Factors to Consider in an Economic Feasibility Study

For an organization to achieve one of its main purposes — to grow and be profitable — it takes planning. In this context, one of the most important steps in the investment selection and prioritization process is the economic feasibility analysis. This analysis aims to measure whether a given strategy is viable or not from an economic perspective, in addition to demonstrating whether is it profitable.

After all, as much as an initiative is creative, innovative, and can bring excellent results for some stakeholders, if it is not economically sustainable, or if it generates damage, a careful analysis will be necessary to include it in the portfolio, since the resources are limited and there are other financial priorities in the competition for investments with more attractive returns.

The economic feasibility analysis is a study that will compare the returns to be obtained with the investment required to point out its feasibility, being, therefore, an extremely important process, which brings business intelligence, avoids losses, and leads to more assertive decisions.

What Should be Analyzed in the Economic Feasibility Project?

In the economic feasibility project, all the factors that influence a given initiative must be analyzed. We can mention, for example, the company’s market, products, and services, investment projection, competition, competitive advantages, cash flow, market trends, working capital, labor, among others.

This study will provide an overview of the current situation of the business, both in the present and in the future, in relation to the execution of a given project. This is a complex process that requires great effort, as there are several variables to be raised.

However, it is an extremely necessary action for those companies that intend to have consistency and secure evolution in relation to investments.

What Are the Most Important Steps in this Analysis?

After mentioning some items that should be part of the project economic feasibility project, you may be wondering how to carry it out in practice. With that in mind, we’ve listed some important steps.

Spending Projection

To find out if a particular project will be positive for the organization, the first step is to make a revenue projection. This is nothing more than identifying the spending required if it is actually executed.

In this sense, it is necessary to carry out an in-depth study of the market in which it operates, in addition to projections of varied scenarios with up to 50% of the capacity to generate returns and the growth in revenue itself.

Projection of Costs, Expenses, and Investments

After verifying whether a given project can generate revenue, it is time to verify what investments will be needed to make it feasible. After all, to carry out any type of new activity within a company, it is necessary to bear expenses related to labor, purchase of equipment, technological tools, among other costs.

It is worth emphasizing that, at this time, it is also important to take reinvestment into account, as both the structure of the company, the market, and the project itself tend to change over time.

Cash Flow Projection

The third step of the economic feasibility project is to study the cash flow, which consists of the daily inflows and outflows of money within the business. Therefore, it is a fundamental instrument to carry out financial management.

In this context, it is necessary to analyze not only whether the revenues cover expenses in general, but to make a future projection in relation to the investments that will be made.

Indicator Analysis

After carrying out the previous surveys, which involve expenses and profits, the next step in the economic feasibility project is to carry out an analysis of the financial and performance indicators, as these work as a general guideline.

Remembering that this study must be done before, during, and after the conclusion of each project, as it will show whether the investments are being really assertive and also aspects to be improved in order to obtain better results. The main indicators with the objective are:

  • Minimum Attractiveness Rate of Return (MARR): This metric should be considered as the starting point of the analysis, as it represents the lowest internal rate of return the organization would consider to be a good investment. This provides a benchmark that the organization is confident it will achieve at least that rate of return. 
  • Net Present Value (NPV): This analyzes all cash flows related to each project on a single date. This means that all flows will be discounted to a MARR until the investment date is reached. Then, the sum of all flows is made, then subtracted from all the applied revenue. If the result is positive, it is a promising project, if it is null, it will pay the expenses but it will not bring revenue and, if negative, the investment will not be worth it.
  • Internal Rate of Return (IRR): This indicates the profitability of the project in percentage. It can present three scenarios: being greater than MARR, which indicates viability as positive, equal to MARR, which does not generate profits, and smaller than MARR, indicating that a certain strategy is not favorable.
  • Payback: Economic viability metric for projects that shows how long it will take for them to return on invested capital. It can be calculated either from the traditional payback, which does not consider the amount invested over time or from the discounted one, which uses the MARR to discount the analyzed cash flows.

With the aforementioned economic feasibility analyses, the organization will be able to identify whether a given project or strategy will be really efficient or, on the contrary, it will be capable of causing losses over time. Overall, this directly contributes to solid and profitable growth.