Best Practices for Project Budgeting and Cost Forecasting

Accurate budgeting and cost forecasting are essential for keeping projects on track and within financial limits. However, as highlighted by Daniel Lovallo and Daniel Kahneman in their article “Delusions of Success: How Optimism Undermines Executives’ Decisions” published in Harvard Business Review, overconfidence and optimism bias often lead executives to underestimate costs and timelines.

This psychological bias is particularly dangerous when project budgets are based on insufficient or overly optimistic data. The article stresses the importance of having reliable and detailed data when creating project budgets to avoid costly miscalculations.

Businesses can use various budgeting methods, depending on project complexity, available data, and internal processes. While there are multiple approaches, this article focuses on two of the most widely used: top-down and bottom-up budgeting.

You can read the full article here: Delusions of Success: How Optimism Undermines Executives’ Decisions.

Key challenges in project budgeting & forecasting

Even with a structured approach, businesses often face challenges in managing project costs effectively:

• Underestimating costs: Missing key expenses leads to budget overruns.
• Scope creep: Uncontrolled changes inflate costs beyond the original plan.
• Lack of real-time cost visibility: Delayed financial data makes it difficult to adjust budgets.
• Inefficient cost tracking: Manual processes cause errors and inconsistencies.
• Ignoring risk factors: Unexpected variables (market shifts, supply chain issues, exchange rate fluctuations) impact budget accuracy.

Top-down vs. bottom-up budgeting: Which works best for your business?

Top-down budgeting

In top-down budgeting, senior management defines the total budget, which is then distributed across project phases or cost categories.

✅ Best for:

• Smaller projects or businesses with limited historical cost data.
• Situations where quick, high-level financial alignment is needed.
• Organizations that prioritize strategic goals over detailed cost tracking.

❌ Limitations:

• Less detailed cost breakdown, making tracking harder.
• Can lead to unrealistic budgets if not aligned with actual project needs.

Bottom-up budgeting

Bottom-up budgeting involves estimating costs at a detailed level (tasks, work packages) and building up to a total project budget. It offers greater accuracy but requires more effort.

✅ Best for:

• Large, complex projects with detailed work structures.
• Businesses that rely on precise cost tracking and forecasting.
• Teams using a Cost Breakdown Structure (CBS) for accurate financial planning.

📌 Related: Read our article on Cost Breakdown Structure (CBS) here

❌ Limitations:

• Requires more time and effort to gather accurate estimates.
• Can be complex if project scope frequently changes.

Choosing the right approach

The best budgeting method depends on your business needs and the type of projects you manage. Smaller projects with less historical data may benefit from a top-down approach for speed and simplicity. Larger, more complex projects often require a bottom-up approach for accuracy and detailed tracking.

Best practices for effective project budgeting

1. Involve key stakeholders in budget planning – Align financial goals with operational realities. Aligning expectations with customers will also reduce potential risks during project delivery.
2. Use historical data where possible – Benchmark against past projects to improve accuracy. A process of evaluation at project delivery will put you in a better position to budget your next project.
3. Break down costs into detailed categories – One larger projects, use a cost breakdown structure to separate cost types, work packages or project phases.
4. Track costs in real-time – Ensure ongoing budget accuracy by monitoring costs and commitments in real-time. This will reduce the risk of unexpected costs.
5. Regularly review & adjust forecasts – Plan the remaining part of the project to maintain financial control. Do this with regularity, depending on the size and timeline of the project.
6. Lock in costs early: Secure pricing and lock in key costs during the initial planning phase to avoid unexpected cost surprises later in the project.
7. Create back-to-back agreements with suppliers: Establish agreements that mirror and transfer risk between parties, ensuring that any potential risks are managed across the supply chain.

How CostTracker supports solid project budgeting

Whether you use a top-down or bottom-up approach, CostTracker provides a structured system to manage project costs effectively:

✅ Budget control – Set and track budgets in real time.

✅ Cost breakdown & real-time cost control – Align expenses with work packages or high-level cost categories. Track costs and commitments in real-time.

✅ Approval workflows – Automate purchase orders and expense approvals to prevent overspending.

✅ Cash flow forecasting – Ensure a solid forecast and avoid delays due to liquidity issues.

✅ Multi-currency support – Manage purchases in foreign currency with ease as exchange rates are automatically updated.

✅ Establish solid agreements using purchase orders – Use formal purchase orders to cover all terms and conditions, ensuring clarity, accountability, and that all contractual details are documented.

Conclusion

Selecting the right budgeting method depends on your business size, project complexity, and available data. A top-down approach works well for smaller, time-sensitive projects, while a bottom-up approach is ideal for detailed cost control in larger projects. Whichever you choose, structured budgeting, real-time tracking, and automation are key to keeping projects on budget and on schedule.

Other articles you might find useful:

How to choose the right procurement system for your projects

10 important values you get from using CostTracker