Essay about Chapter 3

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Chapter 3
Project Selection and
Portfolio Management

03-01

Chapter 3 Learning Objectives
After completing this chapter, students will be able to:
Explain six criteria for a useful projectselection/screening model.
Understand how to employ checklists and simple scoring models to select projects.
Use more sophisticated scoring models, such as the Analytical Hierarchy Process.
Learn how to use financial concepts, such as the efficient frontier and risk/return models.
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-02

Chapter 3 Learning Objectives
After completing this chapter, students will be able to:
Employ financial analyses and options analysis to evaluate the potential for new project investments.
Recognize the challenges that arise in maintaining an optimal project portfolio for an organization. Understand the three keys to successful project portfolio management.
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-03

Project Selection
Screening models help managers pick winners from a pool of projects. Screening models are numeric or nonnumeric and should have:
Realism
Capability
Flexibility
Ease of use
Cost effectiveness
Comparability
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-04

Screening & Selection Issues
Risk – unpredictability to the firm
Commercial – market potential
Internal operating – changes in firm

operations
Additional – image, patent, fit, etc.
All models only partially reflect reality and have both objective and subjective factors imbedded
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-05

Approaches to Project Screening

Checklist model
Simplified scoring models
Analytic hierarchy process
Profile models
Financial models
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-06

Checklist Model
A checklist is a list of criteria applied to possible projects.
 Requires agreement on criteria
 Assumes all criteria are equally important

Checklists are valuable for recording opinions and encouraging discussion

Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-07

Simplified Scoring Models
Each project receives a score that is the weighted sum of its grade on a list of criteria.
Scoring models require:
 agreement on criteria
 agreement on weights for criteria
 a score assigned for each criteria

Score   (Weight  Score)

Relative scores can be misleading!
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-08

Analytic Hierarchy Process
The AHP is a four step process:
1. Construct a hierarchy of criteria and subcriteria 2. Allocate weights to criteria
3. Assign numerical values to evaluation dimensions 4. Scores determined by summing the products of numeric evaluations and weights
Unlike the simple scoring model, these scores can be compared!
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-09

FIGURE 3.1 Sample AHP with Rankings for Salient Selection Criteria
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-10

Profile Models
Show risk/return options for projects.
X7

X6

Maximum
Desired Risk

Criteria selection as axes Risk

X2
X4

X5
Efficient Frontier

X3
X1
Minimum
Desired Return

Rating each project on criteria Return

Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

Figure 3.4

03-11

Efficient Frontier

Figure 3.5
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-12

Financial Models
Based on the time value of money principal
Payback period
Net present value
Internal rate of return
Options models

All of these models use discounted cash flows

Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall

03-13

Payback Period
Determines how long it takes for a project to reach a breakeven point

Investment
Payback Period 
Annual Cash Savings
Cash flows should be discounted
Lower numbers are
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