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Cost-benefit analysis
(CBA)
is the weighing-scale approach to decision-making. All the plusses (cash-flows and other
intangible benefits) are
put on one side of the balance and all the minuses (the costs and
disadvantages) are put on the other. Whichever weighs the heavier
wins.
Example of
a CBA:
A company that would like
to buy new software to improve its business might conduct a CBA to decide and make up its mind.
On the minus (cost) side would be:
- the price of the software,
- the cost of
consultants to install and implement the
software, and
- the cost of training for the users of
the software.
However on the plus (benefits) side
would be:
- improved business processes (leading
to an annual cost decrease),
- due to better available information,
being able to take better decisions (leading to additional cash-flows),
and
- increased staff moral from using the
state of the art tools for running
the business.
A frequently made mistake in
the CBA method is to use non-discounted amounts for calculating
the costs and benefits. A method like
NPV or Economic Value Added or
CFROI is strongly recommended, because
all of these account for the time value of
money.
A frequent problem with CBA is that typically the cost are tangible, hard and
financial, while the benefits are hard and tangible, but also soft
and intangible. Caution should be taken here against people who claim
that "if you can't measure it does not exist / it has no value".
Especially in more strategic investments, frequently the
intangible benefits
clearly outweigh the financial benefits.
Book: Anthony E. Boardman - Cost-Benefit Analysis: Concepts and Practice
(2nd Edition) -
Book: Henry M. Levin, Patrick J. McEwan - Cost-Effectiveness Analysis :
Methods and Applications -
More methods and models
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