Cost Performance Index (CPI): What is it and How to Calculate it?

• Supply Chain

Introduction

As global supply chains evolve, ensuring cost efficiency is crucial. One way to assess the cost performance of any function within the supply chain is through Cost Performance Index (CPI). While CPI is normally used within project management and earned value analysis, it has significant application and importance within supply chain contexts, particularly in procurement, logistics and warehousing.

By the end of this blog post, you will be able to not only understand what cost performance index is, but also know how to calculate it. What contexts can it be used in and how, as well as the benefits of using cost performance index in supply chain contexts. 

What is the Cost Performance Index (CPI)?

The Cost Performance Index (CPI) is a financial efficiency metric used to measure cost performance in projects and operational activities. According the research paper by Winanda et. al, titled: “Optimization of Cost Performance Index in Construction Project Based on Influencing Factors”  CPI is defined as: “The Cost Performance Index is a cost efficiency factor that can be demonstrated by comparing the value of work physically completed with the costs incurred in the same periods.” It is calculated using the following formula:

Where:

• Earned Value (EV) represents the value of work completed.
• Actual Cost (AC) is the total cost incurred to complete that work.

Interpreting CPI:

Factors Influencing Cost Performance Index (CPI)

As depicted by the figure below, the Cost Performance Index (CPI) is influenced by several factors. Depending on the nature of project, the geographical location and the existing policies, these factors can change. The research paper by Winanda et. al has highlighted the below factors and their causal relationships that influence CPI.

How to Use CPI in Supply Chain Management

Although CPI is widely used in project management, its principles can be effectively applied to supply chain performance measurement. Below are some key areas where CPI can improve supply chain efficiency:

1. Procurement Cost Efficiency

CPI can track procurement cost efficiency by comparing budgeted vs. actual spending on raw materials and supplies.

Example: 

If a company planned to procure materials worth $100,000 but ended up spending $120,000.

The CPI calculation would be: 

CPI =100,000/120,000 = 0.83. 

A CPI of 0.83 indicates cost inefficiency, signaling a need for supplier negotiations or alternative sourcing strategies.

Struggling to develop an appropriate procurement strategy? Check out SCMDOJO’s procurement strategy template. 

2. Logistics and Freight Cost Optimization

CPI can help measure transportation cost efficiency, ensuring that freight and shipping expenses remain within the planned budget.

Example: 

If the projected cost of shipping 1,000 units was $10,000, but the actual cost amounted to $15,000, 

The CPI would be: 

CPI=10,000/15,000 = 0.67

This result suggests that logistics cost overruns need to be addressed by optimizing routes, strengthening last mile connectivity as proposed by the research article by Judijanto et. al, negotiating better rates, or consolidating shipments.

3. Inventory Holding Costs vs. Stock Turnover

Warehousing and inventory management involve costs related to storage, depreciation, and obsolescence. CPI can help track whether inventory costs are justified by the value generated through stock turnover.

Example:

Planned inventory costs were $50,000 but increased to $60,000 while stock turnover generated $65,000 in revenue.

In this case the CPI would indicate cost efficiency.

4. Measuring Supplier Performance

CPI is a valuable metric in supplier evaluation, helping businesses analyze whether suppliers are delivering goods at the expected cost efficiency levels.

Example:

A supplier was expected to deliver components worth $500,000.

However, additional costs resulted in an actual spend of $550,000,

This resulted in a CPI below 1, indicating cost inefficiencies in supplier management.

5. Production and Manufacturing Cost Control

Manufacturing operations often experience cost fluctuations due to raw material price changes, production inefficiencies, or machine downtimes. CPI helps in monitoring cost performance and ensuring optimal resource utilization.

Benefits of Using CPI in Supply Chain Operations

• Early Identification of Cost Overruns: CPI helps businesses identify cost inefficiencies before they escalate, enabling corrective action.

• Improved Budgeting and Forecasting: CPI provides a quantitative basis for planning and budgeting supply chain costs.

• Better Supplier and Contract Management: Helps in negotiating better contracts by analyzing cost performance trends.

• Enhanced Decision-Making: Data-driven insights into cost efficiency support better strategic decisions in supply chain management.

• Integration with ERP & SCM Software: CPI can be incorporated into ERP systems for real-time cost tracking.

Conclusion

The Cost Performance Index (CPI) is a valuable metric not only in project management but also in supply chain cost optimization. By leveraging CPI in procurement, logistics, inventory management, supplier evaluation, and manufacturing, businesses can achieve greater cost efficiency and financial control.

To implement CPI effectively, companies should integrate it with ERP, supply chain analytics tools, and performance monitoring systems. Future research and case studies can further validate CPI’s role in supply chain decision-making.