Chapter 4 Project Selection Approval Important factors Selection

Chapter 4: Project Selection & Approval Important factors Selection Methods Value Analysis, Optimization

Planning process for project selection • Strategic planning, determine the organization’s strategy, goals and objectives. • Business area analysis, analyze the business process to achieve strategic goals such improvement of sales, manufacturing, engineering, or IT. • Project planning, define projects that address the strategies. • Resource allocation, choosing which projects to do and assigning resources for working on them.

IS Project Growth • billions spent on technology every year • Sources of project: – users – top management – within information systems • Process of selecting project – idea – estimate benefits, costs

Quotes…. . • If you always blame others for your mistakes, you will never improve. • To get a project off the ground, tell a colleague it was their idea. They will put their heart and soul into making it successful.

IS Project Motivation • Cost cutting/avoidance • Revenue maintenance/enhancement • Entering new market • Gaining market share

Measurement of project effect Estimation pitfalls (difficulties) • INTANGIBLES – Difficult to measure cost and benefits • HIDDEN OUTCOMES – time, budget subject to great error • CHANGE of Information technology – technology changes rapidly • outdating many good project idea • Technology is highly dynamic

Measurement of project effect Estimation pitfalls (difficulties) continued… • • • Allowing non-technical staffers to give estimates. Underestimating design time and debugging time Inadequate/unclear requirements. Poorly defined scope of work. This can occur when the work is not broken down far enough or individual elements of work are misinterpreted. Omissions. Simply put, you forget something. Optimism. This is the rose-colored glasses syndrome, when the all-success scenario is used as the basis for the estimate. Failure to assess risk and uncertainty. Neglecting or ignoring risk and uncertainty can result in estimates that are unrealistic. Time pressure. If someone comes up to you and says, “Give me a ballpark figure by the end of the day” and “Don’t worry, I won’t hold you to it, ” look out! This almost always spells trouble. The task performer and the estimator are at two different skill levels External pressure. Failure to involve task performers.

Organizational Treatment of IS Projects • Focusing on bottom line justification misleads companies with respect to evaluation of Information technology investment, by treating IS project as capital which requires a rigid cost/benefit analysis. • The most common justification for project adoption: - reduction of payroll - accomplishing a strategic objective (often disregarded because it is difficult to measure)

Organizational Treatment of IS Projects • Hinton & Kaye (1996) - survey of 50 organizations CAPITAL: rigid cost-benefit analysis REVENUE: need to invest to keep up Investment training marketing info tech operations Capital 0% 4% 39% 58% Mix 1% 9% 41% 31% Revenue 99% 87% 20% 11%

Organizational Treatment of IS Projects • Cost benefit analysis should consider cost over the entire life cycle of the project. Who does estimate the project? - Developer who estimate their project tend to be optimistic, so having one group estimate and other develop the project is a good practice.

Initial Risk Evaluation Most of these risks have to do with estimating the time, which depends on a number of factors: • Project manager ability • experience with application, environment, language • familiarity with modern programming practice • availability of critical equipment, software • completeness of project team • personnel turnover • project team size • relative control of project manager over project team

Common methods used in Project Selection Decision • Economic & Financial – payback – cost-benefit – npv/irr 68% 63% 40% • Multifactor – Checklist- minimum acceptable level of requirements – project profile- strength and weakness – scoring/rating models – multicriteria • Mathematical Programming- optimal solution for projects • Expert Systems- systematic manner 38% 26% 11% 18% 6%

ROI and IRR • Return on investment, is the result of subtracting the project cost from the benefit and then dividing by the cost. ROI = (total discount benefit – total discount costs) / discount cost • IRR, find what discount rate result in an NPV of zero for the project. There is no direct formula for calculating IRR return. It is found using an iterative process using NPV. The closest thing to a formula is the following: If NPV=0 then IRR=discount rate used to calculate the NPV. So we calculate NPV with different discount interest rates, zeroing in on NPV=0 to find the IRR.

Quotes • What you don't know hurts you. • The sooner you begin coding the later you finish. • If everything is going exactly to plan, something somewhere is going massively wrong. • The first 90% of a project takes 90% of the time the last 10% takes the other 90% • A minute saved at the start is just as effective as one saved at the end. • Projects happen in two ways: a) Planned and then executed or b) Executed, stopped, planned and then executed.

Selection Methods • The comparative approach, the value of one project would need to be compared against the other projects, you could use the benefit measurement methods. This could include various techniques, of which the following are the most common. - You and your team could come up with certain criteria that you want your ideal project objectives to meet. You could then give each project scores based on how they rate in each of these criteria, and then choose the project with the highest score. - When it comes to the Discounted Cash flow method, the future value of a project is ascertained by considering the present value and the interest earned on the money. The higher the present value of the project, the better it would be for your organization. - The rate of return received from the money is what is known as the IRR. Here again, you need to be looking for a high rate of return from the project. • The mathematical approach is commonly used for larger projects. The constrained optimization methods require several calculations in order to decide on whether or not a project should be rejected.

Selection Methods - Following is an illustration of two of methods (Benefit Measurement and Constrained Optimization methods).

IS project approval Criteria • Financial – net present value/internal rate of return – payback – profitability index/budgetary constraint • Management – – support business objectives respond to competition better decision making satisfy legal requirements • Development – Project needed for effective operation – Introduction of new technology

Screening • Identifying the factors that are important • Establishing a minimum of acceptable levels of requirements and eliminate projects that fail on any one of these standards. • This is appropriate if the minimum standards reflect what management demands in return for its investment. • a way to implement screening assure implementation of policy limits

SCREENING • Eliminate proposals not meeting minimum requirements, weeding out projects with unacceptable features. • Project Profile is to display how the project proposal compares with standards, as well as how it compares with other proposals.

PROJECT PROFILE • Display project features with standards • Compares strengths, weaknesses Project Cost A 265 230, 000 A 801 370, 000 A 921 790, 000 B 622 480, 000 B 837 910, 000 C 219 410, 000 NPV/Cost 0. 43 0. 51 0. 46 0. 11 0. 22 0. 41 Strategic? no yes yes no

Cost Benefit Analysis • Cost-benefit analysis (CBA), sometimes called benefitcost analysis (BCA), is an economic decision-making approach, used particularly in government and business. • CBA is used in the assessment of whether a proposed project program or policy is worth doing, or to choose between several alternative ones. • It involves comparing the total expected costs of each option against the total expected benefits, to see whether the benefits outweigh the costs, and by how much. • In CBA, benefits and costs are expressed in money terms, and are adjusted for the time value of money so that all flows of benefits and flows of project costs over time (which tend to occur at different points in time) are expressed on a common basis in terms of their "present value. "

Cost-Benefit Analysis • Accurately estimate all benefits – identify overall profit impact – in net present terms • Accurately estimate all costs – overall profit impact, in net present terms • RATIO: benefits/costs <=1, don’t adopt >1, profitable can adopt by highest ratio

Payback • Refers to the period of time required for the return on an investment to "repay" the sum of the original investment • For example, a $1000 investment which returned $500 per year would have a two year payback period. The time value of money is not taken into account. • Payback period intuitively measures how long something takes to "pay for itself. " Shorter payback periods are preferable to longer payback periods. • Payback period as a tool of analysis is often used because it is easy to apply and easy to understand for most individuals. When used carefully or to compare similar investments, it can be quite useful. • The most basic method of financial evaluation is simply to compare the income that will be generated with the initial investment. • Identify the time needed (rough estimate of time) for costs to be recovered – – simple doesn’t consider negative cash flow in early period. • The most common reasons for company failure in US is lack of cash flow.

Payback (example) In house cumulative Out source cumulative Year 0 (380, 000) (520, 000) Year 1 70, 000 (310, 000) 190, 000 (330, 000) Year 2 150, 000 (160, 000) 270, 000 (60, 000) Year 3 225, 000 65, 000 340, 000 280, 000

Net Present Value • NPV compares the value of a dollar today to the value of that same dollar in the future, taking inflation and returns into account. • The basic calculation is applied to the benefit, which must then be offset against the cost. This figure is called the Net Present Value (NPV) which equals to present value of benefit – present value of cost.

NPV - Example Now Year 1 Year 2 Year 3 Running cost 30, 000 45, 000 revenues 40, 000 50, 000 60, 000 Startup cost Sales of business 50, 000 70, 000

NPV - Example • NPV= Npv(year 1)+ Npv(year 1) = -50000 + ((-30000+40000)/(1+0. 12)**1) + ((-45000+50000)/(1+0. 12)**2) + ((-45000+60000+70000)/(1+0. 12)**3 = -50000 +9828+3986+60501 = 23415 So , the project on this basis is worth pursuing.

Net Present Value – Time Value of Money 15% (divided by 1. 15**t) In house cumulative Out source cumulative Year 0 (380, 000) (520, 000) Year 1 70, 000 (60, 870) (319, 130) 190, 000 (165, 217) (354, 783) Year 2 150, 000 (205, 708) (113, 422) 270, 000 (204, 159) (150, 624) Year 3 225, 000 (147, 941) 340, 000 72, 932 (57, 767)

Value Analysis (is an alternative to cost/benefit analysis) • Decision Support System benefits usually very vague. • Unfair to apply cost-benefit analysis – benefit estimates unreliable • Costs - identify as in cost-benefit • Benefits - leave in subjective terms • Managerial decision: are you willing to pay this much for that set of benefits? • Quantify the intangible in terms of value not in dollars.

Multi-criteria analysis • • Multi-Criteria Analysis (MCA) is a decision-making tool developed for complex problems. By using MCA the members don't have to agree on the relative importance of the Criteria or the rankings of the alternatives. Each member enters his or her own judgment, and makes a distinct, identifiable contribution to a jointly reached conclusion. SMART is a very simple means of quantitatively combining diverse sets of benefits by converting them all to an abstract measure of value. (two factors here are weight and score) SMART Simple Multi-Attribute Theory – identify criteria (risk, market share…) – measure utilities of alternatives over each criterion – elicit preference weights • From the most important to the least important value = S of weights times scores

Weighted scoring model Criteria Weight Project 1 Project 2 project 3 criteria 1 25% 90 90 50 criteria 2 30% 70 90 50 Criteria 3 40% 50 80 60 Criteria 4 5% 80 90 50 Weighted project score 100% 67. 5 86 54

Questions to Help You Plan Your Project • When you begin a project, you always feel the pressure to jump in and start working to meet the aggressive time schedules. You want to be sure it’s planned out before you start, but you’re not quite sure where to begin, and you’re always under pressure to start producing results. Answer the following questions in this chapter to be sure you’ve completely identified all the work your project will require. • What’s the Purpose of Your Project? As soon as you’re assigned to your project, get a clear and complete picture of its significance. Determine the following: - What situation(s) led to your project? - Who had the original idea? - Who else hopes to benefit from it? - What would happen if your project weren’t done? An accurate appreciation of your project’s purpose can lead to better plans, a greater sense of team-member commitment, and improved performance.

Questions to Help You Plan Your Project • Whom Do You Need to Involve? Knowing early whom you need to involve allows you to plan for their participation at the appropriate times. Involving these people in a timely manner ensures their input will be available when it’s needed and lets them know that you value and respect their contributions. As you determine who may play a role in your project’s success, categorize them as follows: _ Drivers: People looking for your project’s results. _ Supporters: People who can help your project succeed. _ Observers: People interested in your project. After you have this comprehensive list, decide whom to involve and when and how you want to involve them. • What Results Will You Produce? Specify all the outcomes you expect your project to produce. Be sure that you describe clearly each product, service, or impact; make the outcomes measurable and include performance targets. Confirm that your project’s drivers believe these outcomes meet their needs and expectations.

Questions to Help You Plan Your Project • What Constraints Must You Satisfy? Identify all information, processes, and guidelines that may restrict your project activities and your performance. Distinguish between the following: - Limitations: Restrictions that people outside your project team set. - Needs: Restrictions that you and your project team members establish. When you know your constraints, then you can plan to minimize their effect on your project. • What Assumptions Are You Making? As soon as you begin thinking about your project, document all assumptions about its key information because each of these assumptions leads to one or more project risks that you may choose to plan for in advance. Continue adding to your list of assumptions as you develop the parts of your plan. Update your plans whenever an assumption changes or you find out its actual value.

Questions to Help You Plan Your Project • What Work Must Be Done? Identify all the activities required to complete your project so you can assign responsibilities for them, develop schedules, estimate resource needs, give specific tasks to team members, and track your project during performance. For each activity, specify _ The work to be done: The processes and steps that each activity requires. _ Inputs: All people, facilities, equipment, supplies, raw materials, funds, and information necessary to perform each activity. _ Results you expect: Products, services, or situations that you expect each activity to produce. _ Interdependencies: Activities that you must complete before you can start the next one; activities you can start after you’ve completed the current one. _ Duration: The actual calendar time to perform each activity • When Does Each Activity Start and End? Develop a detailed schedule with clearly defined activities and frequent intermediate milestones. Having this information allows you to give team members precise guidance on when to perform their assignments. This information also supports your ongoing monitoring and control of work in progress. Take the following into account when you create your schedule: _ Duration: The actual calendar time to perform each individual activity. _ Interdependencies: What you must finish before you can begin your activity. _ Resource availability: When you need particular resources and when they’re available.

Questions to Help You Plan Your Project • Who Will Perform the Project Work? Knowing who will perform each task and how much effort they’ll have to devote allows you to plan for their availability and more accurately estimate the overall project budget. Specify the following information for all people who need to work on your project: _ Identify each person by name, by position description or title, or by the skills and knowledge required to do the assignment. _ When more than one person must work on the same activity, describe the specific roles and how these people can coordinate their efforts. _ Specify the level of effort each person has to invest. _ If a person will work less than full time on an activity, specify exactly when she will work. Consult with the people who’ll perform the project tasks to develop this information.

Questions to Help You Plan Your Project • What Other Resources Do You Need? Identify all equipment, facilities, services, supplies, and funds that you need to perform your project work. Specify how much of each resource you’ll need and when. • What Can Go Wrong? Identify those parts of your project that may not go according to plan. Decide which risks pose the greatest dangers to your project’s success and develop plans to minimize their negative effects.

Summary • Initial evaluation of projects is where most are eliminated • Companies need to avoid non profitable – if budget scarce, select most profitable • Many risks need to be considered • ideally identify net present costs, benefits • practically need to consider intangibles