How to manage project budget effectively if you’re an IT service company

Cost estimates are everything in your line of business. If you don’t create, track, or analyze a project budget, you’re basically keeping yourself in the dark about how your business is doing.

Arkadiusz Terpiłowski

Co-Founder

Finance Management

22/09/2021

Cost estimates are everything in your line of business. If you don’t create, track, or analyze a project budget, you’re basically keeping yourself in the dark about how your business is doing.

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Having a budget and tracking it effectively illuminates many issues plaguing your company. For example, if you consistently go over budget, you’re probably dealing with a more serious issue like inaccurate client hourly rates. 

The good thing about tracking is that it shows you exactly where things went wrong and how to fix them so they never happen again.

Read this article to get the answers to all your pressing questions about intelligent budgeting and learn how to track your budget with the help of some pretty smart tools.

Why do you need a project budget anyway?

TL;DR: If you fail in budgeting your project, it might fail (28% of project fails come from inaccurate cost estimates) or it might not bring you the profit margin you need to keep your company afloat.

Let me explain this in more detail.

We use the budget to understand whether a project was completed successfully or not. But it’s not just about project completion and your team’s ability to stay on budget.

There are many other reasons why budgets are so important.

For starters, budget tracking helps you to control project costs. You can measure the project’s actual cost against your estimates and see how much of it you’ve already burned. 

If your project is 50% done but you’ve already burned 80% of your estimated budget on it, you’ll know something has gone wrong and take action immediately.

Now that we got this out of the way, it’s time to focus on a few practical things about project budgeting.

What is a project budget?

A project budget is nothing else than the total projected costs you need to bear in order to complete a project over a specific period of time. 

The idea is to estimate the costs of a project per phase and use this data to set a client rate that brings you the desired profit margin.

A typical project budget includes:

  • labor costs (hourly rates of your developers and other specialists), 
  • material costs (anything from software licenses to computer monitors),
  • operating costs (costs generated by your administrative dept, sales, marketing, etc.). 

Note that this isn’t a static document - it changes with revisions and updates applied to it throughout the project. 

What is budget management in project management?

Project budget management is basically the process of estimating what you need, setting limits, and managing spending throughout the project’s duration.

Most of the time, you’ll be looking at these management tasks

  • Defining the budget - forecasting your requirements, identifying the resources you need (resource planning), and setting the budget.
  • Tracking and budget management during the project’s progress - and managing timelines to handle labor costs.
  • Updating the budget - this is what you do when you notice that the reality looks different than your plans.

Let’s start with some theory: 5 common budgeting methods

A project manager can choose from several methods for setting and tracking budgets. The approach you pick depends on the type of project at hand, availability of historical data, and other factors.

1. Bottom-up estimation

This is a go-to estimation method in the tech industry.

And for a good reason - it increases accuracy and helps to eliminate mistakes coming from oversight or not enough detailed view of the project.

Bottom-up estimation is based on estimating individual parts of the project plan and then adding them up together to create the final estimation.

What are those individual project parts? They can be tasks, milestones, or project phases - depending on how you estimate project workload in general.

Are there any downsides to this approach? Going down to the smallest detail of your project might take a lot of time. Also, project requirements might change even at this point. That’s why such estimates typically go over several iterations and refinements throughout the project’s duration. 

The better you understand your project’s scope, the more accurate your estimation will be. This means that you’ll have less uncertainty to deal with as the project progresses.

2. Top-down estimation

Here we take a 180-degree turn and start from the top. When following this method, you first figure out the total number of hours needed to complete the project and then split this number into tasks or milestones.

It all starts with the total project budget. So, it might make a lot of sense if you’re working with the Fixed Price billing model where the available resources are set in stone. It’s your job to make sure that the project can be realized within its boundaries (and generate a decent profit margin).

Any downsides? You end up with pretty loose estimations at the beginning of the project because understanding the scope of work and setting a project plan might be challenging.

Not to mention the potential problems this approach might cause between your sales and project teams.

How to win this game? You need to understand how each task in the project scope will affect the initial fixed price. Calculating this manually is tricky because you’re exposing yourself to potentially costly errors. 

3. Analogous estimation

You’re likely not a total newbie to project management. You’ve managed project budgets before and have an idea about what worked and what didn't.

You can use your insights and data to create new budgets via the analogous estimation approach. Combine data and best practices from your previous projects to create an estimation about how much the current project could cost the client. 

You probably do this often enough when creating initial estimations that you pass on to your sales team, right?

Analogous estimation can become time-consuming but it doesn't have to if you have some good project portfolio management software. In Primetric, you can duplicate a project to create another one with similar tasks and then adjust it to match the requirements of the current project better. And then use it to create a more accurate estimate.  

Still, remember that every project is unique and while you can find similarities, your final decision shouldn’t be based just on them. 

4. Parametric estimation

In this approach, you use data and project variables to estimate the total budget. This method is more accurate than analogous estimation because it relies on the cost variables or data points from specific parts of your projects.

Parametric estimation takes more than one data set and then uses the statistical relationship between historical data and your variables.

The only problem is that you might find those data points challenging. 

5. Three-point estimation

It’s simple: consider the best, worst, and most likely case estimates to create an average budget.

This is one of the most pragmatic techniques for estimating budgets because you take a weighted average of the best, worst, and most likely case scenarios. 

It also inspires you to look at the project from multiple perspectives so you come up with more realistic cost estimation and avoid going over budget.

Note that it might sometimes take longer than other estimation methods, but is well worth the effort.

How to create and track a project budget for an IT services company

1. Establish your budget

Start by breaking down your project into tasks and milestones. You need a task list to know what your team will need to accomplish to drive this project to completion. Naturally, this knowledge is critical for managing your project’s costs.

Once your task list is ready, estimate each item on it. Identify all the labor and materials you’ll need to complete it and develop an estimation.  

Add all the estimates to calculate the total budget. Make sure to add some contingency costs, taxes, and overhead costs to get an accurate view of your financials. By knowing your costs, you can set the right rate for your clients and make sure your project is profitable.

Learn more about this here: How do you include overhead in the price of billable hours?

Factors to consider during the planning stage:

  • Client experience - you need to know whether your customer has already carried out a similar project or used the services of a company like yours. If so, they know what such a cooperation looks like and what to expect from it. Planning for a client who has no idea what to expect from working with you needs to take that lack of experience into account and focus on aspects like communication.
  • Team experience - next, there’s the experience of our team that you need to consider as well. Usually, a project team includes people of various experience levels - from juniors, through mid-level, to seniors. If your team is made of mid-level and senior developers, you need to make different assumptions about the number of hours it will take to deliver a feature than when you’re dealing with a team that consists mostly of juniors.
  • Project uniqueness - finally, consider the project at hand. Does it differ from other projects that you’ve implemented? Most of the time, projects are similar at a certain level of detail, so you can use historical data about past projects to your advantage when making your estimations.

Best practices for this stage:

  • Add design overheads into your account 
  • Add company overheads - profitability at the project level is important, but it’s not the full picture. The project contributes to the profit margin of your entire company.
  • Develop average revenue rates as reference points based on roles and experience to help out your PMs manage the project. Alternatively, you can show them the margin of the project adding that going below a certain margin isn’t an option).
  • For more insights, read this article: How to build a project planning process for a software company

2. Know what can go wrong

Why do projects go over budget? There are plenty of reasons to consider: 

  • The budget estimate was unrealistic 
  • The project at hand is complex and you overlooked some tasks when budgeting
  • The project takes longer than expected and labor costs add up 
  • Human error makes tasks more time-consuming and results in unnecessary spending
  • Client is constantly changing requirements

While some things are out of your control, you can prepare and keep others in check to make sure that your project stays within budget.

One of the smartest things you can do is get a project management solution that helps you to see how your project’s budget will behave in the long run. That way, you gain full visibility into the project’s costs and can take action when necessary, instead of just hoping everything goes according to plan.

You can get this kind of long-term view in Primetric:

3. Track your budget in real time 

Even relatively simple projects are hard to track if all you have are calendar events and to-do lists. 

A dedicated solution can track your project’s progress and costs in real-time. Gantt charts come in handy here because they instantly show you how the different pieces of your project fit together.

Another perk of using special project management software here is that it gives you a practical project timeline where you can create individual tasks. 

And once everything is ready, you can track time per task. Primetric includes built-in time tracking capabilities to help managers keep project budgets under control.

Getting this data on time is critical because it shows whether your labor costs are spiraling out of control and your budget is at risk so you can step in and address the problem before it snowballs into a massive issue. 

Also, you can use this data later to create more accurate estimates for your next project.

Best practices for this stage:

  • Single source of truth - what helps here in tracking a place where all the data is synchronized and constantly updated. In an ideal scenario, the data is based on logged working time (for both billable and non-billable projects).
  • Solid approval process - if you’d like reallocation of people between projects to go smoothly, you need to provide your PMs with a process to follow. No more confusion or double bookings!
  • Budget-related status meetings - finally, it’s worth increasing the pace of communication about project budgets. A monthly stand-up meeting with this goal will help you in controlling the project’s budget.

4. Update your budget 

Once a project phase is completed, update your budget document to reflect what you actually spent. 

If you notice that you’re under budget, you can allocate some of it to later phases. If you see that you’ve spent more than expected, decide how you’re going to solve this. 

Is it time to let your client know that their new shiny app is going to cost more than you anticipated? Or can you make sure cuts in the next phases to catch up with your budget?

Keep a close eye on your changes because they’ll serve as valuable data points for you in the future when you’re tasked with creating another budget estimate.

Prepare to deal with a few challenges

Tracking costs and reporting on them can be really hard if all you have are spreadsheets.

Still, you need to know how your budget is performing and what’s happening when in the project.

Usually, project managers deal with the following issues:

  • They don’t have tools in place to alight project data to broader organization goals - project data is tracked separately from other projects and out of the context of the project portfolio.
  • They deal with a manual filling of spreadsheets - ending up with several spreadsheets filled with cost data and a massive barrier to understanding how these costs translate into reality.
  • They spend lots of time tracking cost data from numerous individuals - spending hours on updating finance documents and spreadsheets.

Many IT companies usually have some project management tools in place but still manage financials in spreadsheets.

Maybe you got stuck with spreadsheets because this is where you created your project budget at first.

But you can’t keep this up. You’ll have to spend so much time updating the columns and making copies manually before every meeting. Analyzing all this data will be next to impossible. 

The right project budget tracking solution can solve all of these challenges and give you insights into the project costs you need to run a profitable IT services company.

And solve them with the right project management software

By using software like Primetric, you can see how your budget behaves over the long term, check your plans against reality to keep profitability in check, and plan budgets/allocate people in line with your financial data.

This can make a big difference to your business. Consider the story of the software development company FingoWeb. Its project managers found controlling the project budget troublesome while the project was still ongoing. By implementing Primetric, the company can track the profitability of all projects and discover potential problems before they become real threats. 

You can make budget tracking easier too.

Book a demo with me and see how Primetric can help you solve your biggest pain points around budgeting.

Arkadiusz Terpiłowski

Co-Founder

Arkadiusz is Head of Growth and Co-founder at Primetric. Prior to that, Arkadiusz was at the helm of his own software development company where he oversaw operations. A great enthusiast of process improvements, his personal mission is to make software companies more profitable and efficient on their path to growth.

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