Earned Value Management: What is its significance in Project Management?
Projects today are an inevitable part of any organization to meet its strategic and functional objectives. Hence, companies adopt the project management principles and guidelines as prescribed by the Project Management Institute (PMI) in PMBOK (Project Management Body Of Knowledge). Following these project management approaches and principles, an organization can put adequate management and control over the projects. Earned Value Analysis is one the useful technique to monitor and control the project’s triple constraints. As prescribed by PMI, the three constraints are scope, schedule, and budget.
As a Project manager, one has to deal with these essential constraints and manage them effectively. Hence, it is very important for them to monitor the status of the projects on a real-time basis with respect to these constraints. Earned Value Analysis (EVA) does this for any point of time during project life and helps to deliver early signals about any such issues.
Thus, EVA is very helpful for the project manager and more importantly, for management to get early warnings. Based on these warnings, they can plan for rest of the project work to recoup the losses or to modify the estimates.
In fact, these days Earned Value Analysis has become a favorite tool among project management professionals. As a matter of fact, there is no other single tool, which addresses the issues related to schedule and budgeted cost both on a real-time basis. EVA indeed answers the following questions in a project:
Whether the project is on schedule at any given point of time?
Whether the project is going as per approved budget at any given point of time?
When should the project likely be completed?
What should be the likely cost for the entire project?
Hence, the Project Manager can identify the schedule or cost issues with the help of EVA and address these issues early in the project. If the project is behind schedule or over budget - what will it take to bring the project back on track?
What is Earned Value Analysis (EVA)?
EVA is a technique to monitor and control project performance. In 1960, the United States Air Force first introduced the concept of modern earned value. It was then called the Cost/ Schedule Control System Criteria or C/SCS. Later in 1996, C/SCS was rewritten jointly by DoD and a private industry. Thus, by now, C/SCS was replaced by a new standard – ANSI-EIA 748. Same year PMI also introduced its PMBOK guide. PMI derived earned value concept from ANSI standard.
What is Earned Value Management?
Earned Value Management tool is the one which integrates the project scope, schedule and cost. Thus, a single tool fetches a lot of useful information for a project manager to make decisions. EVM uses Performance Measurement Baseline (PMB) to compare it with actual cost and schedule performance. Thus, the primary requirement to perform Earned Value Analysis is to obtain Performance Measurement Baseline.
Earned Value Management (EVM) – Three dimensions:
For applying Earned Value Management in a Project, it’s important to understand three key components as listed below:
Planned Value (PV): Formally, it was called the Budgeted Cost of Work Scheduled or BCWS. PV is the value of the authorized budget assigned to the work scheduled. Hence, it’s the approved budget for the work to be done for an activity or work package (or control account). This budget doesn’t Include any management reserve. The cumulative PV is also referred to as Performance Measurement Baseline (PMB). Hence, PV for complete project is nothing but the Budget at completion (BAC).
Earned Value (EV): Formally, it was called the Budgeted Cost of Work Performed or BCWP. EV is the value of work performed in terms of authorized budget for that work element(s). Hence, it’s the authorized budget associated with the work, that is completed so far. EVA uses PMB to calculate Earned Value for the completed part of project work. For each element of the Work Breakdown Structure (WBS), the work performance can be measured through earned value. Thus, EV is useful to understand the current project performance and to determine long-term trends on Project performance.
Actual Cost (AC): Formally, it was called the Actual Cost of Work Performed (ACWP). AC is the value of the actual cost incurred or realized for the performed work during a particular time period. Since this is the actual cost incurred for the work measured by EV. Hence, it includes the cost elements such as direct costs, direct hours, indirect costs etc., which can be traced from actual invoices or books of accounts. It’s important to note that this dimension doesn’t have any upper limit. It is always painful for a project manager if AC exceeds its earned value.
Though, the terms BCWS, ACWP, and BCWP are still used by some project professionals. However, with the introduction of the second edition of PMBOK, the terms PV, EV and AC are being used commonly as three dimensions of EVM.
Purpose or goals of Earned Value Analysis in project management
EVA in project management is very useful for a project manager and top management to make decisions well in advance. However, at this point, it is important to understand that Earned Value concept is effective for projects, but not for routine operational activities. That is why often it is called as earned value project management tool. Also, it can be better utilized for large size complex projects. Whenever a project involves a lot of uncertainty regarding schedule or budget, EVM is an effective tool to closely estimate the schedule, scope, and budget for the project based on EVM trends.
EVM, as discussed, gives an early warning signal regarding over-budget or behind schedule issues. Based on these signals, course corrections can be taken in a project to recover the performance as scheduled and budgeted. Scheduled performance issues can be addressed and corrected (may be at the expense of over-budgeting, when the deviation is high). However, it is impractical to correct over-budget issues, keeping the initial estimates as it is.
For some critical and complex projects, EVM is a better approach to understand, whether original project estimates are viable or not. If needed estimates can be corrected based on current earned value trends. These re-estimated values of schedule, scope, and cost would replace the originals and become the new baselines for the project. Based on the earned value analysis result, management can also take an early call to secure reserves for any further contingency in the project.
Thus, EVA communicates a lot about project health and performance. However, EVA alone can not correct the project performance. It’s an indicator of project status. Based on EVA results, the project manager has to identify the root cause of the issue and address the same to reform the performance.
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Earned Value Calculation
EVA techniques use Work Breakdown Structure (WBS) to prepare Performance Measurement Baseline (PMB). Before understanding the earned value calculation it is advisable to understand WBS first.
Work Breakdown Structure (WBS)
Based on project scope, the complete project work can be broken down into micro levels. This technique of breaking down the work into different work elements or components is known as decomposition. The structure formed is called WBS – Work Breakdown Structure. It looks very similar to organizational hierarchical structure. WBS can be decomposed to the smallest level, called as work package.
Work package hence resides on the lowest WBS level, where manageable activity with schedule and cost can be easily and logically defined. The overall project work scope tallies with the cumulative sum of all WBS components with the bottom-up approach. This gives a complete idea of project plan – scope, schedule, and budget.
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Hence, with each WBS component, schedule and cost are associated. WBS helps to determine the PMB for the project work.
Figure 1.1: Work Breakdown Structure in MS project
Refer to figure 1.1 to understand work breakdown structure prepared for “Basement Den Remodelling Project”. The figure depicts WBS – tasks along with task ID as first two columns. Next column shows the time duration planned for each task. Next two columns show the planned cost and actual cost associated with each task or activity in WBS.
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Planned cost is assigned based on the authorized project budget. Thus, it assigns a cost value for each planned work element. The summation of this planned cost is the authorized budget for the project. The cumulative values of the planned cost over the planned work generate performance measurement baseline (PMB).
Below are some earned value formulas used in EVA calculation:
Cost Variance (CV) = EV – AC
Schedule Variance (SV) = EV – PV
Cost Performance Index (CPI) = EV/ AC
Schedule Performance Index (SPI) = EV/ PV
Variance at completion (VAC) = BAC – EAC, where BAC: Budget at Completion and EAC: Estimate at Completion
Estimate at Completion (EAC) = BAC + AC – EV = AC + ETC
Estimate to Complete (ETC) = (BAC – EV)/ (CPI x SPI)
Above are some of the earned value management formulas used in EVA. However, readers are encouraged to refer PMBOK 6th Edition Guide to understand more about the terms used in these formulas.
How to calculate the Earned Value and perform EVA?
Steps required to perform EVA:
First, look for the approved scope of the project work.
Plan for the project and construct WBS.
Assign an authorized budget to work scheduled with each WBS component. This gives the value of PV.
The cumulative sum of these planned values will define the Performance Measurement Baseline (PMB).
Once PMB is completed, during project planning; start measuring the project performance along scheduled work.
At any given point of time, calculate the Earned Value (EV) and check the accounts data for actual cost (AC) on the work performed so far.
For the same work, calculate the planned value (PV) originally budgeted.
Calculate the variances, cost variance (CV = EV – AC) and schedule variance (SV = EV – PV).
Check if any or both of these variances have negative values?
Conclude the results – (a) if CV is negative, Project is running over-budget (b) If SV is negative, Project is running behind schedule
Also, calculate SPI (Schedule performance index = EV/PV) and CPI (Cost performance index = EV/AC)
Conclude the results – (a) If SPI is less than 1.0, the project is behind schedule. For example, if SPI is 0.9, then the project is only 90% efficient on schedule performance so far. (b) If CPI is less than 1.0, the project is running over-budget. For example, if CPI is 0.9, then the project is only 90% efficient on cost performance so far.
Based on the values of SV, CV, SPI, and CPI, the project manager has to take the right decision regarding the remaining project work to bring the project back on the track.
Also, project completion estimates can be calculated based on the current performance. Estimate at Completion (EAC) is the right measurement to do this. EAC can be calculated by, EAC = ETC + AC, where ETC is estimated to complete.
ETC can be calculated based on the scenario and logical model.
If nothing can be done to recoup project performance, a better approach is to check for project viability. If the project does not seem viable, close the project. Else if it is viable and important, re-estimate the baseline and replace it with the original PMB.
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Benefits of EVA to a project
Focus on project performance measurement: With the help of EVA, the project manager uncovers hidden issues in a project related to scope, cost or schedule estimates.
Easy to understand: The EVA technique is easy to comprehend by plotting the trends and graphs. Thus, it immediately shows the pain area of the project that needs prior attention.
Realistic snapshot of project status: With EVA, the project manager gets a practical situation with the current status of the project at any given point of time.
Future predictions: EVA is helpful to extrapolate the results to predict future estimates of the project.
Opportunity to correct the issues: EVA gives early warning on the schedule and budget performance issues. Hence, a good project manager can understand the situation in hand with EVA and take correction measures wherever required.
Plan for contingency: With the results of EVA at any point of time, some logical conclusions can be drawn on the project budget at completion. Hence, the management can prepare themselves for any budget overshoot by setting aside some reserve for contingencies.
A common language for project professionals: Above all, EVA provides a common language of understanding among the project professionals regarding the project performance.
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Finally, I would like to highlight that EVA is a significant part of a project management professional’s arsenal. It gives him/her an opportunity to visualize and track the project performance. It’s an important technique started with the planning process to create baselines and extensively leveraged during monitoring and controlling. EVM is, therefore, a preferred tool for complex projects, where uncertainty is high.