Using Risk Management to Improve Project Budget Estimation
By Abdulla Alkuwaiti
Producing a good estimate for your project budget is not an easy task. Chances are you spent a great deal of time identifying required resources and estimating their costs, however, there can be mistakes in your calculations. Also you might forget to include some required resources or tasks. The story doesn’t end there because your project might encounter unidentified risks that may require additional financial resources.
Producing a project plan is not a linear process and is subject to many changes. You will often need to go back and forth to add/delete tasks or make changes to your time and quality requirements which may affect your budget. Therefore, you need to keep track of all your changes which is not an easy task. Conducting Risk Management at the end of your planning phase will help you to pull together the different bits and pieces of your project and help you come with a more accurate budget. This is possible, because in Risk Management, we try to identify errors, mistakes and conflicts in our plan. For example, we might have a quality requirement that need more money than what was budgeted. Risk Management should help us discover that through the application of its basic principles, which are: Risk Identification, Risk Assessment and Risk Control.
The following is a formula designed to double check your final budget after Risk Management is conducted and make sure errors and mistakes were fixed and needed resources are in place for expected risks:
Project Budget = Revised project original budget + Cost of risks that will be controlled + costs of risks that will not be controlled + cost of risks that that were not identified
I know, the formula seems long, but it is rather straightforward, following is the explanation of its different elements:
- Revised project original budget: You might change the cost you made for some tasks because you discovered errors in estimations. For example, you might discover that the hourly rate of a technician you need for your project is wrong and thus needs to be changed.
Cost of risks that will be controlled: This is the money you need to reduce risks (by hiring specialized companies, renting equipment,…etc.)
Costs of risks that will not be controlled: This is the extra money you put aside if you accept a risk.
Cost of risks that that were not identified: Unless you can see into the future, you will not be able to identify all possible risks. Also you might identify new risks during project execution, which will require some findings. For these reasons, many companies opt to put some extra money in case an unidentified risk emerges. Usually this amount is put in a percentage of the overall project budget, like 3 or 4 %.
If you base your budget on this formula and add the monetary figures of all its elements, then your estimation accuracy would be improved.
Abdulla J. A Kuwaiti is an Author in the field of project management. He authored two books: “ Study Guide for the PMI Risk Management Professional Exam” and “ The Project Book: Making Your Projects Successful”. He can be contacted at www.kuwaitat.net.