Project Management Guide
What Is Earned Value in Project Management?
Traditionally, project managers worked with two parameters, namely, planned expenditure and actual expenditure. However, as their role became more proactive, they had to discover ways to quantify the expenses through metrics that measured the cost performance of a project. And this is where earned value (EV) entered the picture.
In this article, we will examine the definition of EV while also exploring how to calculate its variables and carry out forecasting and analysis.
What is Earned Value (EV)?
Earned Value (EV) is a methodology that utilizes the current project performance as a baseline to predict future performance and forecast cost overruns or project delays, if any, right in the initial stages. It evaluates how much time and budget should have been spent given the amount of work done so far.
In a nutshell, it is a technique devised for measuring project performance in terms of cost and schedule.
Importance of Earned Value Management
Earned Value Management (EVM) is a project management approach that requires the objective monitoring of the project performance through an integrated cost and schedule framework relying on the project work breakdown structure (WBS).
EVM enhances your organization in the following ways:
- It prevents the occurrence of project scope creep.
- It offers transparency and improves communication with stakeholders.
- It carries out the risk assessment and mitigation activities.
- It allows businesses to carry out profitability analysis.
- Project managers can use EVM for project forecasting.
- It ascribes accountability at all levels.
- It is an effective way of measuring project performance.
Project managers may require an Earned Value Management Software (EVMS) that contains the tools, techniques, and templates to carry out the earned value management.
How to Calculate Earned Value During Project Management?
Here’s everything you need to know about calculating earned value and other performance measurement metrics of earned value management:
Earned Value Terminologies and Calculations
Before we dive right into the calculations, it is imperative that one has a comprehensive understanding of the jargons involved in measuring earned value. Hence, we have prefaced the definitions of the key terminologies followed by their calculations:
1. Budget at Completion (BAC)
Budget at Completion (BAC) is the total cost of the project. It is established in the planning stage of the project and corresponds to the cost incurred at every level of the lowest categories of a Work Breakdown Structure (WBS), that is, the work packages.
2. Planned Value (PV) or Budgeted Cost for Work Scheduled (BCWS)
Planned Value is the scheduled cost of the work planned for a given period. It is expressed in currency denomination or hours of work to be performed according to the schedule plan. The summation of the planned value is equal to the budget at completion.
The formula for calculating planned value (PV) is as follows:
PV = BAC * % of planned work.
Earned Value (EV) or Budgeted Cost for Work Performed (BCWP) Earned value is the amount of money earned so far from the work completed at that moment. It indicates the amount you would have earned if the project were to be terminated at the given time. It is expressed in currency denomination or hours of actual work performed for the said period.
The formula for calculating earned value (EV) is as follows:
EV = BAC * % of Actual work
Actual Cost (AC) or Actual Cost of Work Performed (ACWP) Actual Cost is the sum of all expenses that have actually accrued for the tasks as on date. It is one of the easiest metrics to track while performing earned value analysis (EVA).
3. Schedule Variance (SV)
Schedule variance is the arithmetic difference between earned value and planned value. It financially quantifies whether your project is ahead or behind schedule. Negative schedule variation means that the project is behind schedule, while positive indicates that the project is ahead of schedule. The purpose of schedule control is to get the project on schedule, that is, CV = 0.
Here is the formula for calculating schedule variance (SV):
SV = EV – PV
4. Cost Variance (CV)
Cost variance is the arithmetic difference between earned value and actual cost. It gives you an overview of whether you are over or under budget.
Negative cost variance is a sign of being over budget, while positive means that the project is under budget. Zero cost variance corresponds to on-budget project performance.
Here is the formula for calculating cost variance (CV):
CV = EV – AC
Schedule Performance Index (SPI)
Schedule performance index is the ratio between earned value and planned value. It assesses the project performance against the scheduled timeline.
If the schedule performance index is greater than one, it means that you have completed more work than planned. Conversely, if the schedule performance index is less than one, it means that you are running behind schedule. When SPI is one, it indicates that you have completed the planned work on schedule.
Here is the formula for calculating schedule performance index (SPI):
SPI = EV/PV
5. Cost Performance Index (CPI)
Cost performance index is the ratio of earned value and actual cost. It is a measure of how much you earn versus your expenses.
If the cost performance index is less than one, you are spending over budget. If it is greater than one, you are earning more than what you spend and hence are under budget. When CPI is one, it means that you are earning and spending as per budget.
Here is the formula for calculating cost performance index (CPI):
CPI = EV/AC
Estimate at Completion (EAC)
Estimate at completion is the total budget estimate for the project. It is the final sum that you plan on charging for the project.
Use any of the following four formulae to calculate estimate at completion (EAC):
EAC = BAC/CPI
EAC = AC + ETC
EAC = AC + [(BAC – EV) / CPI]
EAC = AC + (BAC – EV)
6. Estimate to Complete (ETC)
Estimate to complete allows project managers to gauge the projected cost of completing the remainder of the work.
Use any of the following three formulae to calculate estimate to complete (ETC):
ETC = (BAC – EV)/CPI
ETC = (BAC / CPI) – (EV/CPI)
ETC = (BAC – EV) / CPI
Example of EVM
Here is an example of EVM calculation to offer you a better grasp of how to carry it out:
A project has a budget of USD 10 million and is scheduled for completion within 10 months. It is anticipated that a sum of USD 1 million of the total project budget will be spent equally per month. Upon the completion of 2 months, the project manager discovers that only 5% of the tasks in the project are complete while a total of USD 1 million has been spent.
PV = USD 2 million
EV = USD 10 million * 5% = USD 0.5 million
AV = USD 1 million
CV = EV – AC = 0.5 – 1 = USD -0.5 million
CV% = 100*(CV/EV) = 100*(-0.5/0.5) = -100% cost overrun
SV = EV – PV = 0.5 – 2 = -1.5 months
SV% = 100*(SV/PV) = 100*(-1.5/2) = -75% behind
CPI = EV/AC = 0.5/1 = 0.5
SPI = EV/PV = 0.5/2 = 0.25
EAC = BAC/CPI = 10/0.5 = USD 20 million
ETC = (BAC – EV)/CPI = (10-0.5)/0.5 = USD 19 million
Time for completion = (10-0.5)/0.25 = 38 months
After carrying out EV calculations, the project will take a total of USD 20 million (19 of the estimate + 1 already spent) and 40 months (38 projected + 2 completed) for completion.
Earned Value Management is a key component of project management. It empowers project managers to predict project outcomes with more accuracy and take reparative action immediately. As such, every project manager should acquire this skill of using past performance to measure future performance!