Technical Terms Used in Project Portfolio Management (Continued)

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enterprise management

The subset of management principles and techniques focused on helping the organization achieve its highest-level objectives, such as increasing shareholder value. Enterprise management typically includes strategic planning, long-term investment strategy, organizing and resourcing, performance assessment, and leading and directing the organization.

enterprise project management (EPM)

A broad term that refers to processes for improving the conduct and coordination of projects across an enterprise. The term predates project portfolio management (PPM), and its use may presume that PPM is included as a subset of EPM. EPM is typically described as aimed at implementing best practices for project management, including providing project management expertise to project managers.

enterprise project portfolio management (EPPM)

Project portfolio management applied at the enterprise level; that is, to all projects and programs conducted by the organization. EPPM may be implemented by establishing a hierarchy of project portfolios that are managed both individually and collectively to maximize the value derived by the enterprise.

expected commercial value (ECV)

A probability-weighted value for a project with uncertain outcomes similar to expected net present value (ENPV). As with ENPV, scenarios are defined to represent different project outcomes, and each scenario is assigned a probability. A project value is computed for each scenario. The expected commercial value is obtained by multiplying each scenario's value by the scenario probability and adding the results. Estimated commercial value is another term for ECV.

Depending on the techniques used to estimate the value of the project under each scenario (and on the techniques used to estimate the probabilities of the scenarios), ECV can be a useful way to address project uncertainties. However, as indicated below, the technique often involves simplifications that may or may not be appropriate.

Typically, ECV denotes a simplified version of ENPV often appropriate for projects that generate new products. The project is broken into stages which are represented in a decision tree. The first stage is the product development stage, where the probability of technical success is P_ts. The second stage is the product launch, where the probability of commercial success is P_cs. If D is the development cost, C is the cost of commercially launching the project, and PV is the present value of future earnings assuming a commercially successful project, then:

In reality, of course, technical and commercial success are not yes/no outcomes. There are varying degrees of technical success and, assuming the product is launched, commercial sales could be anywhere within a range of possibilities. Still, depending on the application, the simple formula may provide a sufficient approximation. More generally, because ECV is a simplified version of ENPV, it has the limitations of the more general approach (including omission of non-financial sources of project value and potential for inadequate treatment of risk).

expected internal rate of return (EIRR)

A minor modification of the internal rate of return (IRR) sometimes used to prioritize projects (such as new product development projects) whose costs and future cash flows are highly uncertain. In the formula for computing IRR, project costs are replaced by the expected value of initial-year project costs, and project cash flows are replaced by the year-by-year expected value of project cash flows. Thus, The EIRR is the solution to the equation:

In other words, to use the EIRR, alternative project cost and future cash-flow scenarios are defined. For example, the various stages and associated cash flows for the project (such as development, testing, and commercialization) may be represented in a decision tree. Probabilities are assigned to each scenario. The expected value of project costs and expected value of each year's net cash flow are computed by multiplying probabilities by cash flows and adding. The EIRR is then computed as the discount rate that equates the discounted value of expected future cash flows with the expected project cost.

When applied to multi-stage, high-risk projects, the EIRR behaves in an intuitive way. For early stage projects with a low probabilities of ultimate success, expected cash flows tend to be low so the EIRR tends to be low. However, if such a project is funded, its EIRR tends to grow (assuming initial project outcomes are successful) as project costs are sunk and early-stage failure scenarios are avoided. A late stage project (one that has successfully avoided early and middle stage risks) tends to have a very high EIRR. Because of the strong influence of project stage on the EIRR, typical advice is that project-by-project comparisons using EIRR be conducted only for projects at the same stage of development and that separate budgets be established for funding projects within the different stages.

As a project prioritization metric, the EIRR has the advantages and disadvantages described for the IRR, plus the advantages and difficulties associated with assigning probabilities to alternative scenarios.

expected net present value (ENPV)

An enhancement of the net present value approach that explicitly addresses uncertainty. Depending on how it is applied, ENPV can produce estimates of uncertainty in the value of the overall project portfolio and adjust project value to account for risk. It can also be coupled with methods for quantifying the non-financial or indirect components of project value. It is, therefore, a useful tool for computing project and project portfolio value. However, the computations necessary to compute ENPV can be difficult. The method is best reserved for very large and risky projects.

With ENPV, rather than calculate a single time-stream of project cashflows and other project impacts, alternative scenarios are defined representing the range of possibilities. Simulation techniques are often used to generate the alternative scenarios, which may be represented in as a decision tree (a graphic structure wherein alternative sequences of choices and outcomes are displayed as branches in the tree and the various paths through the tree represent the alternative scenarios) or event tree (similar to a decision tree, but without nodes and branches representing alternative choices). Probabilities are associated to each scenario in the tree. A project NPV is computed for each scenario, and the ENPV is the probability-weighted sum of the values.

As described under net present value, selecting discount rates is often problematic. If risk is important, risk-adjusted discount rates are often recommended, with different risk-adjusted rates being appropriate for different scenarios. Alternatively, techniques based on risk tolerance can be used to account for risk (these techniques generally involve using a risk-free discount rate for computing EPNV).

In addition to the difficulties mentioned above related to selecting the discount rate, another limitation of ENPV is that historical data is generally unavailable for estimating probabilities. Thus, probabilities must typically be assigned subjectively.

expected value

Term used to represent the result of a mathematical computation performed using probabilities. Suppose there is an uncertain (random) variable X that may produce various "payoffs" (values). Suppose the possible payoffs are denoted x₁, x₂,..., x_N, and suppose that these alternative payoffs occur with probabilities p₁, p₂,...p_N, respectively. The expected value of the variable is sum of each possible payoff multiplied by its probability:

If the uncertain variable can take on a continuum of possible values (e.g., any value between 0 and 1), then its expected value is computed by weighting the possible values using the variable's probability density function and using integral calculus.

The expected value is the average return one would expect over many "trials" or opportunities for the uncertainty to occur. See expected commercial value and expected net present value for examples of measures based on expected value.

expert system

A computer system programmed to behave like a human with expertise in a particular field or problem area-it uses human knowledge and reasoning techniques to solve to offer advice or to solve problems. Expert systems represent an application or subfield of artificial intelligence. Although various methods can be used to simulate the performance of an expert, most expert systems consist of two components: (1) a knowledge base that contains subject matter expertise and (2) an inference engine that applies heuristics or plausible reasoning rules typical of experts in the given field. Expert systems are typically used as an aid to human workers or to supplement some information system. Some project portfolio management systems are advertised as including components that operate as expert systems.

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force field analysis

A decision-aiding technique that involves identifying the forces for and against a specific alternative and assigns weights to each individual force in order to rank the alternatives based on total scores.

full cost accounting (FCA)

A systematic approach for identifying and reporting the "true" costs required to obtain the benefits that motivate conducting a project. Rather than count only direct, one-time project expenditures, full cost accounting computes the total cost of ownership, including indirect costs as well as the future costs that must be paid throughout the lifecycle of any value-generating products or assets produced by the project. Full cost accounting also includes the opportunity costs incurred from using resources needed by the project. Full cost accounting is essential for project prioritization, as project choices require weighing the true benefits and costs of alternatives.