Expected Monetary Value – EMV
Expected Monetary Value – EMV
The concept of expected monetary value is used to determine what the overall probable circumstance will be as results of the events. It’s a simple calculation of a value such as weighted average or expected cost or benefit when the outcomes are uncertain, it’s the probability weighted average of all possible outcomes and is calculated as EMV = P*I , it helps determine which risks need the most attention and should therefor moved into the plan risk response process. After calculating expected monetary value of the individual risks, you should determine whether the expected monetary value of the project (Risk Exposure) is within the threshold set by management.
The expected monetary value formula is very important for the PMI-RMP exam, it’s a simple formula but still you can use it for few risk management techniques such as the following:
- Expected monetary value for project individual risks
- Risk exposure of the project
- Decision tree analysis method
- Contingency reserves calculations
Expected Monetary Value (EMV)
While you are evaluating a risk you will look at the probability or impact, but calculating the expected monetary value is a better measure to determine an overall ranking of risk.
EMV = Probability * Impact
= P * I
- For Opportunities EMV is positive , For threats It’s negative
- The EMV resulting number can express Time or Cost.
- EMV Formula is very important in calculating the Contingency reserve.
- It’s an easy formula to memorize, keep in mind that it will be used for a lot of exam questions in different ways.
- You may face Questions asking for the EMV of the Cost/Time for a project , Project EMV = Σ EMV Of Risk
PMI-RMP questions asking you to apply the EMV formula to individual project risks will be like the following example.
While you are performing the quantitative risk analysis for the project with your team, one of the project risks has a 40% probability of happening, and it will cost the project $65,000 if risk happens, what is the expected monetary of this risk event?
As this a threat (It will cost the Company), It will have a negative expected monetary value,
EMV = P* I
= 0.4 * 65,000
= 26,000, Negative
PMI-RMP questions asking you to apply the EMV formula to overall project risks (Risk Exposure) will be like the following example.
If all risks in table below occurred during project life, how many days will the project below be delayed, considering all affected activities are on the project critical path?
To Answer this question, you should calculate the expected monetary value of each risk applying the formula EMV = P*I
Project Delay = 6+2+3-3 = 8 Days
|A||20%||30 Days||Delay||6 Days|
|B||10%||20 Days||Delay||2 Days|
|C||30%||10 Days||Delay||3 Days|
|D||15%||20 Days||Saving||3 Days|
Decision Tree Analysis
-Technique used to model real situations; it takes into account future events in making decisions today. Used to calculate expected monetary value in more complex situations
In a typical decision Tree Model the box represents a decision to be made and the circle represents the result of this decision
PMI-RMP questions asking you to apply the EMV formula to the decision tree analysis technique will be like the following example.
You are flying from one city to another, you have the option of using Airline A or Airline B Based on the given information which flight you should take and what is the expected monetary value of your decision?
Taking flight A expected monetary value is
= 800 + (0.1 * 3000)
= $ 1,100
Taking flight B expected monetary value is
= 200 + (0.4 * 3000)
= $ 1,400
So the right decision is taking flight A, even the price of the ticket itself is higher than flight B .
EMV of your decision = $ 1,100
Reserve Method : Expected Monetary Value
- This is the preferred and most accurate method used to determine the required contingency reserves for your project, It’s based on the expected monetary value formula, follow below rules:
- When calculating contingency reserve, threats are going to add to the reserve amount while opportunities will decrease it.
- Cost Baseline : Cost of activities + contingency Reserve
- Project Budget : Cost Baseline + Management Reserve
- Schedule Baseline : Critical path method + Contingency reserve
- Project Schedule : Schedule baseline + Management reserve
- Reserve is not pad, Pad is hidden, Reserve is not .
- Some organizations choose to create contingency reserve based on having all the threats occur as the reserve equals the “ Worst Case “ , do not use this method unless question is mentioning this method .
PMI-RMP questions asking you to apply the EMV formula to the reserves calculations method will be like the following example.
You are planning the manufacture of a new product; your estimates result in a net cost of $ 200,000 and 180 Days, your risk analysis come up with the following
- There is 20 % probability of delay in the delivery of final product resulting in 18 days delay.
- There is 10 % probability that raw material will be available before expected saving 15 days.
- There is 15% probability of design defect resulting in 8 days delay.
- There is 30 % probability that resources use is not professional enough in this type of projects resulting in 10 days delay.
- There is probability of 25% that the design may be simpler than expected saving 6 days.
Upon this given this information, how much is the contingency reserve?
We should calculate the EMV for all risk events memorizing that threats add to reserve while opportunities will decrease it.
Risk # 1 EMV = 0.2 * 18 = 3.6 Days (Threat)
Risk # 2 EMV = 0.1 * 15 = 1.5 Days (Opportunity)
Risk # 3 EMV = 0.15 * 8 = 1.2 Days (Threat)
Risk # 4 EMV = 0.3 * 10 = 3 Days (threat)
Risk # 5 EMV = 0.25 * 6 = 1.5 Days (opportunity)
Reserve Required = 3.6 – 1.5 + 1.2 + 3 – 1.5
= 4.8 Days
The expected monetary value is very important for the PMI-RMP exam; you will be tested on these formulas with all applications I mentioned in this article. Expect not less than 10 questions on the exam about the expected monetary value, for detailed explanations of the numerical risk analysis detailed math, you can enroll here for my course on Udemy for a price of $9.99 only.
Best of luck!