1

Benefit Cost AnalysisBenefit Cost AnalysisBenefit Cost AnalysisBenefit Cost Analysis• Typically used for public projects

• The goal is to determine if benefits exceed costs:

Benefit / Cost Ratio > 1

• The goal is NOT to maximize B/C Ratio.

• Interest rates used are typically lower than those used by businesses.• Typically 4% - 8% (6.5% is

typical)• OMB requires 10% (except water

proj.)

2

Benefit Cost AnalysisBenefit Cost AnalysisBenefit Cost AnalysisBenefit Cost AnalysisThe challenge is to quantify the

benefits and costs.

The equation…

B/C = (Benefits – Disbenefits) to the public

(Costs) to sponsoring agency

You can use NPW, EAW, even NFW – whichever is easier in a particular problem – Hint: Choose EAW or Capitalized Cost to avoid equal lifetime issues!

3

Benefit Cost AnalysisBenefit Cost AnalysisBenefit Cost AnalysisBenefit Cost AnalysisSteps:1. Define the planning horizon.

2. Specify the Discount Rate (MARR) to be used.

3. Develop the cost and benefit-disbenefit profiles in monetary terms.

4. Compare the benefits to costs using a specified measure of worth, such as annual equivalent or present worth.

5. If the B/C ratio is: > 1 project is justified = 1 barely justified – political < 1 not justified

6. Repeat steps 3 – 5 for alternative viewpoints

4

Cost-Benefit ProfilesCost-Benefit ProfilesCost-Benefit ProfilesCost-Benefit Profiles• Primary Benefits – (Users) measurable:

• Prevention of costs / savings from implementation

• Time savings from implementation

• Secondary Benefits – (Users) difficult to measure:• Environment conservation /

improvement• Pain & suffering avoidance

• Disbenefits – (Users) quantified:• Time lost due to requirements• User fees for Operation & Maintenance

• Costs – (Sponsor):• First costs & Salvage• Sponsor Operation & Maintenance (–

Revenue)• Operation fees paid by users (+

Revenue)

5

Quantification Quantification ExamplesExamples

Quantification Quantification ExamplesExamples• Benefits due to reduction in deaths:

• Number of deaths avoided• Average income stream of victims

• Benefits due to reduction in property damage:• Number of incidents• Average property damage per incident

• Disbenefits due to user fees:• Average number of users• Average fee charged

• Disbenefits due to delay time:• Number affected• Average delay duration• Average wage rate of patrons

• Costs (+ Revenues due to user fees):• Average number of users• Average fee charged

6

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.• State inspects motor vehicles as part of

licensing system. Vehicles not passing inspection must be repaired prior to license renewal.

• Primary Benefits (Users):• Reduction in deaths due to accidents• Reduction in property damage due to

accidents

• Secondary Benefits (Users):• Pollution avoidance costs• Savings to accident victims families• Avoidance of pain & suffering

• Disbenefits (Users):• Cost of inspection fees• Opportunity cost of time to bring car to

inspection• Opportunity cost of time waiting for

inspection• Vehicle usage costs for inspection process

7

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.• Sponsor Costs (State):

• Capital recovery costs of inspection facilities• Operating costs of inspectors & admin. staff

• Sponsor Revenues (State):• Inspection revenues (user fees)

• Quantifying Benefits:• Deaths avoided

• 304 victims of fatal accidents avoided• Income stream lost: $571 106 per victim

• Property damage avoided• 37 910 total accidents avoided annually• 63% of accidents are property only• Average property damage: $1 845 per

accident

Total Benefits to Users: $217 680 913 / year

8

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.• Quantifying Disbenefits:

• Cost of inspection fees• 5 136 224 vehicles inspected annually• $5 fee per inspection

• Opportunity cost of time to bring vehicle to inspection• 5 136 224 vehicles inspected annually• 1.02 hours of inspection travel per car

(round trip)• Average wage rate: $14.02 per hour

• Opportunity cost of time waiting for inspection• Average waiting time: 9 minutes (0.15 hr)• 5 136 224 vehicles inspected annually• Average wage rate: $14.02 per hour

• Vehicle usage costs for inspection process• 5 136 224 vehicles inspected annually• Operating cost per mile: $0.35• Average round trip to station: 20 miles

Total Disbenefits to Users: $145 886 225 / year

9

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.

Vehicle Inspection Program Vehicle Inspection Program Ex.Ex.• Quantifying Sponsor Costs:

• Capital recovery of facilities costs• Similar facilities annual cost: $46 376 703

per yr• Operating costs for inspectors & admin

• Annual operating costs: $10 665 600 per year

• Revenue from inspection fees• 5 136 224 vehicles inspected annually• $5 fee per inspection

Total Costs to Sponsor: $31 361 083 / year

IS IT WORTH IT?

B/C = B – D = 217 680 913 – 145 886 165 = 2.29

C 31 361 183

Economically Justified, Politically …