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COST ESTIMATING & BUDGETING

P R E S E N T E D BY:
JINAL LAD F021
M O H A K M E H TA F 0 2 3
KSHITIJ SHAH F043
PA L A S H S R I VA S TAVA F 0 4 9

What is cost estimating?

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Acost estimating is the approximation of

the costof a program, project, or operation.

Thecost estimatinghas a single total
value and may have identifiable component
values.

Why we use cost estimation?

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Planning
Controlling
Decision making
Implementing
Continuous improvement

Necessity of cost estimation

4

If cost estimation is higher ,contractor may

not land with the job

If it is underestimated, then contractor will
face the loss if project ends up at the higher
cost
It gives an idea whether the project is
economically viable or not
It gives an idea of amount of funds to be
gathered before project is executed

Cost Escalation
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The amount by which actual costs grow to

exceed initial estimates is referred to as cost

escalation.
Facts: 1) Some escalation can be expected, and up
to 20 percent is relatively common.
2) The larger and more complex the project,
the greater is the potential for escalation.

Reasons of Cost Escalation:-

1) Uncertainty and Lack of Accurate Information

2) Changes in Requirements or Design
3) Economic and Social Factors
4) Inefficiency, Poor Communication, and Lack
of Control
5) Ego Involvement of the Estimator
6) Project Contract
7) Bias and Ambition

Example: Escalation of the Bandra-Worli Sealink

Project
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January 1999Government Clears Worli-Bandra Cable
Bridge
February2001Worli-Bandra Sea-link Enters Crucial
Stage
October 2002Bandra-Worli Sea Link Toll To Be Costlier
October 2003Bandra-Worli Sea Link May Hit A Dead
End
January 2004Bandra-Worli Sea Link Project Under
Threat
July 2005Sea Link In Trouble Over Extension
May 2006Bandra-Worli Sea Link To Be Ready By 2008

Cost Escalation Graph

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1800
1600
1400
1200
1000

Planned cost
Actual cost

800
600
400
200
0

1999-2002

2002-2004

2004-2006

2006-2010

Cost estimation process

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Estimate versus Target or Goal

Classifying work ,tasks & costs
Expert judgment
Analogous estimate

-An analogous estimate is developed by

reviewing costs from previous, similar
projects. The method can be used at any
level: overall project cost can be estimated
from the cost of an analogous project; work
package cost can be estimated from
analogous work packages; and task cost can

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Example:
Estimating project costs by scaling an analogy project
Cost (proposed) = Cost (analogy)
[Capacity(proposed)/Capacity (analogy)]
Suppose a proposed plant is to have a 3.5 million cum
(cubic meter) capacity. Using an analogy project for a plant
with 2.5 million cum capacity and a cost of $15 million, the
estimated cost for the proposed plant is $15 million
[3.5/2.5]^0.75
= $15 million [1.2515]
= $18.7725 million.

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Case study: Underestimate using

analogous method
1) Two contractors lost 1 Billion Dollar in
10 years building first nuclear plant on
fixed price contracts
2)Error was assuming nuclear power plant
analogous to refineries and coal plants.
3)Costs of nuclear power plants increases
somewhat exponentially with plant size

 Parametric Estimate

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Example: If we consider a flyover of a highway which

has the same basic design as any other flyover
constructed ,to estimate for building a new flyover
the cost estimate can be done very easily by
comparing with the total cost spared for the existing
flyover .
A flyover of 0.5 km was built at Rupees 70 Cr ,so to
build a new flyover of 1.2 km it can be easily
estimated Rupees 168 Cr
- A parametric estimate is derived from an empirical
or mathematical relationship. The method can be
used with an analogy project to scale costs up or
down, or it can be applied directly without an

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Cost Engineering

- Cost engineering refers to a detailed cost

analysis of individual cost categories at the
work package or activity level.
Example:

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Contingency Amount: Contingency amounts are added to estimates to offset

uncertainty.

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Top-down versus Bottom-up

Reconciling Estimates
Reducing Costs

Life cycle costing

Considers entire life cycle of product from
start to finish
Provides important information for pricing
decisions
For example, if a mobile phone is built, if
the R&D costs are high for the company,
the repairs and maintenance cost to the
customer may be low; so the life cycle is
across the life of the product and
considers costs and impact on prices
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Life cycle costs

Upstream costs
R&D, design, prototyping, testing,
quality development

Manufacturing/Operations costs
Purchasing, manufacture/service

Downstream costs
marketing, sales and distribution,
customer service and warranty
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Life cycle costs

Product life cycle costs vary with industry
and nature of industry
R&D is not only at start of product life,
this may also occur at other stages, ie
development of additional features in
product
Life cycle may also depend on markets
targeted, ie country, region, socioeconomic background etc.
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Implementation of LCC
Identify stages in product life cycle
Identify target customer
Understand target customers
perspective and estimate need
Analyse cost and pricing in detail
Educate employees about LCC

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Implementation of LCC
Develop product and pricing structure
based on LCC
Create appropriate organisation structure
for implementation
Educate customer on LCC, eg. mobile
phone referred to in earlier slide
Focus on strategic marketing to address
customer requirements and needs, stated
and unstated
Continuous life cycle budgeting and
monitoring and modify/change as
required
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Life cycle costing benefits

Optimisation of profit over product life
Full set of costs associated with products
are ascertained
Most accounting systems capture
manufacturing costs
Other areas like R&D at start and customer
service as close do not get much importance

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Life cycle costing benefits

Differences in percentages in committed
costs at initial stage of business is
highlighted
The higher the initial costs, the more critical
it is for management to develop better
predictions about revenues

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Life cycle costing benefits

Interrelationships across cost
categories are highlighted
Many companies with high R&D &
product refinement costs may
experience less customer service costs
and vice versa. Such costs are often
hidden and affect quality of product

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Example: Life Cycle Costs for an Operational Fleet of

Spaceships
- A spaceline that will use and maintain the 4
spaceships with four passengers and a pilot is being
created for a start-up cost of $10 million. Operational
costs for the spaceline comprise two parts: annual
costs for ground operations (reservations, personnel,
ground facilities, etc.), and per-fl ight costs for fl ight
operations (fuel, parts, repairs, etc., for the spaceship
and the mothership). Ground operations costs are
placed at $2 million/year, and per-fl ight costs at $0.4
million/flight. What is the lcc for the venture?

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Assumptions:

-According to the given data lets assume that the

spaceship will do 20 flights/ year that is equal to 80
flights/year for 4 spaceships.
-As four passengers can be accommodate in a spaceship
therefore 320 passengers can travel in a year.
Solution
Costs:
Development and manufacturing: $80 million.
Spaceline start-up: $10 million. Ground operations: $2
million/year. Flight operations: $0.4 million/fl ight. Ticket
price: $190,000

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LCC Model
LCC ($ million) = Development & production cost

+ Start-up cost + Operating cost (5 years) = $80

+ $10 + ([5 y $2] + [5 y 80 flights $0.4])
= $260 million
Total revenues ($ million) = (5 y 80 flights 4
passengers $0.190)
= $304 million
Bottom line: Assuming the assumptions are
correct, revenues will exceed costs by $44 million.

Budgeting
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What is budgeting?

- Before starting a project a cost

estimation is required for the project
but when the estimations are approved
it becomes a budget.

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Budget share the following elements:

1)
2)
3)
4)
5)

Direct labor expense

Direct non-labor expense
Overhead expense
General and administrative expense
Profit and total billing.

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1) Direct labor expense:

-Direct labor expense is the labor charge for the
project. For each task or work package, an estimate is
made of the number of people needed in each labor
grade, and the number of hours or days for each. This
gives the distribution of labor hours or days required
per labor grade.
2) Direct non-labor expense:
-Direct non-labor expense is the total expense of nonlabor charges applied directly to the task. It includes
subcontractors, consultants, travel, telephone calls,
computer time, material costs, purchased parts, and
freight.

Charge

Rate

1st month

2nd
month

3rd
month

Total
hours

Total
cost

Direct labour
-professional
-Associate
-Assistant
Direct labour
cost
-Labour
overheaded
-other direct
cost
Total direct
cost
General/Admi
nistrative
Total costs
-Profit

$35/hour
$30/hour
$20/hour

75%

50

50

3500

200

4000

100

100

1750

2000

2000

5750

1312

1500

1500

4312

100
10%

100

100

3,062
306

3,600
360

3,500
350

10162
1016

3362

3960

3850

11172

15%

Billing total
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Project Cost Accounting System

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A project is a system of sometimes hundreds or

thousands of elementsworkers, materials, and

facilitiesall which must be estimated, budgeted,
and controlled. To expedite the process, reduce
confusion, and improve accuracy, you need another
system; in particular, one to help compute
estimates, create, store and process budgets, and
track costs. Such a system, called a project cost
accounting system (PCAS), is initially set up by the
project manager, project accountant or PMO.

Time Phased Budget

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Simultaneous control of schedules and costs can be

difficult, and the project manager needs a way to

keep track of where expenses are accruing, how
well the project is progressing, and where problems
are developing. One way is with a time-phased
budget, which consolidates the project budget and
the project schedule; this budget shows how
budgeted costs are distributed over time according
to the project schedule.
Example : Construction Projects

Budgeting Using Control Accounts

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In small projects, budgeting and cost monitoring is

done using a single budget for the project as a

whole. On larger projects, however, a single,
project-wide budget is too insensitive; once the
project is underway and expenses begin to
accrue, it would be difficult to quickly locate the
sources of cost overruns. The better way is to
subdivide the project budget into smaller budgets
called control accounts or cost accounts. The
control account is the basic project tracking in the
PCAS. The accounts are set up in a hierarchy,
similar or identical to the WBS.
Example: Event Management Project

Cash Flow
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A problem the project manager often faces is maintaining

positive cash fl owi.e., assuring that the cumulative cash

inflows (payments received) exceed the cumulative cash
outflows (payments made). Ideally, differences between
cash in and cash out throughout the project will be small.21
The project manager must perform a juggling act, balancing
income from the client with expense payments for labor,
subcontractors, materials, and equipment. To help maintain
this balance the manager can, for example, take advantage
of the time lag between when materials and equipment are
acquired and the payments for them are required.

Summary
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Cost estimation and budgeting are part of the

project planning process. Cost estimation logically

follows work breakdown and precedes project
budgeting. Costs in projects have a tendency to
escalate beyond original estimates. The project
budget is subdivided into smaller budgets called
control accounts. Cost schedules are derived from
time-phased budgets, and show the pattern of
costs and expenditures throughout the project

THANK YOU