Earned Value Management (EVM): In the second part of the Bungalow Life Ltd. case, we will explore the challenges associated with reducing expenses and the complexities involved in halting a project due to exceeding the budget.
NOTE: It should be noted that the following figures are fictitious. However, I have deliberately used these figures so that we, in a pedagogical manner, can bring the subject to light.
Three months into the project, the project manager gives the following progress report on the project:
| BCAC | 30.000.000$ | |
| BTAC | 18 months | |
| BCWS (3) | 9.000.000$ | At the three-month mark. |
| BCWP (3) | 6.000.000$ | At the three-month mark. |
| ACWP (3) | 7.500.000$ | At the three-month mark. |
How much has the project managed to produce so far?
| CPI (3) | 0.8 | BCWP divided by ACWP |
This project has managed to produce for 0.8. for every dollar they have spent. So for every dollar they have spent, they have managed to produce for 80 cents. That is not good.
What would the required CPI be for the remainder of the project in order to successfully finish the project within the budget?
In order to complete the project within the budget, it is essential to first calculate the remaining CPI. In order to do that we need to use the following formula:
Remaining CPI = remaining work divided by remaining money.
| Remaining CPI | 1,06 | BCAC minus BCWP divided by BCAC minus ACWP. (30.000.000$ minus 6.000.000$) divided by (30.000.000$ minus 7.500.000$) |
In order to successfully meet the budget, a CPI of 1.06 must be maintained throughout the remainder of the project.
What can we cut costs on and what can we NOT cut costs on in order to reduce expenses in a project?
| EASY | HARD |
| Supervision | Direct labor hours |
| Process controls | Materials |
| Quality assurance | Equipment |
| Testing | Facilities |
Cutting the costs in areas listed under EASY increases the risk of making the situation worse than it currently is, as this can lead to increased error correction, which could result in greater time consumption.
Cutting the costs in areas listed under HARD is difficult but will defiantly result in cost savings.
The act of reducing costs is much more challenging than the majority of people assume. If we reach a stage where we contemplate stopping due to exceeding the budget, it becomes a mentally challenging task. There are psychological barriers that prevent us from quitting while things are still manageable.
Why is it difficult to quit while things are still manageable, even if we are going over budget?
This is attributed to two kinds of barriers:
- Quantitative
- Qualitative
The quantitative barriers are the ones that stop us from abandoning a project even though we we have exceeded the budget. The qualitative barriers can be even more detrimental. It is a mental barrier that we need to overcome as professionals. We have to maintain professionalism and cannot risk the worst-case scenario of the company going bankrupt due to the qualitative barriers we might have.
Her are examples of quantitative and qualitative barriers:
| Quantitative | Qualitative |
| High exit barriers. | Failure = weakness. |
| Unrecoverable expenditures. | Failure = damage career. |
| Penalty clauses. | Failure = damage reputation. |
| Breach-of-contract lawsuits. | Failure = roadblock to promotion. |
| Payment to terminated workers. | Exposing mistakes to others. |
| Payment to terminated workers. | Bad news = personal failure. |
| Plant Closing Costs. | Refusing to admit defeat. |
| Plant Closing Costs. | Refusing to admit defeat. |
Is Sunk Cost something project managers should focus on?
Sunk costs are costs that have already been paid, either in money or time, and are typically irrelevant to future decisions because they cannot be changed. In project management, and decision making in general, it is advisable to ignore sunk costs because they are irrelevant to future decisions. Here are some reasons why:
Irreversible: Since sunk costs cannot be recovered, they should not influence decisions about the future of a project. Decisions should be based on anticipated future costs and benefits, not past expenditures.
Decision bias: Including sunk costs in decision making can lead to a cognitive bias known as the “sunk cost fallacy.” This is when past investments (time, money, or resources) influence current decision making. For example, continuing with a project that is not viable just because a lot of money has already been spent on it.
Optimal resource allocation: Ignoring sunk costs helps in making rational decisions about allocating resources optimally for the future. It helps in assessing the future value of continuing the project versus reallocating resources to other more profitable ventures.
To sum up, overlooking sunk costs is beneficial for making logical and financially wise decisions, unbiased, and centered on the most efficient use of resources for the futures.
It is important to mention that although sunk costs do not solely dictate decisions, they contribute to a comprehensive awareness of a project’s past. Nonetheless, the main emphasis should primarily be on the future costs, advantages, and threats rather than previous expenditures that are irreversible.
This fictitious case is presented as a framework to explore the subject Earned Value Management (EVM).
