By determining the expenses and identifying what will be favorable, a company can simplify the decision-making process by synthesizing a cost-benefit analysis. In many models, a cost-benefit analysis will also factor the opportunity cost into the decision-making process. Opportunity costs are alternative benefits that could have been realized when choosing one alternative over another. In other words, the opportunity cost is the forgone or missed opportunity as a result of a choice or decision. If we are expected to utilize or benefit from the project/program/initiative/service for many years, remember to consider the costs over that same time period.

In these cases, the analysis can help decision-makers optimize the benefit-cost ratio of their projects. There is no single universally accepted method of performing a cost-benefit analysis. However, every process usually has some variation of the following five steps. Once the change or new program is outlined in detail, the current state of that environment will need to be outlined. This would include identifying the background, current challenges and performance of the environment related to the change or program. Armed with your calculations, you can now recommend the most financially sound option.

Challenges and Limitations of Cost-Benefit Analysis

While a desire to make a profit drives most companies, there are other, non-monetary reasons an organization might decide to pursue a project or decision. In these cases, it can be difficult to reconcile the main goal of using a cost-benefit analysis is to reach a moral or “human” perspectives with the business case. There are many positive reasons a business or organization might choose to leverage cost-benefit analysis as a part of their decision-making process.

Overall, conducting a CBA requires careful consideration of many factors and involves several steps. By following best practices for conducting a CBA, decision-makers can ensure that the analysis provides relevant and accurate information to inform decision-making. Be prepared to revise and update your analysis if there are significant changes in the project scope, economic conditions or available data.

What Are the Project Costs and Benefits?

CBA can be used in a variety of settings, including public policy, business, healthcare, and environmental programs. For example, CBA may be used to evaluate the cost-effectiveness of a new healthcare intervention or to compare the costs and benefits of different environmental policies. It guides you from defining project scopes to evaluating risks to help you make decisions that are grounded in a thorough blend of data and analysis.

Jennifer Simonson draws on two decades as a journalist covering everything from local economic developement to small business marketing. Beyond writing, she tested entrepreneurial waters by launching a mobile massage service, a content marketing firm and an e-commerce venture. These experiences enriched her understanding of small business management and marketing strategies. Today, she channels this first-hand knowledge into her articles for Forbes Advisor.

Best Practices for Conducting Cost-Benefit Analysis

The way that many businesses, organizations, and entrepreneurs answer these, and other, questions is through business analytics—specifically, by conducting a cost-benefit analysis. The present value of a project’s benefits and costs is calculated with the present value formula (PV). A cost-benefit analysis should be included in a business requirements document, a document that explains what a project entails and what it requires for its successful completion.

• Yet, just categorizing the benefits shows a pretty strong case for smartphone-based mobile check-out, given the customer benefits.
• If the customer benefits of more customers, higher loyalty and higher spend per customer pan out, then this investment is a no-brainer.
• This means considering unpredictable costs and understanding expense types and characteristics.
• When listing out tangible costs (like direct and indirect costs), follow the same process you would when creating a project budget.
• The first step of a cost-benefit analysis is to understand your situation, identify your goals, and create a framework to mold your scope.
• If not, the business should review the project to see if it can make adjustments to either increase benefits or decrease costs to make the project viable.

The downside is that the expected benefits and expected costs are based on forecasts which may turn out to be inaccurate. After deciding on the above considerations, it is then time to economically analyze the direct and indirect benefits as well as the direct and indirect costs (including opportunity costs). Finally, CBA is focused on the economic costs and benefits of a project or decision, which may not take into account other important factors such as social or environmental impacts. This can limit the usefulness of CBA in evaluating the overall impact of a project or decision.

To calculate cost and benefit analysis, there are several steps you must follow (see below). However, in terms of metrics, the most critical aspect is accurately quantifying and then comparing the total costs against the total benefits. Ex ante CBA helps determine the go/no-go decision and allows a company to better allocate resources.