How to Choose the Best Project Evaluation Methods
By Angelo Pinheiro, Rowan Pinheiro, Construction Executive
The U.S. Energy Information Administration (EIA) predicts a 28 percent increase in world energy use by 2040 as the global economic recovery gathers momentum. With the pent up demand for energy, a slow but progressive increase in crude oil prices is prodding a revival of on-hold and new engineering, procurement and construction projects moving into 2018 and beyond.
Contractors and oil and gas opearators now face the challenge of a steep ramp up in nearly every aspect of their business. This calls for project leaders on both sides to define, identify, evaluate and select projects that best use available resources amidst staffing and budgetary constraints.
These decisions involve a careful and systematic analysis of costs and benefits of each project alternative against the backdrop of risk factors including, but not limited to, capital and cash flow availability, competing projects, timeframe, resource availability, environmental and socio-economic impacts, and geopolitical and regulatory uncertainty. Selection of the appropriate project evaluation tools and methodologies can mitigatge the risks and enable sound decision-making.
PROJECT EVALUATION AND SELECTION
Following the establishment of project parameters and call for bids, project proposals that are received are evaluated on their merits and shortcomings. The project evaluation and selection process involves the use of quantitative and qualitative analyses to identify and address crtitical aspects of the design basis, scope of work and other contract deliverables.
Quantitative analyses deal with project economics and support judgment-based selection decisions when the data is quantifiable and measurable. Quantitative methods enable bid ranking and subsequent financial number crunching. Remer & Nieto (1997) developed a compendium of 25 commonly used quantitative techniques.
Qualitative methods enable decision making using a combination of knowledge, experience and judgment. They involve multifunctional involvement and risk sharing in project scoping, evaluation and selection. Intuition, or the ability to “read” a situation and gain an understanding of the sensitivities that potentially could affect the project outcome, is critical to its success (Maxwell, 2007).
As project selection decisions are seldom made on the basis of financial criteria alone, a combination of qualitative and quantitative methods is usually used.
SEVEN COMMON METHODS
This qualitative selection method involves a decision matrix in which the rows represent the evaluation criteria and the columns are the project alternatives. The alternatives are evaluated on an impact rating scale from 0 to 10, where 0 is the least preferred and 10 is the most preferred. Each criterion is assigned a weight (or significance rating) to express its relative importance. The ratings are multiplied and summed to give an overall score. The project alternative with the highest score is best.
Health, Environmental and Safety (HES) Risk Decision Matrix
Although not conventionally included among project selection techniques, occupational health and safety and environmental protection have risen to a position of prominence in project concept selection. This is because a catastrophic incident during the project’s lifecycle could significantly impact economic viability and the organization’s reputation and market capitalization. A variation of the decision matrix described above, the HES risk matrix involves the use of a multidisciplinary team in identifying major accident scenarios and assessing the likelihood and severity of their consequences. The project alternative is evaluated with respect to each accident scenario and the residual risk is estimated after considering the prevention and mitigation controls in place. The sum total of the risk ratings enables the ranking of alternatives in terms of HES risk.
The Analytic Hierarchy Process (AHP)
The AHP is an improvement over decision matrices in that it structures the evaluation criteria into a hierarchy that feeds into the overall project goal and provides a mechanism for establishing the weights for the evaluation criteria or ratings. It is particularly suited for large-scale projects involving several decision criteria. The steps outlined by Fraser et al (2000) for this process involve:
- structuring the goal, criteria, and alternatives into a hierarchy;
- performing pairwise comparison for the project alternatives with respect to each criterion, using a nine-grade linear rating scale (in the order of 1/9, 1/7, 1/5, 1/3, 1, 3, 5, 7, 9, where 1 represents equal preference, 9 represents preference for alternative A over B, and 1/9 represents preference for alternative B over A) and documenting the stated preferences in a pairwise comparison matrix;
- calculating the priority weights for the alternatives by normalizing the elements of the matrix and averaging the row entries;
- performing pairwise comparison for the criteria; and
- determining the ranking of the alternative by multiplying the alternative’s priority weight by the criterion priority weight.
Also referred to as economic efficiency, the Cost Effectiveness method of project evaluation is used where the NPV or lifecycle cost cannot be justified as overriding project criteria, as in the case of safety, project performance, availability and reliability. Remer and Nieto (1995) suggested a cost effectiveness methodology that involves evaluating the alternatives against those criteria, using a fixed-cost or fixed-effectiveness approach. A sensitivity analysis is then conducted by manipulating the cost and effectiveness criteria to determine the most optimal cost/effectiveness ratio for project ranking and selection.
Hoskold’s Rate of Return (HRR)
Hoskold’s method is a quantitative technique that uses annual worth (AW), annual deposit to a sinking fund (dp) and replacement value (RV) at the end of the project lifecycle in ‘n’ number of years. Mathematically, HRR = (AW – dp)/RV; where dp = IA (A/F, is, n), I being the initial investment and is, the interest received on the sinking fund deposit (assuming it equals the Minimum Attractive Rate of Return). By calculating the HRR for the peroject alternatives, it is possible to rank them in order of preference.
Lifecycle costing is similar to the Present Worth method, except that it includes all costs of the project over its lifecycle. This method is primarily used by government agencies for large contractor selection.
Organization Based Information Architecture (OBIA)
OBIA was proposed by Messner & Sanvido (2001) as a framework for collecting and organizing the information needed for project evaluation. OBIA is divided into five categories.
- Organization: the evaluating organization, owners, potential competitors, other organizations related to the project and joint venture partners.
- Commitment: contractual agreements including scope, compensation, time, legal issues and selection criteria.
- Process: management processes and facility processes, including strategic planning, acquisitions and managing commitments.
- Environment: physical, legal, cultural, economic and resource environment regaring the process, facility or organization.
- Facility: the infrastructure and buildings, including land, utilities, site equipment and technical, architectural and structural systems.
Each project alternative is evaluated using a checklist to verify conformity to the desirable specifications for the project and the percentage conformity is evaluated and ranked for comparison.
Project success is assured when the project evaluation criteria is measurable and the evaluation process is structured and meticulously implemented. Project selection decisions, on the other hand, should be compatible with the organization’s mission and business strategy. Sound selection decisions provide assurance that budgetary, time and technical requirements will be met, ensure project economics and profitability are achievable and foster success in the operating environment.