It is obvious to say that credible financial forecasting plays a pivotal role in decision-making within project management. One of the most effective ways to achieve this is with an analysis technique known as probabilistic cash flow (PCF).
Safran Risk software is renowned for its comprehensive project risk analysis capabilities and offers a PCF toolset which is a tangible enabler. In this blog post, we will introduce the world of PCF analysis and explore how Safran Risk can render a traditional deterministic cashflow analysis virtually obsolete.
Traditional cash flow analysis typically involves estimating costs and revenues based on deterministic assumptions, static unchanging elements like:
a) Cost per Unit | - How much? |
b) Quantity of units | - How many? |
c) Planned Timing of Expenditure | - Starting when? |
d) Planned Duration of Expenditure | - Spending until? |
These elements can reveal peaks, troughs, as well as average daily / weekly / monthly / quarterly / annual expenditures. This information is critical for CAPEX owners and or operators, enabling them to govern available funds to meet anticipated demand.
It is vital to be aware that this approach does not cover or capture the inherent uncertainties and risks associated with projects, such as:
Note: Elements A, B, C and D are intrinsically energised, movable and unpredictable until ‘after-the-fact’ when they become known quantities.
This is where PCF Analysis can assist a Cost Engineer, Quantity Surveyor (QS) or Project Manager (PM) identify probable scenarios that can be tested to determine how the project simulation behaves, and also how one feels in seeing those scenarios play out?
How can one best respond in real-life to an unusual (or undesirable) cashflow situation?
vs.
How should one respond if that scenario were to arise?
Strategically, one can work-through a roleplay scenario with the project team, or equally with strategic partners, collaborators, stakeholders, and even clients to ensure that one can present discoveries with recommendations.
Points to remember:
By applying Monte-Carlo Simulation to a logic-linked schedule, that is either already resource-loaded, or mapped to a Cost Breakdown Structure (CBS), it is possible to render the static cashflow and then stress test it against all variables discussed above.
Note: The data may be imported from MS-Excel
Probability Distributions are then used to randomly sample the outcomes of each variable. Each iteration enables you to build up a picture of a possible reality (outcome), that can be quickly compared to thousands of others. A rich multiverse is waiting for you to explore.
The image above shows that in 75% of simulated iterations:
Your projects contain complexities, nuance and interplay between project financing, contractual constraints, and the realities of schedule logic versus hopes and promises made.
Probabilistic Cash Flow analysis is an invaluable tool for project managers seeking to credibly forecast cost scenarios.
Furthermore, Safran Risk not only helps project managers make better-informed decisions, manage risks proactively, and communicate financial implications to stakeholders with clarity, Safran Risk enables you to apply PCF functionality to reveal potentially nasty surprises and thereby take action to reduce shocks.
When supported by your colleagues, in a collaborative working style, Safran Risk help you to take your projects to new levels of success.