A practical guide to project budgets

Trick question:

When was the last time the world behaved as modeled in Excel?

Never, right?

That’s why most project managers think project budgets are a waste of time.

As a result, they look for shortcuts, hacks, silver bullets, or just copy & paste the old one and add 10% “just to be safe” (true story).

This has to stop.

Project budgets are a useful tool to secure your resources, manage expectations, and control your costs.

When you deliver your project within budget, you have a happy customer and a happy boss - what more could you ask for?

Let's break down how you create a project budget in 7 simple steps:

Step 1: Top-down guidelines

During the initiation of your project, the client and/or sponsor have defined the early contours of the project. In theory (and in most project management courses…), they present you with a clear and signed-off project charter that explains:

• The project’s why

• High-level benefits

• Measurable success

• Constraints & guidelines

• Stakeholders, risks, resources

• Etc.

In the real world, we usually get half of that in an email, followed by a “good luck”.

To create a realistic budget, your first task is to push back and get a ballpark cost expectation plus enough information to build a project scope.

If you don’t know what to build, you can’t estimate it - it’s that simple.

We went deep into how you create a project scope in this earlier issue of the newsletter.

Step 2: Bottom-up estimating

Once you have your scope worked out, you can start estimating the costs of delivering each of the elements. The main cost driver in modern projects is hours, both internal and external.

For each element in your scope, work out (with your team!) how long it will roughly take. Then estimate the cost per hour, and add it up. Don’t apply wishful thinking here: if you budget an engineer at $30/hour, you’ll have to find one for that rate too!

Step 3: Estimate all other costs

The list here could be endless, and is highly dependent on your organization and context. Here are a few ideas to get you started:

• Training

• Material

• Research

• Equipment

• Travel expenses

• Software licenses

• Launch celebration

• Change management

• Storage (physical & digital)

• Documentation and closure

Make a split between direct expenses during execution (OPEX) and long-term investments (CAPEX). If these terms sound like a medical emergency, ask someone from your finance team to help you out.

Step 4: Risk and management reserves

With all known costs listed as accurately as possible, you need to add two forms of reserves.

The first one is a budget you directly assign to risk management, called a contingency reserve. Your risk management shows you what you could expect to happen, and how you’ll mitigate that.

Every mitigating action has a cost related to it, so you have to budget for that. Read more on risk management in this deep dive.

The second buffer is the so-called management reserve. This is an extra pot of money that you reserve for things that come up during execution but are not identified as risks. The unknown unknowns.

As a rule of thumb, the more uncertainty there is in your project, the higher this buffer should be - usually ranging from 5 to 10%.

The management reserves are not part of your baseline budget, but should be available when needed and can only be used with the approval of the steering committee.

Step 5: Test your budget

If your organization or anyone within your team has done a similar project before, you’re sitting on a pot of gold (pun intended).

How does your estimate compare to theirs? What can you learn from their budget and what actually happened during execution?

With input from other projects and experiences from team members or leadership, you can fine-tune your earlier assumptions and adjust your budget.

Step 6: Compare top-down and bottom-up

This is where the fun starts.

If the sponsor’s guidelines and your bottom-up estimate are far apart, you’ve got some negotiation to do.

Remember that you have 4 variables you can play with in a project, and that if you touch one, you touch all 4:

1. Time

2. Scope

3. Money

4. Quality

If the budget doesn’t add up, you can pick from any of the three other points to make it work. Can you take longer? Lower the quality? Take something out of the scope?

If the answer is no to all three of those questions, you can’t change the budget either.

Stand up for your team here: you can’t magically do it for 20% less because that’s what has been sold. If you agree now, you’ll be the one who gets to deal with the consequences later.

Step 7: Approve the budget

This is a small and simple but absolutely crucial step.

Make the steering committee agree to your budget, and sign it off. An email will do. Just make sure you have your thumbs up somewhere in writing, to prevent future tears.

Putting it all together

There you have it, project budgets in 7 simple steps.

Next time you have a project budget to make, use this as a cheat sheet:

1. Top-down guidelines

2. Bottom-up estimation

3. Add other expected costs

4. Add risk and management reserves

5. Compare, negotiate, and get a sign-off

And if you get caught in a budget discussion at any stage of the project, think back to the four variables we identified and see where you can find room to play:

1. Time

2. Scope

3. Money

4. Quality

You’re not a magician. It has to come from somewhere!

That’s all for this week!

Cheers,

Jasper

PS: what tool do you use to make your budgets? Good old Excel? Hit reply and let me know - it makes future newsletters even more helpful (and maybe I can make some templates for you too)!