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.webp "Benefit Cost Ratio")
Benefit-Cost Ratio (BCR) is a key decision-making tool that helps assess whether a project delivers sufficient value for its cost. It is widely used to compare the economic efficiency of projects, especially in infrastructure and public spending.
The Benefit-Cost Ratio (BCR) is a financial metric used to determine the relationship between the present value (PV) of benefits and the present value of costs for a project or investment. It is widely used in cost-benefit analysis to evaluate whether a project is financially worthwhile.
A BCR greater than 1 indicates that the benefits outweigh the costs, while a BCR less than 1 implies a loss-making or unviable project.
BCR works by discounting future streams of both expected benefits and project costs to their present value, allowing analysts to compare them meaningfully.
BCR > 1: Project is economically viable (benefits exceed costs).
BCR = 1: Project breaks even (benefits equal costs).
BCR < 1: Project is not viable (costs exceed benefits).
It is most commonly used in infrastructure, public utilities, and environmental projects, but is equally applicable to corporate capital budgeting decisions.
Here’s a simple way to calculate the Benefit-Cost Ratio (BCR):
BCR = Present Value of Benefits ÷ Present Value of Costs
| Parameter | Value (Example) |
|---|---|
PV of Benefits |
₹800 crore |
PV of Costs |
₹600 crore |
BCR |
₹800 ÷ ₹600 = 1.33 |
This means that for every ₹1 spent, the project yields ₹1.33 in benefits.
To compute BCR, follow these steps:
List all benefits: Tangible and monetised (e.g., increased revenue, time savings).
List all costs: Capital expenditure, operating costs, maintenance, etc.
Apply a discount rate: Typically set by the government or financial institution.
Compute present value: Discount future values to present terms.
Divide PV of benefits by PV of costs.
This method ensures that future cash flows are adjusted for time value, enabling an apples-to-apples comparison.
Project: Construction of a public transportation system.
PV of Benefits: ₹1,000 crore (fare revenue, time saved, reduced emissions)
PV of Costs: ₹750 crore (construction, operations, and maintenance)
BCR: 1,000 ÷ 750 = 1.33
A BCR of 1.33 indicates a favorable return, suggesting the project may be considered economically viable.
Problem: A firm evaluates two investment options:
| Project | PV of Benefits | PV of Costs | BCR |
|---|---|---|---|
A |
₹500 crore |
₹400 crore |
1.25 |
B |
₹600 crore |
₹550 crore |
1.09 |
Though both projects are viable, Project A shows a higher benefit-cost ratio compared to Project B.
Here’s what the Benefit-Cost Ratio tells you:
| BCR Value | Interpretation |
|---|---|
> 1 |
Profitable — benefits outweigh costs. |
= 1 |
Neutral — benefits and costs are equal. |
< 1 |
Loss-making — costs exceed benefits. |
In real-world policy or investment discussions, multiple projects are often ranked based on their BCR to prioritise resource allocation.
Here are the key advantages of using the Benefit-Cost Ratio:
Simple to calculate and interpret
Useful for project comparison, especially when resources are limited
Widely used in public policy, infrastructure, and environmental economics
Objectivity in investment decisions when data is comprehensive
Here are some limitations to keep in mind when using the Benefit-Cost Ratio:
Ignores qualitative factors (e.g., environmental, social impact)
Highly sensitive to assumptions, especially discount rates
Difficult to monetise intangible benefits or costs
Time horizon mismatch in long-term vs short-term benefits
BCR may be more informative when considered alongside metrics such as Net Present Value (NPV) or Internal Rate of Return (IRR), rather than being used in isolation.
The Benefit-Cost Ratio (BCR) is an essential financial tool for comparing the value generated by a project against its cost. With a clear cutoff at 1.0, it enables decision-makers to determine economic viability efficiently. However, it must be used carefully, accounting for non-monetary impacts and assumptions behind the calculations.
This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.
It indicates that the estimated benefits are 2.1 times higher than the associated costs.
The ratio is calculated by dividing the total value of benefits by the total value of costs.
It represents the proportion of benefits received for every unit of cost incurred.
In agriculture, the BC ratio shows the relationship between the value of farm output and the cost of production.
It is an analytical tool used to compare the benefits of a project or investment with its costs.
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