Cost-Benefit Analysis: Financial And Economic Appraisal Using Spreadsheets

Cover
Half Title
Title Page
Copyright Page
Table of Contents
Figures
Tables
Examples
Technical Notes
Preface
Acknowledgements
Note to the Instructor
1 Introduction to Cost-Benefit Analysis
1.1 Introduction
1.2 The Referent Group
1.3 The Structure of the Cost-Benefit Model
1.4 The Use of Spreadsheets in Cost-Benefit Analysis
1.5 The Rationale for Public Projects
1.6 The Role of the Analyst
1.7 Further Reading
Exercises
Note
2 Project Appraisal: Principles
2.1 Introduction
2.2 Project Appraisal From an Individual Viewpoint
2.3 Investment Opportunities in the Economy as a Whole
2.4 The Algebra of NPV and IRR Calculations
2.5 Annuities and Perpetuities
2.6 The Rule of 72
Why It Works
2.7 Economic Depreciation and the Annual Cost of Capital
2.8 Treatment of Inflation in Project Appraisal
2.9 Incorporating a Risk Factor in the Discount Rate
2.10 Further Reading
Exercises
Notes
3 Project Appraisal: Decision-Rules
3.1 Introduction
3.2 Discounted Cash Flow Analysis in Practice
3.3 Discounting and the Time Value of Money
3.4 Using Annuity Tables
3.5 Using Investment Decision-Making Criteria
3.5.1 The Net Present Value (NPV) Criterion
The Effect of Changing the Discount Rate
Summary of NPV Decision-Rules
3.5.2 The Benefit-Cost Ratio Decision-Rule
3.5.3 The Internal Rate of Return (IRR) Criterion
A Note On Calculating the IRR
Use of Annuity Tables
3.5.4 Problems With the IRR Decision Criterion
Selecting Among Mutually Exclusive Projects
3.5.5 Problems With the NPV Decision Criterion
Under Capital Rationing
3.6 Using Spreadsheets
3.7 Further Reading
Exercises
Note
4 Private Cost-Benefit Analysis: Financial Appraisal
4.1 Introduction
4.2 Benefits and Costs Measured as Cash Flows
4.2.1 Identifying Project Inputs and Outputs
4.2.2 Valuing Inputs and Outputs at Market Prices
4.2.3 Characteristics of Cash Flows
4.3 Inflation and Relative Prices
4.4 Incremental Or Relative Cash Flows
4.5 Capital Costs and the Treatment of Depreciation
Fixed Investment
Working Capital
4.6 Interest Charges, Financing Flows and Cash Flow On Equity
Example: Calculating the Return On Total Investment, the Cost of Debt Finance and the Return On Equity
4.7 Taxation and After-Tax Net Cash Flows
4.8 The Discount Rate
4.9 Summary of the Relationship Between the Market Analysis and the Private Analysis
4.10 Derivation of Project Private Cash Flows Using Spreadsheets
Worked Example: National Fruit Growers (NFG) Project
Step 1: Setting Up the “Key Variables” Table
Step 2: Setting Up the Project’s Cash Flow for the Market Analysis
Step 3: Setting Up the Cash Flow for the Financing of the Project
Step 4: Calculating Business Income Taxes and After-Tax Flows
Step 5: Deriving the Private (after-Tax) Net Cash Flow
4.11 Further Reading
Appendix to Chapter 4
Case Study of International Cloth Products
ICP Project
1 Introduction
2 The Market
3 Investment Costs
4 Raw Materials
5 Direct Labour Force
6 Fuel, Water, Spare Parts
7 Insurance and Rent
8 Financing
9 Taxes and Incentives
10 Location in “Deprived Areas”
Some Solution Spreadsheet Tables for the ICP Case Study
Exercises
Note
5 Cost-Benefit Analysis and Economic Efficiency
5.1 Introduction
5.2 The Competitive Market
5.3 Shadow-Pricing Project Inputs and Outputs
5.4 Shadow-Pricing Marketed Inputs
5.4.1 Materials
A Material Subject to an Indirect Tax
An Imported Material Subject to a Tariff
A Material Subject to a Subsidy
A Material Produced Under Conditions of Decreasing Unit Cost
5.4.2 Labour
Labour Subject to a Minimum Wage
Labour Diverted From a Monopoly
Labour Diverted From a Monopsony
5.4.3 Capital
5.4.4 Land
5.4.5 Rules for Shadow-Pricing Marketed Inputs
5.5 Shadow-Pricing Marketed Outputs
Output Subject to a Tax
Output Subject to a Subsidy
Output Supplied By a Monopoly
Output of Rental Units
Time Saved
5.5.1 Rules for Shadow-Pricing Marketed Outputs
5.6 The Efficiency Pricing Rules: Summary
5.7 Corrective Taxation: the Modified Efficiency Pricing Rules
5.8 How to Determine Which Pricing Rule to Follow
5.9 Shadow-Pricing Public Funds
The Opportunity Cost of Bond Finance
The Opportunity Cost of Funds Obtained From a Tax Increase On Labour Income
5.10 Shadow-Pricing Foreign Exchange
5.11 The Discount Rate
5.12 Worked Examples
5.12.1 Efficiency Analysis of the National Fruit Growers (NFG) Project
5.12.2 Cost-Benefit Analysis of the 55 Mph Speed Limit
5.13 Further Reading
Appendix to Chapter 5
Economic Efficiency Analysis of the ICP Case Study
Cost of Capital Goods
Cost of Labour
Cost of Utilities
Cotton and Yarn Inputs and Outputs
The Efficiency Analysis
Exercises
6 The Distribution of Project Net Benefits
6.1 Introduction
6.2 How to Identify Referent Group Net Benefits in Practice
Information Provided By Financial Flows
Information Provided By Shadow-Prices
6.3 Some Examples of the Classification of Net Benefits
6.3.1 Shadow-Prices On Project Inputs
6.3.2 Shadow-Prices On Project Outputs
6.4 Corrective Taxation
6.5 Further Examples
6.6 Lessons From the Examples
6.7 Worked Example: Referent Group Analysis of National Fruit Growers’ (NFG) Project
6.8 Further Reading
Appendix 1 to Chapter 6
Referent Group Net Benefits
The Discount Rate
Comparing Alternative Scenarios
Appendix 2 to Chapter 6
Incorporating the Public Funds Cost Premium in the ICP Case Study
Exercises
Note
7 Consumer and Producer Surplus in Cost-Benefit Analysis
7.1 Introduction
7.2 Real Versus Pecuniary Effects
7.3 Consumer Surplus
7.3.1 Aggregating Consumer Surplus Measures
7.3.2 The Significance of Income Distribution
7.4 Producer Surplus
7.5 Accounting for Output Price Changes
7.5.1 Benefits of Urban Transport Projects
Building a Bridge
7.5.2 Benefits of Worker Training
7.5.3 Producer Benefits From an Irrigation Project
7.6 Accounting for Input Price Changes
7.7 Price Changes in Other Markets
7.8 Classification of Consumer and Producer Surplus Changes
7.9 Further Reading
Appendix 1 to Chapter 7
Allowing for an Increase in the Skilled Wage in the ICP Case Study
Appendix 2 to Chapter 7
Compensating and Equivalent Variation
Exercises
8 Non-Market Valuation
8.1 Introduction
8.2 Causes of Market Failure
8.3 Valuing Environmental Costs and Benefits
Environmental Resources as Public Goods
Externalities and the Environment
Total Economic Value
8.4 Incorporating Non-Market Values in Cost-Benefit Analysis
8.5 Methods of Non-Market Valuation
8.5.1 The Production Approach
The Dose/response Method
The Opportunity Cost Method
The Preventative Cost Method
8.5.2 The Utility Approach
8.6 Revealed and Stated Preference Methods of Applying the Utility Approach
8.6.1 Revealed Preference Methods
The Travel Cost Method
The Random Utility Method
The Hedonic Price Method
8.6.2 Stated Preference Methods
The Contingent Valuation Method
Discrete Choice Modelling
8.7 Benefit Transfer and Threshold Analysis
8.8 Alternative Approaches to Environmental Valuation
Deliberative Value Assessment
Multi-Criteria Analysis
8.9 Non-Market Valuation: the Value of Life
8.10 The Pandemic
8.11 Climate Change
The Social Cost of Carbon Dioxide Emissions in Cost-Benefit Analysis
8.12 Further Reading
Appendix to Chapter 8
The Annual Benefits of the Virginia Creeper Trail as Measured By the Travel Cost Method
Exercises
Notes
9 Uncertainty, Information and Risk
9.1 Introduction
9.2 The Value of Information
Sensitivity Analysis
9.3 An Abbreviated Cost-Benefit Analysis
9.4 The Option of Delay
9.5 Calculating the Value of Information
9.6 The Cost of Risk
9.6.1 The Theory of Risk Aversion
9.6.2 Dealing With Project Risk
9.7 Risk Modelling
9.7.1 Use of Discrete Probability Distributions
9.7.2 Joint Probability Distributions
9.7.3 Continuous Probability Distributions
9.8 Using Risk Analysis in Decision-Making
9.9 Modelling Risk in Spreadsheet Applications Using ExcelSim©
9.9.1 Modelling a “Random Walk”
9.10 Further Reading
Appendix 1 to Chapter 9
Incorporating Risk Analysis in the ICP Case Study
Additional Information
Entering the Risk Analysis Data
The Results of the Risk Analysis
Appendix 2 to Chapter 9
Using the @RISK© (Palisade) Risk Modelling Program
Using @Risk© to Model a Random Walk: the ICP Case Study
Some Additional Points to Note When Using @Risk©
Exercises
Notes
10 Valuing Traded and Non-Traded Goods in Cost-Benefit Analysis
10.1 Introduction
10.2 Traded and Non-Traded Goods
10.3 Valuing Traded and Non-Traded Goods and Services
10.4 Worked Example: Domestic and International Price Structures
10.4.1 Evaluation of an Import-Replacing Project in Real Terms
10.4.2 Evaluation of an Import-Replacing Project in Money Terms
10.5 Summary of the Two Approaches to Valuation: Border Versus Domestic Prices
10.6 The Equivalence of the Two Approaches
10.7 Determinants of the Shadow Exchange Rate
10.8 Further Reading
Appendix to Chapter 10
Shadow-pricing Foreign Exchange in the ICP Case Study
Exercises
11 Appraisal of the Distribution of Project Benefits and Costs
11.1 Introduction
Interpersonal Distribution
Inter-sectoral Distribution
11.2 Measuring the Degree of Inequality
11.3 Alternative Measures of Income Distribution
11.4 Policies to Change the Income Distribution
11.5 The Use of Income Distribution Weights in Project Appraisal: Some Illustrative Examples
11.6 The Derivation of Distribution Weights
11.7 Distributional Weighting in Practice
The Bottom-Up Approach
11.8 Worked Example: Incorporating Income Distribution Effects in the NFG Project
11.9 Inter-Temporal Distribution Considerations
11.10 Further Reading
Exercises
Notes
12 Economic Impact Analysis
12.1 Introduction
12.2 Multiplier Analysis
12.2.1 The Closed Economy
12.2.2 The Open Economy
12.2.3 Crowding Out
12.2.4 Cost-Benefit Analysis of Fiscal Stimulus
12.2.5 The Employment Multiplier
12.3 Inter-Industry Analysis
12.3.1 Inter-Industry Analysis and the National Income Multiplier
12.3.2 Inter-Industry Analysis and Employment
12.4 General Equilibrium Analysis
12.5 Case Study: the Impact of the ICP Project On the Economy
12.6 Further Reading
Appendix to Chapter 12
The Annual Economic Impact of the Virginia Creeper Trail
Exercises
13 Writing the Cost-Benefit Analysis Report
13.1 Introduction
13.2 Contents of the Report
13.2.1 The Executive Summary
13.2.2 The Introduction
13.2.3 The Methodology
13.2.4 The Analysis
13.2.5 The Conclusion
13.3 Other Issues
Appendix to Chapter 13
Executive Summary
1 Introduction
2 Methodology
3 Analysis
4 Conclusion
Note
Appendix 1 Case Study Assignments
A1.1 South Australian Olive Oil Project
Introduction
Fixed Investment Costs
Working Capital
Operating Costs (From 2015 Onwards)
Output
Financing
Taxes and Duties
Environmental Costs
Other
A1.2 Walnuts Tasmania Project
Introduction
Investment Costs
Operating Costs
Financing
Revenues
Environmental Costs
Referent Group
Assignment Instructions
Sensitivity Analysis
A1.3 A Tuna Cannery in Papua New Guinea
Introduction
Assignment Instructions
A1.4 Urban Water Supply in South-East Queensland*
Introduction
The Elizabeth River Dam Project
Cost of Energy
The Desalination Project
Cost of Energy
The Aqua Vite Venture: Financial and Tax Flows
Labour Market
External Costs
Assignment Instructions
A1.5 The Scottish Highlands and Islands Remote Dental Care Programme
Introduction
The Outreach Project
The Teledentistry Project
TSI Revenues and Costs
NHS Hospital Capital Cost
Assignment Instructions
The Format of the Report
A1.6 The Defarian Early Childhood Intervention Program (DECIP)
Introduction
Programme Costs and Financing
Programme Benefits
Assignment Instructions
References
A1.7 A Pulp Mill for Tasmania?
Introduction
Assignment Instructions
A1.8 Qingcheng Water Project
Introduction
Variables
External Costs and Benefits
Assignment Instructions
Sensitivity Analysis and Risk Analysis
Written Report
A1.9 Highway Project 2012
Introduction
Investment Costs
Operating and Maintenance Costs and Salvage Value
Benefits From the Highway
Tax and Financing Arrangements
Arrangements On Termination of the Concession
Referent Group Definition
Assignment Instructions
The Format of the Report
A1.10 International Mining Corporation (IMC) Copper Mining Project
Introduction
Investment Costs
Salvage Values, Depreciation Rates and Provision for Rehabilitation
The Output of the Mine
Operating Costs
Referent Group Stakeholders
Efficiency Pricing
Conversions and Assumptions
Scenarios and Sensitivity Analysis
A1.11 Comparative Levelised Cost of Electricity: Renewables Vs Coal
Introduction: the Task at Hand
Details of Renewable Options
Financing
External Costs and Benefits
Sensitivity and Scenario Analysis
Instructions
Note
A1.12 Cost-Benefit Analysis of the Proposed Repeal of Water Saving Regulations
Background
Identified Components of Costs and Benefits
Costs and Benefits at Market Prices1
Taxes, Subsidies and Externalities2
Your Task
A1.13 Cost-Benefit Analysis of the Proposed Extension to the Mount Beno Walking Trail
Introduction and Project Description
Project Costs at Market Prices1
Loan
Project Benefits
Alternative Scenarios and Sensitivity Analysis
A1.14 Cost-Benefit Analysis of a Proposed Drug Court Programme in the State of Euphoria, Federal Republic of Oz
Background
Program Costs
Market Distortions
Programme Benefits
Instructions
Sensitivity Analysis
Appendix 2 Discount and Annuity Factors
Discount Factors
Annuity Factors
Glossary
Index