Lee Merkhofer Consulting Priority Systems
Implementing project portfolio management

"The value of a project is what obtaining the project consequences is worth to the organization."

Insights Regarding Project Value

The previous page provided two equations for project value:

Project value 


The amount of money the organization's executives would prefer equally, at present, to the (possibly) uncertain future consequences of conducting the project


Project value (net of cost) 


  Value with the project  


  Value without the project


Project value

Based on these equations, we can derive some important conclusions about project value.

  • To estimate project value, it is necessary to consider what would happen if the project is not conducted as well as what would happen if the project is conducted. Most project scoring systems ignore the implications of not doing projects. Using methods that aren't able to account for the decline in value that may result from failing to do a project will cause some types of projects to be grossly undervalued.
  • The same project can have different values to different organizations. For example, if an R&D pharmaceutical company discovers a way to create a new molecule with therapeutic potential, an obvious follow-on project would be to complete the development of a drug based on the molecule. However, if another company is better suited to develop the drug, it may make sense for the company making the discovery to sell the project opportunity to the other company. Thus, for the purposes of estimating project value it is not sufficient to consider just the characteristics of the project itself, it is also necessary to consider characteristics of the business that determine how useful that project will be to that business. If the project opportunity is marketable, then the market value of the project sets a lower bound on project worth.
  • The value of a project can change depending on the other projects that are conducted due, for example, to synergies and economies of scale. If such dependencies exist, optimizing the project portfolio requires estimating the value of conducting different groupings of the interdependent projects. If you want to use prioritization to correctly select project groupings, then, as explained on the previous page, you need to define the groupings so that they are independent of the other projects and then prioritize those groupings.

Estimating Project Value

These results, while useful for understanding project value, signal challenges for the task of finding metrics for identifying high-value projects. Since a project viewed as high value to one organization might not be at all attractive to another, it will be impossible, obviously, to find any single, measurable characteristic of a project, or, indeed, any combination of characteristics of a project, that, alone, will tract how valuable that project will be perceived to be by every organization. In other words, any formula for computing project value will need to involve characteristics of the organization and characteristics of the project. Because so many factors influence project value, it seems likely that a formula for computing project value based on observable characteristics of the project and observable characteristics of the organization is likely to be complex.

Potential for Using Metrics for Measuring Organizational Performance and Value

At the same time that the equations for project value imply that many metrics contribute to determining project value, Equation 2 suggests another avenue for seeking metrics for identifying high-value projects. Because the net value of a project is the difference between the value of the organization with and without the project, methods devised for measuring organizational value can potentially be used to measure project value. Management scientists have devoted considerable effort to determining how to measure the value of organizations. The next page explores the potential for using concepts and methods that have been devised for measuring organizational value in order to estimate project value.

Similarity to the Classic, Financial Measure of Project Value

The classic, financial measure of project value is net present value (NPV)—the financial value of a project is the amount of money, at present, that is of equal worth to the project's incremental cash streams. My Equation 1 definition is likewise an equivalent worth, but consideration is given to project consequences other than just impacts on cash streams.

Project Value Does Not Depend on Project Cost

Price is what you pay, value is what you get

Note that the value of a project, defined in this way and under these assumptions, does not depend on its cost. "Price is what you pay, value is what you get" [1]. Warren Buffet's admonition to investors likewise applies to projects. Project value and project cost are separate and distinct considerations. Projects that cost more typically accomplish more, but the value of a project is determined based on the worth of its consequences without regard to what it costs to produce those consequences. The decision of whether to conduct a project, does, of course, depend on cost. In particular, you would never want to conduct a project whose cost is greater than the value of its consequences. When an organization pays the cost of a project, the amount of value obtained is the net value (value minus cost), but thinking in terms of net value confounds discussions of value. For example, if a friend shows up at your home with a new automobile, you wouldn't think that the value of the automobile changes if you learn your friend received it as a gift. Although the net value of a project depends on cost, value does not.

An exception to the rule that project value does not depend on project cost would be a case where paying to conduct a project impacts the organization's ability to benefit from the project or from other projects (in other words, a situation where the opportunity costs can't be ignored). An extreme example would be a project anticipated to produce great project outcomes, but whose cost would bankrupt the company. In such cases, the value of a project would logically be the value of the project consequences taking into account the effects of having to pay for the project on the organization's ability to benefit from the project consequences. However, as noted previously, most organizations conduct numerous projects each of which consumes only a small portion of the budget, so we can typically ignore such considerations.

Project Value Exactly Maps to Organizational Preferences

My definition of project value has a critically important property—it maps exactly to organizational preferences. Suppose there are two projects requiring exactly the same cost, time to complete and resources. Suppose only one of these two projects can be added to the project portfolio. The organization will prefer project A to project B if and only if it judges the value of project A to be greater than the value of project B. If the organization were to violate this logic and chose project B even though it values project A more highly, then, following the choice of project B, executives could be persuaded to pay a fee to trade project B for project A (any fee up to the difference in the two project values would be perceived as generating a profit for the organization). The implication of this is that making decisions that violate value judgments means the organization could be used as a "money pump." Under any definition of rationality, such behavior would not make sense.

Although the mapping between project value and project preference may seem trivial, note that the metrics recommended by many other authors cannot be said to have this essential property. For example, if one project has a higher strategic alignment score, produces better portfolio balance, or gets a higher score on some scorecard, that doesn't ensure that, other things being equal, the organization will necessarily want to choose that project. Proponents of other project metrics either ignore the concept of value or argue that project value is too difficult to estimate (I'll explain how it can be measured shortly). Regardless, since value is what really matters, nothing is gained by choosing to estimate something easier (except, perhaps, a false sense of security). The accuracy of priorities based on any other metric will depend entirely on how closely that metric maps to project value. . Project value, as I've defined it, provides a true measure of the attractiveness to the organization of its candidate projects. And, because the measure of value is expressed in financial units, project values can be compared with project costs to determine which projects are worth doing and the net returns expected from conducting them.

Project Value Allows Value-Maximizing Portfolios to be Identified

My definition of project value has another essential characteristic—because project values may be summed (assuming projects are independent of one another), value-maximizing project portfolios may be identified. The optimal portfolio may be found exactly using constrained optimization, and a portfolio that is very nearly optimal may be found more simply by ranking projects according to the ratio of project value to project cost. Other measures of project attractiveness can't necessarily be summed. The project portfolio obtained by ranking in order of strategic alignment scores (or selected via ranking in order of the ratio of strategic alignment score to cost) won't necessarily be the portfolio with the highest strategic alignment score (assuming strategic alignment scores can be defined for project portfolios). Again, what may seem to be a rather trivial requirement, the ability to sum the measure defined for project attractiveness, is essential to the goal of guiding project decisions so as to obtain value-maximizing project portfolios.

Cardinal vs. Ordinal Measures of Project Attractiveness

By my definition, project value qualifies as being what economists call a ratio-scaled, cardinal utility [3]. Economists define utility to be a number indicating the perceived usefulness of something [4]. Utility can be expressed on a cardinal scale, in which case it is referred to as a cardinal utility, or on an ordinal scale, where it is an ordinal utility. A ratio-scaled cardinal utility is measure of perceived usefulness expressed on a scale where zero means no usefulness and the intervals between numbers on the scale all indicate the same increment in usefulness. Most qualitative methods for prioritizing projects and many quantitative ones order projects without providing a cardinal measure of project attractiveness. For example, the popular paired comparison approach described here, provides an ordered ranking of projects. It can tell you that project A is preferred to project B, but not how much more preferred A is.

A cardinal utility, on the other hand, not only conveys order of preferences, it provides information on the strength of preference. With a cardinal measure of utility, differences in utility numbers have meaning. If project A has a cardinal utility of 30 units, project B has a cardinal utility of 20 units, and project C has a cardinal utility of 10 units, then project B is preferred to project C by 20 units, project B is preferred to project C by 10 units, and we can conclude that the preference for project A over project C is twice as great as the preference for project B over project C. In addition to being able to measure differences in preferences, utility is a measure of preference that has another desirable property: it is ratio-scaled. A ratio-scaled utility measures utility on an absolute scale, where "zero" means "no usefulness." With ratio-scaled cardinal utilities, ratios of utility numbers, in addition to differences in utility numbers, have meaning. So, in the above 3-project example, if the cardinal utilities are ratio scaled, project A's utility of 30 units compared to project C's 10 units means that project A is three times as preferred as project C.

Ranking Projects by the Ratio of Value to Cost Requires a Cardinal Measure of Project Value

As demonstrated in Part 2 by what I call the project ranking theorem, ranking projects by the ratio of project value to project cost will, provided that the projects are independent of one another, produce the project portfolio that either is value maximizing, or comes very close to being the value maximizing project portfolio. If a ranking method provides only ordinal measures of project desirability, you may know that project A is preferred to project B, but there is no way to know whether project A is still preferred if it costs 10% more. The inability of ordinal utilities to capture strength of preference means that you can't divide an ordinal measure of project value by project cost and hope to produce an ordering of projects that will lead to the most desirable portfolio.

Thus, to avoid the error of dividing an ordinal measure of project desirability by project cost, the ordinal project ranking must be based on value per unit of cost. This is why in my discussion of qualitative methods for prioritizing projects I stressed that judgments of preference need to be made based on desirability per unit of cost. Unfortunately, descriptions provided by others often ignore this critical requirement (probably because judging preference per unit of cost is more difficult than simply determining which project you prefer). To provide one example to illustrate how common this error is, when I recently did a Google search on "methods for ranking projects," the number one website advised, "ranking with points... allocating more points to more valuable projects" [5]. However, the webpage provides no mention that the assessment of value must be per unit of cost or that numbers of points assigned must be divided by project costs. Those who espouse ordinal methods for ranking projects face a dilemma. They can either specify that judgments of desirability need to be based on desirability per unit of cost (which is a hard judgment to make) or accept the reality that the advice they are providing can only produce accurate results in the rare case where all projects cost exactly the same amount.

Inadequacy of Financial Metrics

A final observation is that financial metrics for measuring project value provide, at best, only a partial representation of what is important to a business. The financial metrics typically used by many commercial organizations include return on investment (ROI), internal rate of return (IRR), net present value (NPV), and payback period. Using these metrics to evaluate candidate projects requires forecasting the incremental cash flows that would be produced by the project. Some impacts on cash flow may be relatively easy to forecast, in particular, the costs to conduct the project and any direct impacts the project will have on the firm's future costs and revenues. However, it is difficult to translate many project consequences into impacts on cash flow. For example, how would a project designed to collect better information about customer preferences impact future cash flows? From a practical standpoint, cash flow analysis will not capture many important project impacts. According to a study by Research Technology Management, companies that rely mostly on financial metrics obtain "unbalanced portfolios" that are not well matched to the strategy of the firm [6].

value puzzle

The limitations of financial metrics are even more obvious when it comes to evaluating projects in the public sector. Public-sector organizations have social missions and may not even sell goods and services that generate cash flows. Even it they do, earning a financial return may not be a primary objective. For example, a water utility has a mission that includes serving community water needs. A public school has a mission that includes educating students. Cash flow analysis will not provide a comprehensive view of how well these organizations are accomplishing their missions. In summary, financial metrics fail to measure the value of projects intended to achieve non-financial objectives.


  1. M. Buffet & D. Clark, The Tao of Warren Buffett: Warren Buffett's Words of Wisdom: Quotations and interpretations to Help Guide you to Billionaire Wealth and Enlightened Business, 2006.
  2. N. E. Boardman Cost-benefit Analysis: Concepts and Practice, 3rd ed., NJ: Prentice Hall, 2006.
  3. W. Nicholson, Micro-economic Theory (Second ed.), Dryden Press. pp. 5387, 1978.
  4. R. Strotz, "Cardinal Utility, American Economic Review 43(2), 384397, 1953.
  5. Search done July 7, 2016. The quores are from the Rothman Consulting Group webpage: http://www.jrothman.com/articles/2012/02/selecting-a-ranking-method-for-your-project-portfolio/.
  6. R. G. Cooper, S. J. Edgett and E. J. Kleinschmidt, "R&D Portfolio Management Best Practices: Methods Used & Performance Results Achieved," report prepared for the Industrial Research Institute, Jan. 1998.