12/1/2016

ComparingNPVandBCR

ComparingNPVandBCR
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It should be noted that although both NPV and BCR will provide the same positive or
negativeoutcomeforanalternative,whereanumberofoptionsareconsidered,thetwo
methods will not always give the same preferred outcome. This is important as the
choice of calculating the outcome of the CBA using only one of these methods could
resultintheCBAnotconsideringanalternativethatactuallyoffersapositiveoutcome.

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Forexample,consideraprojectseekingtoincreaseeducationandbusinessinvestment
inadeprivedareaofacity.Twoalternativeshavebeenconsideredforthisproject(not
includingadonothingapproach).

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Alternative 1 involves building a brand new business park and youth enterprise
development in the heart of the deprived area. The total present value of the costs
associated with the alternative equal 70m. The total present value of the benefits is
equalto100m.
Alternative2involvesrentinganumberofderelictshopsinthedeprivedarea,andusing
thesetoestablishayouthtrainingcentre,andtoencouragelocalinvestmentbyrefitting
andmodernisingtheinteriorsoftheshops.Thetotalpresentvalueofthecostsinthis
project alternative is equal to 7m. The total present value of the benefits is equal to
12m.
CalculatingtheNPVandBCRforthesealternativesgivesthefollowingresults.
This work is licensed under a
CreativeCommonsAttribution
NonCommercialShareAlike3.0
UnportedLicense.

ProjectAlternative1
Costs=70m
Benefits=100m
NPV=100m70m=34m
BCR=100m/70m=1.43

This resource was created by Dr

Dan Wheatley. The project was
funded by the Economics Network
and the Centre for Education in
the Built Environment (CEBE) as
part of the Teaching and Learning
DevelopmentProjects2010/11.

ProjectAlternative2

Costs=7m
Benefits=12m

NPV=12m7m=5m
BCR=12m/7m=1.7
From this simple example it can be seen that while both alternatives provide a net
positiveoutcome,theNPVandBCRmethodsofobtainingresultsprovideslightlydifferent
outcomes.UsingNPVsuggestsprojectalternative1providesthebetteroutcomeasthe
NPVof34misgreaterthantheNPVofalternative2(5m). However, using the BCR
methodalternative2wouldbechosenasaBCRof1.7isgreaterthantheBCRof1.43.
Inthis case the overall result of the CBA may be determined by considering the costs
involvedinalternative1whicharemuchgreater,ormaybedeterminedbyconsidering
theoverallmuchgreaterbenefits(inmonetaryterms)obtainedbychoosingalternative
1.
Presentingbothsetsofresultsmaythereforebemostappropriatetotheresearcherto
providetheclientordecisionmakerwiththemostinformationwithwhichtomaketheir
finaldecision.CBABuilderSimpleandAdvancedcalculateCBAoutcomesusingboth
methods.However,someanalysts(andtextbooks)arguethattheBCRcanconfuseand
provideinaccurateinformationasitisaratioandthereforeignorestheoverallmonetary
value of the benefits associated with an alternative. In addition, the BCR is more
sensitivetowillingnesstopay.
Forexample, a project has costs of 2m and benefits of 5m. The benefits consist of
benefits for one group that equal 8m, and another group which equal 3m. If the
negative willingnesstopay, that is the value of the benefits for the group with the
negative outcome, is considered as a cost rather than a negative benefit this does not
impact the net benefits (i.e. they remain 3m), but does reduce the value of the BCR
from2.5(5m/2m)to1.6(8m/5m).Forthesereasonssomeanalystssuggestthat
ignoringtheBCR,andfocusingontheNPVoffersthemostaccuratemethodofobtaining
results.
ContinuetoFlashExample:NPVandBCR

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ComparingNPVandBCR

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