How to avoid the Capex planning fallacy

If you have firsthand experience in dealing with a capital project that is years behind schedule and millions of dollars over budget, you’re familiar with the “planning fallacy” – even if you’ve never heard of the phrase before.

The concept, first proposed by a team of psychologists in the 1970s, describes a situation in which projections for the time a task will take to be completed are actually subject to an optimism bias by the projector, and therefore projections almost always result in the underestimation of the actual time needed to complete the task.

Sound familiar?

When it comes to capital projects, there is a tendency to fall victim to the Capex planning fallacy during project forecasting. Often, projects are approached in a near vacuum state, where the specifics of the project are carefully considered, analyzed and problem areas identified without regard for the ultimate fates of projects similar to the one at hand.

Overoptimism on the part of executives can lead to tunnel vision among project managers, who in turn approach projects with an unrealistic set of expectations when it comes to timing and budget.

To avoid the Capex planning fallacy, there must be a transparent system for identifying risks and an understanding of how these risks impacted the performances of similar recent investments. This may require more frequent forecasting so that any overoptimism on the part of analysts is kept in check to produce an accurate projection of spend and time to completion.

To learn more about how to avoid the planning fallacy during capital project forecasting, read Better Forecasting for Large Capital Projects by McKinsey & Co.