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http://quantmleap.com/blog/2010/07/project-risk-management-and-the-application-of-monte-carlo-simulation/
Best-case estimate
Worst-case estimate
Writing content
4 days
6 days
8 days
Creating graphics
5 days
7 days
9 days
Multimedia integration
2 days
4 days
6 days
Total duration
11 days
17 days
23 days
The Monte Carlo simulation randomly selects the input values for the different tasks to generate the possible
outcomes. Let us assume that the simulation is run 500 times. From the above table, we can see that the project
can be completed anywhere between 11 to 23 days. When the Monte Carlo simulation runs are performed, we can
analyse the percentage of times each duration outcome between 11 and 23 is obtained. The following table
depicts the outcome of a possible Monte Carlo simulation:
Total
Project
Duration
11
1%
12
20
4%
13
75
15%
14
90
18%
15
125
25%
16
140
28%
17
165
33%
18
275
55%
19
440
88%
20
475
95%
21
490
98%
22
495
99%
23
500
100%
What the above table and chart suggest is, for example, that the likelihood of completing the project in 17 days or
less is 33%. Similarly, the likelihood of completing the project in 19 days or less is 88%, etc. Note the importance
of verifying the possibility of completing the project in 17 days, as this, according to the Most Likely estimates, was
the time you would expect the project to take. Given the above analysis, it looks much more likely that the project
will end up taking anywhere between 19 20 days.
Whenever you face a complex estimation or forecasting situation that involves a high degree of complexity and
uncertainty, it is best advised to use the Monte Carlo simulation to analyze the likelihood of meeting your
objectives, given your project risk factors, as determined by your schedule risk profile. It is very effective as it is
based on evaluation of data numerically and there is no guesswork involved. The key benefits of using the Monte
Carlo analysis are listed below:
It is an easy method for arriving at the likely outcome for an uncertain event and an associated confidence
limit for the outcome. The only pre-requisites are that you should identify the range limits and the
correlation with other variables.
It is a useful technique for easing decision-making based on numerical data to back your decision.
Monte Carlo simulations are typically useful while analyzing cost and schedule. With the help of the Monte
Carlo analysis, you can add the cost and schedule risk event to your forecasting model with a greater level
of confidence.
You can also use the Monte Carlo analysis to find the likelihood of meeting your project milestones and
intermediate goals.
Now that you are aware of the Monte Carlo analysis and its benefits, let us look at the steps that need to be
performed while analysing data using the Monte Carlo simulation.
2. Identification of the range limits for the project variables : This process involves defining the maximum
and minimum values for each identified project risk variable. If you have historical data available with you,
this can be an easier task. You simply need to organize the available data in the form of a frequency
distribution by grouping the number of occurrences at consecutive value intervals. In situations where you
do not have exhaustive historical data, you need to rely on expert judgement to determine the most likely
values.
3. Specification of probability weights for the established range of values: The next step involves
allocating the probability of occurrence for the project risk variable. To do so, multi-value probability
distributions are deployed. Some commonly used probability distributions for analyzing risks are normal
distribution, uniform distribution, triangular distribution, and step distribution. The normal, uniform, and
triangular distributions are even distributions and establish the probability symmetrically within the defined
range with varying concentration towards the centre. Various types of commonly used probability
distributions are depicted in the diagrams below:
Summary
Monte Carlo simulation is a valuable technique for analyzing risks, specifically those related to cost and schedule.