You have a project with total planned costs of $100,000.
The baseline is ($100,000).
For this same project, with total planned costs of $100,000, there is a risk that one of your team members, Bart, will be elected to city council! He’s had political ambitions forever!
If that happens, we’ll lose $8,000 in the process of replacing him on the team.
Now what new information do you have that helps you out? You have the Risk Impact ($8000).
After checking with highly placed sources within the election process, we have learned that there is about a 60% chance that Bart will be elected to the city council.
What new information do we have now?
We have the probability (60%).
Now for this project we know that the cost is $100,000, and there is a 60% chance we’ll lose Bart, costing the project $8000.
What is the Expected Monetary Value of this risk happening to our project? In this instance, we are looking at the expected value of the risk. It has a potential cost of $8000. But, since the probability of it happening is only 60%, its EMV = $8000*0.6 = $4800. We have now calculated the EMV for this risk event.
We have to apply the EMV in the context of the project as a whole. What is the EMV of the cost of the whole project? The answer is $104,800 ($100,000 + $4,800).
We also need to consider any opportunities which may offset the cost of the risk.
In addition to the potential concerns of Bart’s leaving, we have just received some good news! We may have the opportunity of a bonus from our customer, which would reduce costs by $20,000. The chance of us getting the bonus is 30%. What is the expected value of this chance?
It is $6000 = 30%*$20,000.
Now we have a lot more information for the stakeholders.
- The project will cost $100,000.
- There is a risk of losing Bart at an additional cost of $8000, but there is only a 60% chance of that occurring.
- There is also an opportunity for a bonus of $20,000, with a chance of 30% of that occurring.
With all of these considerations, what is the Expected Monetary Value of this Project?
It is $98,800. This is calculated by taking the cost baseline of $100,000 + $4800 (risk of losing Bart) and subtracting the EMV of the opportunity because it will affect our costs. That is $6000. So the total Expected Monetary Value of this project is $98,800. That incorporates both known risks and opportunities.
For our project we now have a new perspective. Missy from accounting finally came through with the numbers on how we are expected to profit from the project. Specifically, she was able to establish that the project will yield about $210,000 in revenues. That will be offset by the cost of $100,000, but management is asking for a risk analysis. To review, what is the baseline profit of the project? It is $110,000 ($210,000 – $100,000).
Next we need to take into account the risk of losing Bart which would increase cost by $8000. There is also an opportunity of a bonus that will increase revenues. Let’s list our information:
- The project has a cost baseline of $100,000
- Revenues are anticipated at $210,000
- There is a 60% chance we’ll lose Bart at a cost of $8000
- There is a 30% chance we’ll earn a bonus of $20,000
- For a few other risks, there is a 10% chance we’ll hit obstacles increasing costs by $30,000
- There’s a %70 chance we’ll have a legal fight costing $10,000
With all of this new data, what is the new EMV?
It is $100,000 (baseline cost) – $4800 ($8000 * %60) + $6000 ($20,000*30%)-$3000 ($30,000* %10) – $7000 ($10,000*70) = $101,200
So from a risk perspective, this project is worth doing even if the increase is small, it’s STILL a Positive Impact!
Yada is not just the leader of the Project Management Training Institute (PMTI). He helped to write significant portions of the project management standards worldwide. He is helping PMI right now in reviewing, directing, and leading the development of the 7th edition of the PMBOK(r) Guide to incorporate the most monumental changes to project management standards in 35 years. He shares his wisdom with readers via the PMTI blog.