A Simple Explanation of the Earned Value Management technique

 

Have you ever been in a scenario like this? A project manager tells you that the project is halfway through, but has only spent 30% of the budget and therefore everything is going well. What's missing from the statement is, of course, the amount of work that you expected to do at this point in the project. The project would definitely be going well if you are halfway through it, had spent 30% of the budget, and achieved 60% of the work. However, it would not be so well if you had only achieved 20% of the work you expected to achieve by now. This is where the earned value management technique is useful as it compares the planned value (PV) of work completed, the earned value (EV) of work complete, and the actual cost (AC) of the work completed. Once you have successfully determined these numbers you can then use this information to assess your current state and likely future state of the project in relation to both cost and time.

Of these numbers, planned value (PV) and actual cost (AC) are the easiest to determine. Planned value is simply the budget for the work that you had planned to have completed at this stage in the project and it is determined by looking at your cost budget graph and seeing the value of work that you had planned to have created on this date. This means that total planned value equals your budget at completion (BAC), which is your originally approved budget for the project.

Actual cost (AC) of the work completed is obtained from your accounting software which will let you know the actual amounts of invoices paid for work done to date. It is always a good idea to subtract from this figure of the amount of any materials held in stock as it is goods you have paid for and have in storage but have not yet used.

The most difficult number to determine is earned value (EV) and you may need to consider the best way to determine the earned value. The formula for calculating it is EV = PV x physical % complete, but this isn’t always easy to calculate when you are dealing with projects that don’t have a lot of physical characteristics in the work being done. Instead, you could simply add up the value of all the work completed to date which is determined by looking at the original value allocated to it and not the actual cost of doing it. This can be quite time-consuming but very accurate. You can also determine earned value by coming up with a simplified metric based on broader parameters. For example on one large project I worked on which involved 10,000 m² of land area we simply ascribed a value per square metre and calculated how many square metres with complete, how many square metres were underway, and how many were not yet started, and gave each a value.

So once you have determined budget at completion (BAC), planned value (PV), actual cost (AC) and earned value (EV) you can then use this information to get a snapshot of how your project is currently performing in terms of both cost and time, and then use this information to forecast a likely future scenario for both cost and time of your project.

You can use the formulae for calculating cost variance (CV = EV- AC) and cost performance index (CPI = EV/AC) to determine how well you are performing in relation to cost. A positive cost variance is good and a cost performance index above 1 is good i.e. a CPI of 1.1 means you are getting $1.10 for every $1.00 you invest.

You can also use the formula for calculating schedule variance (SV= EV-PV) and schedule performance index (SPI= EV/PV) to determine how well your project is performing in relation to time. A positive schedule variance is good and a schedule performance index above 1 is good.

With these formulae calculated you can then use the results to forecast a likely future state of the project in relation to time and cost. You can forecast an estimate at completion (EAC) which is what you think the project is now going to cost based on past performance. There are many formulae for calculating estimate at completion (EAC) each with its own strengths and weaknesses depending on which information is included in the calculation and which information is excluded. Here are the three most popular estimate at completion (EAC) calculations:

EAC = BAC/CPI - only takes into account cost performance to date

EAC = AC + (BAC-EV) - takes into account actual cost and earned value

EAC = AC + ((BAC-EV)/(CPI x SPI)) - my personal favourite formula as it takes into account actual cost spent to date, earned value, and both cost performance and schedule performance.

Once you have calculated estimate at completion (EAC) you can then also move on to calculate the estimate to complete (ETC) which is the remaining amount of money required to complete the project, and the formula is ETC = EAC - AC.

You can also calculate the variance at completion (VAC), which is the difference between what you originally thought you would spend (BAC) and what you now think you will spend (EAC). The formula is VAC = BAC - EAC.

There are a number of other calculations you can do with earned value management but these are the most commonly used. It's pretty easy to set all these formula up in an MS Excel spreadsheet and have them done automatically. Just keep in mind that earned value management is a tool for helping you determine what was happened to date and what may happen in the future. If it is giving you bad news about your project this does not mean that is the way things will work out but it gives you a fair warning to undertake corrective actions.