control and Firefighting • Fire prevention by influencing the factors which create changes to the cost baseline to ensure that the changes are beneficial. • Fire detection by determining that a cost baseline has changed and… • Fire fighting by managing actual changes when and if they occur • Cost Budget := Cost Plan Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

41. Cost Flow Analysis • Projects cash flow in and out of a project on a monthly basis • Uses 2 types of cost accounting systems: • Cash based • Accrual based • Is a method of measuring project progress Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

42. Cost Accounting Methods • Cash Based Cost Accounting • Can have its own baseline • Accounts for cash when it leaves hand • Used by Finance Department • Accrual Based Cost Accounting • Can have its own baseline • Check based accounting for cost at time liability is incurred • Used by Project Management Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

43. Pareto’s Principle • 20% of the work packages account for 80% of the cost variances. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

44. Measuring Progress of Individual Tasks Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

45. Risks • Unknown-Unknowns: unknown risks outside the defined Project Scope • Known-Unknowns: known risks • See Risk sections of study guides for complete discussion and be aware unknown-unknowns and known-unknowns are sometimes referred to in Cost section of PMP exam. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

46. Managing Change • Crashing: adding more resources to critical path tasks while maintaining scope. Usually results in increased costs. If a project is already late, do not crash. • Fast Tracking: doing critical path tasks in parallel that were originally planned to be performed in series. Usually results in increased risk. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials

47. Managing Tasks • Leveling: Resource leveling is using network analysis in which schedule decisions are driven by resource management concerns. Leveling lets schedule and cost slip in favor of having a stable number of resources each month. • Floating is delaying a task without delaying the project completion. Information quoted or derived from PMI, Mulcahy, and Looking Glass Development's PMP exam prep materials