Lessons · Project management · expected monetary value
Expected monetary value: probability times impact
The expected monetary value of a risk is its probability multiplied by its impact in dollars; threats are negative, opportunities positive, and the sum across the register is the money the risks are worth.
Hone is a place to practise a career, one idea a day. This is one of its lessons, written out in full and free to read without an account.
What it is for
The sponsor asks why you want $16,000 of contingency. Because three risks at 20%, 50% and 10% of $30,000, $10,000 and $50,000 are worth $16,000 between them. It is the one argument for reserve that a finance director accepts, because it is arithmetic.
How to think about it
For each risk, multiply probability by impact. Keep the sign: a threat is a negative number. Add the register up. That total is what the risks cost on average, and it is the first estimate of contingency.
Worked example
R-03: 30% chance of a $20,000 delay costEMV = 0.30 × (−20,000) = −$6,000
R-05: 10% chance of an $80,000 reworkEMV = 0.10 × (−80,000) = −$8,000
R-06: 25% chance of a $12,000 early-finish bonusEMV = 0.25 × (+12,000) = +$3,000. An opportunity is a risk with a plus sign.
Register EMV = −6,000 − 8,000 + 3,000 = −$11,000What the register is worth. The opening bid for contingency.
Your turn
A risk has a 40% chance of costing $25,000. Write its expected monetary value.
EMV = 0.40 × (−) = −$10,000
Solve one, graded on the server
The trap
Reading EMV as what will happen. Nothing costs $6,000 on the day; it costs $20,000 or nothing. EMV is the right number for the register and the wrong number for any single risk.