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HomeBlogProject ManagementWhat is the Cost Baseline in Project Management?
Projects are temporary endeavors carried out to accomplish a specific set of goals. Any or every project that the organization undertakes has a cost associated with it and this cost may be attributed to various factors or entities that are involved in shaping the project outcomes. In such a scenario, a project manager must be very cautious with what kind of factors are being associated with the project and what costs will they contribute; this is needed because the project manager needs to carefully balance between the iron triangle of project management i.e. scope, cost, and time.
To achieve this balance the project management practice first formulates a paradigm known as the cost baseline which acts as a guiding measure in running the project. In this article today, I would like to take the opportunity to take you through what is a cost baseline in project management, how it is formulated and what is its importance. Dive right in to understand this!
A cost baseline or the cost performance baseline is a project management measure that is derived by calculating the costs of all factors such as manpower, material, machinery, etc. that are associated with the project. The project cost baseline constitutes one of the measures of the project budget (apart from reserves) which is used to keep an eye on the project expenses and also compare the estimates i.e. the baseline with actuals to monitor and control variances.
The cost baseline pmp is formulated by adding up all individual cost estimates of the project tasks/activities and adding the contingency reserves i.e. costs to be allocated for the known or identified project risks. The reason it is called a "baseline" is because it provides a basis to compare the actual costs incurred against the planned costs estimated. Project Management courses online will help you create cost baselines and track them effectively to ensure project success.
Project baselines are integrated following the identification of three essential components derived from key project management principles:
1. Scope Baseline
Scope determines the amount of work that needs to be done to accomplish project objectives and what will be the boundaries of the project to ensure work does not get perpetual or overrun the plan. It is very easy for stakeholders to keep asking for more, especially in agile teams where the nature of planning is iterative or rolling wave-based. Hence, scope becomes an imperative and key constituent to baseline to achieve the project objectives and complete projects on time.
2. Schedule Baseline
The schedule defines the time duration for which the project activities will run. It is a well-known paradigm that the longer the project planned schedule, the more the chances of scope creep or costs continuously accruing and adding up on the project. Project management schedule baselines depict the planned project duration and help define the project deliverables.
3. Cost Baseline
Cost determines the amount that the organization will have to spend to accomplish the planned project activities. The project cost baseline is another critical baseline of project management to forecast the project costs over a while. The trajectory of the project baseline shows how costs are incurred or are supposed to be incurred throughout the project phases. The cost baseline calculations involve considering work-package cost by control accounts and adding some funds to meet known contingencies - a key topic that we will visit shortly as we proceed.
Project managers need to excel at the art of managing the delivery of projects within the baselines and within built quality which is an integrated part of the project management triangle to build stakeholder trust and realize project benefits in the long term checking all boxes of profitability and optimized execution in the organization. Online PMP course will help you amp up your project management skills.
Ever watched an intense documentary on National Geographic where a ship is running in the wild and untamed ocean waters? Ever wondered how the captain continuously works with the navigators to maneuver through this nail-biting situation - well as a project manager you may not exactly have a testing experience like battling untamed waters, but yes the baselines just act as navigators constantly guiding you towards the shore (objectives) to successfully conclude the project. Goes without saying, as to how important the cost baseline is in the project and how it keeps the project team as well as leadership on their toes to ensure it follows the planned trail.
The cost baseline serves as the project manager's guiding compass, ensuring budget adherence, enabling informed decisions, and providing a critical tool for performance evaluation throughout the project's journey.
To set up a cost baseline for the project, you will need to consider a few key factors such as:
1. Human Resources
Estimates of how much manpower is aligned to the project to fulfill project objectives and what kind of skills with what level or role are key factors that define the cost that will be billed to the project. This will include internal costs, consulting engagements, and external costs and all of these will need to be budgeted to avoid overruns during implementation.
2. Material Resources
Apart from manpower, the materials, machinery, etc aligned to the project will also be a key factor in defining cost estimates. Costs of equipment, infrastructure, and facilities will also need to be included based on measures defined as per the organization's accounting policies.
3. Time Estimates
Once the constituents of costs have been identified - the constituents will be multiplied by the project schedule to derive the cost baseline or estimate. Schedule plays a paramount factor in the baseline determination and as we all know, the longer the project duration, the higher the project cost estimates and vice-versa.
4. Contingency Reserve
Once the cost estimates are derived, a contingency reserve i.e. a portion of the estimates to meet the identified risks or the known unknowns is allocated as a contingency reserve in the project which forms a part of the cost baseline. The calculator of this contingent estimate may be based on project-management risk management techniques viz, project decision tree, Monte-Carlo simulation analysis, etc.
The final baseline cost estimate is formulated by adding up the estimated project activity costs and contingency reserves. Contingency reserves are allocated at an activity level and are within the control of the project manager which is not the case with management reserves. To use management reserves, the PM must write up a formal request for allocating these at a project level to handle unknown-unknowns or unidentified risks in the project. PRINCE2 Foundation and Practitioner certificate will help you gain industry-agnostic project management skills.
The cost baseline is calculated with the help of a very simple formula based on 2 attributes - project cost and contingency reserves. Thus,
Cost Baseline = Project cost + Contingency Reserve
Here, Project cost - the cost of all individual activities added up to the project and this usually is done at the work-package level i.e. the lowest level to which the Work breakdown structure (WBS) can be broken down or decomposed. The project cost calculations usually include costs of:
Cost calculations rollup from work-package levels to control accounts which are used for planning and tracking baselines to ensure project performance. We will dive deeper into this with our cost baseline example shortly a little further in this article, but meanwhile here is a quick reference of how activity (work package) costs roll up to control accounts, contributing to the project cost baseline.
Even though both the project cost baseline and project budget may sound very similar or synonymous - there are some key differences in the way these are used. Let us look at a few of the differences:
Project Cost Baseline | Project Budget |
Project cost baseline is the approved version of project costs used as a reference point for tracking individual activity-level costs. | The Project Budget is used as a reference point or estimate for tracking overall project costs. |
The project cost baseline is a subset i.e. constitutes to the project budget. | The project budget is a superset i.e. comprises project cost baseline as a component. |
The “cost baseline” includes only contingency reserves in its calculations. | The “Total Project Budget” includes the cost baseline (work activity costs + contingency reserves) plus management reserves. |
Though cost baselines feed into the project budget at the planning level, they are primarily used to measure and compare cost performance during project execution | Project budgets are part of project planning processes and are majorly used and defined at project commencement. |
The cost baseline is used to track project performance. | The project budget is used to control project finances. |
Cost baselines can only tackle known unknowns in the project using contingency reserves. | The project budget includes allocations for both identified as well as unidentified risks. |
Let us look at a simple project cost baseline example as follows:
As seen in the above cost baseline project management example, the planned costs are clubbed with contingent reserve to create the finalized cost baseline to estimate the wedding reception expenditure. The project manager can come up with this in simple Excel or with project management tools to determine baseline costs in an MS project. KnowledgeHut’s online Project Management courses will support you in boosting your preparation for the exam.
A cost baseline is an important measure of project success and acts as a constraint or pillar of project management which has to be monitored to be within planned thresholds by the project manager. Cost baselines contrive the project budget on which basis a majority of the project management processes rely.
Whether you are a seasoned project manager who has worked on large cross-department/vertical projects a portfolio owner or a project management intern - monitoring and managing project costs can be uniquely challenging and demands swift action to avoid costs from going within the baselines to transforming into project sunk costs.
A project manager of a construction company creating a cost baseline based on the break up of individual cost activities and adding discretionary reserves to guard against known or identified risks is a simple example of a cost baseline for the project.
As per the PMBOK, a cost baseline is the sum of cost estimates for all project activities following the task schedules and includes a portion of reserves for identified risks. In short, a cost baseline is a portion of the project budget broken down as per the project WBS.
A cost baseline is one of the three project performance baselines used to ensure projects are within the thresholds planned. It acts as an important measure to compare costs and avoid situations of overspending or underspend in the project.
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