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Applied SENIOR
HIGH
Economics SCHOOL

Self-Learning
Module

Minimizing and Maximizing Business’s

Impact: Application of Cost-benefit Analysis
17
662
Quarter 4
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Applied Economics
Quarter 4 – Self-Learning Module 17: Minimizing and Maximizing Business’s
Impact: Application of Cost-benefit Analysis
First Edition, 2020

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Applied SENIOR
HIGH

Economics
SCHOOL

Self-Learning
Module

17
Quarter 4

Minimizing and Maximizing Business’s

Impact: Application of Cost-benefit
Analysis
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Introductory Message

For the facilitator:

Welcome to the Senior High School – Applied Economics Self Learning Module
on Minimizing and Maximizing Business’s Impact: Application of Cost-benefit
Analysis!

This Self-Learning Module was collaboratively designed, developed and

reviewed by educators from the Schools Division Office of Pasig City headed by its
Officer-in-Charge Schools Division Superintendent, Ma. Evalou Concepcion A.
Agustin, in partnership with the City Government of Pasig through its mayor,
Honorable Victor Ma. Regis N. Sotto. The writers utilized the standards set by the K
to 12 Curriculum using the Most Essential Learning Competencies (MELC) in
developing this instructional resource.

This learning material hopes to engage the learners in guided and independent
learning activities at their own pace and time. Further, this also aims to help learners
acquire the needed 21st century skills especially the 5 Cs, namely: Communication,
Collaboration, Creativity, Critical Thinking, and Character while taking into
consideration their needs and circumstances.

In addition to the material in the main text, you will also see this box in the
body of the module:

Notes to the Teacher

This contains helpful tips or strategies that
will help you in guiding the learners.

As a facilitator you are expected to orient the learners on how to use this
module. You also need to keep track of the learners' progress while allowing them to
manage their own learning. Moreover, you are expected to encourage and assist the
learners as they do the tasks included in the module.
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For the learner:

Welcome to the Applied Economics Self Learning Module on Minimizing and

Maximizing Business’s Impact: Application of Cost-benefit Analysis!

This module was designed to provide you with fun and meaningful
opportunities for guided and independent learning at your own pace and time. You
will be enabled to process the contents of the learning material while being an active
learner.

This module has the following parts and corresponding icons:

Expectations - This points to the set of knowledge and skills

that you will learn after completing the module.

Pretest - This measures your prior knowledge about the lesson

at hand.

Recap - This part of the module provides a review of concepts

and skills that you already know about a previous lesson.

Lesson - This section discusses the topic in the module.

Activities - This is a set of activities that you need to perform.

Wrap-Up - This section summarizes the concepts and

application of the lesson.

Valuing - This part integrates a desirable moral value in the

lesson.

Posttest - This measures how much you have learned from the
entire module.
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EXPECTATIONS

After going through this module, you are expected to apply the cost-benefit
analysis in the real-world scenario.

PRETEST

Directions: Read each statement carefully. Write T if the statement is correct,

otherwise write F.

____________1. The best cost-benefit analysis takes a broad view of costs and benefits,
including indirect and longer-term effects, reflecting the interests of
all stakeholders who will be affected by the program.

____________2. Cost-benefit analysis is traditionally based on conventional welfare

economics, which provides a utilitarian account of value that relies
on individual self-interest.

____________3. All information on costs, benefits, and risks are rarely known with
uncertainty, especially when one looks to the future.

____________4. A cost-benefit analysis should not normally be undertaken for any

project which involves policy development, capital expenditure, use
of assets, or set of standards.

____________5. It is important to ensure the analysis is as comprehensive as possible.

RECAP

Directions: Discuss what you have learned about cost-benefits analysis in three (3)
sentences. Write your answer in the space provided below.

1. ______________________________________________________________________________.

2. ______________________________________________________________________________.

3. ______________________________________________________________________________.
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LESSON

Application of Cost-benefit Analysis

To illustrate how cost-benefit analysis might be applied to a project, let us

take an example of highway improvement such as the extension of Highway 54 in
Metro Manila. The local four-lane highway which carried the freeway and commuter
traffic in Metro Manila did not have a median divider and its inordinate number of
fatal head-on collisions led to the name "Killer Road." The improvement of the
highway would lead to more capacity which produces time-saving and lowers the
risk. But inevitably there will be more traffic than was carried by the old highway.

The following is a highly condensed analysis using hypothetical data.

Traffic Data No Extension, Highway 54 Extension

"Killer Road" Only and "Killer Road"
Rush Hours
Passenger Trips (per hour) 3,000 4,000
Trip Time (minutes) 50 30
Value of Time (₱/minute) 0.10 0.10

Non rush Hours

Passenger Trips (per hour) 500 555.55
Trip Time (minutes) 35 25
Value of Time (₱/minute) 0.08 0.08
Traffic Fatalities (per year) 12 6
The data indicates that for rush-hour trips the time cost of a trip is ₱5
(50x0.10) without the project and ₱3 (30x0.10) with it. It is assumed that the
operating cost for a vehicle is unaffected by the project and is ₱4. The project lowers
the cost of a trip and the public responds by increasing the number of trips taken.
There is an increase in consumer surplus both for the trips which would have been
taken without the project and for the trips which are stimulated by the project.

For trips that would have been taken anyway, the benefit of the project equals
the value of the time saved multiply by the number of trips. For the rush-hour trip,
the project saves ₱3 and for the non rush-hour trip, it saves ₱2. For the trips
generated by the project the benefit is equal to one half of the value of the time saved
times the increase in the number of trips.
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The benefits per hour are:

Type Trips Which Would Trips Generated Total

Be Taken Anyway by the Project

Rush Hour 6,000 1,000 7,000

Nonrush Hour 400 22.22 422.22

To convert the benefits to an annual basis one multiplies the hourly benefits
of each type of trip times the number of hours per year for that type of trip. There
are 260 week days per year and at six rush hours per weekday there are 1,560 rush
hours per year. This leaves 7,200 nonrush hours per year. With these figures the
annual benefits are:

Type Trips Which Would Trips Generated Total

Be Taken Anyway By the Project

Rush Hour ₱9,360,000 ₱1,560,000 ₱10,020,000

Nonrush Hour ₱2,880,000 ₱160,000 ₱3,040,000
Total ₱12,240,000 ₱1,720,000 ₱13,960,000

The value of the reduced fatalities may be computed in terms of the equivalent
economic value people place upon their lives when making choices concerning risk
and money. If the labor market has wages for occupations of different risks such that
people accept an increase in the risk of death of 1/1,000 per year in return for an
increase in income of ₱400 per year then a project that reduces the risk of death in
a year by 1/1000 gives a benefit to each person affected by it of ₱400 per year. The
implicit valuation of a life in this case is ₱400,000.

Thus the benefit of the reduced risk project is the expected number of lives
saved times the implicit value of life. For the highway project, this is 6x₱400,000=
₱2,400,000 annually.

The annual benefits of the project are thus:

TYPE OF BENEFIT VALUE OF BENEFITS PER YEAR

Time-Saving ₱13,960,000
Reduced Risk ₱2,400,000

Let us assume that this level of benefits continues at a constant rate over a
thirty-year lifetime of the project. The cost of the highway consists of the costs for its
right-of-way, its construction, and its maintenance. The cost of the right-of-way is
the cost of the land and any structures upon it which must be purchased before the
construction of the highway can begin.
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For purposes of this example, the cost of the right-of-way is taken to be ₱100
million and it must be paid before any construction can begin. At least part of the
right-of-way cost for a highway can be recovered at the end of the lifetime of the
highway if it is not rebuilt.

For example, it is assumed that all of the right-of-way cost is recoverable at

the end of the thirty-year lifetime of the project. The construction cost is ₱200 million
spread evenly over four years. The maintenance cost is ₱1 million per year once the
highway is completed.

The schedule of benefits and costs for the project are as follows:

TIME BENEFITS RIGHT-OF-WAY CONSTRUCTION MAINTENANCE

(Year) (In Million Pesos) (In Million Pesos) COSTS (In Million Pesos)
(In Million Pesos)

0 0 100 0 0
1-4 0 0 50 0
5-29 16.36 0 0 1
30 16.36 -100 0 1
The benefits and costs are in constant value pesos; i.e., there was no price
increase included in the analysis. Therefore the discount rate used must be the real
interest rate. If the interest rate on long term bonds is 8% and the rate of inflation is
6% then the real rate of interest is 2%. The present value of the streams of benefits
and costs discounted at a 2% back to time zero are as follows:

PRESENT VALUE
(In Million Pesos)

Benefits 304.11
Costs:
Right-of-Way 44.79
Construction 190.39
Maintenance 18.59
Total Costs 253.77
Net Benefits 50.35

The positive net present value of ₱50.35 million and benefit/cost ratio of 1.2
indicate that the project is worthwhile if the cost of capital is 2%. When a discount
rate of 3% is the benefit/cost ratio is slightly under 1.0. This means that the internal
rate of return is just under 3%. When the cost of capital is 3% the project is not
worthwhile.
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It should be noted that the market value of the right-of-way understates the
opportunity cost of having the land devoted to the highway. The land has a value of
₱100 million because of its income after property taxes. The economy is paying more
for its alternate use but some of the payment is diverted for taxes. The discounted
presented value of the payments for the alternate use might be more like ₱150 million
instead of ₱100 million. Another way of making this point is that one of the costs of
the highway is that the local governments lose the property tax on the land used.

ACTIVITIES

Activity: Think-Pair-Share
Directions: Choose a partner and discuss the proposed CBA projects. From these
proposed projects, you need to come up with one (1) cost-benefit analysis,
including the data and computations. Present your CBA in tabular form.

WRAP-UP

To summarize what you have learned in the lesson, answer the following
questions:
1. What is the importance of cost-benefit analysis in doing a project?
2. What are the factors you need to consider in conducting a cost-benefit
analysis?

VALUING

Reflect on this!
“That is, while we believe that cost-benefit analysis is an important tool to inform agency
decision making, the results of the cost-benefit analysis do not trump existing law.”

― Fred Thompson
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POSTTEST

Directions: Read each statement carefully. Write T if the statement is correct,

otherwise write F.

____________1. The forecasts used in CBA might include future revenue or sales,
alternative rates of return, expected costs, and expected future cash
flows.

____________2. The project needs to earn at least less than the rate of return that
could be earned elsewhere or the discount rate.

____________3. An analyst or project manager should apply a monetary measurement

to all of the items on the cost-benefit list, taking special care not to
underestimate costs or overestimate benefits.

____________4. The results of the aggregate costs and benefits should be compared
quantitatively to determine if the benefits outweigh the costs.

____________5. It is important to ensure the analysis is as comprehensive as possible.

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KEY TO CORRECTION

5. T 5. T
4. F 4. T
3. F 3. T
2. T 2. F
1. T 1. T
PRETEST POSTTEST:

References
AN INTRODUCTION TO COST BENEFIT ANALYSIS. Accessed August 28, 2020.
https://www.sjsu.edu/faculty/watkins/cba.htm.

Author Josiah Kaplan Oxford University. Oxford. "Cost Benefit Analysis."

BetterEvaluation. January 13, 2014. Accessed August 28, 2020.
https://www.betterevaluation.org/en/evaluation-options/CostBenefitAnalysis.

"Fred Thompson Quote: "That Is, While We Believe That Cost-benefit Analysis Is an
Important Tool to Inform Agency Decision Making, the Results ..."" Quotefancy.
Accessed August 28, 2020. https://quotefancy.com/quote/1443702/Fred-
Thompson-That-is-while-we-believe-that-cost-benefit-analysis-is-an-important-
tool-to.

Kenton, Will. "How Cost-Benefit Analysis Process Is Performed." Investopedia. July 16,
2020. Accessed August 28, 2020. https://www.investopedia.com/terms/c/cost-
benefitanalysis.asp.