1. PROJECT MANAGEMENT專案管理 Session 3 OUTLINE: • Logistics • Arrangements • Reporting Assignments & schedule • Oral report FB form • S2: Engineering Economic Analysis • time value of money; formula & applications • methods to compare alternatives (NPV, IRR, pay-off period, utility theory) • sensitivity & break-even analysis • S3: Project Screening and Selection • evaluation processes factors • Focus on tools & examples of those tools: • checklists & scoring models; multidimensional (snow flake) diagram; benefit-cost analysis; cost-effectiveness analysis; risk-benefit analysis; decision trees Sheu

2. Time Value of Money • Why Economic Analysis? • desire for max. profitability in PM • limited resources • Time value of money • money now can do thing for future • inflation • Discount rate; interest rate; MARR • differences & interchangeability • Compound interest vs simple interest • principal & previous interests generate new interest • only principal generate interest.

3. ... ... Compound Interest Rate Symbols • Symbols: • i: effective interest rate (discount rate, MARR) • n: # of compound periods • P: present sum of money • F: future sum of money • A: annuity. (periodic end-of-period cash flow) • G: uniform increase/decrease in end-of-period cash flow A G Sheu

4. Compound Interest Rate Formula • Present sum -> future Single-payment compound amount factor (F/P, i%, n) • F = P * (F/P, i%, n) • future sum -> single-payment present worth (P/F, i%, n) • Uniform series -> future compound amount factor (A/F, i%, n) • Arithmetic gradient -> present worth factor (P/G, i%, n) ... • Formula see p. 49, 50. • Chain rule applies • Risk premium - discount rate.

5. Comparing alternatives • Equivalent worth methods • Present worth method (NPV) • variations: Present worth - cost; Present worth - benefit; • Eg. 2-4. P 58/59. • Annual worth method • Equivalent uniform annual cost (EUAC) or annual cost (AC) • Capital recovery cost. • Eg. 2-5. P60/61. • Future worth method (eg. 2-6) • Eg. 2-7 (error corrections) • Internal rate-of-return method (IRR) • The interest rate for which NPV = 0. (Eg. 2-8) • Incremental comparison: Fg. 2-9 • Names: profitability index, investor’s method return, discounted cash flow return • Payback-period method (p. 71 & Eg 2-11)

6. Comparisons of the methods • NPV / AW / FW • Will there be consistent results? • NPV vs IRR vs Payback

7. Other Issues • Sensitivity analysis • How sensitive is the result w.r.t. a particular parameter? • How big & @ where the change in a parameter can lead to a different result. • Break-even analysis • To analyze where is the point (of a parameter) where two alternative are indifferent. • Where is the point the result start to change. • Tax and depreciation should be factored into the “final” cash flow.

8. Utility Theory • What: • Utility (效用) reflects one’s value -> choice. • Pleasure/displeasure one would derive from certain outcome. • Utility function: U = fn (outcome) • Why: Money is not everything. • Other factors do affect choices. (Previous methods concern only w/ money) • People’s value may not be linear w/ money. • Utility is all-inclusive. • Caveat w/ utility: • hard to measure. (Not as concrete as money) • Bernoulli’s principle (Utility axioms) (p86)

9. Utility Theory • One way to find utility function: (fg 2-11) • Modified NM (Neumann-Morgenstern) method. p U(x1) + (1-p) U (x3) = U (x2) p = 0.5 => 0.5 U(x1) + 0.5 U (x3) = U (x3) • Given 50% chance of x1 and 50% chance of x3, what is the “certainty equivalent” of the gamble ? (i.e. what is that x2 which is indifferent to you?) • (fg 2-11) • Example on using utility for decision (Eg: 2-14) • A1: Rev. + 478,300 ; cost: 60,000 success: 70% • A2: Rev. + 150,000+121,000 ; cost: 100,000 success: 50% • A3 (=A1 & A2): add cost: 107,000 (= 267,000) • 3 general types of utility functions (fg 2-12)

10. Selection/screening Methods (Technical) • Checklists & scoring models • Checklist (S3: tbl 3-1); • Scoring model & weights (S3: tbl 3-2, tbl 3-3) • Multidimensional (snow flake) diagram (S3: fg 3-2) • Sensitivity analysis. (applicable to all methods) • Benefit-cost analysis • MARR; PW/AW/FW/ IRR • Conventional B/C & Modified B/C; add TVM (S3: eg. 3-2 ~ 3-4) • Classes of benefits & costs: • Primary; (Secondary; External); Intangible • Shortcomings: (problems of scale <B/C & B-C>, non-quantifiables; judge & jury) Sheu

11. Cost-effectiveness analysis • Why include effectiveness ? • Focus on performance not on “money terms” (as in B/C analysis) • What is effectiveness ? • measure of degree in achieving system requirements • capability (performance) / availability / dependability ... • weighting issues. (not weighing issue) • Single measure performance vs multiple measure • Efficient frontier (S3: fg 3-4) Sheu

12. Risk-benefit analysis • Definitions related to Risk. (S3: tbl 3-6) • FMEA (Failure Mode, Effects and Analysis) (next pg) • Event tree analysis; Fault tree analysis • Risk-benefit analysis: • generic term: incl. eva of risks, costs, & benefits of alternative projects • system engineering approach (S3: fg 3-5) • Risk Profile (S3: fg 3-6) Sheu

13. 1. Failure Mode -- What is the potential failure mode? (production issues, design trade-offs, etc.) 2. Failure Effect -- What effects will this failure have on the customer? 3. Criticality -- How severe is the effect of this failure mode on production or the customer? (1 - 5 scale) 4 . Probability of Occurrence -- How often will this failure mode occur? (1 - 5 scale) 5. Detection Capability -- How likely are we to detect this failure mode? (1 - 5 scale) 6. Risk Priority Number -- Order of test or analysis priority ? (criticality x frequency x detection) 7. Action Required -- What approach will we use to evaluate and resolve the Potential Failure Mode? FMEA Generalized Form Potential Risk Probability Failure Detection Critical- Action Priority Failure of Required ity Capability Effect Occurrence Number Mode 3 x 4 3 5 1 2 4 7 x = 5 6 (H-L) Sheu

14. Decision Trees • Decision trees / Decision Flow Networks /Decision Diagrams • Decision Nodes / Chance Nodes / EMV(Expected Monetary Value) (fig 3-7) • Sub-optimal /Rollback step • Eg. 3-5 (fig 3-9): (deterministic) decision tree • Eg. 3-6 (tbl 3-8) (add TVM) • Eg. 3-7 (fig 3-11 & tbl 3-9) < impact of tech. study & probability) • Sec 3.7.3: • Add Bayesian Statistics (fig 3-12, 3-13) (tbl 3-10, 11, 12) • comp fgs 3-11 & 13: Later, you calculate prob., P(Si/X), based on tech study results instead of “guessing”. Sheu