What is the Most Appropriate EV Method for Material?

In the first article in this series Who Should Be The Control Account Manager (CAM) for Direct Material? I discussed how material is handled in an Earned Value environment, and addressed some of the key underlying assumptions. 

Those being:

1. A Company has a purchasing/procurement capability consistent with good business system practices (and Federal requirements);
2. An adequate inventory control capability exists that properly assigns/tracks materials to a project, whether it be from a project specific inventory account or a “common” account that serves as the source for multiple projects; and
3. EV assumes that materials are costed appropriately to a project and that any instances of “borrow/payback” do not inappropriately benefit one project at the expense of another.

And in that article, I offered some thoughts on where the Control Account Manager (CAM) resides in the organization. The questions I will focus on in this article are:

What’s the most appropriate method to earn value for material, and when should it be earned?

The answer is dependent on two major issues.

First, are we in a development or production environment?

And second, what are the terms and conditions of the purchase order for the material in question?

In a development environment, we might be procuring either a single item, several items or large quantities of the same (or similar) item, and the payment terms (and consequently recording of actual costs to the project) are key to the EV method.

For example, if the single item will be paid for upon receipt, then the most appropriate EV method would be the 0/100 method, with the Planned Value (PV) being in the planned receipt month. If, however, the item requires a sufficiently long time for the vendor to complete, it’s likely that periodic payments might be more appropriate than a lump sum at completion. These periodic payments serve to relieve some of the potential cash flow issues that the supplier would like to avoid. In this case EV would be earned (and the PV in the planned milestone month) when the milestone forming the basis for payment has been completed (and verified by the prime contractor!). In that way we have a valid means of determining schedule variances as milestones are completed consistent with the baseline schedule, ahead of schedule or behind schedule.

Where large quantities are being procured, PV would be planned (planned quantity X planned unit price) per the agreed upon delivery schedule, and EV credited based on the actual quantity received X planned unit price. That way any schedule variance (+ or - SV) represents a deviation from the planned delivery schedule. This is often termed, the “Units Complete” or “Objective Percent Complete” technique.

Do these same approaches apply to a production environment?

Probably not, because in a development program material items, equipment, tooling, etc. are typically put into use on the program soon after receipt. Thus, earning value as the items are applied to the program (based on receipt) is appropriate. But, in a production environment, material is generally purchased to an inventory account and disbursed to the program at a later date, probably driven by line flow or material needs as determined by an MRP system.

So, in production, items are “applied” to the program based on when they are withdrawn from inventory for application to the build process. Consequently, for inventoried material the PV would be planned in the planned withdrawl month and EV credited based on the month in which it is actually withdrawn. This could also be termed, “objective percent complete.” Thus, SV provides a measure of whether or not material is being “applied” to the program consistent with the schedule.

In some cases the argument can be legitimately made that if inventoried material is consistently withdrawn from inventory soon after receipt (within 60 days as a general rule), it would acceptable to earn value for it based on the point of receipt. If this approach is adopted, the PV would be planned in the planned receipt month as opposed to the planned withdrawal period.

Remember that the goal is to assess schedule performance relative to the baseline plan, whether the plan is based on planned receipt or planned withdrawal from an inventory account. In the final article in this series, I’ll address the critical question of cost variance for material and the issue of when the actual costs are applied to the program.

What do you think? Do you agree or disagree? Let us know in the comments below.

Not sure what this means for your organization?  to discuss.