3 Factors in Risk Management: Probability, Impact, and Velocity

Risk Score

Qualitative and Quantitative Analyses in Project Risk Management both take into account Probability (P) and Impact (I). A Risk Score is the product of the two.
Qualitative Analyses use subjective estimates of probability and impact as a screening process that categorizes risks for management, monitoring, or ignoring. Risks placed in the management category go on to Quantitative Analysis and Risk Response Planning.

What about Urgency?

A third value should be considered: Velocity (V), which is the inverse of the time-to-impact.
Seldom can we deal with all risks at once. The value of considering Velocity lies in prioritizing further effort so you have enough time to respond to urgent risks. We would not consider Velocity when assigning risks to the three categories because we want to deal with the important things, not the urgent things. (Consider Pareto's 80/20 rule.)
If Probability times Impact describes an area, then to be consistent, we would add Velocity as a third dimension. That is,
Priority Score = Priority x Impact x Velocity

Another View of the Priority Score

Priority times Impact has another label, which is Expected Monetary Value (EMV). EMV is often used by itself for guiding decisions. If we express the Priority Score as
Priority Score = EMV x Velocity
then we give EMV a weight equal to the weight of Velocity.
The reason we would not consider the Velocity by itself goes back to the principle about the cost of rework. The later you deal with a problem, the more it costs because you have to repeat and fix work that came before. The previous effort becomes wasted, costs rise, schedule lags, and you have to use extra resources to get back on schedule.
Similarly, the longer you wait to deal with a risk, the more rework you have to do. Therefore, we need to factor both Velocity and EMV into prioritizing work: Velocity to deal with urgent risks, and EMV to control costs.

A New Step: Priority Analysis (when needed)

I recommend inserting a new step into Risk Management when there are risks with high velocity and you have to prioritize which risks to deal with first:

1. Qualitative Analysis with Risk Score = estimated Priority x estimated Impact
2. Priority Analysis with Priority Score = EMV x Velocity = Priority x Impact x Velocity
3. Quantitative Analysis with Risk Score plus other factors such as Velocity and Cost Effectiveness

I bring up Cost Effectiveness because you want to ensure that you don't spend $150 to prevent a risk whose EMV is only $100.

Reference

Hall, Harry, PMP, PMI-RMP. 30 Quick Risk Evaluation Tips. PM South. http://www.pmsouth.com/2015/07/18/30-tips/. Accessed 21 July 2015.

CPI: Earned Value (EV) Can Never Exceed Planned Value (PV)

Al succeeded with his very first project!  He was so proud of his project.  The customer was delighted and the Costs Performance Index was 1.1.  Yet, the program manager only graded the project as Satisfactory.  Al is so discouraged.  What was wrong with that program manager?

My new friend Bay -- an old friend of Allen, the new Project Manager -- clearly wanted me to be sympathetic toward his friend.  And he wanted me to share his negative feelings toward the program manager.

That is a shame, I replied.  Bay was studying for PMI's CAPM exam, so I decided to turn the moaning session into a project management lesson.  But you can help Al improve his project management skills if he will learn from this.

What do you mean? asked Bay.

What do you think the CPI of 1.1 means? I asked.

Bay thought a moment and replied, Al delivered more than required?

Why? I aked.

A CPI over 1 is good, and the customer is delighted, so Al delivered even more that what was required.

I baited Bay.  Those are all good things, but too much of a good thing can be bad.

How can that be?  Bay asked.

Delivering too much value might not mean you're efficient.  It might mean you're incompetent or even unethical. I wouldn't worry about that, though.  It's impossible to create a high CPI by delivering extra value.

That doesn't make sense, Bay protested.

Do you know what gold plating means in project management?

Uh-oh.  I see what you mean, he said.  I hoped I had him hooked and ready for the lesson.

The Dangers of a High CPI

Each organization has its own expectation for accuracy in estimating.  10% is a common tolerance, but a former employer of mine expected the final estimate to be accurate within +/- 5%.

• Since a CPI of 1.1 represents a 10% deviation from the estimate, the PM's estimating skills come into question.
• A CPI at or above the upper control limit of 1.1 means that planned resources have gone unused.  Managers scramble to find work for their employees.  People could lose their jobs.
• A CPI above the upper control limit means that the company set aside funds for the project that it could have used to support other investments.
• As you will see below, plenty of reasons exist for avoiding an excessive CPI.

Extra "Earned Value" Is Hidden

Al's CPI was 1.1.  If AC at completion equaled a Budget At Completion (BAC) of $1 M, then EV must have been $1.1 M because CPI = EV/AC.  That would mean that the PV at completion was $1 M.

While EV>PV is mathematically possible, it is not practically possible.  You will see that a CPI of 1.1 at project completion can only mean that the project underspent by 9.1%.

Suppose the scope says, deliver widgets A1 through A10.  When you create the Scope Management Plan, you schedule reviews to ensure that widgets A1 - A10 get delivered. Delivery of each has a pre-assigned value that is measured in the EV.

Suppose the team delivers widget A11, as well.  The Scope Management Plan assigned Earned Value to A1 - A10.  The customer paid for them.  However, the estimate did not include A11, so the customer did not pay for it and it was not included in the cost baseline. 

Since the Scope Management Plan did not include A11, the Quality Management Plan will not check to see whether it was delivered and the Cost Management Plan has no value estimate to assign to it.  Without assigning value, you cannot measure it or include it in the EV.

EV can precede PV during the project, but it cannot exceed PV at end of project.

For a CPI of 1 at end of project, EV = AC = BAC = PV.  If EV = PV = BAC, the only way to achieve CPI = 1.1 is if AC = (0.9090... x BAC).  This is because

CPI = EV/AC = PV/(0.9091 PV) = 1.1

 Thus, a high CPI at end of project can only result from spending less than planned.

The Dangers of Too Much Value

Gold plating refers to extra value given to a customer.  A company's policy may allow delivering extra value as an investment in future business.  For example, the phone company may sell you a $200 cell phone for 99 cents so you will sign a $100/month contract for the service that goes with it.  They expect to earn back the cost of the cell phone during the life of the contract and the following contracts.

In general, however, gold plating has a negative meaning.

• Gold plating represents areas in which the project delivers value that the customer did not pay for.  Therefore, it represents a loss to the company.
• If the estimate did not include the gold plating, then the PM's estimating skills come into question.
• If the Scope, Cost, and Quality Management Plans do not prevent production and delivery of gold plating, then the PM's project planning and control skills come into question.
• Even if the project stays within budget, gold plating represents missed opportunities to cut costs and increase the company's return on investment.
• If the PM delivers significantly extra value, it not only raises an issue of an inaccurate cost estimate, it also raises an issue of whether the Seller overcharged the customer.  This raises an issue of the PM's ethics. 

Assigning planned value to A11 could cause major problems:  Suppose the PM anticipated that the team might deliver A11, assigned value to it, and included it in the EV.

• The team fails to provide A10 but provides A11. The Cost Management Plan will indicate an EV of 100%, even though the project only delivered 90% of the authorized scope.
• The team provides A1 - A11.  The customer can say, "your bid included A1 - A10. Since you were able to provide A11, as well, your bid was too high. We are reducing our payment accordingly."  The FFP contract provides the Buyer no protection from this if the Buyer feels he has good evidence that he was overcharged.
• By stopping the team from delivering A11, the PM could have cut costs and increased profits.  This represents waste and lost profits.
• Delivering A11 might be nice for the Buyer, but it could also be a white elephant.  Suppose the Buyer is a crop duster and A1-A11 are barrels of insecticide.  If the farmers only need ten barrels of spraying done, the pilot will be stuck with the expense of storing, guarding, and disposing of the extra barrel of poison.  That represents extra liabilities to the crop duster, as well as an extra burden on the environment.  If the Buyer refuses delivery of the extra barrel, you will be stuck with it.  If the barrel gets delivered, the Buyer may sue your company for his losses.

Conclusion

PM's view the CPI the same way you look at any other measurement done as part of statistical process control.  They work to prevent high CPIs by striving to accurately estimate expenses.

PM's also view gold plating as an issue and prevent it through careful project management planning and control.


Copyright 2013, Richard Wheeler -- Permission granted for non-profit or personal use with a link to this post.

 

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Understanding the Rule of Seven

Context: Discussion of the Rule of Seven in statistical process control 

Problem: In some industries, one cannot wait for repeatable errors as defects and errors lead to loss of life. I was told that, in pharmaceuticals, a certain % of death is acceptable and almost expected. The waiting process or period of time before halting tests or evaluations is where I am stuck.

First, let's use the terms specified value and control limit rather than errors or defects.

 

Also, we would normally discuss this topic in terms of parameters that have numeric values such as temperature, weight, and speed. In this conversation, we want to deal with measurable characteristics long before they result in catastrophic failures.

Rule 1. Out-of-bound conditions

If you have just one value outside the control limits, such as a severe side effect from a drug, you stop the process and figure out what went wrong. 

Rule 2. Calibrating the results

The Rule of Seven (or Run of Seven) does not apply to parameters that go outside the control limits. The Run of Seven applies when seven consecutive, acceptable values lie on the same side of the specified value. Such a situation indicates that the average has deviated from the desired value and you need to recalibrate the process so that the average is close to the specified value.

Illustrating with a made-up scenario

Suppose the scientists at Schpooky Pharmaceuticals want to test an inoculation against the HG (Heebie Geebie) virus. In order to train the immune system to fight off a full invasion of Heebie Geebies when somebody sneezes on us, the inoculation has to cause a fever of at least 0.5 degree F. They calibrate the variables in making the vaccine and in the dosage to cause a 1.0 degree F fever, or a temperature of 99.6 degrees F.  In this test, they set an upper control limit of 3.0 degrees, or a temperature of 101.6 degrees F.

 

Specifications:

• T = 99.6 degrees F, average
• 99.1 degrees F < T < 101.6 degrees F

Using the first rule, just one person develops a temperature of 103.0 degrees F. We stop the tests to see what's gone wrong because 103.0 > 101.6, the upper control limit.

 

Using the second rule, if we have seven consecutive people develop fevers between 99.6 and 101.6, we stop the tests to see what's gone wrong. These temperatures are all acceptable, but they are all greater than the desired value.

 

The Run of Seven indicates a special cause -- that is, one or more variables in the process need to be controlled. Maybe the dose is too large and needs to be reduced. Perhaps the HG virus needs to be baked five minutes longer. So we make the adjustments and then resume the trial.

 

These rules and others like them serve to stop a process long before it reaches catastrophic failure such as the death of a patient.

But catastrophic failures do happen

You might wonder, What about the catastrophic failures? They do happen! What about the one in 10,000 who dies? How can that be acceptable?

 

This takes us to other techniques such as Decision Tree analysis (p. 299 of the Project Management Institutes Project Management Body of Knowledge (PMBOK) Guide, 4th edition).

 

Suppose withholding the vaccine results in 1,000 deaths per 10,000, but giving the vaccine causes one death in 10,000. If you distribute the vaccine to 10,000, you save 999 lives.

 

Unfortunately, many drug companies withhold such drugs because that one in 10,000 will sue them, and the juries will severely punish the companies.

 

This issue, tort reform, is one of the dividing lines between the political parties in the US. A project manager needs to use various decision-making methods and maintain awareness of a wide range of environmental factors.

Life Cycle Costing for Projects

Defining Life Cycle Costing

Life cycle costing (LCC) looks at the cost of the whole life of the product, not just the cost of the project. A product has two major cost phases, the project phase that designs and produces the product, and the O&M phase where the owner operates, maintains, and decommissions the product.

(A lot of Project Managers (PMs) forget decommissioning. As an extreme example, consider how much it will cost to maintain and protect a nuclear waste site for the next 500,000 years.)

The design philosophy is part of the project scope.  The customer may want a cheap, disposable product, so the design team would not put much effort into designing for low maintenance, low manning, and long lifespan.

On the other hand, the customer may need the product to last a long time.  Operations costs can include:

• building more units
• maintaining equipment
• training users
• expanding, upgrading, or re-purposing the product
• providing consumables
• procuring replacement and spare parts
• transporting, installing, or disposing of waste

Operations can far outweigh the initial cost.

The scope statement, the Statement of Work, the nature of the product, industry standards or government regulations, and the user needs can guide decisions about what aspects, if any, of life cycle costing to include in project planning.

What LCC Means to the Project

Considering operations and maintenance costs requires including, as part of the scope, performing the project in such a way as to keep O&M costs down for the customer.

For example, easy access to a car's timing belt decreases the amount of labor the owner has to pay to have it replaced, and using a steel widget instead of an iron one results in fewer failures due to corrosion.  Such steps will increase the cost of the project, but they may decrease the customer's total cost of ownership.

Considering operations and maintenance costs also requires estimating the cost of the entire product life cycle.

A point exists where spending more on reducing O&M costs would not cut total cost of ownership.  For example, making windshields out of the material they use in Soyuz windows might mean never having to replace cracked glass after a bird hit, but it would cost more than the rest of the car.

For this reason, the project will include a trade study that estimates the total of both the project cost and all the costs incurred by the customer after product delivery.  As its goal, the study will recommend ways to minimize the total cost.Expand this comment »

What LCC Means to the Project Manager

The PM should consider the following steps to ensure project success:

• Make sure the customer considers cost of ownership and agrees to LCC goals.
• Ensure that project scope and project requirements clarify LCC goals.
• During project planning, account for the effects of those requirements on the project.
• Oversee a trade study to determine the best compromise between project cost and O&M costs before project planning is finalized.
• Make sure the customer understands cost tradeoffs between a cheap project and a project that produces a product with characteristics such as longer life, less expensive maintenance, and greater safety.
• Get approval of the LCC strategy from the customer and authorization to follow that strategy from the project's sponsor or management.

Please let me know in the comments if you have any corrections or additions.

Life Cycle Costing for Project Planning

Life cycle costing looks at the cost of the whole life of the product, not just the cost of the project.

A product has two major groups of life cycle phases, the project phases that conceive, design, produce, and deliver the product, and the Operations and Maintenance (O&M) phases where the owner operates, maintains, and decommissions the product.

Some products also have phases where proof of concept testing, design refinement, and prototyping overlap with O&M phases.

(A lot of PMs forget decommissioning. As an extreme example, think about how a chemical or nuclear waste site might require maintenance and protection for the nest 500,000 years.)

The project scope should define the design philosophy. The customer may want a cheap, disposable product, so the design team would not put much effort into designing for low maintenance, low manning, or long service life.

On the other hand, Operations costs such as building more units, maintenance, training users, expansion and modification, providing consumables, transporting, installing, and disposing of waste can far outweigh the initial costs.

The scope statement and the nature of the product will guide in deciding which aspects, if any, of life cycle costing to include in project planning.