SPM - Cost Estimation

Excample Description

A project ‘X’ has 2 iterations, each 6 months. Certain problem may arise within the project at the 6 months which may cause devastating effects. You as a project manager, have 3 options to consider from each of which has a success & a failure date.

( Note: Attention!! The summary is 2x6 = 12 months )

Continue as it is: -

• If it is a success, it creates 4 months delay.
• If it is a failure, it creates another 5 month delay.

  ( If failure, will cost 9 months total )

Reshuffle Resources: -

• Success: Creates a 2 months delay.
• Failure: Creates another 3 months delay.

  ( If failure, will cost 5 months total )

Hire Consultment: -

• Success: Creates a 1 month delay.
• Failure: Creates another 1 month delay.

  ( If failure, will cost 2 months total )

Consider the following numerical values: -

Development:

• In house cost pre month = $1000
• Consultant company cost per month = $1200

Income:

• Revenues start after 4 months of project completion.
• The monthly revenue for the 1st year = $2000
• The monthly revenue for the 2nd year = $3000
• Increment Rate: 12% per year. ( On Costs & Revenues )

Formulars

• Net Present Value ( NPV ): This is value of all future and present cash flows over the entire life of the asset. \(NPV = \sum_{t=0}^N \frac{NCF}{(1+i)^t}\)

  N is year.

• Net Cash Flow ( NCF ): Total IN and OUT.

Questions

Kindly note that the project is begin developed in the 0th year.

1. What would be your initial estimations as a project manager is nothing had gone wrong?

2. Which of the above 3 options. Would you adopt to minimire the amont of duration from the initial estimation?

Qustion 1:

NCF Calculation:

1. Year 0: \(12 * -1000 = -12000\)

2. Year 1: \(\begin{cases} 4 * 0 &= 0\\ 8 * 2000 &= 16000 \end{cases} =16000\)

3. Year 2: \(12 * 3000 = 36000\)
4. Then: \(NPV = \sum_{t=0}^N \frac{NCF}{(1+i)^t}=\frac{-1200}{(1+\frac{12}{120})^0}+\frac{16000}{(1+\frac{12}{120})^1}+\frac{36000}{(1+\frac{12}{120})^2} \\ =-12000+\frac{16000}{1.12}+\frac{16000}{(1.12)^2} \\ =30984.68\)

It will cost 30984.68 dollars when nothing had gone wrong.

Question 2:

1. Option1: Continue as it is:-

Success: - NCF Calculation:

1. Year 0: \(12*-1000=-12000\)
2. Year 1: \(\begin{cases} 4 * -1000 &= -4000\\ 4*0&=0\\ 4 * 2000 &= 8000 \end{cases} =4000\)
3. Year 2: \(12*3000=36000\)
4. Then: \(NPV = \frac{-12000}{(1+\frac{12}{100})^0}+\frac{16000}{(1+\frac{12}{100})^1}+\frac{36000}{(1+\frac{12}{100})^2}=...=30984.69388\)

Failure: - NCF Calculation:

1. Year 0: \(12*-1000=-12000\)
2. Year 1: \(\begin{cases} 9 * -1000 &= -9000\\ 3*0&=0\\ \end{cases} =- 9000\)

3. Year 2:\(\begin{cases} 1*0&=0\\ 11*3000&=33000\\ \end{cases} =33000\)

4. Then: \(NPV = \frac{-12000}{(1+\frac{12}{100})^0}+\frac{-9000}{(1+\frac{12}{100})^1}+\frac{33000}{(1+\frac{12}{100})^2}=...=6271.6836\)

2. Option 2: Reshuffle Resources: Skip, Same as above.

3. Option 3: Hire Consultants: - NCF Calculation:-

1. Year 0: \(\begin{cases} 12*-1000&=-12000\\ 6*-1200&=-7200\\ \end{cases} =-19200\)
2. Year 1: \(\begin{cases} 1*-1000&=-1000\\ 1*-1200&=-1200\\ 4*0&=0\\ 7*2000&=14000\\ \end{cases} =11800\)
3. Year 2: \(12*3000=36000\)
4. Then: \(NPV = \frac{-19200}{(1+\frac{12}{100})^0}+\frac{11800}{(1+\frac{12}{100})^1}+\frac{36000}{(1+\frac{12}{100})^2}=...=20034.69388\)