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Cost benefit analysis

A technique used to analyze a project with respect to its overall cost and benefit.

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Cost benefit analysis

  1. 1. Cost Benefit Analysis Prepared By Lekshmi Krishna M.R
  2. 2. 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
  3. 3. Introduction• CBA is a process for evaluating the merits of a particular project in a systematic way in terms of cost and benefit’s of the project.• Cost is the value of money that has been used up to produce something, and hence is not available for use anymore.• Benefit are the monetary values of desirable consequence of economic polices and decisions• The conceptual and theoretical framework of CBA is derived from welfare economics
  4. 4. Cost Benefit Analysis• Cost Benefit Analysis (CBA) is an economic evaluation technique that measures all the positive (beneficial) and negative (costly) consequences of an intervention or program in monetary terms• The valuation of all program outcomes in monetary units allows decision makers to directly compare the outcomes of different types of interventions
  5. 5. History 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
  6. 6. Principles of Cost Benefit Analysis• There must be a common unit of measurement• CBA valuations should represents Producers or Consumers• Benefits are usually measured by Market Choices• Gross benefits of an increase in consumption is an area under the demand curve
  7. 7. Cont…• Some measurement of benefits require the valuation of human life• The analysis of the project involves with versus without comparison• CBA involves a particular study area• Double counting of benefits or cost must be avoided• Decision criteria of projects
  8. 8. Key CBA Indicators• 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 funds available)
  9. 9. Case StudyNew computer equipment Item Quantity CostNetwork Ready 10 2450 $ eachPC’s supportingsoftwareServer 1 3500 $Printers 3 1200 $ eachCabling & 1 4600 $InstallationSales Support 1 15000 $Software
  10. 10. Training Cost Item Quantity Cost Computer 8 $ 400 each Introduction Key board skills 8 $ 400 each Sales support 12 $ 700 each skills Other cost Item Quantity Cost Lost time 40 man days $ 200 PER DAY Lost sales $ 20,000 through disruption Lost sales due to $ 20,000 in efficiencyTotal Cost = $ 114,000
  11. 11. Benefits Item Cost Tripling of mail shot capacity $ 40,000 / year Ability to sustain telesales $20,000 / year campaigns Improved customer service $30,000 / year and retention Improved accuracy of $10,000 / year customer information Improved efficiency and $50,000 / year reliability of follow-up More ability to manage sales $10,000 / year effortTotal Benefit: $160,000/yearPayback time: $114,000 / $160,000 = 0.63 of a year = approx. 8 months
  12. 12. Pay Back Time /Break Even Point
  13. 13. Challenges of CBA• Accuracy problem1) Inaccurate cost and benefit estimation2) Rely heavily on similar projects of past3) Rely heavily on project members4) Cant avoid the unconscious bias of team members• Determination of which cost to include in the analysis
  14. 14. Tool to Improve 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.
  15. 15. Predictor’s curveReference curveLEAST FAVOURABLE MEAN MOST FAVOURABLE
  16. 16. Conclusion• Performing a Cost-Benefit Analysis is critical to the continuation of a development product• Superficial attention to its development may result in erroneous conclusions which will lead a company down a path to disaster• It is important that both costs and benefits be thoroughly defined and scrutinized
  17. 17. Q &A
  18. 18. ReferenceWeb reference••••••• Reference• An introduction to cost benefit analysis by Thayer Watkins & Tornado Alley• Applied Cost Benefit Analysis by Robert . J . Brent
  19. 19. THANK YOU !!!