Cost Management: PMP Study Guide (PMBOK 6th

Edition)
examspm.com/2017/04/25/cost-management-pmp-study-guide

April 25, 2017

Project Cost Management involves planning, budgeting, and managing costs. Cost
management does not happen in isolation – the project manager needs input from the
project team and key stakeholders. Cost management should occur early in project
planning in order to establish a framework for all cost management processes and ensure
that the project does not go over budget. In this PMP study guide, we’ll cover all the
processes in the Cost Management Knowledge Area in PMBOK 6th Edition.

Although estimating cost and determining budgets can be one process on small projects,
PMI separates them into two processes because the exam assumes the PM is managing a
large project. Many financial management techniques, such as ROI, payback, and
discounted cash flow, are used during this process.

Plan Cost Management

Plan Cost Management process establishes the framework/policies/procedures for
how to estimate and manage costs
The key benefit of this process is that it provides guidance and direction on how
costs are managed from project initiation to closure
There are many ways to fund a project, including: 1) Self-funding, 2) Funding with
equity, or 3) Funding with debt
The Cost Management Plan is a component of the Project Management Plan that
details how cost management processes will be carried out. This plan will describe
how project costs are planned, estimated, and controlled.
The cost management plan also establishes the following:
Units of measure
Level of precision
Level of accuracy
Control thresholds
Reporting formats
Organizational procedures links
Rules of performance measurement
Life Cycle Costing – Looking at the cost of the whole product life cycle, not just the
cost on the project
Value Analysis – Finding less costly ways to do the same work. Value analysis
involves identifying required project functions, assigning values to these functions,
and providing these functions at the lowest cost without sacrificing performance.

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Estimate Costs
Estimate Costs is the process of establishing an approximate monetary value to
each project activity.
The key benefit of this process is that it determines the amount of money needed to
complete project work
Cost estimate is a prediction of how much an activity will cost upon completion given
the information we know now.
When estimating cost, you need to know whether you are only estimating the direct
project costs or whether your estimates need to include indirect costs as well.
To estimate costs, you need to look at the project schedule to see which activities
need which resources.
Types of Estimation:
Analogous Estimating – use similar historical project activity costs to
determine the current project activity costs. Relies of expert judgment. Use this
technique when you have limited information available. Also called top-down
estimating.
Parametric Estimating – use mathematical calculations or models to
determine activity costs (generally more accurate). E.g. it costs $100 to install
20m of wires, thus, it will cost $1000 to install 200m.
Bottom-up Estimating – detailed estimating is done for each activity (if
available) or work package (if activities are not defined), and the estimates are
then rolled up into control accounts and finally into an over project estimate
Contingency Reserves – the part of the budget set aside to deal with negative risks
that may occur
Vendor Bid Analysis – analyzing the bids from qualified vendors. If cost estimates
vary significantly, it could mean that the scope is not well defined. If third-party
vendors are used on the project, the PM needs to make sure their cost estimates are
included in the project budget.
Activity cost estimate – an estimation of what the activity will cost upon completion
based on information known to date.
Supporting details for activity cost estimates:
Basis of estimation
Assumptions
Constraints
Range of possible estimates
Confidence level of final estimate
Types of costs:
Variable costs – these costs change with the amount of production or the
amount of work
Examples: cost of material, supplies, and wages
Fixed costs – these costs do not change as production changes
Examples: rent, equipment, etc.
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 Direct costs – these costs are directly attributable to the work on the project
Examples are team travel, team wages, recognition, and costs of
material used on the project
Indirect costs – indirect costs are overhead items or costs incurred for the
benefit of more than one project
Examples include taxes, fringe benefits, and janitorial servicesCost of
quality – The total cost of all efforts related to quality

Accuracy of Estimates
Rough Order of Magnitude (ROM) Estimates
This type of estimate is usually made during the initiating process
A typical range from ROM estimate is a +/- 50% from actual, but this
range can vary depending on how much is known about the project when
creating the estimates
Budget estimate
This type of estimate is usually made during the planning phase and is in
the range of -10% to +25% from actual
Definitive estimate
Later during the project, the estimate will become more refined. Some
project managers use the range of +/- 10% from actual, while others use
-5% to +10% from actual

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Determine Budget
Determine Budget is the process of aggregating individual activity or work package
costs into the project budget.
The Key Benefit of this process is that it determines the cost baseline against which
project performance is measured.
Cost aggregation – the process of rolling up individual activity costs into work
packages and work packages into control accounts and control accounts into the
project budget
Funding limit reconciliation – Comparing plan project expenditures against funding
limits to determine if any variances exist.
Cost baseline – approved time-phased project budget. The cost baseline tells you
how much you should have spent at any given point in time. Any changes to the cost
baseline must be approved by the change control board.
Control accounts – During reporting, the key stakeholders may want more details
than the overall project cost, but less details than the work packages costs. Control
accounts aggregates related work packages together. The PM will report at the
control accounts level.
Reserve analysis:
Management reserves
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 “Unknown-unknown risks”
Not part of the project baseline
Sponsor must approve the use of management reserves and then the
project must be “re-baselined”

Contingency reserves
“known-unknown risks”
Used at the discretion of the project manager
Part of the project budget
The summation of control accounts gives you your cost baseline.
Cost baseline + contingency reserves = project budget
Funding occurs in incremental stages that are not continuous or evenly distributed.
Funding requirements are derived from the cost baseline

Control Costs

The Control Costs process is the process of monitoring actual project costs
against the cost baseline and managing changes to the cost baseline.
The key benefit of this process is that it allows the PM to detect cost variances
early and take corrective actions to bring the project back on budget.
Any changes to the budget must be approved through the Perform Integrated
Change Control process.
Project Cost Control components:
Ensuring timely implementation of change requests
Issuing cost-related change requests when necessary
Monitoring cost performance and understanding the root causes of
variances
Monitoring activity costs against project budget
Reporting cost performances to key stakeholders
Ensuring the project do not exceed funding limits
Preventing unapproved changes from using up the budget
Bringing cost overruns to within acceptable limits
Variance analysis – The procedure of analyzing the difference between the
actual cost and the budgeted cost (from the cost baseline).
Return on investment (ROI) – a technique to estimate the potential profitability
of an investment
Progress Reporting
50/50 rule
An activity is considered 50% complete when it begins and gets credit for
the last 50% only when it is completed
20/80 rule
An activity is considered 20% complete when it begins and get credit for
the last 80% only when it is completed
1/100 rule
An activity does not get credit for partial completion. It only gets
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 credit for full completion
Earned Value Management – This methodology is used to measure project
performance against the scope, schedule, and cost baselines.

Acronym Term Interpretations

PV Planned value As of today, what is the estimate value of the work planned to be
done?

EV Earned value As of today, what is the estimated value of the work actually
accomplished?

AC Actual cost (total As of today, what is the actual cost incurred for the work
cost) accomplished?

BAC Budget at How much did we BUDGET for the TOTAL project effort?
completion

EAC Estimate at What do we currently expect the TOTAL project to cost (a forecast)?
completion

ETC Estimate to From this point on, how much more do we expect it to cost to finish
complete

VAC Variance at As of today, how much over or under budget do we expect to be at the
completion end of the project?

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To find a list of all formulas that you will see on your PMP exam, read this article.

Download a printable version of the formula guide.

Things to Remember
Notice the EV comes first in every formula. Remembering this one fact alone should
help you get about half the earned value question right
If it is variance, the formula is EV minus something
If it is an index, it is EV divided by something
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 If the formula relates to costs, use AC
If the formula relates to schedule, use PV
For variance interpretation:
Negative is bad and positive is good
E.g. A -200 CV means that you are over budget
For indices interpretation:
Greater than 1 is good
Less than 1 is bad

Before you go…

Lastly, don’t forget to check out the other study notes in this series and download our free
200 practice questions by clicking the links below:

Integration Management – PMP Study Guide

Scope Management – PMP Study Guide

Time Management – PMP Study Guide

Cost Management – PMP Study Guide

Quality Management – PMP Study Guide

HR Management – PMP Study Guide

Communications Management – PMP Study Guide

Risk Management – PMP Study Guide

Procurement Management – PMP Study Guide

Stakeholder Management – PMP Study Guide

Free PMP Exam Questions - Download all 200 Questions

Fill in the form below and you can take a full length PMP exam (200 Qs) for free. This exam
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