You must establish a cost baseline before developing a project budget. This cost baseline assists the project manager in comparing expected and actual expenditures and creating the budget.
A cost baseline is also known as a cost-performance baseline in some cases.
This article will go over the cost baseline in-depth.
What is a Cost Baseline in Project Management?
One of the three project performance baselines, the cost baseline, is concerned with the project’s cost performance. The schedule baseline and scope baseline are the other two project baselines. The cost baseline cannot be changed by project managers. They need to process a change request. Upon approval of a change request, they can change the cost baseline.
A project cost baseline forecasts a project’s overall cost over a given time period. It’s a budget that’s phased in accordance with the project’s progress.
On a graph, the cost baseline forms an S-Curve. This shape tells us:
- Cost expense in the planning phase is low.
- Cost expense is the maximum in the execution phase.
- Costs expense again low at the end.
A cost baseline is a comprehensive estimate of the project’s costs. It takes into account the total cost of all project operations as well as the contingency reserve. The project budget includes the cost baseline as well as the management reserve. To handle known and unknown risks, contingency reserves and management reserves are used.
Project work is divided into a work breakdown structure where the work package is the lowest level. The cost of each work package is estimated by project managers, and the sum of these expenses is known as the project cost estimates. It becomes the cost baseline if they add the contingency reserve. A cost baseline is utilized to compare actual costs to predicted costs to demonstrate variation.
A cost baseline is an approved project cost and includes the cost of wages, materials, equipment, and other direct and indirect costs. It’s a complete cost estimate for all jobs on a project’s timetable. The project budget is created by adding the management reserve to the cost baseline.
Creating a cost baseline is the first step in analyzing project spending. A cost baseline compares actual spending to budgeted spending.
Component of a Project Cost Baseline
A project cost baseline includes the following:
To establish a project baseline, you must first identify and approve the project scope. The scope statement, a list of project objectives, and deliverables are used to create the project scope. Break the project work down into work breakdown structure and work packages.
The next step is creating a project timeline with dates, milestones, and a final deadline. A Gantt chart is a good tool to employ here because it can be easily changed and adjusted to meet changing deadlines.
Estimate how long each task will take and allocate resources.
Manpower and supplies are needed for project activities. Employees, contractors, subcontractors, equipment, and other assets needed to satisfy requirements are examples of resources.
Importance of Cost Baseline
When it comes to project management, sticking to a project budget is crucial. Overspending indicates that the project is off track, and you will have disgruntled stakeholders.
The cost baseline is used to compare the actual effort to the cost variance, cost performance index, and expected effort. Estimate at completion, estimate to complete and to complete performance index are all useful for predicting.
If a project manager doesn’t have a baseline, they won’t be able to evaluate their costs.
The cost baseline provides valuable information for project managers and other stakeholders, which includes:
Deciding If the Project is Worth Proceeding
A thorough evaluation of the initial baseline allows stakeholders to judge whether the project is worthy of being carried out.
Keeping a Project on Budget
The cost baseline helps analyze overall cost performance by comparing actual spending to expected expenses. This helps project managers know whether they are under or over budget.
Calculating Earned Value
Earned value analysis benefits from a cost baseline.
You can figure out how much you’ve earned (EV). After that, you may compare actual performance to the stated goals, but it’s more than just a tool for evaluating performance. It allows you to examine project trends and predict whether or not a project will have challenges in the future. You can predict possible overruns by observing performance trends.
You can examine the performance of anticipated and actual expenses at the activity level.
However, such estimates should not be relied upon, particularly in the early phases of a project’s life cycle. The forecast is initially inaccurate due to the limited number of performed activities, but as the project progresses, the forecast prediction accuracy improves. It is, however, still relying on the team’s progress assessments, which can be biased.
If you know the baseline cost, you can compare this with the actual expanse and see whether you are on track. Project management software may have a “traffic light” or similar system to indicate this. This provides a project manager with variance information, which can be helpful for future estimating.
When project managers create their cost baseline, they estimate how long each task will take and the effort required to complete it. They determine the likely costs and, if they are charging for work done, what the revenue will be.
How is the Cost Baseline Calculated?
The baseline cost is determined by adding the resource’s planned expenses, which include daily work, expected overtime, and per-use charges for every assigned task to the resource.
Baseline Cost = (Work x Standard Rate) + (Overtime Work x Overtime Rate) + Per Use Cost.
The cost baseline is the total cost of all project activities/resources plus the cost of managing known risks.
Cost Estimate = Sum of Costs for Work Packages
Cost Baseline = Project Cost Estimates + Contingency Reserves
Project Budget = Cost Baseline + Management Reserve
How to Create a Cost Baseline
Before you can construct a cost baseline, you must first develop a project strategy. Using project management software, you can construct activities, apply resources, link dependencies, define milestones, and track your progress.
Keep the following considerations in mind when setting cost baselines.
The cost of the project is determined by the resources available. Every team member has distinct abilities and specialties suited for different tasks. The cost of human resources is included in the cost baseline.
The cost depends on the time taken by activity, and the project cost baseline is a time-phased budget. Time estimates help in cost estimation.
Equipment, software, and materials are all included in these expenditures. Material costs can be estimated using prior project files that have been documented in the project accounting system by project managers. They can also put out requests for information and have the vendors respond.
Risks occur in most projects, and the cost estimate must account for them. You should consider contingencies for any identified risks and add the contingency reserve to manage identified risks.
Project Cost Baseline Vs Project Budget
The cost baseline and the project budget are linked. A subset of the project budget is the cost baseline.
The budget is measured by a cost baseline, which is part of the project planning process. Cost baselines are a cost management technique that can be used to track progress throughout the execution process.
The cost baseline is the project’s allowed budgeted expense. It is fixed in stone and acts as a project guideline. A project manager can use the cost baseline to evaluate cost performance. The budget shows them how much money they have left over to spend.
The cost baseline is also a criterion for evaluating cost performance. The budget is an estimate of the project cost to the company. Because it’s a yardstick project manager used to assess cost performance, you might call the cost baseline the budget baseline.
Examples of Cost Baseline
Let’s consider the PMP® Exam preparation as an example to illustrate the concept of the Cost Baseline.
Tom, a practicing project manager, has determined to get certified through self-study. He has chosen the cheapest online training courses to get the 35 contact hours certificate to qualify for the exam. The budget for getting PMP® Certification is as follows:
PMI Membership Fee: 139 USD
Project Management Training through self-study: 199 USD
PMP® Exam Fee (for PMI Member): 405 USD
set aside a budget for miscellaneous items (e.g., transportation, exam prep book, PMBOK® Guide, mock exams, etc.). : 300 USD
PMP® Certification Cost: 1,043 USD, which is the cost estimate for the PMP® Project
Tom has set aside a budget for any identified risks (e.g., being unable to finish preparation on time, extra learning aids, re-exam after a failure, etc.). His contingency reserve is 500 USD.
Tom is also advised to set aside money for unknown risks, which is set around 10% of the cost estimate (according to his own decision), i.e., 100 USD (Management Reserve).
Therefore, for the PMP® Certification Project,
Total Cost Baseline = Cost Estimate + Contingency Reserve = 1,043 + 500 = 1,543 USD
Take this social media marketing campaign as an example.
A project manager asks a team member to create a social media campaign to coincide with the launch of a new product. They are allotted a project budget, and their goal is to build brand awareness and encourage early sales of the product.
Therefore, their project baseline could look something like this:
Scope/Deliverables: 500 direct sales
Schedule: One month
Cost: 1,000 USD
In this project baseline example, you must first outline all the tasks needed to improve the company’s conversion rate and achieve the end goal of 500 sales. This would include plans for social media posts for various platforms with exact copy and design briefs.
They can then map their schedule in a content calendar, including optimized dates and times for each post. Finally, create a detailed budget to divide costs across various sectors, e.g., PPC fees for Facebook ads.
One of the three project performance baselines is the cost baseline, against which the project’s cost performance is measured. Without the approval of a change request, a project manager has no ability to make changes to it. As a project manager, you should keep an eye on the cost baseline performance because if the expense exceeds it, your project will go over budget, and you may need to propose a change.