Management Reserves versus Contingency Reserves – Key Concepts in Project Management
How to determine management reserve
You can use the following steps to determine the management reserve:
1. Determine oversight
As part of the project planning process, roles and responsibilities are assigned. Generally, executives control the management reserve. This portion of the budget may be subject to decision-making by an executive who supervises the project manager.
2. Begin the budget process
Estimating the potential return on investment, establishing the project’s scope, and asking contractors for proposals are all steps in the budgeting process. As more details are gathered, the project’s budget starts to take shape. Executives eventually have enough information to start incorporating actual numbers into a thorough budget.
3. Calculate costs
Estimating the project’s labor and material costs is a step in the budgeting process. Often executives use estimates from contractors. Executives occasionally use previous projects as a guide when estimating costs.
4. Determine management reserve
The project’s overall cost determines the size of the management reserve. The management reserve typically ranges from 5% to 15% of the project’s cost. When management foresees greater uncertainty surrounding the project, such as a lack of experience, the figure may occasionally be higher.
What is a management reserve?
A management reserve, which forms part of the budgeting process, plans for potential expenses that could arise in a project. Executives of the company include the management reserve in anticipation of potential project problems that could add costs. In essence, it is assumed that an unforeseen event may occur during the project, and the management reserve accounts for that potential risk in the budget. A management reserve helps to account for the unexpected because good managers are aware that they can never plan for everything.
For instance, the project might require specific materials, but the exact cost of those materials is unknown because of price fluctuations. There is a chance the price will increase significantly and cost the project more money. The budget may account for the possible price range for the material, projecting a budget of $500,000 to $550,000 for the material.
When to use management reserve
The following situations call for using the management reserve:
Redoing a task
Mistakes can be fixed using the management reserve portion of the budget. The management reserve indicates that there is money set aside in the budget to pay to redo a task or undo work that was performed incorrectly. For instance, a new database might not be compatible with a particular aspect of the business’s current system. By anticipating the scope and complexity of the project, the management reserve may have the resources necessary to make the correction.
Paying unexpected costs
Sometimes the cost of materials is higher than expected. A company establishes a management reserve to prepare for unforeseen expenses, and a rise in material costs is a typical problem. This type of contingency has already been anticipated and planned for in the budget through the management reserve.
Expediting completion
A project sometimes takes longer than expected. A management reserve could enable a business to advance the project by paying more for labor than anticipated. To help meet the project deadline, the labor costs might include overtime pay, hiring additional staff, or hiring outside contractors.
Redesigning plans
Plans can sometimes change during large-scale projects. When they do, executives can give the go-ahead to use the management reserve to cover the extra expenses. For instance, perhaps a foundation issue was discovered while renovating a building. Costs associated with the project’s redesign are increased, but the management reserve can pay for them.
Benefits of using the management reserve
The following are some advantages of including the management reserve in your budgeting process:
Budget control
Executives usually control the management reserve portion of the budget. Executives control the budgeted amount and decide when to use it because the company has set money aside in anticipation of potential challenges that could result in increased costs. The reserve shows that the business has planned for potential problems. However, the procedure still pushes the project manager and contractor to stick to their budget and avoid using the management reserve.
Risk management
The process leads a company to engage in risk management. It challenges business leaders to consider potential expenses in terms of known unknowns and unknown unknowns. In some circumstances, the business may be aware of the cost factors. In others, they might have no idea. In any case, the reserve management process aids executives in anticipating and preparing for the worst-case scenario cost situations.
Accurate assessment
A more accurate estimate of the project’s total costs can be obtained through the reserve management budgeting process. Usually, in a project, something doesnt go quite as expected. Despite not being precise, the reserve management process tries to foresee this reality. The process’ underlying philosophy is essentially that business executives should budget for the likelihood that something will go wrong on most projects.
Budget surplus
A management reserve may actually result in a budget surplus if everything goes according to plan. This may be beneficial if a business is having a difficult year or may increase margin in a successful year. It enables managers to tell higher-ups that they were able to control costs and save the business money. A manager who establishes a reputation for delivering excellent results within budget is likely to be valued by the company.
FAQ
What is a management reserve?
Amount of contract budget set aside for management control purposes (known unknowns) as opposed to being designated for the completion of one or more tasks is the standard definition of a management reserve. It is a part of the overall contract budget but is not a part of the performance measurement baseline (PMB).
What is the difference between contingency and management reserve?
The management reserve is set aside at a high level for the “unknown unknowns,” whereas the contingency reserve is set aside to address the “known unknowns” (PMI, 2013). The risks on the risk register that are “known unknowns” have prepared responses.
How do you determine management reserve?
The cost baseline for the management reserve is typically increased by 5–10% in order to estimate the management reserve. The project manager would determine the management reserve as $6,050 (i) using a cost baseline of $121,000 and a 5% management reserve. e. , $121,000 x 5%).
What is management reserve in a budget?
Project managers set aside money from the contract budget for management reserves (MR) at the start of a project. The Contract Budget Base (CBB) is the result of adding the MR and Performance Measurement Baseline (PMB).
