Value is created by embracing risk effectively

The latest briefing from the real ‘Risk Doctor’, Dr David Hillson #75: RESOLVING COBB’S PARADOX? starts with the proposition: When Martin Cobb was CIO for the Secretariat of the Treasury Board of Canada in 1995, he asked a question which has become known as Cobb’s Paradox: “We know why projects fail; we know how to prevent their failure – so why do they still fail?” Speaking at a recent UK conference, the UK Government’s adviser on efficiency Sir Peter Gershon laid down a challenge to the project management profession: “Projects and programmes should be delivered within cost, on time, delivering the anticipated benefits.” Taking up the Gershon Challenge, the UK Association for Project Management (APM) has defined its 2020 Vision as “A world in which all projects succeed.” The briefing then goes on to highlight basic flaw in these ambitions – the uncertainty associated with various types of risk. (Download the briefing from: http://www.risk-doctor.com/briefings)

Whilst agreeing with the concepts in David’s briefing, I don’t feel he has gone far enough! Fundamentally, the only way to achieve the APM objective of a “world in which all projects succeed” is to stop doing projects! We either stop doing projects – no projects – no risks – no failures. Or approximate ‘no risk’ by creating massive time and cost contingencies and taking every other precaution to remove any vestige of uncertainty; the inevitable consequence being to make projects massively time consuming and unnecessarily expensive resulting in massive reductions in the value created by the few projects that can be afforded.

The genesis of Cobb’s Paradox was a workshop focused on avoidable failures caused by the repetition of known errors – essentially management incompetence! No one argues this type of failure should be tolerated although bad management practices mainly at the middle and senior management levels in organisations and poor governance oversight from the organisation’s mean this type of failing is still all too common. (for more on the causes of failure see: Project or Management Failures )

However, assuming good project management practice, good middle and senior management support and good governance oversight, in an organisation focused on maximising the creation of value some level of project failure should be expected, in fact some failure is desirable!

In a well-crafted portfolio with well managed projects, the amount of contingency included within each project should only be sufficient to off-set risks that can be reasonably expected to occur including variability in estimates and known-unknowns that will probably occur. This keeps the cost and duration of the individual projects as low as possible, but, using the Gartner definitions of ‘failure’ guarantees some projects will fail by finishing late or over budget.

Whilst managing unknown-unknowns and low probability risks should remain as part of the normal project risk management processes, contingent allowances for this type of risk should be excluded from the individual projects. Consequently, when this type of risk eventuates, the project will fail. However, the effect of the ‘law of averages’ means the amount of additional contingency needed at the portfolio level to protect the organisation from these ‘expected failures’ is much lower than the aggregate ‘padding’ that would be needed to be added to each individual project to achieve the same probability of success/failure. (For more on this see: Averaging the Power of Portfolios)

Even after all of this there is still a probability of overall failure. If there is a 95% certainty the portfolio will be successful (which is ridiculously high), there is still a 5% probability of failure. Maximum value is likely to be achieved around the 80% probability of success meaning an inevitable 20% probability of failure.

Furthermore, a focus on maximising value also means if you have better project managers or better processes you set tighter objectives to optimise the overall portfolio outcome by accepting the same sensible level of risk. Both sporting and management coaches understand the value of ‘stretch assignments’ – people don’t know how good they are until they are stretched! The only problem with failure in these circumstances is failing to learn and failing to use the learning to improve next time. (For more on this see: How to Suffer Successfully)

The management challenge is firstly to eliminate unnecessary failures by improving the overall management and governance of projects within an organisation. Then rather than setting a totally unachievable and unrealistic objective that is guaranteed to fail, accept that risk is real and use pragmatic risk management that maximises value. As David points out in his briefing: “Projects should exist in a risk-balanced portfolio. The concept of risk efficiency should be built into the way a portfolio of projects is built, with a balance between risk and reward. This will normally include some high-risk/high-reward projects, and it would not be surprising if some of these fail to deliver the expected value.”

Creating the maximum possible value is helped by skilled managers, effective processes and all of the other facets of ‘good project management’ but not if these capabilities are wasted in a forlorn attempt to ‘remove all risk’ and avoid all failure. The skill of managing projects within an organisation’s overall portfolio is accepting sensible risks in proportion to the expected gains and being careful not to ‘bet the farm’ on any one outcome. Then by actively managing the accepted risks the probability of success and value creation are both maximised.

So in summary, failure is not necessary bad, provided you are failing for the ‘right reason’ – and I would suggest getting the balance right is the real art of effective project risk management in portfolios!

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6 responses to “Value is created by embracing risk effectively

  1. Well said, Pat. Sir Peter’s challenge is naive. Though striving for it might have good results. (Another paradox?)

    Actually, Cobb’s paradox stretches the meaning of the word paradox. (It hardly measures up for example to the Prisoners’ Dilemma or even the Paradox of Thrift.) A better question might be: what made Cobb think he knew why project’s fail and how to fix it? And if he did, did he tell anyone the secret?

  2. Great article, pat.

    Sir Peter’s goal is naively unachievable, much the same as companies that support the Zero Harm falacy – by aiming for absolute perfection any deviation is a failure, and sociopsychologically failure, or the constant fear of failure is debillitating.

    I disagree that low probaility risks should be excluded, as to me this is shoddy risk management and guaranteed to leave the door open to shoddy project management. Rather look at the low probability risks, assess them, and have a contingency procedure or process to flag should they become active.

    I do agree that the actual management quality needs to be constantly worked on, which inevitably delivers the best project outcomes.

    I’m probably going out on a limb here, however I feel that we place severe negativity on ourselves if we automatically or constantly consider that the project has failed if it is not delivered exactly on time or on budget.

    The only way any of us learn is from trying something and not getting it right, then trying it again and getting it right. Failure is only when we do not get it right and leave it at that, without attempting to learn and correct.

    • The post does not say low probability risks should be ‘excluded’ – they should be managed effectively and the physical management is a project function. What the post does advocate is the contingencies for this type of event should be managed at the portfolio level not by introducing extra time and cost contingencies at the individual project level. If you understand the way probabilities work in portfolios you will appreciate the aggregate contingency required at the portfolio level for an identical overall probability is around half the amount if the probabilities are calculate and added at the individual project level.

  3. I’ve tidied up the language in the paragraph but certainly the allowances (ie, time and particularly cost contingencies) should be excluded for the reasons stated.

  4. Hi Pat
    Thanks for the post which I find very helpful.
    There is a section I don’t agree though, which is portfolio risk averaging. The law of averages does not work in a complex world where there is a long tail of failures: in that case one single large failure can just swallow dozens of other small gains or losses. That’s what happens all the time with project organizations: one single large, failed project can make an organization lose in one go all the profits of 10 years of operations! So, it only works if you have an effective ‘cut loss’ mechanism that prevents failures to become really big.

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