Video transcript: The planning fallacy – Martin Richardson

Transcript for a video recorded for the Audit New Zealand 2020 information updates. This video is about why large capital projects are often delayed and go over budget.

Martin Richardson, Director, Specialist Audit and Assurance Services

My name’s Martin Richardson and I'm the Director of our Specialist Audit and Assurance Services Team. I'm here to talk to you about the planning fallacy, or, to put it another way, why so many projects run late, go over budget, and fail to deliver what they promised. Lockdown in the house had me dreaming about travel.

One place that I’d be keen to go, is New York. If I make it there I've got a plan. I know where I’ll want to visit – The Statue of Liberty, Empire State Building, a walk in Central Park, and a ride on the Second Avenue Subway. Why a subway ride? Well, let me explain.

Back in 1968, around the time that I was born, the Governor of New York State – Nelson Rockefeller – came up with a proposal to address the mass transit needs of the City. At the centre of the plan, was a new subway line, from Lower Manhattan, up the Eastside, and into The Bronx, the Second Avenue Subway.

Four years later, in 1972, the ground was broken; but not long afterwards the project was shelved, a financial crisis. There were numerous attempts to restart it but the budget would never allow. The Second Avenue Subway became the punchline, the most famous thing to never have been built. Fast-forward to 2008, and despite the looming global financial crisis, the Metropolitan Transport Authority decided to restart the project.

By now it was 40 years since the original proposal, with all the inflation of project costs that come along with that kind of delay; but the budgets were updated and finally construction started. However, unforeseen ground conditions quickly led to get another budget blowout. Conditions were so poor under two city blocks that the ground had to be frozen to allow the tunnel boring machine to do its work. That took four months and cost an extra $10 million.

So far, only the first phase of the new line were three stations has been built. The full line, if and when it is ever funded and built, will be 14 kilometres and 16 stations long and estimated to cost more than $17 billion. That’s more than a billion per kilometre, and more than a billion per station. It’s an extreme and famous example of a missed deadline, and a blown budget.

Meanwhile, here in New Zealand of course, we have our own projects underway or planned. They may not be as big but they can be pretty significant to us, and whilst I don’t anticipate a 50-year delay, it does seem likely that they’ll be subject to the same or similar issues, unforeseen setbacks, political pressures, and the kind of scrutiny that dogged The Second Avenue Subway.

$10 million to freeze New York before tunnelling could start, it might seem extreme but I suspect we can all relate to a project that’s run late, or turned out to be more expensive than we thought.

So why do projects run late and go over budget? And more importantly, what can we do about it?

Do you think auditors have the answer? Well, surprisingly, we don’t. In fact, we keep seeing and reporting on the same issues over and over again. How about psychologists? Psychology Professor Roger Buehler from Ontario, Canada, studied social cognition, judgement and decision-making. He was keen to know why he was so bad at managing projects. And his question came out of his own experience. Every night he’d leave the office with a briefcase full of jobs to do at home, but more often than not, he’d come back with all of it untouched. Why? He was sure his plans were realistic, but he started to investigate and discovered that the phenomenon has a name. Its known as “the planning fallacy”. Buehler reviewed the work of other psychologists and found some research on students’ completion of their theses. The students predicted, on average, that their theses would take 33.9 days to complete. How long did they actually take? Fifty-five and a half days ­– that’s a 64% overrun.

The same turned out to be true for other tasks across a range of professions. Why? Buehler points to two kinds of thinking: internal and external. Internal thinking involves focusing on the project at hand and trying to work out the details of that unique project. The problem is: planning tends to be idealized, over-simplified, it can't consider everything that might happen. This is the planning fallacy.

First proposed by Daniel Kahneman in 1979. He expanded the definition and said that the tendency to underestimate the time, cost, and risks of future actions; and at the same time overestimate the benefits of those actions, makes up the planning fallacy. According to this definition, the planning fallacy results in time overruns, cost overruns, and benefit shortfall. So if that’s internal thinking, what about external thinking?

Well, that relates to wishes and desires. Project managers want to succeed, they don’t plan to fail. And there's a name for that phenomenon too. It’s known as “the optimism bias”. Tali Sharot, a Cognitive Neuroscientist at UCL, believes the optimism bias is rooted in neuroscience. The brain tends to process positive information more readily than negative, which in turn feeds the planning fallacy. You should watch her TED Talk on the subject.

Let’s imagine you have to do a video presentation for work, something like this for example. Afterwards you get two pieces of feedback. One says how well you did, the other’s critical. It’s human nature to believe the positive feedback, we reject the negative, which is a good thing for life. Optimists tend to live longer but perhaps not so good for projects. So we have the effect of the planning fallacy, unable to factor in all the complexity, being driven by the optimism bias. Of course, even if planning is perfect you still have to deliver to the plan. This is where the next factor comes in, and they call it co-ordination neglect.

According to Professor Katherine Milkman from the Wharton Business School in the US; a number of factors contribute to the planning fallacy, including the failure to consider just how hard it is to put the activities of a large group together on a single task. Research on project management and decision making, from the University of Virginia, agrees. Their research says: “Don’t think about it too much, look back. Look back at all the projects you've done. All the projects that are similar to this new project, and consider how well those projects went. How did they perform plan versus actual? See how accurate you were and then use that to adjust the project you're about to start”.

Oxford University tried to put this problem in context. They studied the actual outturn costs of hundreds of public sector projects, and it turns out that between 80 and 90% of all projects have a cost overrun. They also have overrun their schedules compared with plan. They looked at the length of time it took to complete a project, and they found the same thing – that 80-90% overrun their schedule. They came up with a name for this phenomenon as well. They called it: The Iron Law of Mega Projects: over budget, over time, under benefits, over and over again. Why? One theory is strategic misrepresentation – essentially, you won't get what you want by telling the truth.

Project managers are incentivized and misrepresent the business case in their cost benefit, and analysis. They need projects to look good on paper, to increase the chances of getting funding approved. Daniel Kahneman won a Nobel Prize for economics, and he puts it like this: “If you realistically present to people what can be achieved in solving a problem, they will find that completely uninteresting. You can't get anywhere without some degree of over-promising”.

Why does all of this matter to the New Zealand public sector?

Well, perhaps because we seem to experience the same outcomes that have been observed around the world. Consider councils’ long term plans. We tracked actual spending against what councils told their communities they planned to do. The average level of spending over seven years was 77% – councils simply weren’t able to deliver on their plans.

Is that the planning fallacy in action?

Our council’s struggling with the optimism bias. What's the answer?

Apparently the UK Government is trying a different strategy. It’s trying strategic misrepresentation in the opposite direction. Essentially, they start with the estimated cost and schedule, but then used data representing experience on previous projects to determine how much budgets are usually overspent and how long the typical overrun really is. Using these numbers from previous projects, they adjust the numbers for the new project to make them more realistic.

This is the future, the future of project management using big data. Facts gathered from experience of all the projects that have been managed before, to help overcome the psychology of the planning fallacy, and the optimism bias. To realistically inform what's likely to happen in the future, perhaps that way we can reforge The Iron Law of Mega Projects into something more positive, where projects are on budget, on time, and deliver benefits that go on, and on.

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