Phone ACN Feb PAYMENT BY EARNED VALUE Presented by Stuart Wilson

Phone ACN Feb 1999 OUTLINE n Background n The earned value payment formula n Contract clauses n Commonwealth perspective n Contractor perspective n Examples and issues n The future n Conclusion and Recommendations

Phone ACN Feb 1999 BACKGROUND n Australian contracts are typically – FP-Fixed Price (with economic escalation) – FPI-Firm Fixed Price with Incentive (economic escalation, Risk share) n Contractors were paid upon achievement of milestones n With the maturity and proliferation of EVM the DoD are increasingly requiring a combination of Milestone and EV payment methods – Combination is based on program risk

Phone ACN Feb 1999 n Typical formula Where EVP Earned value payment BCWPcumCumulative earned value to date BACBudget at Complete XPercentage of the Contract Price attributable to earned value CPContract Price PEVPPrevious earned value payments NB: BAC does not include MR. Consider what happens to EVP as MR is used EVP = BCWPcum * X * CP - PEVP BAC THE EARNED VALUE PAYMENT FORMULA

Phone ACN Feb 1999 CONTRACT CLAUSES n Commonwealth documentation – There is no reference in DEFPUR 101 Version 46, AL2 to payment by earned value – CEPMAN Chapter 12 not issued to Industry n Neutral cash flow – Payments typically 30 days after an EV claim is submitted – Start-up or mobilisation payment need for Contractors.

Phone ACN Feb 1999 CONTRACT CLAUSES n EV payments may be withheld if: – Critical milestones are not achieved – PMB is not approved (following an IBR) – EVMS Validation is not achieved – EVMS Validation is not maintained n Provide forecasts of earned value claims with each invoice

Phone ACN Feb 1999 COMMONWEALTH PERSPECTIVE n Milestone value rarely equates to the “intrinsic” value of the delivery – e.g. Delivery of all design documents $10m – The $10m may include purchase of long lead material, part establishment of facilities, plans, specifications and design documents n Earned Value indicates work accomplishment to a fine level of granularity

Phone ACN Feb 1999 COMMONWEALTH PERSPECTIVE n Contractors will further embrace their earned value system if it is tied to milestone payments n Assists Commonwealth with future cash flow n Encourages Contractors to provide timely and accurate data

Phone ACN Feb 1999 CONTRACTOR PERSPECTIVE n Seen as a financial control mechanism by the Commonwealth – i.e. Commonwealth could ‘nit pick’ over EV claims – IBR payment go/no-go is fairly harsh. (Not focussed on Program risks) n Budgets and Funds become confused – The PMB becomes the expected revenue target rather than the baseline for performance measurement. – The use of MR(budget) effects cashflow(funding) and senior management equate MR with additional profit.

Phone ACN Feb 1999 CONTRACTOR PERSPECTIVE n Detailed information needs to be provided – Seen as intrusive – Seen as costly when there was previously a series of reviews to validate and periodically survey the system

Phone ACN Feb 1999 ESTABLISHMENT OF THE PMB AND EVMS VALIDATION n Readiness activities n IBR – Front loading to improve cash flow !? – Scheduling system – Risks n Follow-up actions and re-visit n No payment if PMB not approved n No payment if EVMS not approved n Lots of issues to frustrate a Contractor!

Phone ACN Feb 1999 EARNED VALUE TECHNIQUES n Contractor may make the EV techniques less rigorous to improve cash flow – Excessive LOE or Percent Complete techniques – Milestone Percent complete Vs Milestone weights

Phone ACN Feb 1999 EV CLAIM PROCESS n Timing (specify in the contract) – Contractor data readiness n E.g 14 days after period close, including CPR format 5 – Commonwealth review period n E.g 21 days after receipt of invoice and CPR(s) n Clearly define the default conditions if no timely action taken: – By the Commonwealth. E.g. assume all EV claim is correct – By the Contractor. E.g. Payment withheld

Phone ACN Feb 1999 EV CLAIM PROCESS n Evidence (to be agreed) – Statistical sample. E.g. top 10% of schedule variances – Total listing n A knowledgeable Customer is required – DAMS(EVM) recommend further training of Project Authority personnel in EVM 1

Phone ACN Feb 1999 EV CLAIM PROCESS n The Contractor should assist in providing the necessary evidence for a claim n EV claims should be correlated with other mechanisms n e.g. Commonwealth/Contractor Integrated Product Team interaction, Schedule progress indicators n EV claim process will run smoothly if a performance-trust relationship is present 2

Phone ACN Feb 1999 CONTRACT CHANGES AND REPLANNING n Internal replan n Milestone changes effecting EV/Milestone payment proportions n Customer approved reprogramming – BCWS=BCWP=ACWP – After Reprogramming, earned value payments may be negative for a number of periods depending on ACWP and revised BAC.

Phone ACN Feb 1999 REPROGRAMMING- OVER TARGET BASELINE SETTING BCWS=BCWP=ACWP 12M 16M 20M $24M CONTRACT BUDGET BASE M4M 8M8M TIME PERIODS 20 BCWS REPLAN ACWP BCWP 22 TIME NOW NEW BAC STEP CHANGE IN EV SCHEDULE SLIP ORIGINAL BAC REVISED BAC

Phone ACN Feb 1999 RETROACTIVE CHANGES n Not only changes the performance data but also changes the amount paid.

Phone ACN Feb 1999 EACs Vs Projected EV n Are they the same? n No – EAC is the expected internal funding by the Contractor – Projected EV is the expected funding by the Commonwealth (Revenue to the Contractor) n Cost overruns are optimistically forecast by Project Office and Contractor 3

Phone ACN Feb 1999 SUBCONTRACTORS n Subcontractor data is integrated via the WBS, often against many elements. n Milestone and potential EV payments must be time-phased in advance, by WBS, when establishing the Contractor’s PMB 4 – This is rarely considered prior to Subcontract signature – The subcontractor’s PMB should be reviewed (IBR) n Can a Contractor claim earned value for a Subcontractor mobilisation payment? 4

Phone ACN Feb 1999 SUBCONTRACTORS n What happens when the subcontractor significantly slips against the plan? – Consider the administration of multiple WBS MS/EV payment allocations which in turn form the contractors EV claim. – Many variances will be generated due to financial events n Focus attention on key project events 4 – combine critical milestones with EV payments

Phone ACN Feb 1999 THE FUTURE? n Contractor feedback to Commonwealth is important (Use AustPMA) n Move to EVM self assessment in the USA – EIA-748 Standard, Earned Value Management Systems n DAMS(EVM) discussing national EVM standard with Standards Australia n Potential for EVM and payment by EVM to be a requirement in non-Defence contracts

Phone ACN Feb 1999 CONCLUSION and RECOMMENDATIONS n Payment by earned value is here to stay n Develop a trust relationship – IPTs are an important mechanism – Use ‘test of reasonableness’ n Continue Project Authority EVM training

Phone ACN Feb 1999 CONCLUSION and RECOMMENDATIONS n Negotiate and document the integration of Subcontractor EV/milestone data prior to Subcontract signature. n Include sample Contract clauses in DEFPUR 101

Phone ACN Feb 1999 REFERENCES n 1APEX paper, Contracting for Earned Value Services, J.Muir, DPMS 1997 n 2Report of the US PMA 14th Annual International Conference Stephen Grimmett, AustPMA Newsletter June 1998 n 3Cost overrun optimism: Fact or Fiction? Dr. D.Christensen, Acquisition Review Quarterly 1994 n 4Workshop: Subcontract Management, Payment by Earned Value, Australian National Project Performance Management Symposium, Sept 1997 n Various Payment by Earned Value - Delight or Disaster J.Peterson, AustPMA Newsletter Sept 1994

Phone ACN Feb 1999 POSTSCRIPT The Australian DoD have now published a Payment by Earned Value Process on the internet. Search under “Papers” at: 20 June 1999