It is often said that if you had to choose one thing to get right between schedule, scope or cost – get cost right. We place such emphasis on cost because sizable, one-time costs see enormous scrutiny, but also because it is particularly challenging. Costs can be difficult to define – or have multiple definitions depending on who you are speaking with and when. The timing of when costs are incurred can have larger organizational considerations. And, most projects are multi-faceted – bringing vendor, staff, procurement and other cost centers all under one, temporary umbrella with an entirely unique cost reporting structure.
A Cost Management Plan represents the structured approach to managing costs on a project. In this post we will look at a few key topics as you develop your cost management plan. Elsewhere we will look at contracts, negotiations, sow development, vendor management and other topics. The purpose of this post is to unpack some of the broader cost management plan considerations that shape the cost environment.
Tangentially, we have described on this blog that projects exist at the intersection of organization culture, compliance and project activity. Costs are a great example of that intersection. It is for the Project Team to not only determine how much project activity costs, but also how costs are managed, allocated and fulfilled in a way that is consistent with your organizations culture and compliant with the regulatory framework.
Defining Cost
Every organization defines cost differently. Ensuring you fully understand the definition used at your organization is the first (and most critical) input to your Cost Management Plan. This includes drawing the line between project and ongoing costs, and distinguishing between direct and indirect costs – and representing each appropriately.
Many of the project costs are easily recognizable. For example, the services provided by vendor to configure a new system and travel directly related to the project. These are direct costs, almost without exception, to be included in your Cost Management Plan.
Other costs are critical to project success – and therefore direct – but live beyond the project. For example, hosting, annual software licensing or maintenance fees and recurring support agreements. These are direct but temporary costs. Procurement within the project may have a direct cost on the project and also carry direct costs to be transferred elsewhere in the organization once the project concludes. Cost management planning should define to what extent – or for how long – these costs will be managed as a project cost (if at all).
Indirect costs tend to be those that are peripheral to the project. They may have an immediate bearing on project success but also be indirectly accounted for in ongoing operations. Staff training or project staff hours are two common indirect costs. An organization may have professional development built into ongoing operations, but may split the one-time spike in training for a new system into direct costs to be accounted for in the Cost Management Plan and indirect costs to be absorbed by individual departments as part of ongoing professional development. Project staff hours may be similar. An organization that dedicates an internal staff person to the project may decide to reconcile that individual’s salary (or percent of their salary) as a direct, project costs or alternatively may maintain a staff of project managers within a department such as IT or Operations as part of ongoing.
The goal here is not to determine what is right and wrong. Rather, it is to seek definition. And, make sure the definitions – and delineation of project work is clear vs. what will be counted against ongoing operations. If essential costs are unaccounted for in either place, you clearly need to find those costs a home.
Planning for Cost Transfer
As we mentioned earlier, some costs will continue beyond the project. An effective cost management plan sets clear time limits on project costs such as these and indicates when they will be to transferred and to whom. This may be as simple as indicating a fixed duration or you may tie to project milestones.
Fixed duration cost models typically include all ongoing costs required for the duration of the project plus a post-go-live stabilization window. For example, a 12-month project might include 15 months of software licensing to account for the project timeline and 3 months of stabilization. The 16th month transfers to another budget or department altogether.
Increasingly common are models where cost transfer is based on achieving milestones. The thinking here is that unless a project meets certain milestones the costs remain associated with the project. For example, if a project fails to go-live at the anticipated 12-month go-live milestone, any additional time required would be accounted against the project. This model helps contain project costs under the umbrella of the project – and declines to absorb a troubled project into the ongoing costs – or overall operating state – until it is complete. It also positions the organization to potentially cancel a project – at times the best option – rather than to roll an ineffective outcome and simply transfer the problem elsewhere.
Discussing Amortization
Major projects tend to be recognized for what they are – capital expenses. As such, they enter a world of financing and cost realization that is a departure from simply placing costs directly on the books as they are realized. In a world where there is a heightened sense of awareness over administrative expense (See: Charity Navigator), this is especially important as an annual cost that is expected to generate business value over a 5-year period is typically spread across 5-years as an expense. This process is typically referred to as amortization.
Again, we have an important culture and compliance intersection with your cost management plan. Your CFO will certainly have something to say here and it will begin with how such costs have been managed in the past and what provides the necessary transparency to constituents. How this is managed is not only a cost management plan consideration but also touches on communication and stakeholder management – as effective stewardship of donor dollars is a critical sensitivity for virtually everyone nonprofit.
Evaluating Cash Flow Impact
Even capital projects with pre-allocated funds need to be aware of cash flow – or the clip at which costs will be incurred. If the project is to be funded as expenses are incurred , cash flow considerations gain even greater importance. Project expenses, if not carefully planned for, can literally exceed what can be paid during peak activity even if in future months expenses will dip well below.
Early project planning activities should be able to identify peak activity. A starting point is to average total anticipated project costs by month, identify peaks, and then push and pull costs into those months were costs will be incurred. For example, Project Planning is relatively low cost as a smaller group is engaged compared to design sessions that might draw on a large pool of stakeholders over many hours of discussions. Accurately representing the ebb and flow of project activity can help identify anticipated cash flow – and begin to identify baselines that can be discussed with your Finance Department.
Another consideration is the project deposit. Many vendors require 25% paid at the start of the engagement. This may draw on monthly invoices until fully depleted – or otherwise used to offset invoices incrementally. The cash flow consideration is significant as a lump sum is required to start the project while also impacting the downstream invoices as they will be reduced according to the terms of the deposit.
This ultimately is a question for finance – and likely your CFO. Understanding and complying with the direction from Finance – and accounts payable in particular – will ensure the project continues without delays related to cost management.
Summary & Conclusion
Cost Management is about more than just knowing how much the project will cost and making sure the bills are paid. It represents the larger framework within which those costs can be realized. It begins with ensuring a shared definition of project costs and how, when and where those costs will eventually be transferred. It is also critical to understand how costs will be realized in the long term – potentially through amortization – and the near-term as there may be cash-flow considerations on your organization. Effective cost management is rarely something a project team will receive accolades for – but ineffective cost management is almost certain to have severe consequences to your project and potentially your organization.