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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 project managers for costing senior management for pricing strategies

Pricing therefore involves:

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 Project AAA Project BBB Project CCC Project DDD 0 -100000 -1000000 -100000 -120000 1 10000 200000 30000 30000 2 10000 200000 30000 30000 3 10000 200000 30000 30000 4 20000 200000 30000 30000 5 100000 300000 30000 75000

Which of these projects is the best?

Net Profit
Year 0 1 10000 2 10000 3 10000 4 5 Net Profit 50000 100000 50000 75000 Project AAA -100000 20000 100000

Project BBB -1000000 200000 200000 200000 200000 300000 Project CCC -100000 Project DDD -120000 30000 30000 30000 30000 30000 30000 30000 30000 30000 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 c

Cotterell and Hughes page 43

Cash Flow
Thousands

400 200 0

Project AAA Project BBB Project DDD Project CCC

-200 -400 -600 -800 -1000 0 1 Year 2 3

Evaluating a Project
Year Project AAA Project BBB Project CCC Project DDD 0 -100000 -1000000 -100000 -120000 1 10000 200000 30000 30000 2 10000 200000 30000 30000 3 10000 200000 30000 30000 4 20000 200000 30000 30000 5 100000 300000 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 100,000.00 -100000 100,000.00 1 10000 90,000.00 30000 70,000.00 2 10000 80,000.00 30000 40,000.00 3 10000 70,000.00 30000 10,000.00 4 20000 5 100000

50,000.00 50,000.00 30000 30000

20,000.00 50,000.00

Payback Period
Payback Period
60 40 20 0 -20 -40 -60 -80 -100 -120
0 1 2 3 4 5

Thousands

Project AAA

Project CCC

Year

Payback Period

Find the payback period for projects BBB and DDD

Payback Period
Year Project BBB Cumulative Total Project DDD Cumulative Total 0 -1000000 -1000000 -120000 -120000 1 200000 -800000 30000 -90000 2 200000 -600000 30000 -60000 3 200000 -400000 30000 -30000 4 200000 -200000 30000 0 5 300000 100000 75000 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 years 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 years time, what would be its present value? Assume a percentage rate of 20%

100/(1.20)1 = 83.33 100/(1.20)3 = 57.87

How about in three years?


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 0.980 0.971 0.952 0.909 0.833 2 0.961 0.943 0.907 0.826 0.694 3 0.942 0.915 0.864 0.751 0.579 4 0.924 0.888 0.823 0.683 0.482 5 0.906 0.863 0.784 0.621 0.402 6 0.888 0.837 0.746 0.564 0.335 7 0.871 0.813 0.711 0.513 0.279 8 0.853 0.789 0.677 0.467 0.233 9 0.837 0.766 0.645 0.424 0.194 10 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 100000.00 0.03 1.00 -100000.00 1 10000 90000.00 0.03 0.97 9708.74 2 10000 80000.00 0.03 0.94 9425.96 3 10000 70000.00 0.03 0.92 9151.42 4 20000 50000.00 0.03 0.89 17769.74 5 100000 50000 0.03 0.86 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 Costs Initial Hardware Costs Hardware Maintenance Costs Initial Software Costs Software Support Costs Total Costs (Cumulative) Benefits Staff Savings Total Benefits (Cumulative) Benefits less Costs Annual Interest Rate PV factor Annual Cash Flow Present Value NPV 0 500,000 50,000 180,000 20,000 750,000 220,000 220,000 -530,000 0.2 1.00 -530,000 -530,000 -530,000 1 2 3 4 5 50,000 20,000 820,000 220,000 440,000 -380,000 0.2 0.83 150,000 125,000 -405,000 50,000 20,000 890,000 220,000 660,000 -230,000 0.2 0.69 150,000 104,167 -300,833 50,000 20,000 960,000 220,000 880,000 -80,000 0.2 0.58 150,000 86,806 -214,028 50,000 20,000 1,030,000 220,000 1,100,000 70,000 0.2 0.48 150,000 72,338 -141,690 50,000 20,000 1,100,000 220,000 1,320,000 220,000 0.2 0.40 150,000 60,282 -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

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