The project plan is complete, stakeholders are onboard, resources are staffed, and the project is well underway. The executive team wants to know how the project is progressing: Will it finish on time and on budget? Will the return on investment be achieved? How much over budget will we be?
Return on Investment, Cost/Benefit Analysis, and Earned Value Management are all techniques that the project manager can use to answer the above questions. These techniques result in concrete indications of project health. While return on investment and cost/benefit analysis are usually used at the beginning and end of projects, they can still be helpful to the project manager during the project. With earned value management project managers can track project health at a more granular level and confidently anticipate project outcomes at any point in the project.
This paper will review the concepts and calculations for return on investment, cost/benefit analysis, and earned value management. An example will then be reviewed in detail to better demonstrate how these concepts and techniques can indicate project health.
Return on Investment and Cost/Benefit Analysis
Return on Investment (ROI)
Return on Investment is most often used as a tool to help organizations decide whether or not to do a project. It is also used at the completion of a project to see if the anticipated financial objectives were realized. ROI compares the potential benefits of the project to the expected investment in the project (i.e. cost of the project). In its simplest form, ROI equals the difference between benefits and costs divided by costs: ROI = (Benefits – Costs) / Costs (Solution Matrix Ltd. 2005).
For example, if an employee self service project is implemented for a cost of £50,000, and the organization is expecting benefits worth £65,000, then the return on this project investment is (£65,000 - £50,000) / £50,000, or 30%.
Although this equation seems simple enough, it can actually be quite complex. Some benefits/costs are fairly easy to quantify (ex. cost for new servers), while others are not very intuitive and may be subjective in nature (ex. better usability experience for employees). Determining the kinds of benefits and costs to include in these calculations is key to understanding the value they provide. Organizations may choose to base ROI solely on concrete financial savings, while others include less tangible benefits.
Cost/Benefit Analysis (CBA)
Like ROI, Cost/Benefit Analysis is often used to help organizations justify a project, and is another type of relationship between costs and benefits. Instead of representing the relationship as a percentage, CBA uses the benefit cost ratio: BCR = Benefits/Costs (Crowe, 2004). Using the above example, the BCR is £65,000 / £50,000 = 1.3. This means that for each £1 spent, £1.30 of benefit is generated. Values greater than one show that the benefits outweigh the costs of the project.
Earned Value Management
The Earned Value Management (EVM) method is based on the comparison of (1) the planned budget and schedule at the start of a project, (2) the actual costs and duration to date, and (3) the expected budget and schedule at the end of a project. At any given point in time, project performance to date is used to extrapolate the expected costs and durations at project completion. This technique uses past performance (i.e. actuals) to more accurately forecast future performance. There are three main concepts associated with EVM: planned value, earned value, and actual cost (Exhibit 1).
Indicators for Project Health
Using the above measures, various project health indicators can be calculated: Cost Variance, Schedule Variance, Cost Performance Index, and Schedule Performance Index (Exhibit 2). These indicators show if the project is currently operating over or under budget, and ahead of or behind schedule. They also demonstrate how severely the project is exceeding or missing expectations.
Forecasts for Completion Costs
Taking the calculations further, forecasts can be made for total cost and schedule at project end: Budget at Completion, Estimate to Completion, Estimate at Completion, and Variance at Completion (Exhibit 3).
Understanding Project Health
Applying the above information, let us determine project health for a construction project. You are managing the build of a 10 mile roadway which, when completed, will result in £170,000 worth of benefits to the community. The total budget for this project is £100,000. It will take 20 weeks to finish the project. It is now 4 weeks into the project, 3 miles have been built, and £45,000 have been spent. There have not been any unusual delays or circumstances related to the project so far. The executive team sponsoring the build has asked for a status update. Is the project on time and on budget? How much will this project cost us at the end?
Step 1: Determine The Three Basic Measures (Exhibit 4)
Step 2: Calculate Indicators For Project Health (Exhibit 5)
Step 3: Calculate Forecasts For Completion Costs (Exhibit 6)
These calculations show us that the project is ahead of schedule and over budget. Furthermore, since the project has not met with any unusual circumstances, we can use the EAC = AC + ((BAC – EV) / CPI) calculation to forecast the total cost of the project: £149,947, which is 50% over budget. The executive team will likely not be pleased.
Is this project expected to have a positive return on investment? (Exhibit 7)
Although this project is over budget, the project will still have a positive return on investment. Perhaps this will placate the executive team!