Get started with Investment Analysis in IBM Rational Focal Point

An illustrated introduction

Rational Focal Point product and portfolio management software helps executives and teams make the right investment decisions to deliver business, customer, and market value. Tejaswini Jamakhandi introduces the Investment Analysis component, which analyzes the input-bounded estimates for costs and benefits and then computes a distribution for net present value (NPV) of the project over its lifetime. From the NPV, it calculates other useful values, including return on investment (ROI).

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Tejaswini Jamakhandi (tejaswini.jamakhandi@in.ibm.com), Staff Software Engineer, IBM

author photoTejaswini Jamakhandi has been with Rational Focal Point Support for six years. This is her first article for developerWorks.



11 September 2012

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Configuration prerequisites for Rational Focal Point

  1. To work with the Investment Analysis component, first log in with your IBM® Rational® Focal Point™ credentials.
  2. Create a workspace in Rational Focal Point, and name it Investment Analyzer. You need to be Global Administrator to create a workspace.

Note:
This and other names that follow are merely recommendations. You can choose whatever name you prefer.

After the workspace is created, it will be listed in Rational Focal Point under My Workspaces, as shown in Figure 1.

Figure 1. Newly added workspace
Investment Analyzer listed under My Workspaces
  1. Create a module called Investment Analyzer Project.
Figure 2. Investment Analyzer Project module
Configure section, Modules view, module created
  1. Select Configure > Attribute> Investment Analyzer Project, click Add attribute, and select a Time Grid attribute. Name this attribute Investment Time Grid Attribute.
Figure 3. Configure Attribute in the module
Configure attributes option: Select the module
  1. In the Time Grid attribute, add sheets (spreadsheet). For use with Investment Analysis, four sheets should be added. Name them as High, Likely, Low and Actual.
    1. Add a sheet to store the high bound for the estimates in each time period. Set the Scenario Type to High.
    2. Add a sheet to store the likely estimates. Set the Scenario Type to Likely.
    3. Add a sheet to store the low estimates. Set the Scenario Type to Low.
    4. (Optional) Add a sheet to store the actual values. Set the Scenario Type to Actual.
  2. Set the Time Interval to Quarterly, Monthly, or Yearly. For this example, the Time Interval is set as Monthly.

Note:
The Time Interval cannot be changed after you save the Time Grid attribute.

Start Date to End Date is the time span over which your financial reports are spread.

The Time Grid attribute should look like Figure 4.

Figure 4. Define the Time Grid attribute
Enter details, including Name, General Settings

Alternatively, you can reference other Date attributes if you defined any in the module. The example references Date attributes.

Figure 5. Define General Time Grid settings for all sheets
4 sheets added: High, Likely, Low, Actual

The rows of the Time Grid are used to store the estimates for the costs and benefits of the model. Determine all of the costs and benefits your model will require and add a row to the Time Grid for each cost or benefit.

  1. Add two rows and name them Cost and Benefits. (Add a row for each cost or benefit in your model.)
  2. Select the Cost or Benefit flag to indicate whether this row represents a cost or benefit.

See the example in the screen capture in Figure 6.

Figure 6. Define rows in the Time Grid
2 rows defined: Cost and Benefit
  1. Select Modules > Investment Analyzer Project, and add an element by clicking on the button for Add an Investment Analyzer Project. An add form is displayed.
  2. Fill in the ID, Title, and Description (see Figure 7), and save the element.
Figure 7. A sample Investment Analyzer project
Key details for project, budget, elements

Tip:
If you double-click or click on pencil icon for the attribute, you will see the attribute setup, as Figure 8 shows.

Figure 8. A sample project for investment analyzer
Details for TimeSheet: High, Likely, Low, Actual
  1. Create an Add view and a Display view for non-admin users to add an Investment Analyzer project.
  2. To add data to Time Grid attribute, after saving the element, click each sheet.
  3. Click each sheet to enter estimated values (High, Likely, Low, and Actual) for costs and benefits over the life of the project.
Figure 9. Details of the sample Investment Analyzer project added
Screen capture shows the content added for element
  1. After you have entered the data for the High sheet, go to the Likely tab to fill in all of the details for that sheet.
  2. Repeat the same for Low and Actual sheets.

See Figures 10 through 13 for examples.

Figure 10. High sheet of Time Grid
Cost and Benefits details entered for High sheet
Figure 11. Likely sheet of Time Grid
Cost and Benefits details entered for Likely sheet
Figure 12. Low sheet of Time Grid
Cost and Benefits details entered for Low sheet
Figure 13. Actual sheet of Time Grid
Cost and Benefits details entered for Actual sheet

Important:
The data for the Time Grid Sheets is saved only when you click Save.

  1. To edit this Time Grid attribute in the Investment Analysis component, convert the Time Grid attribute to display values in charts, as highlighted in the Figure 14.
Figure 14. Display chart settings for a Time Grid in an element
Various ways to display Time Grid attribute

After you save the settings, the values entered in the sheets will be displayed graphically, as Figure 15 shows.

Figure 15. Time Grid attribute after filling in the time sheets
Bar chart of Estimate values
  1. To launch Investment Analyzer, click To Time Grid editor. In the Time Grid editor, click Menu > Investment Analysis.

Tip:
Alternatively, you can launch Investment Analyzer by clicking on any sheet in the Time Grid attribute and then selecting Menu > Investment Analysis.

Investment Analysis allows you to manipulate the data estimates for all four sheets of one cost or one benefit at a time. The first step to inputting data is to choose which cost or benefit to work with.

  1. To select a cost or benefit, select one from the pull-down list below the time-currency grid.

The graph in Figure 16, from the Estimates tab, represents only the values mentioned in each sheet for cost for every month. This is the Estimates tab.

Figure 16. Net present value (NPV) in the Investment Analyzer project
NPV Probability distribution for 10%, 90% and Mean

Analyzing financial model results

In Investment Analysis mode, you can analyze the financial model results by using the NPV Probability and Stats tabs.

NPV Probability tab

On this tab, Investment Analysis continuously computes a probability distribution of the expected net present value (NPV) for the current financial model. It immediately responds to each update in the data. The probability distribution shows the 10th percentile, mode, and 90th percentile values for the NPV. The vertical line in the middle of the curve indicates the mode value.

To see additional values along the probability distribution, move the mouse pointer over the curve and hover.

  • A red curve and underlying area represents a negative NPV.
  • A green curve represents a positive expected NPV.

If a model does not yet contain high or low estimates, the expected NPV is a point, rather than a probability distribution.

Figure 17. Net present value (NPV) for the example considered
NPV Probability distribution for 10%, 90% and Mean

On the NPV Probability tab, all Cost and Benefit sheets configured in Time Grid are taken into account, even though, when "Show all curves" is unchecked, only one is displayed in the time-currency grid.

Modes are used for the triangular distribution inputs and the triangular distribution approximations of the calculator distributions.

Investment Analysis simplifies the formula just to combine the Benefits and to combine the Costs.

The NPV Probability Distribution is calculated by a Monte Carlo Simulation.

For the example in Figure 17, NPV is calculated by using the formula shown in Figure 18, where:

B = Benefits (each is a random variable) C = Costs (each is a random variable) n = Time span (in this case, 3 months) r = discount rate per period i = summation counter
Figure 18. NPV formula
Formula to calculate NPV Probability Distribution

Project stats

The project statistics are calculated according to the following table.

Table 1. Parameters and descriptions for project statistics
ParameterDescription
Current NPV The sum of the discounted benefits from today to the end of the project, subtracted from the sum of discounted costs from today to the end of the project.
Expected NPV at Delivery The sum of discounted costs from delivery to project end subtracted from the sum of discounted benefits from delivery to project end.
Benefits to Date The sum of the benefits from the start of the project to yesterday.
Benefits to Go The sum of the benefits from today to the end of the project.
Costs to Date The sum of the discounted costs from the start of the project to yesterday.
Costs to Go The sum of the discounted costs from today to the end of the project.
ROI to Date The NPV of the project from the start of the project to today, divided by the sum of the discounted costs from the start of the project to yesterday.
ROI to Go The NPV of the project divided by the sum of discounted costs from today to the end of the project.
Expected ROI at Delivery The Expected NPV at Delivery over the sum of discounted costs from project start to delivery.
Total Benefits The sum of the benefits from the start of the project to the end.
Total Costs The sum of discounted costs from the start of the project to the end.
Payback Period The time period when the discounted costs balances the discounted benefits.
<unit> to Date The sum of the defined units from the start of the project to yesterday.
<unit> to Go The sum of the defined units from today to the end of the project.
Total <unit> The sum of the defined units from the start of the project to the end.
<unit>/<cost unit> to Date The sum of the defined units of each cost unit from the start of the project to yesterday.
<unit>/<cost unit> to Go The sum of the defined unit of each cost unit from today to the end of the project.

Figure 19 shows the values of each parameter for the example.

Figure 19. Project Stats results display
NPV, Benefits, Costs, ROI results
Figure 20. Investment Time Grid Attribute graph
Result of various Project Stats for sample project

The remaining formulas for this example follow.

Internal rate of return (IRR)

Given a collection of pairs (time, cash flow) involved in a project, the internal rate of return follows from the NPV as a function of the rate of return. A rate of return for which this function is zero is an internal rate of return.

Given the (period, cash flow) pairs (i, Bi) and (i, Ci), where i is a positive integer, the total number of periods n, and the net present value NPV, the internal rate of return is given by R in the formula shown in Figure 21.

Figure 21. Formula for internal rate of return
Formula to calculate Internal Rate of Return

Return on investment (ROI)

The return on investment is the gain from an investment minus the cost of the investment, divided by the cost of the investment. This formula takes the discounting into account. The result is a distribution. To calculate the ROI from the start to finish of the project, use the formula in Figure 22.

Figure 22. Formula for return on investment (ROI)
Formula to calculate Return on Investment

Payback period

The payback period in capital budgeting refers to the period of time required for the return on an investment to "repay" the sum of the original investment. Thus, the payback period is the lowest value of j for which the formula in Figure 23 is true.

Figure 23. Formula to calculate the payback period
Formula

ROI to Date: (BenefitsToDate - CostsToDate) / costsToDate

This is the NPV of the project, from project start to today, over the sum of discounted costs, from project start to yesterday.

Figure 24. Formula to calculate Return on Investment to Date
Formula to calculate Return on Investment to Date

ROI to Go: (BenefitsToGo - CostsToGo) / costsToGo

The graph in Figure 24 shows the NPV of the project over the sum of discounted costs from today to project end.

Figure 25. NPV of the project over the sum of discounted costs
Formula to calculate Return on Investment to Go

Benefits to Date: allBenefits (STARTPERIOD..CURRENTPERIOD-1)

Figure 26. The sum of benefits from project start to yesterday
Formula to calculate Benefits to Date

Benefits to Go: allBenefits(CURRENTPERIOD..ENDPERIOD)

Figure 27. The sum of benefits from today to project end
Formula to calculate Benefits to Go

Cost to Date: allCosts(STARTPERIOD..CURRENTPERIOD-1)

Figure 28. The sum of discounted costs from project start to yesterday
Formula to calculate Cost to Date

Cost to Go: allCost(CURRENTPERIOD..ENDPERIOD)

Figure 29. The sum of discounted costs from today to project end
Formula to calculate Cost to Go

Total Benefits: benefitsToDate + benefitsToGo

Figure 30. The sum of benefits from project start to project end
Formula to calculate Total Benefits

Total Costs: costToDate + costToGo

Figure 31. The sum of discounted costs from project start to project end
Formula to calculate total cost

Figure 32 shows the values for NPV (NPV distribution), NPV mean (NPV mode in Investment Analyzer), NPV standard deviation, ROI, IRR, and Payback Period attributes for the example.

Figure 32. Values populated for NPV, ROI, IRR in Focal Point
Values populated for NPV, ROI, IRR in Focal Point

Summary

Using Rational Focal Point along with Investment Analysis also provides the capabilities to maintain a balance between resources, budgets, time to market, and business value. By modeling financial and market impacts and analyzing scenarios, statistics, and financials, you can reduce risk and improve cost estimations of

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