For the PMP® Exam, candidates should understand that sunk cost should NOT influence future decisions. The formula for Net Present Value formula is:Net Present Value (NPV) = Σ (Pi / (1+ r) n) – Ciwhere Pi is cash inflow; r is interest rate; n is time periods; Ci is initial cost.Let’s introduce the concept of Present Value (PV) first. You will only need to know that: The following would be a mock exam question on net present value: The larger the Net Present Value (NPV), the more profitable the project is to the organization. Privacy Policy: This website does not collect any personally identifying information. The good news here is that you will NOT be asked to calculate the internal rate of return (IRR) in the PMP® Exam. With regards to the Benefit-Cost Ratio (BCR), can the inverse formula Cost-Benefit Ratio (CBR) be also used in the exam? It has two alternatives, with … Project Risk Management: Avoid vs Mitigate for PMP Exam, Estimates: ROM vs Definitive for PMP Exam, PMP Exam Simulator 2021: Special Launch Discount Offer, PMP Exam Simulator 2021 Free Trial Available, Updated PM PrepCast Coupon Code / Discount Gift Certificate, [New] PMP Exam Simulator 2021 Preview – For PMP Exam 2021 and beyond. The formula looks sooooooooooooo difficult. What is the Benefit-Cost Ratio (BCR) of the project? The benefit cost ratio (or benefit-to-costratio) compares the present value of all benefits with that of the cost andinvestments of a project or investment. Financial analysis International Ltd is planning to undertake one project. owing to inflation, you can buy less with $1000 four years later). . How can an Exam Coach help PMP Aspirants? Let us take the example of a financial technology start-up which is contemplating on hiring two new programmers. These are included here for a general awareness of the meaning of the terms. The first 3 metrics / accounting terms are discussed in part 1. amzn_assoc_linkid = "1e482a7c212c4723ab0c26bd85605a26"; Since it is greater than 1, the mega order appears to be beneficial. Its meaning depends on the value it isindicating. Thank you very much for your help! The cost-benefit analysis can be executed either using “benefit-cost ratio” or ... Cost-Benefit Analysis Formula – Example #1. In order to adjust for inflation/deflation, Present Value (PV) is introduced. The benefit cost ratio, or BCR, looks to identify components of the relations between the cost of a project and its potential benefits. It is expected that an increase in revenue of $2,000,000 (NPV) would be realized with the expansion. What is the $100,000 termed as. Based on the information provided, which is the best project? All Rights Reserved. Although It can be used in any situation where a transaction will take place, this ratio is most often used within the world of corporate finance. Benefit-Cost Ratio Formula – Example #1 Let us take an example of a company that has recently invested $10,000 for the purpose of replacing some of its machinery components. April 20, 2017. Edward shares his certification experience and resources here in the hope of helping others who are pursuing these certification exams to achieve exam success. The cost for the expansion work and equipment would be $1,000,000 (NPV). Example #3 Present Value (PV) is the future value in terms of today’s money with adjustment for inflation. amzn_assoc_tracking_id = "althwe-20"; As pointed out in the Net Present Value (NPV) section, the use of PV will allow the figures to be calculated more accurately with adjustments for inflation. For the interpretation, refer to the following 3 generic ranges ofBCR values: Read on to learn more about theinterpretation of BCR results. If you find this post helpful and if you are thinking of buying from Amazon, please support the running cost of this website at no extra cost to you by searching and buying through the search box below. Total Costs = 1 ∑ c ( dc c + idc c) Total Benefits = 1 ∑ c ( db c + idb c) Discounted Costs = 1 ∑ c ( dc c + idc c) / (1 + dr/100) c Discounted Benefits = 1 ∑ c ( db c + idb c) / (1 + dr/100) c Benefit/Cost Ratio = Discounted Benefits / Discounted Costs Where, dr = Discount Rate c = Number of Years dc = Direct Cost idc = Indirect Cost db = Direct Benefits idb = Indirect Benefits Statement of Work (SOW) vs Project Scope Statement for PMP Exam, Project Quality Management: Common Cause vs Special Cause for PMP Exam. PV (benefits) – PV (costs). Actually, the PMP Exam will not ask Aspirants to calculate such ratios/values/etc.. "ITIL" and "PRINCE2" are registered trademarks of the AXELOS Limited. Focus on choosing the most feasible and beneficial action as the next step. Depreciation is the decrease in value of assets over time. The following would be a mock exam question on internal rate of return: The larger the Internal Rate of Return (IRR), the more favourable the project is financially to the organization. Fixed Cost — take the software installation as an example, the fixed cost would be the monthly maintenance fee for buy fixes and upgrades, Variable Cost — that would be the electricity bill used to power the workstations as this would be different each month depending on actual usage. There are three type of depreciation calculation techniques: Assets for a project will reduce in its value over time (depreciation).