Managing and Measuring Project Profitability

As a cost means a different thing to different people (in a given context), therefore, it is obvious that profitability would also be sensitive to these variations. For example, we have “Gross Margin”, “Operating Margin”, and “Contribution Margin” to assess the profitability from different perspective; one cannot be a substitute for another, as the constitution of each is different, and each has been devised to assess a performance from a specific perspective.

Is that all about a project when it comes to profitability assessment; may be not.

One may usually start from ROI (IRR, NPV, and Payback Period (including McFarlan’s analysis,)) to assess from returns perspective; however, it may not be true for s/w projects that we carryout for customers because this step would have already been done by customer. Nonetheless, it is the starting point for a project, though this accountability may not lie at our end, or we may not carry out the analysis exactly under those heads.

Having said that, a project (unless it runs to some millions of dollars, or is of strategic importance) may not require these overall measures, instead we would be interested in data in terms of “Earn Vs. Burn” (Earned Value). This is profitability from “delivery” aspect. It has been in practice for more than a decade, and has matured over a period of time. Though, there are many variations and measures for this, a quick look upon CPI, SPI, and TCPI should provide enough pointers; getting into details, where these measures point trouble (may be potential one) is the subsequent step.

You can further develop it by introducing savings and environmental dimension to it. That is, by looking at it from COQ, IP reuse, and Quality Projections perspective on one hand, and from FOREX hedging, span (spread across financial years), resource pyramid change, promotions / increments, and business continuity perspective, for long duration (multi-year) perspective. What is means, is not only you should be vigilant on profitability measures, but on factors which can impact (positively / negatively) the profitability of a project.

Can this approach be further developed, the answer is yes. We can further consider the “opportunity” cost, and measure the profitability through Economic Value Added (EVA). It may sound extreme, and may be, it is for small projects; however, would be beneficial for large long running projects. What it means is that you are going beyond financial profitability and looking at true (economic) profitability. The reason being, a company can have a positive MVA; however, could still be operating at negative EVA. But it should definitely be at next level (maturity level), and would make more sense at an “aggregate” level.

Last but not the least, you may also see profitability in terms of “incentives”, i.e. all incentive based projects have the potential to contribute towards revenue, and take away from that pie. Whether it is applicable in a given case depends on the model adopted; however, incentive based projects are a reality, especially in a service organization.

In essence, you need to figure this out (project profitability) from “Fitment / Contribution”, “Financial”, “Delivery”, “Quality / Engineering / Productivity”, “Environmental”, and “Economic” factors. That is, each role and level has an opportunity to contribute to project’s profitability, and we should consider ALL, when it comes to project’s profitability.

As I mentioned in the beginning, you need not do all, or conduct this all the time, for all factors, and / or by all the people; instead, it is the context, which should drive your choice of tool / measurement.