3rd Bac - Cost-Benefit Analysis

  https://www.youtube.com/watch?v=7tdKkeNClPE&ab_channel=ConservationStrategyFund

What Is a Cost-Benefit Analysis (CBA)?

A cost-benefit analysis is a systematic process that businesses use to analyze which decisions to make and which to forgo. The cost-benefit analyst sums the potential rewards expected from a situation or action and then subtracts the total costs associated with taking that action. Some consultants or analysts also build models to assign a dollar value to intangible items, such as the benefits and costs associated with living in a certain town.


What is the formula for CBA?
The output of cost benefit analysis will show the net benefit (benefits minus cost) of a project decision.  For example:

Project A:  Build a new product will cost 100,000 with expected sales of 100,000 per unit (unit price = 2). The sales of benefits therefore are 200,000.  The simple calculation for CBA for this project is 200,000 monetary benefit minus 100,000 cost equals a net benefit of 100,000.

Project B: Enhance the sales portal to position products in a simplified way, add a shopping basket and add a ‘keep shopping feature’ when checking out to allow multiple products in one purchase.  The cost is 20,000 with expected increases of sales equal to 200,000 of revenue.  The simple calculation for CBA for this project is 200,000 monetary benefit minus 20,000 cost equals a net benefit of 180,000.

Based on comparison of these two metrics, a project investment board or stakeholder can easily quantify the best use of investment dollars for the greatest return.

One key issue with the simple calculation though is the concept of time and the impact it can have on value.  This is the concept that money you have now is worth more than the identical sum in the future due to its potential earning capacity.  In other words, the sooner you put a dollar in the bank, the sooner it starts earning interest.  So when comparing a cost (today’s value) with a benefit (some time in the future’s value) you run the risk that your outputs could be incorrect and therefore misinform decisions.  This is where Net Present Value comes in where you convert all values in the calculation to today’s (present) value.


What is the process for CBA?
Like any project process, there are multiple versions out there on what the steps are and it is always best to find what works best for you.  Here are some suggested steps to follow to ensure you can get the most out of CBA in your project decision making.

  1. Define the project (options considered, goals, objectives and other information)
  2. Quantify costs and benefits and confirm which ones are applicable in a CBA calculator (not all benefits can be and some costs may not be considered investment funds)
  3. Standardise the metrics in the calculations (define currency, units of value, NPV etc. as required)
  4. Complete relevant calculations (simple CBA or more advanced NPV depending on how accurate you need to be)
  5. Perform sensitivity analysis which accounts for uncertainty and shows how changes in different variables could affect the overall costs and benefits.  It will be a way to give visibility to stakeholders on the assumptions and variables within the calculation which may be subject to change.  A simple way to present this information might be in a best case / worst case analysis which provides the range of outcomes should assumptions change over time
  6. Complete the business case inclusive of CBA outputs and engage stakeholders
Homework :

Analyze which is the best option and explain why 


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