exchange rate 2 Flashcards
While an expected positive economic return is a necessary condition for recommending that a project be undertaken, it is by no means a sufficient reason for a successful outcome. A project with a high expected economic return may fail if
there are not enough funds to finance the operations of the project.
Water supply projects are typical examples of projects that generate X due to the large economic value attached to water but receive
little financial revenues because of the Y.
substantial economic benefits, low water tariffs.
Other examples include projects such as public transport and irrigation where services
are usually provided at concessional prices.
A key objective of a financial appraisal for a government project is to determine whether
the project can continue “to pay its bills” throughout its entire life; and if not, how can the shortfalls be
met.
Although the government’s decision to provide grants or loans for these activities should be based on whether all small investors undertaking the project yields positive economic returns or not, the government will need to also determine if
the projects are financially sustainable.
The difference between the X that a project faces and
the Y required by the project measures the tax gain to the government.
financial price (inclusive of tax), economic cost of an input
Gains and losses of this nature will be difficult to establish on the basis of
economic analysis alone
A central piece of the financial appraisal.
The financial cash flow of an investment project
The cash flow statement of a project is a listing of all .
anticipated sources of cash and uses of cash by the business over the life of the project
project’s life.
the difference between receipts and expenditures against the sequence of years
The net cash flow profile
measured by the difference between receipts and expenditures.
net cash flow (positive or negative?)
is usually negative in the beginning of a project’s life
when the investment is being made
Some projects may also experience negative cash flows occasionally after the initial investment has been made
which require significant investments to be made at intervals throughout the life of a project such as the re-tooling of a factory.
Some projects may also experience negative cash flows occasionally after the initial investment has been made 2
if they are producing a good or service which experiences wide swings in price or demand
Some other projects will even have negative cash flows in the final years of the project’s life
as costs are incurred to rehabilitate the project site or to compensate workers for their displacement
The investment plan consists of two sections:
the first section deals with the expenditure on new acquisitions, and the opportunity cost of existing
assets,
and the second section deals with the financing aspects of the proposed investment
The investment plan will contain a listing of all the expenditures to be undertaken up to the point where the
facility is ready to begin its normal operations.
every expenditure should be broken down into two parts:
first, the amount spent on goods and services traded internationally, and second domestically
These categories of expenditures are in turn divided into the
1) payments received by the suppliers of these goods,
2) payments to the government (such as tariffs, value
added taxes, etc.),
3) subsidies received from the government, and
4) subsidies for the purchase of the investment items.
Expenditures on labor for the construction of the project should be identified by
year and by skill level
Why expenditures on labor for the construction of the project should be identified by year and by skill level?
for providing a clear understanding of its 1. cost structure and 2. determining if there is a likely shortage of skilled workers. 3. estimating the respective shadow price of labour in the economic analysis of
the project
depreciation expense is not
a cash outflow and thus should not be included in the financial cash flow profile of the project.
The full capital costs of an investment are accounted for in the financial cash flow profile since the amount of the investment expenditures are deducted in the year they occur. If any further capital charge, such as depreciation expense, were deducted from the cash flow profile,
it would result in a double-counting of the investment opportunity cost of existing assets.
If the project under consideration is an ongoing concern or a rehabilitation project where some of the project’s old assets are integrated into the proposed facilities,
the opportunity cost of these assets should be included in the cash flow statement together with the expenditure on new acquisitions
The opportunity cost of using an asset in a specific project is
the benefit foregone by not putting the asset to its best alternative use.
To measure the opportunity cost of an asset, a monetary value has to be assigned to it in such a way that
should be equal to what has been sacrificed by using it in the project rather than in its next best use.
the value of an asset is treated as a sunk cost if the asset has
no alternative use.
The opportunity cost of the existing assets is generally included in the
the first year of the project’s cash flow profile because the assets could be sold at that time if the project is not feasible.
The in-use value of the asset is what
it would sell for if it were to be used as an ongoing concern.
it is generally estimated at a use that is less than highest-and-best use, and therefore it is generally lower than market value.
The financial opportunity cost of an existing asset
is the highest financial price that it could be sold for.
The highest financial price is typically the higher of the
in-use value of the asset and its liquidation value
The liquidation value is what the asset would sell for
if broken into its different components and sold in parts.
The costs of installing machine and equipment, as well as their liquidation cost, are further deducted in order to
derive the net liquidation value of the assets.
When considering the opportunity cost of any production plant,
one should consider the in-use value of the plant if it continues to be operated as it is.
The most appropriate way to determine in-use and liquidation values is through reliable
market assessors
remember to the assessors’ and sales agency’s fees caculated
An approach to preparing an estimate of the in-use value of a set of assets is to consider their
net replacement costs
The net replacement cost is the amount of
expenditures that would have made today to build a facility that would provide the same amount of services in the future as would the assets that are now being evaluated
To estimate the net replacement value of an asset, two adjustments must be made to the historical purchase cost of assets.
The first adjustment is for the change in the nominal prices of new assets or the same type of asset can perform the same function as the asset being evaluated.
The second parameter needed to estimate an asset’s net replacement cost is the amount of economic depreciation that the asset has experienced since it was purchased.
The economic depreciation rate for an asset reflects the
loss in the market value of the asset, which is generally different from the depreciation rate used for tax purposes
opportunity cost
The purchase price of an asset adjusted for inflation and net of the cumulative amount of economic depreciation over years since it was purchased represents the opportunity cost of the asset if it is used over its remaining lifetime in a project.
(Net replacement value)t or in-use value
A0 * (1 – Proportion of Asset Depreciated dt) * (It / Ih)
