Financial Economics: Proposal Analysis and Recommendation

This assignment provides a detailed financial and economic analysis of two proposals, A and B, using various financial metrics. The analysis includes calculations and comparisons of Net Present Value (NPV), Internal Rate of Return (IRR), Payback Period (PB), Benefit/Cost Ratio (B/C), Equivalent Annual Cost (EAC), Life Cycle Cost (LCC), and analysis of consumer and producer surplus, deadweight loss, and elasticity. The assignment addresses questions regarding the basis of calculations (nominal or real terms), recommendations from both investor and economic perspectives, the impact of inflation/deflation, opportunity cost of money, and the equivalence of LCC and EAC. It also explores the implications of grants versus loans for project funding and determines the elasticity of demand and supply. The assignment concludes with calculations of government subsidy needed and price elasticity of supply.

Financial Economic
Proposal A Proposal B Proposal A Proposal B
NPV $160 -$3,060 $160 -$3,060
IRR 15% 16% 15% 16%
PB 35 years 8 years 35 years 8 years
B/C $1 $0.8 $1 $0.8
EAC $409,098 $599,574 $409,098 $599,574
LCC $ 1,141,963,150 $ 10,680,490 $ 1,141,963,150 $ 10,680,490
Consumer Surplus 87400 72400 87400 72400
Producer Surplus 52520 580100 52520 580100
Total Surplus 140000 130000 140000 130000
Dead Weight Loss 20000 36000 20000 36000
1. What is the basis of your calculations (the results of which are presented in the above table) –
Nominal terms or Real terms? (2 Marks)
Nominal terms Real terms
Why?
The prices are real since they are adjusted for both inflation and escalation
2. Which proposal will you recommend from the investor’s perspective? (2 Marks)
A B Either Neither
Why?

I would propose project B. It has a higher level of IRR
3. From economic perspective, which project will you select on the basis Payback Period? (2
Marks)
A B Either Neither
Why?
I would select b since it has a shorter payback period
4. Will your recommendation, based on financial perspective, change if there is no inflation or
deflation throughout the useful economic lives of the two projects? (2 Marks)
Yes No
Why?
Still project B will have a lower level of payback period and a higher IRR
5. Will your recommendation, based on economic perspective, change if the opportunity cost of
money is infinite? (2 Marks)
Yes No
Why? As the opportunity costs increase, it would be better to do project B as it has higher
returns
6. Is there an equivalence between the concepts of Life Cycle Cost (LCC) and Equivalent Annual
Cost (EAC)? (2 Marks)
Yes No
Why?
They both consider an evaluation of the level of costs over the entire lifetime of the project. They
cannot be equal since the methods of calculation are different

7. Will your recommendation from economic perspective change if ‘money’ for building the
project (i.e., capital cost) is obtained as a ‘grant’ (i.e., money that has not to be paid back) rather
than a ‘loan’ (i.e., money that has to be paid back)? (2 Marks)
Yes No
Why?
This would mean that payback period is not required, however, project b sstill has higher
profitability
8. In Figure 2, will the response of demand to changes in prices in the range of 9 to 12 cents per
unit be: (2 Marks)
Elastic Inelastic
Why? Because it is clear that the gradient of the slope is less steep
9. How much subsidy (expressed in present value terms) will the government need to provide for
Proposal A in order to encourage the producer to sell electricity at the competitive market price
throughout the 60-year project duration? (2 Marks)
$ bn
Please, present your calculations? (just two steps)
= 87500 – 52500
= 35000
10. Please calculate price elasticity of supply for Project A for the years 21 to 60. (2 Marks)
Change in Quantity/ Change in Price