Inclusion of Contingency

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What is contingency? Contingency is the amount of money, or the amount of time, that the PM includes in the project budget, or the project schedule, to cover for the known unknowns, or risks. This is not an amount that is included due to a specific project activity. It is an amount that is over and above the activity budget.

Why would anyone include additional money and time not shown to be needed by the project activities? The answer to this is obvious, but because of the practices employed by PM's in the past, management is often suspicious of these inclusions. Project managers have been aware that things go wrong, so they have often included additional time and funding into their budgets to allow them to deal with the problems when they occur. But generally they did not have any tools to allow them to justify the amounts that were included. If we were to try to include the full amount that would be needed, should every risk materialize, we would have to request such huge project budgets that no project would ever be approved. And of course, these amounts are not required, because none of the events are certain to happen, so the case in which all of them would actually occur is so rare that we will probably never experience it. So the project really needs some amount that is less than the total that could possibly be needed. The problem is, how to define this amount. Many companies estimate this by including a percentage, say 10% of the project budget, for contingency. This is a step in the right direction. It at least recognizes the need for contingency. However, some projects are very risky, which some are not. So these projects need different percentages of contingency. Wouldn't it be better to include an amount that in some rational way represents the expectations for the specific project?

Some project managers face the problem of how to convince management that contingency is required at all. In an organization that is mature in Project Management, it is recognized that contingency is required, and that it is expected to be spent. In less mature organizations, there is a need to educate the management to these facts. One suggestion would be to discuss something that is meaningful to those who need to be convinced, which illustrates the need. One example: In a congested city, propose calling a meeting at 5 am on Sunday, and ask what time they would have to leave home in order to ensure that they would be in the meeting room on time. Suppose they say 4:30. Then suggest that since most people have objected to attending a meeting at 5 am on Sunday, the meeting time has been changed to Tuesday at 9 am. Ask if the person would them leave home at 8:30. An example like this should clearly illustrate the concept of the need for contingency. We know that it will take longer on Tuesday at 9. We even know the causes: traffic, accidents, construction, etc. We just do not know how much there will be. But we know we will need more time than the activity itself takes. Hopefully examples such as this can help to convince management that contingency must be included and will be used.

The question then is, how much should be included to enable the team to deal with those occurrences, which will affect the project, but not leave too much money locked up in places where it might not be needed? The answer to this is actually simple. The number of risks is large. The overall risk impact can be calculated for every risk, as shown above. We said that this number is meaningless for each individual risk. Possibly the risk will occur and the cost will be the full amount shown as the cost of the consequence. This is the case with both the cost in time and the monetary cost. Or the risk will not occur, in which case no time or money is required. Statistically though, the total time impact, and the total dollar impact, calculated in this manner, will give a good estimate of the amount of time and money that should be included to give the team the resources they need. And since the team can clearly show how they arrived at the number, and what they are covering for, there is backup for the request. In the past teams have 'padded' budgets by including large amounts of time or money with no clear justification, in the name of contingency. These amounts sometimes exceeded the required amounts, and the teams used them for purposes other than contingency - scope creep or scope changes perhaps. This practice has given many people the impression that contingency is not really needed, and that some people try to build in too much contingency. Project managers should work to dispel this view so that they will be more credible in the future when they request contingency. Using the technique outlined here, the PM has justification for the request, and if the risks do not materialize to the extent predicted statistically, the PM should return any unused contingency.

The question remaining then is where to include the contingency. As mentioned above, this will be discussed when we discuss the budget, and the schedule.

We incorporate contingency to deal with the risks. But we also need a risk management strategy and a plan for the most serious risks we expect to meet. Working with the Project Sponsor, the team must develop and implement the full risk management plan, identification probability, impact - quantification response development

In addition, they must respond to potential new risks as they arise, communicate all of the information from the risk management process, continually monitor the project activities to be aware of potential risks, and their status, and when risks do materialize, implement the contingency plans.

Contingency Plans are a major factor in risk management. Using the risk analysis, the team decides which risks require contingency plans and how detailed or comprehensive these plans must be. Some plans are fairly simple, or short. But if we consider projects such as Y2K projects, or communications structure for a major event, we can see that sometimes people work for man-months or even man-years just building contingency plans. In these cases, spending the time and money to build these plans is justified because the potential loss is so much greater.

In this chapter, we have addressed the processes that are required to analyze and deal proactively with risk. We need to evaluate the environment in which the project occurs, including the tolerance of all the key stakeholders. The team must establish a risk management strategy that is satisfactory to these stakeholders. Then, actual risks are identified and analyzed, allowing the team plans for potentialities, and to deal with problems as they occur.

Where the risk analysis shows that risks exceed tolerance or jeopardize the project, the team, in conjunction with management and other stakeholders may need to decide to cancel or redirect the project.

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Project Management Made Easy

Project Management Made Easy

What you need to know about… Project Management Made Easy! Project management consists of more than just a large building project and can encompass small projects as well. No matter what the size of your project, you need to have some sort of project management. How you manage your project has everything to do with its outcome.

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