Earned Value Management: Variance Analysis and Forecasting

Retired course

This course has been retired and is no longer supported.

About this lesson

Project teams are often asked to provide a forecast for final project cost.  Earned Value Management provides indices that support creating the project forecast.

Quick reference

Earned Value Management: Variance Analysis and Forecasting

Project teams are often asked to provide a forecast for final project cost.  Earned Value Analysis provides indices that support creating the project forecast.

When to use

Forecasts are generated whenever requested from management or required by the project management methodology.  If you have Earned Value Analysis metrics, forecasts can be quickly and easily created each month.

Instructions

Forecasts are often done for both schedule and cost.  Forecasting normally starts with a variance analysis to determine if the project is performing according to plan.  If variances have occurred, the project manager must consider the causes of the variance and determine if these causes will continue to effect the project and with what impact. 

Schedule forecast

Earned Value Analysis is seldom used for schedule forecast since Earned Value does not differentiate between critical path tasks and non-critical path tasks.  The critical path performance is the best predictor for overall project schedule performance.  However, Earned Value schedule variance will be used for some financial forecasting when there is a focus on achieving the planned project end date.  This will be discussed below in forecasting method 4.

Components of a cost forecast

When a project is baselined, the project cost estimate is the sum of all the budgeted costs and is called the Budget at Completion (BAC).  Throughout the lifecycle of the project, the project manager is often asked to provide a forecast for the final cost of the project which is referred to as the Estimate at Completion (EAC).   As the project gets underway, real costs occur and now actual costs can be used instead of budget estimates for the completed tasks.  The EAC is then the sum of the Actual Costs (AC) plus an estimate of what the costs will be to complete the remainder of the project.  This estimate for the remainer of the work is the Estimate to Completion (ETC).  These can be expressed with this formula:

                              EAC = AC + ETC 

The key then to effective forecasting is to be able to calculate a realistic ETC (since AC is already occurred and cannot be affected).

Forecasting indices

To assist the project management team in their calculation of ETC, the Earned Value Management methodology creates several performance indices.  These indices consider what has happened on the project since its start.  There are two indices, a Cost Performance Index (CPI) and Schedule Performance Index (SPI).  The CPI is a ratio of the cumulative earned value (EV) divided by the cumulative actual costs (AC).  The index can be calculated for the entire project or for a subset of tasks, such as all of Phase 3, or all the tasks performed by the IT organization.  The SPI is a ratio of the cumulative EV divided by the cumulative planned value (PV) for this point in the project.  Again, the index can be calculated for the entire project or a subset of the project tasks.

CPI = EV / AC

SPI = EV / PV

A final index that is sometimes calculated is the To Complete Performance Index (TCPI).  This is the originally planned cost of the remaining work divided by the forecasted cost of the remaining work.  If the TCPI is significantly different than the CPI, the project manager can expect a question about what he or she will be doing differently for the remainder of the project.

Forecasting methods

There are four methods within the Earned Value Management methodology for forecasting the ETC, based upon using the earned value metrics and indices.  The method selected will depend upon the circumstances.   The four earned value methods are:

  • The first method can be used with or without earned value indices.  In this case, the project manager and core team create a new bottom-up estimate for all uncompleted work.  The formula for the project estimate is:  EAC = AC + (new estimate for remaining work)
  • The second method can also be used with or without earned value indices.  In this case the ETC is the originally budgeted estimate for the remaining work.  This is a good approach to use when any underruns or overruns that have occurred were due to unique or isolated events and are not likely to be repeated on the project. When using earned value this is calculated as the BAC (original estimate of all work) minus the EV (original estimate of the work that has completed).  The formula for this method is:  ETC = (BAC – EV).  The formula for the total project estimate is then:  EAC = AC + (BAC – EV).
  • The third estimating method requires the use of the earned value CPI performance index.  It assumes that any pattern of cost overruns or underruns that has been occurring on the project will continue to occur.  It can be applied to just a subset of tasks, or to the entire project.  The estimate created in this method will take the originally estimated value of the remaining work (BAC – EV) and divide that by the CPI.  This has the effect of increasing or decreasing that value of the remaining work by the same ratio that it has been increasing or decreasing.  The formula for this is:  ETC = (BAC – EV) / CPI.  The formula for the total project estimate is then:  EAC = AC + (BAC – EV) / CPI.
  • The fourth method also requires the earned value performance indices, but in this case we need both the CPI and SPI.  This method assumes that the underrun or overrun pattern will continue and that an effort will be made to finish the project on the original date so increased costs will occur to accelerate the remaining work.  I only use this approach if the project is behind schedule, I do not use it if we are ahead of schedule.  To create the acceleration effect impact, the estimated cost of the remaining work (BAC – EV) must be divided by the SPI.  The ETC in this case then must include an effect for both cost and schedule and is calculated using this formula: ETC = (BAC – EV) / (SPI * CPI).  The estimate for the total project becomes: EAC = AC + (BAC – EV) / (SPI * CPI).

Definitions of terms

  • Budget at Completion (BAC): “The sum of all budgets established for the work to be performed.” PMBOK® Guide
  • Estimate to Complete (ETC): “The expected cost to finish all the remaining project work.” PMBOK® Guide
  • Estimate at Completion (EAC): “The expected total cost of completing all work expressed as the sum of the Actual Cost to date and the Estimate to Complete.” PMBOK® Guide
  • Variance at Completion (VAC): “A projection of the amount of budget deficit or surplus, expressed as the difference between the Budget at Completion and Estimate at Completion.” PMBOK® Guide
  • Schedule Performance Index (SPI): “A measure of schedule efficiency expressed as the ratio of Earned Value to Planned Value.” PMBOK® Guide
  • Cost Performance Index (CPI): “A measure of the cost efficiency of budgeted resources expressed as the ratio of Earned Value to Actual Cost.” PMBOK® Guide
  • Trend Analysis: “An analytical technique that uses mathematical models to forecast future outcomes based upon historical results." PMBOK® Guide
  • To-Complete Performance Index (TCPI): “A measure of the cost performance that is required to be achieved with the remaining resources in order to meet a specified management goal, expressed as the ratio of the cost to finish the outstanding work to the remaining budget.” PMBOK® Guide

Definitions are taken from the Glossary of the Project Management Institute, A Guide to the Project Management Body of Knowledge, (PMBOK® Guide) – Sixth Edition, Project Management Institute, Inc., 2017, Pages 700, 703, 706, 722. 724, and 725. PMBOK is a registered mark of the Project Management Institute, Inc.

Login to download
  • 00:04 Hi, I'm Ray Sheen.
  • 00:06 This is the second lesson on Earned Value Management,
  • 00:09 and this one will focus on Variance Analysis and Forecasting.
  • 00:14 There are additional terms that we wanna know and understand for forecasting.
  • 00:18 Each of these definitions is from the Project Management Body of Knowledge,
  • 00:21 known as the PMBOK Guide.
  • 00:22 I will also include a practical explanation.
  • 00:26 Budget at Completion, or BAC, is the sum of all budgets established for
  • 00:30 the work to be performed.
  • 00:31 This is the total value of the planned value.
  • 00:35 This is what the project team has budgeted to do the work of the project.
  • 00:39 Estimate to Complete, ETC, is expected cost to finish all remaining project work.
  • 00:45 This is what you think that the remaining work will cost,
  • 00:48 it's what you need to finish the project.
  • 00:51 Estimate at Completion, or EAC, is the expected cost of completing all
  • 00:56 work expressed as the sum of the Actual Cost to date and the Estimate to Complete.
  • 01:02 This is what you think will be the final amount of money spent on this project
  • 01:06 when it is all done, from start until end.
  • 01:10 It's everything you spend so far and
  • 01:12 everything you think you'll need to spend to complete the project.
  • 01:16 Variance at Completion, or VAC, is a projection of the amount of budget,
  • 01:20 deficit or surplus expressed as the difference between the Budget
  • 01:23 at Completion and the Estimate at Completion.
  • 01:26 This is the difference between what you thought you were going to spend on
  • 01:30 the project when it first started and
  • 01:32 what you now think you will spend on the project.
  • 01:35 Scheduled Performance Index, or SPI, is a measure of schedule efficiency
  • 01:40 expressed as a ratio of Earned Value to Planned Value.
  • 01:44 This is an indication of whether the project is running ahead of schedule or
  • 01:47 behind schedule.
  • 01:49 Realize that when the project is done, the earned value and planned value are equal.
  • 01:53 If the project is over, you have earned all the value, and so
  • 01:56 the final value of SPI is always one.
  • 02:00 Cost Performance Index, or CPI, is a measure of the cost efficiency of budgeted
  • 02:05 resources expressed as the ratio of Earned Value to Actual Cost.
  • 02:09 This will give you a ratio of overrun or underrun for
  • 02:12 the work that you have actually done.
  • 02:14 And seldom is the final cost of CPI equal to one.
  • 02:19 Variance Analysis determines why a variance exists and
  • 02:23 uses the information for forecasting the project completion.
  • 02:27 Earned Value analysis will allow the project manager to separate out
  • 02:30 the components of the variance.
  • 02:32 Some of the variance is due to scheduled variance and
  • 02:34 some of it is due to overruns and underruns.
  • 02:37 In particular, a key question that can be answered is whether a variance was due to
  • 02:41 a unique occurrence or is an ongoing trend that is likely to reoccur.
  • 02:46 Without Earned Value, you are essentially stuck with Trend Analysis.
  • 02:50 The PMBOK Guide defines trend analysis as an analytical technique that uses
  • 02:55 mathematical models to focus future outcomes based upon historical results.
  • 03:00 It is a method of determining the variance from a baseline of the budget, cost,
  • 03:04 schedule or scope parameter by using prior progress reporting periods' data and
  • 03:10 projecting how much of that parameter's variance from the baseline
  • 03:14 might be occurring at some future point in the project,
  • 03:17 provided no changes are made in how we execute the project.
  • 03:21 Trend analysis is the technique most commonly used by
  • 03:24 the financial organization for analyzing variances.
  • 03:28 Another measure often calculated as part of variance analysis
  • 03:32 is the To-Complete Performance Index, or TCPI.
  • 03:35 This is the cost performance index the remaining work in the project must achieve
  • 03:40 in order for the project to finish at its targeted cost.
  • 03:44 Usually the original budgeted amount.
  • 03:46 The PMBOK definition of this is
  • 03:48 a measure of the cost performance that is required to be achieved with the remaining
  • 03:52 resources in order to meet a specified management goal expressed as the ratio
  • 03:57 of the cost to finish the outstanding work to the remaining budget.
  • 04:02 Let's talk about forecasting now.
  • 04:04 Remember that the estimate to complete is the sum of the actual cost and
  • 04:08 the estimate to complete.
  • 04:10 That means we add what we have already spent and
  • 04:13 our forecast of what we need to spend in order to finish the project.
  • 04:16 Well, we know what we already have spent.
  • 04:18 There are four methods to forecast what we need to spend.
  • 04:22 One of them is to determine the scope of the remaining work and
  • 04:24 create an estimate for that work.
  • 04:26 I often use this when I get about 90% done on the project.
  • 04:30 By that time, I know how things will likely end based upon what has happened,
  • 04:35 and I have a very good idea of the amount of remaining work.
  • 04:38 Another technique is to use the original estimate for the remaining work.
  • 04:42 How do we calculate this?
  • 04:44 Well, the original estimate for all of the project work was the budget at completion.
  • 04:49 The original estimate for the work that has been done is the earned value.
  • 04:53 So the original estimate for the work that has not been done is
  • 04:56 the budget at completion minus the earned value.
  • 04:59 I will often use this approach if whatever variance we have is a one-time effect and
  • 05:04 not an ongoing trend.
  • 05:06 The next method is used if you think that whatever effects are causing underruns or
  • 05:10 overruns are a trend and will likely continue.
  • 05:13 These effects will be captured in the cost performance index, or CPI.
  • 05:18 So in this case, take the original estimate of the remaining work,
  • 05:21 which is the budget at complete minus the earned value, and divide that by the CPI.
  • 05:26 This is a great tool to use if departments are performing very differently.
  • 05:31 Calculate the CPI for each department and apply that to their remaining work.
  • 05:36 The final method is used if the project is behind schedule and
  • 05:40 there is pressure to finish on time.
  • 05:43 Accelerating the project will likely cause money.
  • 05:45 In this case, take the estimate for remaining work,
  • 05:48 the budget at completion minus the earned value, and divide it by the cost
  • 05:52 performance index, the CPI, and the scheduled performance index, the SPI.
  • 05:57 Which approach you will use will depend upon the project conditions and
  • 06:00 your understanding of the remaining project work.
  • 06:03 So let's look at this forecast on our earned value management graph.
  • 06:08 We plot the Estimate To Complete, the ETC, as an extension of the actual cost line.
  • 06:14 The final value of that line is the Estimate At Completion, or EAC.
  • 06:19 And the difference between the estimate at completion and
  • 06:22 the original budget at completion is the variance at completion.
  • 06:26 The final value of underrun or overrun.
  • 06:31 Using earned value analysis to understand variances and
  • 06:34 to prepare forecasts is a good business practice.
  • 06:38 What's even more important for us right now, it'll likely make for three or
  • 06:42 four questions on the PMP exam.

Lesson notes are only available for subscribers.

PMI, PMP, CAPM and PMBOK are registered marks of the Project Management Institute, Inc.

Gift this course