Project Management Tips and Techniques:
Use Expected Monetary Value to Cover Project Risks
Tom Mochal

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Expected monetary value (EMV) is a risk management technique that can be used to help quantify and compare risks in many aspects of the project. EMV is a quantitative risk analysis technique since it relies on more specific numbers and quantifies to perform the calculations, rather than high-level approximations like high, medium and low. EMV relies on two basic numbers.

• Pr – the probability that the risk will occur
• I – the impact to project if the risk occurs. This can be broken down further into Ic for the cost impact, Is for the schedule impact and Ie for the effort impact. We will just focus on Ic(cost impact) for the example below.

Risk Contingency Budget

If you use this technique for all of your risks, you can ask for a risk contingency budget to cover the impact to your project if one or more of the risks occur. For example, let’s say that you have identified six risks to your project, as follows.

Risk A
Pr (Risk Probability) = .8
Ic (Cost Impact) = $10,000
Risk Contingency = $8,000

Risk B
Pr (Risk Probability) = .3
Ic (Cost Impact) = $30,000
Risk Contingency = $9,000

Risk C
Pr (Risk Probability) = .5
Ic (Cost Impact) = $8,000
Risk Contingency = $4,000

Risk D
Pr (Risk Probability) = .10
Ic (Cost Impact) = $40,000
Risk Contingency = $4,000

Risk E
Pr (Risk Probability) = .3
Ic (Cost Impact) = $20,000
Risk Contingency = $6,000

Risk F
Pr (Risk Probability) = .25
Ic (Cost Impact) = $10,000
Risk Contingency = $2,500

Total Overall Cost Impact (sum of all Ic’s above) is $118,000

Total Risk Contingency (sum of all risk contingencies) is $33,500

Based on the identification of these six risks, the potential impact to your project is $118,000. However, you cannot ask for that level of risk contingency budget. The only reason you would need that much money is if every risk occurred. Remember that the objective of risk management is to make sure that the risks do not impact your project. Therefore, you would expect that you will be able to successfully manage most, if not all of these risks.

The risk contingency budget should reflect the potential impact of the risk as well as the likelihood that the risk will occur. This is reflected in the last number. Notice the total contingency request for this project is $33,500, which could be added to your budget as risk contingency. If risk C and F actually occurred, you would be able to tap the contingency budget for relief. However, you see that if risk D actually occurred, the risk contingency budget still might not be enough to protect you from the impact. However, Risk D only has a 10% chance of occurring, so the project team must really focus on this risk to make sure that it is managed successfully. Even if it cannot be totally managed, hopefully its impact on the project will be lessoned through proactive risk management.

Spreading the Risk

The risk contingency budget works well when there are a number of risks involved. The more risks the team identifies, the more the overall budget risk is spread out between the risks. In the case above, the fact that there are six risks helps pool enough risks contingency to accumulate a protective budget. If you have only identified one or two risks, you may not be able to spread the risk out enough to be as effective as you like. For instance, let’s say you only identified one risk similar to risk D in the above table. Let’s assume that you ask for and receive a risk contingency budget of $4,000. What you may find is that you are in an all-or-nothing situation. If the risk does not occur, you do not need the $4,000. However, if the risk does occur, the $4,000 budgeted will not be nearly enough to cover the potential impact. This does not mean that the risk contingency budget should be ignored – only that it works better at covering risks if a number of risks are identified. The risk contingency budget does not work as well if there is only one or a couple risks identified.

Each month, Tom Mochal presents a set of project management tips and techniques for handling various aspects of planning and managing a project. Tom is the recent winner of the 2005 PMI Distinguished Contribution Award. His company, TenStep, Inc. develops business methodologies, including a project management process called TenStep (www.TenStep.com) and a project lifecycle process called LifecycleStep (www.LifecycleStep.com).