Transcript Document

Project Management
Lecture
Budgeting and Cost Control
Overview



Cost Estimation
Project Budgets
Project Costing




Cost Benefit Analysis
Payback
NPV
Cost Control
Cost Estimation - Factors

Hardware and Software costs



including maintenance
Travel and Training costs
Effort costs (costs of paying SW engineers)





Heating lighting and office space
Support staff (accountants, cleaners etc)
Infrastructure (network + communications)
Facilities (library, refreshments, recreation)
Social security, employee benefits, pensions etc
Salary and Overheads




Average Salary for Software Engineers
in the UK (2002) = £25,000
Average Salary for IT managers in the
UK (2002) = £50,000
Overhead is typically 2 x Salary
So a software engineer costs £75,000pa
CoCoMo




Constructive Cost Model
Uses lines of code as a measure
Assumes that the waterfall model of
software development will be used
For well understood applications
developed by small teams:

PM = 2.4(KDSI)1.05 x M
CoCoMo Example


How long will it take to produce 10,000
lines of code?
PM = 2.4(10)1.05 x 1 = 26.9PM
Cost is > £150,000
What if the Programmer(s) is(are) very
inexperienced
PM = 2.4(10)1.05 x 1.46 = 39.3PM
CoCoMo2



Uses Object points rather than lines of
code
Allows for different development
approaches
See Somerville “Software Engineering”
Chapter 23 for more detail
Cost Benefit Analysis


Compare the costs of carrying out a
project with the estimated benefits
Identify all costs


Development Costs
Running Costs – annual costs
Cost Benefit Analysis

Include all direct benefits of the project



Will normally accrue on completion – but not
always
May be annual benefits/savings
Express costs and benefits in a common unit


£, €, $ etc
What about intangible benefits?
Cost Benefit Analysis

Example layout
Project Costs


Direct Costs – Costs that can be
directly attributed to a project task
(labour, materials etc.)
Indirect Costs – Overheads that do
not directly contribute to the project
(rent, heating, lighting, admin)
Pricing vs. Costing

Price to charge for software
= Cost + Profit



Other factors may effect the pricing
e.g. competitive environment, loss leader
project
Pricing therefore involves:


project managers for costing
senior management for pricing strategies
Costs vs. Budget


Cost = how much it will cost to produce
system
Budget = how much you will be allowed
to spend on producing system
Top Down Budget



High level management set budget
against high level tasks
This is then divided amongst lower level
tasks – by lower levels of management
Generally results in:


Inaccurate low level budgets
Competition for available funds
Bottom up Budget




Estimates are made on resource costs etc. for
low level tasks (WBS)
These are aggregated to provide direct costs
for the project
PM adds indirect costs – admin, etc. and
reserve (and profit figures)
Senior management then cut the budget!
Evaluating a Project
Year
0
1
2
3
4
5
Project AAA
-100000
10000
10000
10000
20000
100000
Project BBB
-1000000
200000
200000
200000
200000
300000
Project CCC
-100000
30000
30000
30000
30000
30000
Project DDD
-120000
30000
30000
30000
30000
75000
Which of these projects is the best?
Net Profit
Year
0
1
2
3
Project AAA -100000
10000
10000
10000
4
5 Net Profit
20000 100000
50000
Project BBB -1000000 200000 200000 200000 200000 300000
100000
Project CCC -100000
30000
30000
30000
30000
30000
50000
Project DDD -120000
30000
30000
30000
30000
75000
75000
Net Profit


The most obvious criteria for
comparison
Does not give the full picture regarding
the viability of the project
Cash Flow

Can the organisation afford the –ve
cash flow required for the development
of the project

e.g. Project BBB requires an initial outlay of
£1000,000
Cash Flow

We need to spend money during the
development of a product



We hope to get it back once the product is
finished
Therefore projects will have a –ve cash
flow during their development
This should become +ve once the project
is complete
Cash Flow Diagram
b
Income
Time
a
Cotterell and Hughes page 43
c
Cash Flow
Thousands
400
200
£
0
-200
-400
Project AAA
Project BBB
-600
-800
-1000
Project DDD
Project CCC
0
1
Year 2
3
4
5
Evaluating a Project
Year
0
1
2
3
4
5
Project AAA
-100000
10000
10000
10000
20000
100000
Project BBB
-1000000
200000
200000
200000
200000
300000
Project CCC
-100000
30000
30000
30000
30000
30000
Project DDD
-120000
30000
30000
30000
30000
75000
Payback Period


The period of time it takes to recoup
your initial investment
A shorter payback period is preferred as
it minimises the amount of time a
project is in debt
Payback Period
Year
Project AAA
Cumulative
Total
Project CCC
Cumulative
Total
0
-100000
1
10000
2
10000
3
10000
100,000.00
90,000.00
80,000.00
70,000.00
-100000
30000
30000
30000
100,000.00
70,000.00
40,000.00
10,000.00
4
20000
5
100000
50,000.00 50,000.00
30000
30000
20,000.00 50,000.00
Payback Period
Thousands
Payback Period
60
40
20
0
-20
-40
-60
-80
-100
-120
0
Project AAA
3
2
1
Project CCC
Year
4
5
Payback Period

Find the payback period for projects
BBB and DDD
Payback Period
Year
Project BBB
Cumulative
Total
0
-1000000
1
200000
2
200000
3
200000
4
200000
5
300000
-1000000
-800000
-600000
-400000
-200000
100000
Project DDD
Cumulative
Total
-120000
30000
30000
30000
30000
75000
-120000
-90000
-60000
-30000
0
75000
Return on Investment



Is it really worth investing all that time,
money and effort into the project?
To help make that decision we use the
return on investment
The investment will be the initial
development costs of the project
Return on Investment


Used to discover the percentage of
return on the original project
investment
ROI = average annual profit x 100
total investment
Return on Investment

For Project AAA




Average annual profit = £50,000/5 (years)
Initial investment = £100,000
ROI = £10,000 x 100
£100,000
ROI = 10%
Return on Investment

Calculate the ROI for the remaining
projects and show which one provides
the best return
Return on Investment

Project BBB


Project CCC


Project DDD
Project
DDD

ROI =
(100,000/5)/100000
0x100 = 2%
ROI =
(50,000/5)/100000
x100 = 10%
ROI =
(75,000/5)/120000
x100 = 12.5%
Net Present Value


Takes into account the profitability of a
project and the timing of cash flows
Receiving £1000 today is better then
receiving £1000 next year


Inflation – things will cost more
Investment – we lose a year’s interest
Net Present Value - Examples



If we invested £100 this year it would
be worth £110 next year (assuming
10% interest rate – not likely)
Therefore if we were given £100 next
year it would have been the same as
investing £90(ish) this year.
This 10% is called the discount rate
Net Present Value


The present value of any future cash
flow can be calculated using the
following formula:
Present Value = value in year t
(1 + r)t
PV Exercise


If I gave you £100 in one year’s time,
what would be its present value?
Assume a percentage rate of 20%



100/(1.20)1
= £83.33
How about in three years?


100/(1.20)3
= £57.87
Net Present Value




An alternative approach is to break
down the problem into cash flow and
discount factor:
Discount factor = 1
(1+r)t
Therefore:
Present Value = Cash Flow x Discount Factor
Discount factor table
Year
Discount rate
0.02
0.03
0.05
0.1
0.2
1
2
3
4
5
6
7
8
9
10
0.980
0.971
0.952
0.909
0.833
0.961
0.943
0.907
0.826
0.694
0.942
0.915
0.864
0.751
0.579
0.924
0.888
0.823
0.683
0.482
0.906
0.863
0.784
0.621
0.402
0.888
0.837
0.746
0.564
0.335
0.871
0.813
0.711
0.513
0.279
0.853
0.789
0.677
0.467
0.233
0.837
0.766
0.645
0.424
0.194
0.820
0.744
0.614
0.386
0.162
Net Present Value



Net Present Value is the sum of the
present values (aka discounted cash
flows)
As can be seen on the next slide, the
profit figures can differ significantly
using Net PV instead of Net Profit
The payback period may also be
effected
Net Present Value
Year
0
1
2
3
4
5 Net Profit
Project AAA -100000
10000
10000
10000
20000 100000
50000
Discount
Rate
0.03
0.03
0.03
0.03
0.03
0.03
Discount
Factor
1.000
0.971
0.943
0.915
0.888
0.863 NPV
Discounted
Cash Flow
-100000 9708.738 9425.959 9151.417 17769.74 86260.88 32316.733
Net Present Value
Year
Project AAA
Cumulative
Total
Discount
Rate
Discount
Factor
Discounted
Cash Flow
Cumulative
Discounted
Total
0
-100000
1
10000
2
10000
3
10000
4
20000
5
100000
100000.00
90000.00
80000.00
70000.00
50000.00
50000
0.03
0.03
0.03
0.03
0.03
0.03
1.00
0.97
0.94
0.92
0.89
0.86
-100000.00
9708.74
9425.96
9151.42
17769.74
86260.88
100000.00
90291.26
80865.30
71713.89
53944.15
32316.73
NPV Exercise


Calculate the Discounted Cash Flows
and annual NPV for Projects BBB, CCC
and DDD
Does this effect the payback period for
any of these projects?
More Detailed NPV Example
Year
3
2
1
0
4
5
Costs
Initial Hardware Costs
Hardware Maintenance Costs
£500,000
£50,000
£50,000
£50,000
£50,000
£50,000
£50,000
Initial Software Costs
Software Support Costs
£180,000
£20,000
£20,000
£20,000
£20,000
£20,000
£20,000
Total Costs (Cumulative)
£750,000
£820,000
£890,000
£960,000
£1,030,000
£1,100,000
Benefits
Staff Savings
£220,000
£220,000
£220,000
£220,000
£220,000
£220,000
Total Benefits (Cumulative)
£220,000
£440,000
£660,000
£880,000
£1,100,000
£1,320,000
Benefits less Costs
-£530,000
-£380,000
-£230,000
-£80,000
£70,000
£220,000
Annual Interest Rate
PV factor
0.2
£1.00
0.2
£0.83
0.2
£0.69
0.2
£0.58
0.2
£0.48
0.2
£0.40
Annual Cash Flow
Present Value
-£530,000
-£530,000
£150,000
£125,000
£150,000
£104,167
£150,000
£86,806
£150,000
£72,338
£150,000
£60,282
NPV
-£530,000
-£405,000
-£300,833
-£214,028
-£141,690
-£81,408
(Cadle and Yeates 2001)
NPV Tutorial Exercise



Have a go at the tutorial exercise
handed out in the lecture
To do this you will need to think about
Cost Benefit Analysis and NPV
A model answer will be provided next
week
Cost Control



We have established the projected costs
for the project
Each activity will have been given a cost
value (in WBS)
As the project progresses we must
monitor the costs
Example 1
Task 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26
1 5
2
5
3 5
4
10
5
5
6
5
7
10
8
5
9
5
60
55
50
45
40
35
30
25
20
15
10
5
Budgeted Costs
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26
Cost Control -Questions

3 weeks into my 10 week project I find
I have spent over 50% of the budget.
What does this mean for the rest of the
project?



Check original cost plan (BCWS)
Check actual work performed – may be
ahead of schedule (BCWP)
Check actual cost of planned activities –
may be overspend (ACWP)
Cost Control


Monitors work in progress
Uses Three Measures


BCWS – Budgeted Cost of Work Scheduled
BCWP – Budgeted Cost of Work Performed


Also known as Earned Value
ACWP – Actual Cost of Work Performed
Cost and Schedule Variance


Diagram Shows relationship between
BCWS, BCWP and ACWP
Lockyer and Gordon Page 84
Variance Analysis




BCWP – ACWP = Cost Variance
BCWP – BCWS = Schedule Variance
ACWP – BCWS = Budget Variance
These can be used to assess the state of the
project

e.g. negative cost variance with zero schedule
variance implies the project is on time but over
budget
Conclusions





Costs and Benefits may be incurred annually
Development time for a project incurs a
negative cash flow – which may be large
A number of factors can be combined to
assess suitability of a project
Incorporating NPV into the calculations can
alter the payback period of a project
NPV provides a more realistic model as it
takes into account the future value of money
References





Hughes and Cotterell “Software Project
Management” (Ch 3+9)
Lockyer and Gordon “Project Management”
Cadle and Yeates “Project Management for
Information Systems”
Somerville “Software Engineering”
A useful link

http://www.cw360ms.com/pmsurveyresults/index.
asp