Project Apprisal SCBA & Environment2

7/27/2019 Project Apprisal SCBA & Environment2

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15 October 2013

Social Cost Benefit Analysis

Also called Economic Analysis Developed for evaluating investment projects

from the point of view of the society (oreconomy) as a whole.

Primarily for evaluating public investments. Why this methodology? Once we agree with

SCB, it helps in decision-making

deciding whether a particular project should go aheador not.

comparing different projects


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Increasing Emphasis

Growing importance of public investmentsin developing countries

Aids in evaluating individual projects withinthe planning framework (i.e. nationaleconomic objectives) & broaden allocationof resources to various sectors.

Reasons for the difference between socialcosts and monetary costs


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Reasons for difference between social cost& benefits and monetary costs & benefits

1. Market imperfection resulting in marketprices not reflecting social values e.g.

Large Projects likely to yield significantsecondary benefits to the economy.

Counting only the primary benefits is not OK

Rationing of a commodity valuation like

control over its price and distributionincluding capital, interest & rates


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Reasons

2. Externalities Both costs and benefits todifferent people, groups in the societyare taken into account E.g.

Large dam resulting in environmentalpollution, deforestation, mosquito breeding,ecological imbalance, displacement etc.

Infrastructure facilities like roads coming up,installation of telephone lines


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Examples of difference

A township coming up due to the project

Employment opportunities in an otherwisenon-industrial area

A road or telephone line being laid

A petrol bunk coming up due to the project

A project closes down due to nonviability &hence the canteen outside the campushas to close down


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Reasons

3. Concern for Wealth Distribution For public investments

4. Merit Wants

= Goals & preferences not expressed in the marketplace but believed by policy makers to be in thelarger interest

have long-term social and economic benefits.

E.g. rural telecommunication network, airconnection with low density destinations, prioritysector lending etc

Merit goods and non merit goods


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SCBA approaches

SCBA is not a technique (for measuring) like NPV etcbut it is an approach

Basically two approaches for SCBA viz.: UNIDO Approach and

Little Mirrlees Approach United Nations Industrial Development Organization

Primary objective is promotion & acceleration ofindustrial development in developing countries andcountries with economies in transition.

Practical Project Appraisal by UNIDO (1978)

Tries to quantify the social impact


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UNIDO Approach

Calculate usual financial profitability of project asmeasured at market pries.

Shadow price the resources

Obtain the net benefit of the project on savings and

investments. Adjust for the impacts of the project on savings and

investment.

Adjust for the impact of the project on income

distribution. Adjust for the impact of project on merit goods and

demerit goods whose social values differ from theireconomic values.


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Shadow pricing?

The opportunity cost of a scarce resource

Maximum price that management is willing to pay for anextra unit of a given limited resource

Measure of the contribution foregone by failing to have

one more unit of scare capacity in a particular situation. A shadow price is, in a way, an OPPORTUNITY COST

Resources in excess supply have a shadow price of zero.

Over time

When foreign exchange is rationed, the shadow price of foreignexchange becomes the relevant exchange rate decisions.

Benefits and costs are measured in terms of shadow prices ofinputs and outputs instead of in actual market prices


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How to calculate shadow prices

Shadow prices = market prices under perfectmarket conditions; how to calculate otherwise?

Concepts to be understood for this purpose1. Numeraire unit of account for expressing

input and output e.g. which currency toexpress, which time frame for comparison,whether costs at current values or constantvalues etc.

2. Tradability generally international pricerepresents better price than the controlleddomestic price. Free import and exportequalises prices


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Basis for shadow prices

3. Non-tradable Inputs and outputs e.g. when import price >domesticcost of production or export price < domestic cost of production.

For such items, value should be measured in terms of what domesticconsumes are willing to pay

4. Taxes impact of tax on price estimate is subjective. To beincluded when the project consumes inputs which are in fixedsupply by diverting from other producers

5. Externalities It is not deliberately created by the project sponsor but is an

incidental outcome of legitimate economic activity. It is beyond the control of the persons who affected by it, for better or

for worse.

It is not traded in the market place. An external effect may be positive or negative.


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Export Parity Price for Sugar(for project in Central area of Mozambique)

Shadow Price Variable US$/Tonne World price of sugar exported FOB from Beira 264 Less transport costs from mill to docks 12 Net value per tonne of sugar at mill 252 Net value of cane at mill (10 % of sugar price) 25.2

Less cane processing costs at mill 7 Less transport costs from project area 3 Delivered mill economic price for cane at project area in US$ 15.2

Expected economic price of cane at project area (local currency) 220 Actual financial price of cane in project area (local currency) 200 Conversion factor (220/200) 1.10


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Import Parity Price of Maize(for project in Central area of Mozambique)

Shadow Price Variable US$/Tonne Import price of rice from Johannesburg, South Africa 127 Bagging and loading in Durban 15 Freight, insurance and customs Durban to Maputo 30 Total CIF (Customs, Insurance and Freight) at Maputo 172 Unloading and storage in Maputo 3 Total in-store price in Maputo 175 Less transport and bagging to project area (200 km away) 25 Expected economic farm gate price at project area in US$ 150

Expected economic farm gate price at project area (local currency) 1900 Actual financial farm gate price at project area (local currency) 1800


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Little- Mirrlees Approach

This also involves shadow prices and the usualmathematical arrival of result like NPV

Differs from UNIDO approach in UNIDO approach measures cost & benefit in

domestic currency whereas this measures ininternational prices

UNIDO approach measures costs and benefits interms of consumption where here it is measured interms of uncommitted social income

Little and Mirrlees has an elaborate methodology forcalculating shadow prices of non-trade-ables

Unlike the five stages of UNIDO, the Little andMirrlees procedure is relatively more practical


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Differences

Little and Mirrlees emphasise ongenerating savings and hence it suggeststhe use of accounting rate of interest to

calculate NPV.

UNIDO Guidelines, on the other hand, donot make any adjustment for consumption

and saving impact of project investment


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Accounting rate of return

Subjective

Chosen such that only a few of the best amongthe lot is cleared

The future social profit of all projects should bediscounted using the same accounting rate ofreturn

Should be chosen such that it balances between

investments made and funds available for suchinvestments

Mathematical risk based rate is not the criterion


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Applications

Divide each input into tradeable (i.e. merchandise related), labour(i.e. service related) and residual (i.e. others). Each (public)organisation will use a specify social conversion factor (SCF) orproportion of T, L, R for each asset. E.g. if the T, L, R of building given as 0.5, 0.25 & 0.25 respectively.

Then the financial cost of building of Rs 10 lacs is = social value of

building is T of 5, L of 2.5 and R of 2.5 If the SCF for land is 0.66, convert the financial cost of land of Rs 20

lacs into social value of Rs 13.2 lacs (it cannot have L & R) Convert every asset cost into social value at the SCF given or split them

into T, L, R Arrive at the total of T, L & R for the whole project cost

At SCF, convert the total of L & R into social value equivalent. Total of this figure and T gives the social value of the projectcomponents compared to its financial cost.

Using this calculate NPV etc


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The capital outlay on a new project isestimated to be as follows;

The working capital requirement of theproject is Rs.159lakh(CIF value

Rs.125lakh)

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Rs. In lakh

LandBuildingsImported equipment (CIF value Rs.120 lakh)Indigenous equipment (CIF value Rs.300lakh)

Engineering and know-how fees

530150375

20


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The estimated annual profitability of the project is as follows;

The annual value of output of CIF prices is Rs.1,300lakh

The CIF value of imported raw material is Rs.200 lakh per annum. The effective tax rate for the firm is 34%.

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( Rs. In lakh)

Sales revenue

Imported raw materialIndigenous raw material

1800

2201,000

LabourSalariesRepairs and maintenance

Water, fuel, etcElectricityOther overhead

100505

152010


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Social conversion factors(SCF) or proportions of tradablecomponents(T), labour(L) and residual( R) to be used for variousitems are as follows;

Ignoring salvage value of fixed and current assets and assuming aproject life of 5 years, calculate the Economic Rate of Return (ERR)for the project. Assume that the conversion factors for tradable,labor and residual components are 1/1.5, 0.5, 0.5 respectively.

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Item SCF or ProportionsLandBuildingsIndigenous equipmentEngineering and know-how feesLabour

SalariesRepairs and maintenanceWater, fuel, etcElectricityIndigenous raw materials and storeOther overhead

SCF=1/1.5Proportion T=0.5, L=0.25, R=0.25SCF=0.7SCF=1.5SCF=0.5

SCF=0.8SCF=1/1.5Proportions T=0.5, L=0.25, R=0.25Proportions T=0.71, L=0.13, R=0.16SCF=0.8SCF=1/1.5


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Social cost associated with Initial outlay

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Item Financial cost

Basis ofconversion

Trade ablevalue abinitio

T L R

LandBuilding

ImportedEquipmentIndigenousEquipmentEngineering& know-howWorkingCapital

530

150

375

20

159

SCF=1/1.5T=0.5,L=0.25, R=0.25

CIF value

CIF Value

SCF=1.5

CIF value

3.33

120

300

30

125

15 7.5 7.5

578.33 15 7.5 7.5


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Tradable value ab initio 578.33

Social cost of trade able component(15/1.5)Social cost of labour component (7.5x0.5)Social cost of residual component (7.5x0.5)

103.753.75

Total social cost of initial outlay 595.83

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Conversion of financial operating costsinto social costs

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Item Financial cost

Basis ofconversion

Trade ableab initio

T L R

Imported RM

Indigenous RMLabourSalariesRepairs & MtenWater, Fuel,etc

Electricity

Other overhead

220

100010050515

20

10

CIF value

SCF=0.8SCF=0.5SCF=0.8SCF1/1.5T=0.5,L=0.25, R=0.25T=0.71,L=0.13,R=0.16SCF=1/1.5

200

80050403.33

6.67

7.5

14.2

3.75

2.6

3.75

3.2

1,100 21.7 6.35 6.95


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Annual Social Cost of Operation

Social net benefit per year=Rs.1300-Rs.1121.13=Rs178.87

Economic rate of return(r )

595.83=178.87PVIFA(r,5)

r= 15.27%

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Trade able value ab initio

Social cost of trade able component (21.7/1.5)Social cost of labour component (6.35x0.5)Social cost of residual component (6.95x0.5)

1,100

14.473.183.48

1121.13


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ERP

= Effective rate of protection

= {VA @ domestic prices VA @ intl prices}/VA @ intlprices

VA = value added = selling price input cost

(exclude tax elements which are characteristic of domesticprice)

Take FOB of export item and CIF of imported item

ERP = 0 = no protection to domestic industry, >0 = protection exists,


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DRC

Domestic resources cost

= VA @ domestic prices X exchange rate

VA @ intl prices DRC = (ERP +1) X Exchange rate

That means any positive value of ERP results inspending more for a project than if import had

been permitted. Conflict of interest viz.: domestic Vs forex

position


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Environmental Appraisal

Conflict of interest between industrialgrowth and heritage preservation

Controlled industrial growth

Governmental control

Central and State regulations

Competition among States Increased public awareness


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Types

Land

Air

Water Noise

General environment


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Specific Cases

Coco Cola plant in Kerala

Alang Ship-breaking industry

Biocon Garment industries of Tirupur

Low count yarn spinning units

Ganesh Chathurthi


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Sources

Tanneries Chemicals

Distilleries, sugar, BTindustries

Organic substances

Hardware units,photographic units

Heavy metals

Drugs and

pharmaceuticals

Chemicals into air and

waterFabric dyeing units Heavy chemicals

Cement Fly ash


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Remedies

Solid, liquid and gaseous forms

Pollution control equipments

Technology, cost, process,

Treatment

Air, water, noise

Primary and secondary Large captive waste disposal area

Areas earmarked for hazardous products


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Financial Implications

Non-availability of suitable technology

Institutions clearance only after this

Yearly monitoring Environmental audit

Inspections etc

Increased cost Possible delay


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Construction Projects

Environmental clearance from the Ministry ofEnvironment & Forest (MoEF), GoI

Covers new construction projects

viz. new township, industrial township, settlementcolonies, commercial colonies, hotel complexes,hospitals and office complexes with

Projects that serve 1,000 persons or above

Discharging sewage of 50,000 liters per day or above. With an investment of Rs.50 cores or above.


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Procedure for obtainingenvironmental clearance

Preparation of Rapid Environment Impact Assessmentreport.

Application for consent to establish & Public Hearing toState Pollution Control Board (SPCB.)

Attending Public Hearing held by SPCB. Securing consent to establish from SPCB. Application to MoEF, Government of India, for

Environmental Clearance. Presentation to MoEF, New Delhi.

Securing Environmental Clearance from MoEF,Government of India. Application to SPCB for Consent to Operate. Securing consent to operate from SPCB

Project Apprisal SCBA & Environment2

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