cost-benefit analysis ppt final

5/20/2018 Cost-benefit Analysis Ppt Final

1/26

COST-BENEFITANALYSIS

PRESENTED BY:P.M.NAYAK


2/26

It is best to think of the cost-benefit approach as a wayof organizing thought rather than as a substitute for it.

Michael Drummond


3/26

Cost-Benefit Analysis

Cost-benefit analysis (CBA) is the implicit orexplicit assessment of the benefits and costs(i.e., pros and cons, advantages and

disadvantages) associated with a particularchoice.

Its simple and widely used technique for

deciding whether to make a change


4/26

Cost-Benefit Analysis

Costbenefit analysis (CBA) is a systematic processfor calculating and comparing benefits and costs of aproject for two purposes:

(1) to determine if it is a sound investment(justification/feasibility)

(2) to see how it compares with alternate projects(ranking/priority assignment).


5/26

History of

Cost-Benefit AnalysisThe concept of CBA dates back to an 1848 article by Jules

Dupuit

The British economist, Alfred Marshall, formulated some of

the formal concepts that are at the foundation of CBA

the Federal Navigation Act of 1936 PROVIDED IMPETUS TOCBA .

CBA has its origins in the water development projects of the

U.S. Army Corps of Engineers

Over the 1960s, CBA was applied in the US for water quality,

recreation travel and land conservation

In the UK, applications of CBA started with transport

projects in the 1960s


6/26

Steps in Cost-Benefit Analysis


7/26

A sales director is deciding whether to implement a new computer-based contactmanagement and sales processing system. His department has only a few computers,and his salespeople are not computer literate. He is aware that computerized salesforces are able to contact more customers and give a higher quality of reliability andservice to those customers. They are more able to meet commitments, and can workmore efficiently with fulfillment and delivery staff.Financial cost/benefit analysis is shown below:

Costs:

New computer equipment:

10 network-ready PCs with supporting software @ $2,450 each1 server @ $3,5003 printers @ $1,200 eachCabling & Installation @ $4,600Sales Support Software @ $15,000

Training costs:

Computer introduction8 people @ $400 eachKeyboard skills8 people @ $400 each

Sales Support System12 people @ $700 each

An Example


8/26

Other costs:

Lost time: 40 man days @ $200 / dayLost sales through disruption: estimate: $20,000Lost sales through inefficiency during first months: estimate: $20,000

Total c os t: $114,000

Benefits:

Tripling of mail shot capacity: estimate: $40,000 / yearAbility to sustain telesales campaigns: estimate: $20,000 / year

Improved efficiency and reliability of follow-up: estimate: $50,000 / yearImproved customer service and retention: estimate: $30,000 / yearImproved accuracy of customer information: estimate: $10,000 / yearMore ability to manage sales effort: $30,000 / year

Total Benefit: $180,000/year

Payback time: $114,000 / $180,000 = 0.63 of a year = app rox. 8 month s


9/26

COMMON UNIT OF MEASUREMENT

CBA SHOULD REPRESENT CONSUMER OR PRODUCER VALUATIONS

BENEFITS ARE ACTUALLY MEASURED BY MARKET CHOICES

INCREASE IN CONSUMPTIONAREA UNDER DEMAND CURVE

BENEFITS REQUIRE VALUATION OF HUMAN LIFE

IMPACT OF PROJECT WITH/WITHOUT COMPARISON

INVOLVES A PARTICULAR STUDY AREA

DOUBLE COUNTING OF BENFITS/COSTS SHOULD BE AVOIDED

DECISION CRITERIA FOR PROJECT

PRINCIPLES OF CBA


10/26

COMMON UNIT OF MEASUREMENT

This means that all benefits and costs of a project should be measuredin terms of their equivalent money value.

In order to reach a conclusion as to the desirability of a project allaspects of the project, positive and negative, must be expressed interms of a common unit; i.e., there must be a "bottom line.

CBA SHOULD REPRESENT CONSUMER OR PRODUCERVALUATIONS

The valuation of benefits and costs should reflect preferences revealedby choices which have been made

The value of time should be that which the public reveals their time isworth through choices involving tradeoffs between time and money.


11/26

BENEFITS ARE ACTUALLY MEASURED BY MARKET CHOICES

When consumers make purchases at market prices they reveal that thethings they buy are at least as beneficial to them as the money they

relinquish Consumers will increase their consumption of any commodity up to the point

where the benefit of an additional unit (marginal benefit) is equal to themarginal cost to them of that unit, the market price.

INCREASE IN CONSUMPTIONAREA UNDER DEMAND CURVE

The increase in benefits reulting from an increase in consumption is the sumof the marginal benefit times each incremental increase in consumption.

As the incremental increases considered are taken as smaller and smallerthe sum goes to the area under the marginal benefit curve


12/26

BENEFITS REQUIRE VALUATION OF HUMAN LIFE

It is sometimes necessary in CBA to evaluate the benefit of saving humanlivesThere is considerable antipathy in the general public to the idea of placing a

dollar value on human life. Economists recognize that it is impossible to fundevery project which promises to save a human life and that some rationalbasis is needed to select which projects are approved and which are turneddown.The controversy is defused when it is recognized that the benefit of such

projects is in reducing the risk of death.


13/26

IMPACT OF PROJECT WITH/WITHOUT COMPARISON

This that when a project is being evaluated the analysis must estimate notonly what the situation would be with the project but also what it would bewithout the project

In other words, the alternative to the project must be explicitly specified andconsidered in the evaluation of the project.

Note that the with-and-without comparison is not the same as a before-and-after comparison.

INVOLVES A PARTICULAR STUDY AREA

The impacts of a project are defined for a particular study area, be it a city,region, state, nation or the world.

The nature of the study area is usually specified by the organizationsponsoring the analysis.

The specification of the study area may be arbitrary but it may significantlyaffect the conclusions of the analysis.


14/26

DOUBLE COUNTING OF BENFITS/COSTS SHOULD BE AVOIDED

Sometimes an impact of a project can be measured in two or more ways.

. For example, when an improved highway reduces travel time and the riskof injury the value of property in areas served by the highway will beenhanced.


15/26

DECISION CRITERIA FOR PROJECT

If the discounted present value of the benefits exceeds the discountedpresent value of the costs then the project is worthwhile.

This is equivalent to the condition that the net benefit must be positive. . Another equivalent condition is that the ratio of the present value of the

benefits to the present value of the costs must be greater than one.

If there are more than one mutually exclusive project that have positive netpresent value then there has to be further analysis.

From the set of mutually exclusive projects the one that should be selectedis the one with the highest net present value.


16/26

Uses of Cost Benefit Analysis

The Framework

Costs and Benefits

Results & Biases

1. Net Present Value (NPV)

2. Benefit-Cost Ratio

3. Internal Rate of Return


17/26

Applications of CBA

Evaluate or rank the feasibility of projects

Analyze the effect of regulation

Justify equipment and technology investment

Determine the most effect way to cut costs

Determine the relative benefits of outsourcing versus leasing

Quantify hidden costs and intangible benefits

Ensure accountability of decision makers


18/26

Accuracy problems:

The accuracy of the outcome of a costbenefit analysis depends on howaccurately costs and benefits have been estimated.

Studies indicate that the outcomes of costbenefit analyses should be

treated with caution because they may be highly inaccurate. Inaccurate costbenefit analyses likely to lead to inefficient decisions.Theseoutcomes are to be expected because such estimates

Rely heavily on past like projects Rely heavily on the project's members to identify the significant cost drivers Rely on very crude heuristics to estimate the money cost of the intangible

elements Are unable to completely dispel the usually unconscious biases of the team

members and the natural psychological tendency to "think positive

Problems in Cost Benefit Analysis

R f l f ti d l d t i i
http://en.wikipedia.org/wiki/Reference_class_forecastinghttp://en.wikipedia.org/wiki/Reference_class_forecasting


19/26

Reference class forecastingwas developed to increase accuracy inestimates of costs and benefits.

Another challenge to costbenefit analysis comes from determining whichcosts should be included in an analysis (the significant cost drivers).

This is often controversial because organizations or interest groups maythink that some costs should be included or excluded from a study.

Failure to address and incorporate other issues

Execution of Government policies and regulations on:oEnvironmental issuesoHealth hazardsoPollution

One of the problems of CBA is that the computation of manycomponents of benefits and costs is intuitively obvious butthat there are others for which intuition fails to suggestmethods of measurement.

Therefore some basic principles are needed as a guide.

S i l C t B fit A l i D lhi
http://en.wikipedia.org/wiki/Reference_class_forecastinghttp://en.wikipedia.org/wiki/Reference_class_forecasting


20/26

Social- Cost Benefit Analysis: Delhi

Metro Delhi Metro is a rapid transit system

serving Delhi, Gurgaon,Noida and Ghaziabad in the National Capital

Region of India. It is one of the largest metro networks in the world.

The network consists of six lines with a total length of 189.63 kilometres(117.83 mi) with 142 stations of which 35 are underground.

Delhis metro rail system, to be constructed in four phases covering 245

kilometers, is scheduled to be finished in 2021. Today three functioning linesconnect central Delhi to east, north, and southwest Delhi

Phase I (1995 - 2005) Phase II (2005 -2011)

Distance 65.10 km 53.02 km

Corridors

1) Shahdara - Barwala (22) 1) Vishwa Vidhyalaya- Jahangirpuri (6.36)

2) Vishwa Vidhyalaya- Central Secretariat (11) 2) Central Secretariat- Qutab Minar (10.87)

3) Barakhamba Road - Dwarka (22.8) 3) Shahdra- Dilshad Garden (3.09)

4) Barakhamba Road - Indraprastha (2.8) 4) Indraprastha- New Ashok Nagar (8.07)5) Extension into Dwarka Sub city (6.5) 5) Yamuna Bank- Anand Vihar ISBT (6.16)

6) Kirti Nagar- Mundka (18.47)

Investment Rs 6406 crores (2004 prices) Rs 8026 crores (2004 prices)

Phase III Phase IV

Distance 62.2 km

Corridors

1) Rangpuri to Shahabad Mohammadpur 1) Jahangirpuri to Sagarpur West

2) Barwala to Bawana 2) Narela to Najafgarh

3) Jahangirpuri to Okhla Industrial Area Phase I 3) Andheria Mod to Gurgaon4) Shahbad Mohammadpur to Najafgarh

C t B fit C i


21/26

Benefits

DM contributes to the diversion of a very high proportion of current passenger trafficfrom road to Metro.

Reduction in traffic

Saving travel time of passengers on Delhi roads

Reduction in air pollution in Delhi because of the substitution of electricity for petroland diesel and reduced congestion on the roads

Reductions in motor vehicles operation and maintenance charges to both the

government and the private sector

Employment benefits to the unskilled labour

Savings in Foreign Exchange due to reduced Fuel Consumption

Cost-Benefit Comparison:

Delhi Metro


22/26

Cost-Benefit Comparison: Delhi Metro

Items Foreign Exchange(Rs. Million)

Local Cost Total

Civil works - 31,327 31,327

Electrical works - 6,970 6,970

Signaling andtelecommunication

2,574 1,930 4,504

Rolling stock 4,596 6,403 10,999

Land - 3,339 3,339

General establishment andconsultancy charges

322 4,779 5,101

Contingencies 230 1,593 1,823

The total project cost of Rs. 64,060 million at 2004 prices for Phase Iconsists of the foreign exchange cost of Rs. 7720 million and the domesticmaterial and labour cost of Rs. 56,340 million.

Cost Estimate of DM (Phase I)


23/26

Savings in fuel consumption

- Due to diversion of a part of the Delhi road traffic to Metro and reduced congestion to vehicles

- inter-fuel substitution of petrol and CNG to electricity and saving of forex

- Fuel saved due to traffic diverted to the Metro (assuming the annual run and fuel consumption)

Identification of Financial Benefits

Annual Run and Fuel Consumption Norms

Traffic ModeDiverted

Traffic

Fuel

Consumption

Norm

Daily Run Fuel Savings

Value of

Fuel savings

(million)

Cars 164,252 13 30 138,350,586 5,257

Two-wheelers 985,789 35 25 257,009,274 9,766

Buses 9,450 18 209 39,651,154 714

For cars and two-wheelers using petrol, price is Rs. 38/ltr

For buses using CNG, price is Rs. 18/kg

Current Statistics:

The residual traffic on Delhi roads for the year 2011-12 are 200,752 and 28,351 respectively. The fuel savings during the year 2011-12 due to the decongestion effect for cars and buses are

20,714,391 ltr and 38,510,952 ltr, respectively.


24/26

Cost Benefit Analysis is a useful technique

Do you Agree?

Yes No1. It helps to measure the benefits It may ignore the distributional impact For

example non-motorists are overlooked.

2. It offers an aid to decision making A CBA may be ignored for political

reasons3. A decision has to be made. The costbenefits of any decision have to beweighed up. This technique helps toconfront the need to make such adecision

It is difficult to put a value on safety(Facts are based on estimation)

By reducing the positive and negative impacts of a project to their

equivalent money value Cost-Benefit Analysis determines whether on

balance the project is worthwhile.


25/26

References

www. wikipedia.orgwww.sjsu.edu/faculty/watkins/cba.htmwww.mindtools.com Decision Makingwww.management.about.com/cs/money/a/CostBenefit.htm
http://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.google.co.in/url?url=http://www.mindtools.com/pages/main/newMN_TED.htm&rct=j&sa=X&ei=4MP6Tqi8GuaOiAew-8GpDA&sqi=2&ved=0CEcQ6QUoADAC&q=cost+benefit+analysis&usg=AFQjCNGXFPMZFsUulmirfLD_2ws3jlQG5whttp://www.google.co.in/url?url=http://www.mindtools.com/pages/main/newMN_TED.htm&rct=j&sa=X&ei=4MP6Tqi8GuaOiAew-8GpDA&sqi=2&ved=0CEcQ6QUoADAC&q=cost+benefit+analysis&usg=AFQjCNGXFPMZFsUulmirfLD_2ws3jlQG5whttp://www.google.co.in/url?url=http://www.mindtools.com/pages/main/newMN_TED.htm&rct=j&sa=X&ei=4MP6Tqi8GuaOiAew-8GpDA&sqi=2&ved=0CEcQ6QUoADAC&q=cost+benefit+analysis&usg=AFQjCNGXFPMZFsUulmirfLD_2ws3jlQG5whttp://www.google.co.in/url?url=http://www.mindtools.com/pages/main/newMN_TED.htm&rct=j&sa=X&ei=4MP6Tqi8GuaOiAew-8GpDA&sqi=2&ved=0CEcQ6QUoADAC&q=cost+benefit+analysis&usg=AFQjCNGXFPMZFsUulmirfLD_2ws3jlQG5whttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htmhttp://www.sjsu.edu/faculty/watkins/cba.htm


26/26

cost-benefit analysis ppt final

Documents

costbenefit approach

yeartotal benefit

financial costbenefit

applications of cba

daylost sales

sales effort

sales director

sales support software