cost benefit analysis v1

8/7/2019 Cost Benefit Analysis v1

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Contents

� 1. Introduction

� 2. Cost benefit analysis� 2.1 History of Cost Benefit Analysis� 2.2 Principles of CBA

� 2.3 Key CBA Indicators� 2.4 Challenges of CBA� 2.5 Tool to improve CBA

� 3. Case study

� 4. Conclusion

� 5. Reference



I ntroduction

� CBA is a process for evaluating the merits of aparticular project in a systematic way in terms of costand benefit¶s of the project.

� Cost is the value of money that has been used up toproduce something, and hence is not available for use anymore.

� Benefit are the monetary values of desirableconsequence of economic polices and decisions

� The conceptual and theoretical framework of CBA is

derived from welfare economics



Cost Benefit Analysis

� Cost Benefit Analysis (CBA) is an economicevaluation technique that measures all the

positive (beneficial) and negative (costly)consequences of an intervention or program inmonetary terms

� The valuation of all program outcomes inmonetary units allows decision makers to directlycompare the outcomes of different types of interventions



H istory of CBA

� Dates back to the work of Alfred Marshal

1)One of the founder of neoclassical economics

2) Brings the idea of demand and supply; Marginal

utility and cost of production

� Practical application was initiated in U.S by

Corps of Engineers after Federal Navigation act

1936 ± Flood control

� Later applied in several fields ± High way & Motor

way



P rinciples of Cost Benefit Analysis

� There must be a common unit of measurement

� CBA valuations should representsProducers or Consumers

� Benefits are usually measured by MarketChoices

� Gross benefits of an increase inconsumption is an area under thedemand curve



Cont«

� Some measurement of benefits require the

valuation of human life

� The analysis of the project involves withversus without comparison

� CBA involves a particular study area

� Double counting of benefits or cost mustbe avoided

� Decision criteria of projects



K ey CBA I ndicators

� NPV (net present value)

� PVB (present value of benefits)

� PVC (present value of costs)� BCR (benefit cost ratio = PVB / PVC)

� Net benefit = (PVB - PVC)

� NPV/k (where k is the level of fundsavailable)



Case Study

Item Quantity Cost

Network ReadyPC¶s supportingsoftware

10 2450 $ each

Server 1 3500 $

Printers 3 1200 $ eachCabling &Installation

1 4600 $

Sales SupportSoftware

1 15000 $

New computer equipment



Training Cost

Item Quantity Cost

Computer

Introduction

8 $ 400 each

Key board skills 8 $ 400 each

Sales supportskills

12 $ 700 each

Item Quantity Cost

Lost time 40 man days $ 200 PER DAY

Lost sales

throughdisruption

$ 20,000

Lost sales due toin efficiency

$ 20,000

Other cost

Total Cost = $ 114,000



Benefits

Item Cost

Tripling of mail shot capacity $ 40,000 / year

Ability to sustain telesalescampaigns

$20,000 / year

Improved customer serviceand retention

$30,000 / year

Improved accuracy of customer information

$10,000 / year

Improved efficiency andreliability of follow-up

$50,000 / year

More ability to manage saleseffort $10,000 / year

Total Benefit: $160,000/year

Payback time: $114,000 / $160,000 = 0.63 of a year = approx. 8 months



P ay Back Time /Break Even P oint



Challenges of CBA � Accuracy problem

1) Inaccurate cost and benefit estimation

2) Rely heavily on similar projects of past3) Rely heavily on project members

4) Cant avoid the unconscious bias of teammembers

� Determination of which cost to include in the

analysis



Tool to I mprove the Accuracy of

CBA � Reference class forecasting

Three steps:

� Identify a reference class of past, similar projects� Establish a probability distribution for the selected

reference class for the parameter that is being

forecast.

� Compare the specific project with the reference

class distribution, in order to establish the most

likely outcome for the specific project.



MEAN MOST FAVOURABLELEAST FAVOURABLE

Predictor¶s curve

Reference curve



Conclusion

� Performing a Cost-Benefit Analysis iscritical to the continuation of adevelopment product

� Superficial attention to its developmentmay result in erroneous conclusionswhich will lead a company down a pathto disaster

� It is important that both costs andbenefits be thoroughly defined and

scrutinized



Q & A



R eference

Web reference

� http://www.sjsu.edu/faculty/watkins/cba.htm

� http://www.solutionmatrix.com/cost-benefit-analysis.html

� http://en.wikipedia.org/wiki/Cost-benefit_analysis� http://www.mindtools.com/pages/article/newTED_08.htm

� http://www.cdc.gov/owcd/eet/CBA/fixed/1.html

� http://www.cdc.gov/owcd/eet/CBA/fixed/2.html#framingacba

� http://www.econweb.com/MacroWelcome/sandd/notes.html

Book Reference

� An introduction to cost benefit analysis by Thayer Watkins & TornadoAlley

� Applied Cost Benefit Analysis by Robert . J . Brent



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