Estimating Costs Using Activity Durations

By establishing the forecasted time it will take to complete various tasks in the work breakdown structure for your project, you will have prepared another important input to cost estimating: activity duration estimates. Activity duration estimates are primarily an input to schedule development, but they are used in project cost estimating as well.

An activity duration estimate is a quantitative assessment of the likely number of work periods that will be required to complete an activity. An activity's duration is important when you are estimating labor costs, for example, or when estimating the costs of financing over the total project duration.

To estimate an activity's total cost, multiply the rates for the activity by the estimated duration. When you estimate activity duration for each project activity and then sum the results, you can determine a cost estimate for the entire project. Knowing the time it will take to complete all project activities makes estimating total project time and costs easier.

There are three things to remember when using activity durations to calculate cost estimates.

• Include range of results. One is that activity duration estimates often include a range of possible results. They are, after all, just estimates.
• Convert units for time. Sometimes you have to convert months or weeks into "working days" or "working hours" to calculate costs. Your company or industry likely has conventions for figuring out how many production hours are in a week, month, or year.
• Allow for down time. Finally, remember to consider down time in your calculations. Remember that people do not work "24/7." Include weekends and holidays in your calculations.

Your activity duration estimates will include a range of possible results. Naturally, when activity durations have a range, your cost estimates will have a range, too. The points below illustrate the steps in estimating costs using activity duration estimates, indicating how a pharmaceutical company would estimate costs for clinical trials of a new drug.

• Establish the activity duration estimate. The duration of the clinical trials is estimated to be six months, plus or minus two weeks, assuming that three laboratory technicians are working on the testing.
• Check the resource rates that apply to this activity. Labor rates for this project are $18 per hour for each technician. If the company did not own the laboratory and equipment that will be used during the trials, it also would need to know the rental rates for these resources.
• If necessary, convert units of time. One year has 52 weeks, so six months has 26 weeks. To find the working hours in six months plus or minus two weeks, assume that technicians work a 40-hour week: 26 x 40 = 1,040 hours. Then, 2 x 40 = 80 hours. You could say there are 1,040 hours plus or minus 80, or that there are 960 to 1,120 hours in this time frame.
• Multiply the estimated duration by the rate for the activity. Multiply the labor rate ($18 per hour) by each end of the spectrum, and you get an estimated cost of between $17,280 and $20,160 per technician, or $18,720 plus or minus $1,440. Multiply again by three for each worker, and you get a total estimate of $56,160 plus or minus $4,320.

Activity duration estimates are estimates of how long it will take to complete each activity in the work breakdown structure. Without this vital information, you cannot accurately estimate project costs.

Three Inputs to Cost Estimating

Resource requirements, resource rates, and the chart of accounts are three important inputs to project cost estimating. Details about these three closely linked inputs to cost estimating are provided below.

1. Resource requirements
A project's resource requirements come in the form of a list of items needed to complete a project. The list is produced during the resource planning phase.

Resource requirements refer to the types and quantities of resources needed to complete each activity listed in a work breakdown structure (WBS). Resource types, and the quantities needed to complete an activity, help determine project costs.

Project managers obtain the necessary human resources through staff acquisition and obtain materials through procurement. Typically, a project's resource requirements fall into five categories.

• Labor. Labor includes all of the human resources needed for a project, such as receptionists, computer programmers, engineers, and managers.
• Materials. Materials include the inputs you need for production or for delivery of a service. You will usually purchase materials from an external supplier, or from another division of your firm if it owns the raw resources you need for production.
• Equipment. Equipment includes machinery, hardware, software, and methods of transportation you need in order to complete the work. When estimating costs, consider how long equipment will be useful before it must be replaced.
• Overhead costs. Overhead costs can include costs associated with the facilities in which your project is carried out and interest payments on loans or leases.
• Contingency costs. Contingency costs are allowances made for risk and uncertainty. A project budget should contain a buffer to allow for unexpected costs, such as those that can result from natural disasters, computer viruses, accidents, strikes, or unexpected increases in the cost of supplies.

2. Resource rates
Another input to cost estimating is resource rates. Resource rates refers to the per-unit cost for each resource required to complete a project. If exact rates are not known, the rates themselves may have to be estimated.
Cost estimating is virtually impossible without the unit rates for each resource required. Examples of resource rates are staff costs per hour, printing costs per copy, lease costs per day, interest costs per year, utilities costs per month, and component costs per part. You will benefit from having accurate cost estimates based on accurate resource rates early in the project.

3. The chart of accounts
When calculating your cost estimates, you should allocate resources to the project based as closely as possible on your organization's chart of accounts. This is a table that contains the coding or numbering system that is used by the accounting department to monitor expenses. Categories of expenses can include staffing costs, office supplies, equipment, rent, and insurance costs.

Divide your project costs into categories that match the categories in your company's general ledger. This will save you time during your cost management efforts later in the project, especially if you use project management software that is integrated with your company's accounting system.

Perhaps part of your performance reporting efforts and postmortem analysis for your project will involve comparing the cost performance of different projects. This will be much easier if all projects use the same coding system.

You will need your company's accounting codes, as well as your project's WBS, resource requirements, and resource rates, to calculate cost estimates. Remember, determine resource requirements and resource rates before you begin estimating project costs to ensure the accuracy of your estimates. Integrate cost estimates with your company's chart of accounts to simplify cost control.

Cost Estimating and the Work Breakdown Structure

Do you often find it easier to solve a large problem by breaking it down into smaller parts? This is what the work breakdown structure (WBS) does for a project manager. The WBS itemizes the many tasks that make up a project.

The work breakdown structure contains the entire project scope—all the work you need to complete in order to deliver the product. Throughout the cost estimating process, you should refer back to the WBS to ensure that you have included each activity. The WBS enables you to:

• organize your cost estimates
• identify each project activity that generates cost
• illustrate the project scope in a summarized, graphical representation.

A work breakdown structure is a type of tree diagram that enables you to see the project scope all on one page. It depicts a hierarchical listing of the work, showing how the work elements are broken down (or decomposed) into tasks, work packages, and detailed activities. The WBS is organized as follows:

• The top line of the WBS contains the name of your project.
• The first level of the WBS contains the major elements of the project. Most projects within a given organization will have similar project life cycles.
• The lower levels of the WBS show the continued decomposition of the phases. The third level usually contains tasks. Lower levels would be comprised of work packages and ultimately, individual activities.

The work breakdown structure is developed as an output of defining the project scope. When creating a work breakdown structure for a project, use the scope statement to identify each of the project's major phases or elements.
Each phase will have its key deliverables, which are further decomposed into tasks and then into work packages or activities. Keep in mind that different elements may have different levels of decomposition.

For each project you manage, you'll have to decide to what degree you will decompose your work breakdown structure. If you want to develop detailed, accurate cost estimates, you will need to fully decompose the work.

As a guideline, ask yourself: "Can adequate cost and duration estimates be derived at this level?" If the answer is no, then you must continue to break tasks into work packages, and these into specific activities. The steps below summarize the process of decomposition.

1. Identify the major elements of the project.
2. Decompose elements into tasks, work packages, and detailed activities.
3. Ensure that the lowest level items are tangible and can be measured for completion.
4. Verify the correctness of the decomposition by comparing it to similar projects or having a qualified person review it.
5. Assign a unique identifier to each item that corresponds to your firm's code of accounts.

Step 3, in which you verify that each bottom-level work package or activity is measurable, is the most important step to cost estimating. Ask yourself: "Can each item be appropriately scheduled, budgeted, and assigned to a specific department, team, or person who will be responsible to complete it?" You'll be able to produce fairly accurate and detailed cost estimates if each activity is measurable—if it can be assigned a duration and a list of required resources, including human resources, materials, and equipment.
The work breakdown structure makes it easy to find the total cost estimates. Once the work of your project is sufficiently broken down into measurable, verifiable activities, assign a cost to each item. The process of totaling bottom-level activities, assigning a total to the task, totaling all tasks belonging to a deliverable, and so on, is called "rolling up" the estimates.

In summary, project managers and their teams will refer frequently to the work breakdown structure during the life of a project. However, at no other stage is the WBS more important than when cost estimates are being prepared.