PMP® Exam Preparation – Knowing Types of Costs
"This film cost $31 million. With that kind of money I could have invaded some country.” - Clint Eastwood
Well, now we know how Clint Eastwood feels about controlling movie production costs. For project managers, too, cost management is a primary job function, one that remains a focus through every stage of a project lifecycle. Along with scope/quality and time management, it forms one of the three core functions of project management.
For those aspiring to pass the popular Project Management Professional (PMP)® certification, understanding the difference between types of project costs is critical. In this article, we’ve created an overview of project cost types and how they apply is various sample questions that will help you prepare for the PMP certification exam.
Types of Costs
Fixed Costs: Fixed costs stay the same and do not change throughout the project lifecycle. Examples of fixed costs include setup costs, rental costs, and other related costs.
Variable Costs: Variable costs are costs that change with the amount of work involved with a project. Examples of variable costs are hourly labor, the cost of material, the cost of supply, fuel for bulldozers, etc.
Direct Costs: Direct costs are expenses that are billed directly to the project. Examples of direct costs are team travel expenses, team wages, costs incurred for recognition and awards for employees, etc.
Indirect Costs: Indirect costs are costs that are shared and allocated among several or all projects. Examples include fringe benefits and taxes. Another example of indirect costs would be the salary of an architect or a project manager who is partially allocated across many projects. Their team members' salaries would be direct costs since each of them is directly working on a particular project and their salary is a direct cost to the project. But since the project manager is allocated to several projects, the costs incurred on his salary are indirect costs to the project.
Sunk Costs: Sunk costs are costs that have been incurred on a project but have not produced value towards the project objectives. Think of sunk costs as spilled milk. If they are unrecoverable, they are to be treated as if they are irrelevant. For instance, let's assume that you hire a freelance developer to develop your website in Java. However, after working on the job for some time, the developer quits for a personal reason. When you hire another developer for the job, he convinces you that he could do a better job using .NET technologies, and you follow his advice to develop the website with NET. In such a case, the costs that you have incurred on the freelance Java developer could be treated as sunk costs.
Sample Question and Answers
1) John works as a project manager with ABD consultants Pvt. Ltd. He felt a need to arrange special skills training for his team members for this project. What type of cost will he incur on the project for this training?
Answer: A. The skills training to upgrade their skillsets is directly related to this specific project, so it is considered a direct cost.
2) Bob needs to analyze project costing to find ways to decrease overall costs for a project. It would be advantageous for Bob to focus on:
A. Variable Cost and Fixed Cost
B. Fixed Costs and Indirect Costs
C. Direct Costs and Variable Costs
D. Indirect Cost and Direct Costs
Answer: C. Direct costs and variable costs are costs that are directly attributable to the project or those that vary with the amount of work accomplished. Therefore Bob could analyze these costs to find ways to be more efficient and reduce them.
3) Various rooms in a building are being rented out to accommodate a group of workers during a project. These room rental costs are an example of:
A. Variable Costs
B. Fixed Costs
C. Overhead Costs
D. Opportunity Costs
Answer: B. Costs incurred on room rental are considered fixed costs.
When creating estimates on a project, project managers must fundamentally understand the types of costs incurred. The PMP certification exam will be sure to have many questions on the topic, so be sure you have reviewed each type of project cost and be able to determine which type of cost is used in different scenarios.
PMP is a registered mark of the Project Management Institute, Inc.
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