Six Common Mistakes Companies Make When Creating a Project Budget

 

 

In corporate America, the ultimate goal for any company is to please its shareholders. Whether the company is publicly traded (and therefore beholden to a variety of shareholders), or private (which means only a handful of individuals or a single family holds the controlling stake), the shareholders are the people that need to be happy, because they have the greatest exposure.Of course, what pleases the shareholders is increasing the bottom line. There are two sides to accomplishing this: increasing revenue and cutting costs. Increasing revenue depends on a variety of factors which are specific to each industry and even each product, and so, is beyond the scope of this article.But cost-cutting is more universal, especially in the realm of manufacturing. Let’s take a look at some of the most common mistakes that are made when a company tries to project its manufacturing costs.

 

1. Underestimating the cost

We start the list with the easiest problem to avoid. According to the book Megaprojects and Risk: An Anatomy of Ambition, 86 percent of projects end up costing more than projected. This isn’t really surprising. It’s easy to fall into the trap of lowballing estimates. It makes them easier to sell, and therefore increases the likelihood that the project gets approved and off the ground. And this is how things have been done for decades: the authors found that cost underestimation has been a concern for least the past 70 years.Don’t understate your costs in an effort to make the numbers look more palatable. If anything, you’ll be better off in the long run if you overestimate the costs. It’s infinitely better to have some extra budget left at the end than to have to scramble to come up with additional unplanned funding to complete the project.

 

2. Overestimating your own capabilities

Another very common error is assuming that you’re capable of handling more of the workload in-house than you’re actually able to. It appears to be a way to save both time and expense. But be very wary of this pitfall. Once you’re actually doing the work, you may find that you fall short internally on either the capabilities or the manpower needed to produce the results you’re looking for.

 

3. Including items in the estimate before getting quotes

When planning a budget, you may find yourself thinking, “I’ve done something like this before. I know what it will cost.” Or, “This product is close to that one, so it should cost the same.” Both of these can be very dangerous assumptions to make. Every project its own intricacies that can often be overlooked if not analyzed carefully. It is strongly advised not to use the cost of current products as the basis of estimating new ones. Unless the project is a minor revision such as changing the color of an existing product (and even something as simple as that carries some risks), getting a few quotes at the beginning will help obtaining realistic numbers in for the estimate to use in the estimate.

 

4. Ignoring the direct overhead costs

Whether you manufacture goods in-house or outsource them to a vendor, there will always be overhead costs. Whether they take the form of quality control measures, manufacturing costs, or simply the time it took to vet and select vendors, outside costs cannot be escaped. These costs should be factored into the total manufacturing cost.

Most common direct costs:

• Internal labor
• Prototypes
• Manufacturing cost
• Consultants
• Software
• Travel
• Raw Materials

 

5. Not taking into consideration indirect costs

Many companies tend to make the mistake of rolling all of these costs into the total overhead for the company, and simplify by using a formula to assign indirect costs to their projects and products. These should be calculated accurately to avoid surprises late in the process.
Indirect costs include:

Telephone, internet and utilities

• Office space
• Company equipment
• General administration
• Company Insurance

 

6. Not planning for cost overruns

It is human nature to plan for the best-case scenario. You know, the one where everyone completes their work on time, everything works the first time and there are no issues with manufacturing or shipping? Having said that, unforeseen cost overruns are inevitable. Just be sure you’ve budgeted for these possible issues. According to Megaprojects, overruns of 50 percent or more are not uncommon for larger projects. Again, building some padding into your budget might make your projected numbers look a little ugly, but ultimately it will save you from taking on projects that you shouldn’t. Most times, at the beginning of a project, the actual cost and timeline are guesses. Unless you have done a similar project, they can be way off.

 

It is essential to have some contingencies in place for any project. Even when creating the specifications for a product, think in terms of which features are “must haves” and which are “nice to have”. If the project is running smoothly and on budget, you may be able to include everything on your wish list. But if the project is behind schedule or over budget, it might be time to reconsider some of the “nice to have” items.Careful planning of your project budget up front requires some time and effort, and as we’ve seen, may even make it more difficult to get approval for the project. But there’s no question that, in the long run, avoiding these common mistakes is the best way to ensure the success of your project