What 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!

What is the Cost Baseline in Project Management? 

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.

What are the Components of the Project Baseline?

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.

Importance of Cost Baseline

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.

• Keeping the project on budget: Keeping the project within the planned budget is one of the most important objectives and key results for a project manager. The PMI cost baseline is an important indicator in this regard which helps the project manager evaluate whether the project is under budget or over budget.
• Deciding whether to move ahead: Keeping track of the cost baseline keeps the higher management informed on the overall project status and whether or not the project can continue ahead as per plan.
• Performance evaluation: As mentioned earlier, cost baselines formulate an important OKR for the project, the leadership, and the organization in evaluating overall performance and managing variances.

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.

How to Set up a Cost Baseline? 

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.

How is the Cost Baseline Calculated? 

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:

• Manpower
• Machinery/Material
• Replenishments
• Travel/Training
• Overheads

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.