Project

Evaluation
Lect. Nadia Khan
 Lecture Outline
• Project Evaluation:
o Different level of estimation
• Strategic Assessment
• Technical Assessment
• Economic Assessment
o Introduction to
Estimation
• Size Estimation
• Cost Estimation

• Project Portfolio Management

• Project Evaluation Techniques

o Cost-Benefit Analysis
o Cash Flow Forecasting
o Cost-Benefit Evaluation Techniques
 Different level of
estimation
• Before decision to do a project
o The estimation is coarse
o The estimation is in high level terms
• Profit? Good to the organization? etc.

• After decision to go ahead

o More detailed size and cost estimations are required

Project Evaluation:
• A high level assessment of the project
o to see whether it is worthwhile to proceed with the project
o to see whether the project will fit in the strategic planning of the whole
organization
 Project evaluation
• Project evaluation is a step by step
process of collecting, recording and
organizing information about
o Project results
o short - term outputs (immediate results of activities or
project deliverables)
o Long – term outputs (changes in behaviour , practice or
policy resulting from the result.
Project Evaluation - Why
• Want to decide whether a project can
proceed before it is too late
• Want to decide which of the several
alternative projects has a better
success rate, a higher turnover, a
higher ...
• Is it desirable to c arry out the
development and operation of the
software system?
Project Evaluation - Who

• Senior management
• Project manager/coordinator
• Team leader
Project Evaluation - When

• Usually at the beginning of the

project
o e.g. Step 0 of Step Wise Planning Framework
Project Evaluation - What

• Strategic assessment
• Technical assessment
• Economic assessment
 Project Evaluation - How

• Cost-benefit analysis
• Cash flow forecasting
• Cost-benefit evaluation techniques
• Risk analysis
 Strategic Assessment
• STRATEGIC ASSESSMENT is the first criteria for
project evaluation
• Used to assess whether a project fits in the long-
term goal of the organization
• Usually carried out by senior management
• Needs a strategic plan that clearly defines the
objectives of the organization
• Evaluates individual projects against the
strategic plan or the overall business objectives
 Strategic Assessment
(cont’d)
• Programme management
o suitable for projects developed for use in
the organization

• Portfolio management
o suitable for project developed for other
companies by software houses
 SA – Programme
Management
• Individual projects as components of a
programme within the organization

Programme as “a group of projects that are

managed in a coordinated way to gain
benefits that would not be possible were
the projects to be managed
independently”
SA – Programme Management Issues
• Objectives
o How does the project contribute to the long-term
goal of the organization?

o Will the product increase the market share? By how

much?

• IS plan
o Does the product fit into the overall IS plan?
o How does the product relate to other existing
systems?

• Organization structure
o How does the product affect the existing
organizational structure? the existing workflow? the
overall business model?
 SA – Programme Management Issues
(cont’d)
• MIS
o What information does the product provide?
o To whom is the information provided?
o How does the product relate to other existing MISs?

• Personnel
o What are the staff implica tions?
o What are the impacts on the overall policy on staff
development?

• Image
o How does the product affect the image of the organization?
 SA – Portfolio
Management
• Suitable for product developed by a
software company for an organization

• May need to assess the product for the

client organization
o Programme management issues apply

• Need to carry out strategic assessment for

the providing software company
 SA – Portfolio
Management Issues
• Long-term goal of the software company

• The effects of the project on the portfolio of the

company (synergies and conflicts)

• Any added-value to the overall portfolio of the

company
 Technical assessment
– It is the second criteria for evaluating the project.
– Technical assessment of a proposed system
evaluates functionality against available:
o Hardware
o Software
• Limitations
– Nature of solutions produced by strategic
information systems plan
– Cost of solution. Hence undergoes cost-benefit
analysis.
 Economic assessment
• Cost-benefit Analysis:
o Economic assessment by comparing the expected
costs of development and operation of the system
with the benefit of having it in place

o Assessment is based upon

• Whether the estimated costs are exceeded by the
estimated income and other benefit
• Whether or not the project under consideration is
the best of a number of options
Evaluating the economic benefit
• The standard way of evaluating the
economic benefits of any project is to
carry out a cost benefit analysis, which
consist of two steps:
o Identifying and estimating all of the costs and
benefits of c arrying out the project
• E.g. development cost, operating costs, and
the benefits
o Expressing these c osts and benefits in common
units
• E.g. in monetary terms
 Cost Category
• Development costs
o Salaries

• Setup costs
o Cost of putting the new system into place

• Operational costs
o Cost of operating the system
 Benefit Category
• Direct benefit
o E.g. the reduction in salary bills
• Assessable indirect benefits
o Secondary benefit
o E.g. increased accuracy, reduction of errors, and
hence costs
• Intangible benefits
o Longer term, very difficult to quantify
o E.g. Reduced staff turnover, and hence, lower
recruitment cost
 Cash Flow Forecasting
Income
Expenditure

• Typically products generate a negative cash flow during the

development followed by a positive cash flow over their
operating life.
• There might be decommissioning cost at the end of product’s
life
 Cost-benefit Evaluation
Techniques
1. Net profit
2. Payback period
3. Return on investment
4. Net Present Value
5. Internal rate of Return
 1. Net profit
• The difference between the total cost and
the total income over the life of the project
• Project 2 shows the greatest profit but at the
expense of a large investment
• Takes no a c c ount of the timing of c ash flows
o According to this criterion, project 1 & 3 would be equally
preferable
 2. Payback Period
• The time taken to break even or pay back
the initial investment
• Normally, the project with the shortest
payback period is chosen
• Advantage:
o Simple to c alculate
o Not particularly sensitive to small forecasting
errors
• Disadvantages:
o It ignores the overall profitability of the project
• E.g. the fact that project 2 & 4 are, overall, more
profitable than project 3 is ignored
 3. Return on Investment
• Also known as: Accounting Rate of Return (ARR)
• Provides a way of comparing the net profitability to
the investment required

average anual profit

ROI  100
total investment
 ROI cont..
• Advantage:
o Simple, easy to calculate
o Not particularly sensitive to small forecasting errors

• Disadvantages:
o It takes no account of the timing of the cash flows
o It is tempting to compare the rate of return with current
interest rate
 4. Net Present Value

• A project technique that takes into

account the profitability of a project
and the timing of the cash flows that
are produced

o By discounting future c ash flows by a

percentage known as the discount rate
 NPV cont..
Discount Rate (%)
Year 5 6 8 10 12 15
1 0.9524 0.9434 0.9259 0.9091 0.8929 0.8696
2 0.9070 0.8900 0.8573 0.8264 0.7972 0.7561
3 0.8638 0.8396 0.7938 0.7513 0.7118 0.6575
4 0.8227 0.7921 0.7350 0.6830 0.6355 0.5718
5 0.7835 0.7473 0.6806 0.6209 0.5674 0.4972
6 0.7462 0.7050 0.6302 0.5645 0.5066 0.4323
7 0.7107 0.6651 0.5835 0.5132 0.4523 0.3759
8 0.6768 0.6274 0.5403 0.4665 0.4039 0.3269
9 0.6446 0.5919 0.5002 0.4241 0.3606 0.2843
10 0.6139 0.5584 0.4632 0.3855 0.3220 0.2472
15 0.4810 0.4173 0.3152 0.2394 0.1827 0.1229
20 0.3769 0.3118 0.2145 0.1486 0.1037 0.0611
25 0.2953 0.2330 0.1460 0.0923 0.0588 0.0304

• Table of NPV discount factors

 NPV cont.
• Applying the discount factors to project 1

Project 1 Discount Factor Discounted

Year
Cash Flow 10% cash flow

0 -100,000 1.0000 -100,000

1 10,000 0.9091 9,091
2 10,000 0.8264 8,264
3 10,000 0.7513 7,513
4 20,000 0.6830 13,660
5 100,000 0.6209 62,092
Net Profit 50,000 621
 5. Internal Rate of Return (IRR)
• Disadvantage of NPV
o The projects may not directly comparable with earnings
from other investments or the costs of borrowing capital

• IRR attempts to provide a profitability measure as a

percentage return that is directly comparable with interest
rates
o E.g. a project that showed an estimated of IRR of 10%
would be worthwhile
• if the capital could be borrowed for less than 10% or
• if the capital could be invested elsewhere for a return greater than 10%

• IRR is calculated as that percentage discount rate that

would produce an NPV of zero

• Manually it must be calculated by trial-and-error or

estimated using two values and using the resulting NPVs to
estimate the correct value
 Cont.
• The Internal Rate of Return is a good way of judging an
investment. The bigger the better!

• The Internal Rate of Return is the interest rate

that makes the Net Present Value zero.

• Internal rate of return (IRR) is the interest rate at which the

net present value of all the cash flows (both positive and
negative) from a project or investment equal zero.

• Internal rate of return is used to evaluate the attractiveness of

a project or investment. If the IRR of a new project exceeds a
company’s required rate of return, that project is desirable. If
IRR falls below the required rate of return, the project should
be rejected.
 IRR Formula
• You can use the following formula to calculate
IRR:

0 = P0 + P1/(1+IRR) + P2/(1+IRR)2 + P3/(1+IRR)3 + . .

. +Pn/(1+IRR)n

where P0, P1, . . . Pn equals the cash flows in

periods 1, 2, . . . n, respectively; and
IRR equals the project's internal rate of return.
 IRR Example
• Let's look at an example to illustrate how to use IRR.
Assume Company XYZ must decide whether to purchase a
piece of factory equipment for $300,000. The equipment
would only last three years, but it is expected to generate
$150,000 of additional annual profit during those years.
Company XYZ also thinks it can sell the equipment for scrap
afterward for about $10,000. Using IRR, Company XYZ can
determine whether the equipment purchase is a better use
of its cash than its other investment options, which should
return about 10%.
Here is how the IRR equation looks in this scenario:
0 =-$300,000 +($150,000)/(1+.2431) +
($150,000)/(1+.2431)2 +($150,000)/(1+.2431)3 +
$10,000/(1+.2431)4
 CONT.
• The investment's IRR is 24.31%, which is the
rate that makes the present value of the
investment's cash flows equal to zero.

• From a purely financial standpoint,

Company XYZ should purchase the
equipment since this generates a 24.31%
return for the Company --much higher than
the 10% return available from other
investments.
 Material
• Software Project Management by Bob Hughes and
Mike Cottrell, McGraw-Hill Education; 5th Edition
(2009). ISBN-10: 0077122798
•
• C h. 3: Programme management and project
evaluation