Cost performance index formula: What it is and when to use it

SaaS Buying

When working on a long-term project—whether physically building something or developing a software tool or product offering— it’s important to keep perspective on the progress of the project and the efficiency of your budget. Getting a granular understanding of spend over time can help guide project management decisions and help avoid the worst-case scenario: running out of money before the project is complete.

Written by

Belynda Cianci

Published on

July 14, 2022

October 26, 2022

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When working on a long-term project—whether physically building something or developing a software tool or product offering— it’s important to keep perspective on the progress of the project and the efficiency of your budget. Getting a granular understanding of spend over time can help guide project management decisions and help avoid the worst-case scenario: running out of money before the project is complete.

One metric used to measure performance is the Cost Performance Index Formula. This equation is used to understand the efficiency of money spent in relation to the percentage completion of the project. Knowing the CPI of your project lets you know things are on track and can help adjust cost efficiency early before tougher decisions need to be made down the road. 

Let’s take a look at CPI, its application, and its usefulness. You’ll learn how to calculate CPI in a project, and understand how to use it most effectively. First, it’s helpful to know how CPI fits into the larger process of measuring and forecasting the performance of a project. 

Project performance management: A short overview

Project performance management is the practice of estimating total expected project cost, and forecasting spend and earnings over time. It looks at project costs, revenue, billing, and execution to help track and facilitate projects to completion. The ultimate goal is to have those projects be both complete and profitable. 

One technique used for cost management accounting is Earned Value Management (EVM). It looks at the total budget (also called Budget at Completion or BAC) and current performance to estimate the efficiency of work during development.

EVM relies on three metrics:

1. Planned Value (PV) - The budget approved for the project. It’s sometimes also called the Budget Cost of Work Scheduled (BCWS). You can break down PV by stage of a project to get a look at the current value. You get PV by dividing the planned percentage by BAC.

2. Earned Value (EV) - This is the value of tasks already performed within the approved budget. You get EV by dividing the percentage of work completed by BAC.

3. Actual Cost (AC) - This is the actual cost spent on the project performance to date. It’s also known as Actual Cost of Work Performed (ACWP). 

What formulas are used for EVP?

On the basis of these three metrics, EVM uses several “tests” or calculations to estimate efficiency:

  1. Schedule Variance (SV) - The difference between the actual work performed and the planned amount of work.
  2. SV = EV - PV
  3. Cost variance (CV) - The difference between the anticipated budget and the actual cost spent.
  4. CV = EV - AC
  5. Schedule Performance Index (SPI) - The ratio of EV to planned value.
  6. SPI = EV÷ PV.
  7. Cost Performance Index (CPI) - The calculation of budget efficiency.
  8. CP = EV ÷ AC.

Let’s take a closer look at the fourth calculation, CPI, below.

How do you calculate CPI and what should you know? 

As mentioned above, to calculate CPI, use the following formula: 

CPI = earned value (money the project has brought in) divided by actual cost. 

This is expressed as CPI = EV ÷ AC.

How to know if your cost performance is efficient

When calculating CPI as explained above, the following outcomes represent efficiency: 

  • When the result of this calculation is 1, your project is performing on budget.
  • When the result is over 1, your project is outperforming the budget. 
  • When the result is under 1, your project is underperforming at the current time. (See more on CPI variance below). 

In a real-world application, any CPI over 1.0 represents a return on project investment. For instance, if your CPI is 1.25, this means for every dollar you spend on the project, it’s returning that dollar plus an extra 25 cents of revenue. 

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Although CPI seems like a straightforward calculation, it’s important to understand that the CPI metric is a snapshot in time of your current project. Most projects are not linear, undergoing multiple phases with association variations in spend over the whole project timeline.

CPI by contrast represents the efficiency at the current point in time but doesn’t reflect these fluctuations. To account for this natural fluctuation, calculate an expected variance, and compare the performance against the budgeted cost of work performed over time. 

What causes project efficiency to fluctuate?

For long-term projects, some fluctuation in efficiency is natural and expected. There are many factors that can affect project efficiency: 

  • Staffing: Increases or decreases in staffing (and the associated cost changes of these) can cause fluctuations in the overall efficiency of the project. Adding more headcount to meet deadlines, for example, may eat into cost efficiency but increase the speed of completion. Losing members may require funds to replace and train the lost team member. These fluctuations are an expected part of long-term projects.
  • Equipment: Adding equipment or software to a project in development costs money. As with staffing, these may cut into budget efficiency but result in overall better performance of the project. Failures of equipment (whether construction assets or servers) introduce unexpected costs to the project unless previously budgeted.
  • Seasonality: Depending on the type of project, revenue may fluctuate over certain periods or seasons. For instance, in the travel industry, certain time periods (Holidays, Vacation weeks, summer, etc.) may result in an uptick in revenue that will cause fluctuation in CPI. 

When to use the cost performance index formula

CPI is an excellent tool for getting a snapshot of the current state of your project budget in relation to the project schedule. It offers a quick reference of performance and helps plan the critical path for near-term project adjustments. 

  • Poor CPI may signal the need for corrective actions to the project plan or scope. It may require cost-saving measures or adjustments.
  • Though a strong CPI may indicate good planning or project optimization, you should also review the project status to ensure the project’s progress is truly on track. If your project’s CPI is unexpectedly high, check that all deliverables expected during the current phase of the project are completed, and note any deviations from the project plan and scope. 

How to use the cost performance index when evaluating your software stack

Although software buying isn’t directly corollary to a construction project, you can still use CPI to evaluate the performance of your software investment in attaining your goals or delivering on specific projects and objectives.

When examining software apps and services that have a direct procurement connection to a project, this calculation can be straightforward. Using a baseline of a tool's planned value contribution to a project, you can assess the performance of your software spend against the earned value your project is bringing in.

For indirect procurement costs such as communication tools or finance platforms, the calculation is a little more nuanced. In this case, finance should look at spending versus value creation facilitated by stakeholders with access to the specific tool.

That value creation may come in the form of saved hours of manual labor, reduced process, lowered headcount, or other expected overhead costs reduced by the investment in a software tool. For instance, using automated tools to improve accounts payable functions may create savings in terms of hours saved invoicing, reconciling, and researching payments. 

How Vendr can help you keep SaaS costs under budget

Accurately gauging the cost and effectiveness of software spend requires a high level of visibility into your SaaS buying. 

Using a SaaS management platform gives the organization this granular visibility, allowing you to understand your stack management and spending over time. For apps and services directly tied to a specific project (direct procurement spend), the contract management features of Vendr can make tracking and estimating the cost and value creation of those apps easier. 

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