Barring some illegal activities, accounting rules for managing financials for an organization are fairly established and reliable. However, when it comes to managing costs for projects in the real world, things are far from being clear cut.
I will review a few real live examples of how using various costs models and market forces impact projects to generate interesting unintended consequences.
Model one – full time employees are no cost to a project
I have seen in quite a few organizations the model that in a project internal employees are “free”: there is no cost to the project to use the employees. This starts from the great intent that full time employees should be given preference in projects over external contractors, but, as expected, market forces will strongly determine that:
- “Free” resources will only be favoured over cost based resources only as long as the output is the same. As any respectable Project Manager knows, getting someone who can’t do the job, even if free, is a really bad idea.
- More often than not, “free” resources are assigned to projects that are in trouble financially, because work needs to be done, but costs have run out.
- Full time employees tend to get overworked on too many projects and be assigned on failing projects, both having a negative impact on morale.
Instead of having the positive effect of keeping full-time employees engaged , it has the negative effect of overwork and skewing the work towards contractors. Of course, proper resource management would alleviate this, but that is not my real world observation.
There is a more insidious aspect to this model. The cost-benefit analysis models the cost aspect lower than reality, and if the support team is also modeled as a zero-cost, both the project cost-benefit and the overall TCO become fundamentally flawed. A zero cost support model also removes from scope any operational improvements in the product: who wants to build something that has zero benefit (you cannot benefit for improved operations, because operations costs are zero). I have also experienced a case where a particularly complex product was selected based on it’s low cost, but the administration was not part of the discussion, and the product was implemented and never used.
In this model, full time operations people tend to be overworked, leave, and more expensive resources need to be brought in.
Model two – fully cost full time employees + price contractors at cost
This model prices full time employees (at a blended level), and includes not only their salary, but also benefits, pension, office space, equipment, and distributed cost of management (in essence, it’s a consulting model). Contractors on the other side are priced at the cost of the agreement. This leads to ridiculous situations where an internal mid-skill employee is priced higher than an experienced consultant in the field. And, as expected, market forces will strongly determine that:
- Full time employees will be shunned from projects, to the point where entire shadow departments are created. If this is combined with a very strict project management approach, this ensures that the entire department gets de-funded. It’s a classic example of “pricing yourself out of the market”
- Employees either become lazy (bad ones) or leave (good ones) because there’s no work, and this makes the cost for employees go even higher as the office and management costs tend to remain stable.
Model three – “don’t worry about internal resources”
Another place I’ve been did not manage internal costs at all, it was all about external vendors. And by internal costs, this includes all full time employees, and all full-time contractors. While this can make sense for a project with massive outsourcing, on most projects this is not true. And again , market forces determine that:
- Projects will run completely out of control when it comes to cost, because scope is added as long as it does not impact the real cost (the vendor). Sometimes development is done both in house and at the vendor thus increasing complexity and reducing ownership.
- Project becomes top-heavy as consultants are added to “manage” the vendor who becomes squeezed to deliver an ever larger scope; the project runs late and often in failure.
Model four – fixed cost vendor no matter what
This is also a real case scenario, but just as toxic. A project had a vendor who was 72% of the budget and they had a fixed scope, fixed price contract agreed at the beginning. The sponsor decided to change direction slightly, and the change impacted the project as a whole. It was not a major change, probably would have been a 10% reduction in scope and cost. However the vendor stated they were on fixed cost and thus cannot reduce their price (this was backed by the sponsor), thus the 10% reduction had to come from the other side of the project, the 28%. This was a 36% reduction of budget for a 10% reduction of the scope. As expected, this resulted in:
- Project was delivered late with less scope and more budget.
- The non-vendor team was stretched to the limit to deliver and struggled with high turnover .
How to fix it
The key message is that costs should reflect as close as possible reality. However, as anyone who has tried will tell you, implementing an “actuals” based project model costing is borderline impossible because of high complexity and variability. So I agree that a blended rate for resources is the way to go, but that should take into account these principles:
- Full time employees need to have a blended rate by skill and seniority. The rate cannot be zero.
- In order to encourage usage of full time resources I propose two things: 1. Mandatory minimum percentage of full time employees (realistic targets, e.g. up for forcing 50% FTE to be engaged) and 2. provide training that is not a project cost to employees. [should be part of the “General project cost”]
- Full Time employees blended rate should be compared against market value and if too high or too low, managers need to have some serious HR discussions. If the rate is too high, then productivity needs to justify the rates, or you might need to hire new people. If too low, aside from the fact that you are lucky, you are at risk of losing resources to competitors.
- Shared additional costs like office space, management, equipment need to be spread out to all resources, so contractors rate should be augmented with that rate, or BETTER have a separate project cost line for management.
- Projects should include ALL costs at all times, and business case / TCO models should include operational costs. The only thing that can be considered free is the same thing that can be included in a financial statement as free.
- Finally, any change in scope triggers changes in all cost elements, whether this includes vendor , internal employees, consultants. No scope change should be approved without accepting cost impact to each of the teams.
- All fixed cost contracts should allow for the scope to go down and the price to go down.
If you’ve never experienced above issues, consider yourself lucky. But if you do, as a project manager, best way to address this is to address them in the project management plan, or if changing the model is not possible, have it highlighted as a significant risk.