Cost-Benefit Analysis, usually the abbreviation CBA is used. It is used to evaluate projects mainly from the public sector, and provides a guidance for solving problems that are associated with these projects. The method compares the benefits which express any positive effects of costs or injury, which affect the negative effects of the investment.
The essence of the method is to analyze the investment impact on actors, quantification of the identified effects and conversion to a common numeric (ideally financial) unit. Then we can use the indicators of criteria of net present value, internal rate of return of economic CF, profitability index, and payback period.
For processing CBA analysis we can use this procedure:
- Description of the nature of the project (from technical, marketing and organizational point of view)
- Creating a financial plan for the project from the perspective of an investor
- Defining beneficiaries, i.e. the entities to which the project impact
- Description of options of the project:
- Zero option - means a state without the project
- Investment option (or options) - the project will be implemented
- Defining a maximum of benefits and harm throughout the life cycle of the investment, their division into quantifiable and non-quantifiable
- Converting quantifiable benefits and harm to the cash flows
- Determination of the discount rate and calculation of criterial indicators
- Interpretation of the results, the decision whether the investment is acceptable
What is Cost-Benefit Analysis for in practice?
This method is used in the evaluation of community projects, when we need to take into account the wider social benefits of the project and we need to convert the non-financial benefits to the financial statement.