All About Financial Management of Projects

Start mastering project financial management today to avoid any budget overruns tomorrow.
Masooma Memon

Only 43% of businesses agree that they “always” or “most of the time” complete projects within the set budget. That leaves 57% of businesses - the majority - having trouble with finishing projects without spending more than they planned.

But why do so many projects get out of hand so quickly? Why, at the end of the day, the numbers don't line up? The answer lies in how well the project businesses are doing project financial management. This includes planning, tracking, and managing project financials seamlessly.

Thankfully, we can learn effective financial management for projects from the champions. 

So here's everything we found, so you can start mastering project financial management today. 

What is project financial management?

Project financial management, sometimes referred to as project accounting, is managing a project’s financial aspects including its cost, revenue, and profit. 

To this end, it brings together planning, estimating, budgeting, funding, managing project expenses, and billing.

Of all these aspects of financial project management, effective project budgeting is by far the most important. From there, it’s about managing that budget over the life of a project — all while ensuring the work is completed within the approved budget. 

Why is project financial management important?

Briefly, financial project management aims to keep projects within set budgets. In doing so, financial management for projects on an individual level not only helps you organize and manage projects better but also positively impacts business growth.

This happens because project financial management helps to balance:

  • Investment in a project and the expected returns from it
  • The potential impact of an ongoing project on other projects in the pipeline
  • The overall impact on your agency 

Let’s break down all these benefits:

Keep project progress on track 

Project accounting is critical for effective project management. It gives you key metrics and a projected financial roadmap. The former offers an overall understanding of a project’s standing in your pipeline while the latter gives you guardrails for keeping a project on its budgeted track.

Identify and prioritize high-ROI driving projects

Similarly, financial project management gives you a complete picture of each project’s potential return on investment. This, in turn, helps identify projects that’ll have the biggest impact on your business.

Once you can identify these projects, you can easily prioritize them — making sure they’re completed to your clients’ satisfaction.

What’s more, knowing which projects are the most ROI-driving assists you in understanding who your ideal clients are and in making plans to market more to them.

Improve resource management capabilities

Having a solid grip on your project financials also helps you dedicate resources to projects based on their budget and how high they’re on your priority list.

Meaning: use project financials as your guide to allocate scarce resources to projects that best support your business’s strategic goals. 

Manage project scope and cost overruns

Lastly, since project financial management breaks down the project budget, use it to keep projects within their established budget. In doing so, you can easily avoid cost overruns and increase project profitability.

Challenges project managers face with project financials

Planning and managing project expenses is no easy feat.

If anything, project managers need full access to project financial data to make important decisions about a project’s budget. Spending project funding wisely and within the allotted budget is another challenge.

Here’s a look at the struggles a project manager faces when trying to tackle project financials:

1. Monitoring unimportant project metrics

A common problem is that project managers track either too many or unimportant project financial metrics.

This makes project financial management more complicated than it is. Additionally, tracking incorrect or unnecessary project metrics makes decision-making increasingly complex.

2. Incorrectly tracking project financials

Another common pitfall is that project managers look at several places to monitor their project financial metrics instead of a central tool. Multiple spreadsheets traveling the organization complicate financial management further while increasing the risks of human error.

In reality though, a project financial management software can easily track revenue, project cash flow, earned value, and profit in one place. In fact, the most sophisticated financial management tools can help with financial reporting and forecasting too.  

3. Lacking data consistency

Have you ever had a project where you get to the end and you're like, "Wait, how did I rack up all this cost? But we didn't make that much…?" 

If so, you're not alone. Many project managers struggle with calculating the actual cost, revenue, and profit because they use different formulas. At the end of the day, the numbers don't line up. And what they're really lacking is consistency in measuring project data.

To avoid confusion and frustration, it's important to introduce a set of rules and formulas for all your calculations. The best way to do this is to use a tool that does all your calculations for you.

Read on: The 7 Best Project Accounting Software & Tools to Stop Crunching Numbers

4. Not managing risks

Even experienced project managers struggle with ensuring their projects are completed within a set scope. In fact, a 2017 study revealed that nine out of ten construction projects face cost overruns.

But where less experienced project managers freeze when it comes to risk management, experienced ones create scenarios for dealing with unexpected challenges. They undertake thorough planning and develop trust with clients — clearly pointing out action steps for tackling scope creep.

How to improve financial management of projects

With the basics including the challenges of project financial management being clear, let’s walk you through improving the entire process.

Follow these six essential steps:

1. Start tracking the right financial metrics

This is the key to efficient financial project management. Besides, monitoring the correct business-specific and project-specific metrics helps you better prioritize projects to achieve your revenue target.

Choose from the following crucial project financial metrics:

  • Actual Cost (AC)

A project’s actual cost is the amount of money you’ve spent on it. Keep in mind that this isn’t an estimate, but the true cost of what you’ve spent. 

You can easily calculate it by adding all the expenses made over a project’s lifetime. Here’s how:

Actual Cost (AC) = Total Costs per Time Period x Time Period
  • Earned Value

Earned value, also known as Budgeted Cost of Work Performed (BCWP), is a measure of how much value you’ve made from the money spent on a project to date.

Put another way, earned value offers a reality check of how well your individual project is performing in terms of the defined budget. How? By taking the value of work completed by a particular date and comparing it with the approved project budget for that period.

Calculate it using the following formula:

Earned Value = % of completed work (actual) x Task Budget
  • Cost Performance Index (CPI)

Cost performance is a valuable metric for making accurate budget estimations. All you have to do is to divide the value of work completed (earned value) by its actual cost. 

Cost Performance Index (CPI) = Earned Value / Actual Costs
  •  Cost Variance (CV)

This is the difference between a project’s planned budget and the actual costs within a defined timeframe. 

Calculate CV using this formula:

Cost Variance = Budgeted Cost of Work – Actual Cost of Work

If your project is going over budget, your cost variance will be negative. If it’s under budget, you’ll see a positive cost variance.

  • Schedule Variance

Schedule variance gives an overview of how on-schedule your project is. It is the budget cost of work completed minus the budgeted cost of scheduled work.

Calculate it using the following formula:

Schedule Variance = Budgeted Cost of Work Performed – Budgeted Cost of Work Scheduled

In short, it looks at the budgeted and scheduled work to tell you if the project is behind the planned budget or running ahead. As with CV, a negative schedule variance means you’re behind schedule and vice versa.

  • Gross Profit Margin

The gross profit margin is the total you’ve earned from a project after subtracting costs that went into completing it.

Calculate it using this formula:

Gross Profit Margin = Total Profit - Total Costs

For a percentage value, multiply the number you get above with 100.

Generally speaking, the higher the gross profit margin, the more profitable a project is to your organization.

  • Return on Investment (ROI)

ROI is a measure of the money or profit you’ve earned from the amount you’ve spent or put into a project. But instead of viewing the overall profit, ROI determines the specific benefits (read: cost savings and profit) from a project’s costs such as training, overhead, and resource charges.

Calculate ROI using the following formula: 

ROI = Net Benefits/Costs x 100

2. Integrate robust project accounting software

Accurate financial management for projects is only possible with the right accounting software.

Not only does this tool help with planning effective project budgets but also aids with monitoring financial metrics and tracking dedicated resources and hours spent on projects — all in one place. 

The right budget management software also helps you create project dashboards customized to include only the metrics relevant to you.

Most of all, it displays data in a visually engaging manner, which makes it easy for you to review project financial performance and make related decisions for improved project accounting.

Take Runn, for instance. This project accounting software:

  • Gives you a real-time overview of project financials covering both budget and time spent.
  • Helps you create detailed project reports on budget, profit and profit margin, and revenue.
  • Offers daily billing charts, customizable dashboards featuring financial data for resource allocation, and analytics for individuals’ contributions.

In short, Runn helps you manage all the essential project financial information including budget breakdowns, revenue generated, project timeline, and resource availability in one place.

3. Set a cost baseline

Cost performance baseline or cost baseline is an estimated project budget that calculates the overall costs of a project for a defined timeframe. Because the cost baseline is determined for set periods, they are also referred to as time-phased budgets. 

Creating a cost baseline is critical for ensuring your project remains on budget and for evaluating the overall performance of a project in terms of the revenue it generates.

To set it up, you’ll want to look at your approved budget and create an estimated breakdown of planned costs. Plan the following:

  • Project schedule and scope. This is an account of all the work to be completed within a defined time for a set budget.
  • Resources. An overview of the people, tools, and other materials required to complete various tasks.
  • Contingency Reserve. This involves making cost estimates for covering unexpected expenses that may show up at any point in a project’s lifecycle. 

4. Focus on project ROI

Effective financial management for projects is focused on project profitability.

Without it, it’s centered around nothing more than managing project budgets as accurately as possible — not considering project profit or business growth.

It’s why it is important for you to drive focus on stage-wise ROI when working on projects. Take the necessary steps to avoid cost overruns and deliver projects within the set budget and time outlines.

But to achieve all this, having a sharp focus on the project ROI is key.

5. Document expenses

Documenting everything is essential for ensuring your organization makes the most of project financial management. To this end, you can manually manage all your key financial metrics in a spreadsheet.

Alternatively, you can use Runn to get a full project overview alongside dashboards showcasing project financial metrics, expenses, and more. 

Since everything is automated — from project performance forecasts to time and budget tracking — Runn removes the work that goes into manual financial management from your plate.

Most of all, using a project accounting software helps you stay on track with your budget. 

Also, keep in mind that 54% of organizations can’t track their KPIs in real-time considering only one in four of them use a project management software (the rest use paper, Excel, or a hotchpotch of tools). Hence, by using the right tool yourself, you can easily get an edge over competitors.

6. Have a change control process in place

And, finally, it’s important you bear in mind scope creep (how likely it is that the work expands beyond the plan), and how it’d affect your budget if not handled properly. 

To plan for it, it’s important that you clearly coordinate with your client on the action steps that you’ll take. Additionally, make sure you capture budget revisions accurately in your system.

And once you wrap a project, undertake a rigorous project financial analysis to understand where the budget deviated, why, and what you can do to prevent the same mistakes for future growth.

Ready to level up your project financial management? Try Runn for free today to plan, track, and manage your project financials in one place.

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