FEASIBILITY STUDY

By
Eng. Sally Anwar
 What is a Feasibility Study?

“ It is an analysis and evaluation to determine

whether or not a proposed project is viable,
achievable, and worth pursuing, based on certain
factors, and to decide whether or not to proceed with
the project.”
Who Conducts A Feasibility Study?
- Project managers - Business analysts
- Technical experts - Financial analysts
- Legal advisors - Environmental consultants
- Market researchers - Operational specialists
- Risk managers professionals - Stakeholders

The Feasibility Study is often coordinated by a consulting firm,

an internal team, or a combination of both.
 When to conduct a Feasibility Study?

key moments when a feasibility study is typically conducted:

[Link] Starting a New Business

[Link] Launching a New Product or Service

[Link] Entering a New Market

[Link] Making Major Investments or Expanding Operations

[Link] Pursuing Funding or Investment

[Link] Considering Technological Changes or Innovations

 Importance of Feasibility Study
1. Reassure banks and investors
2. Facilitate new business developments
3. Prevent risk
4. Create effective plans
5. Reduce investment
Phases of Feasibility Study
Phase 1. Conceptual Study ( Scoping Study)

Phase 2. PRELIMINARY (“PRE”) FEASIBILITY STUDY

Phase 3. FEASIBILITY STUDY (Bankable Feasibility Study)

 PHASE 1 -- CONCEPTUAL STUDY (ALSO CALLED “SCOPING STUDY”)

- The project is conceptualized based on the needs of the Owner.

- The Owner must appoint a single source of contact for the project
with appropriate authority.
Phase 2. PRELIMINARY (“PRE”) FEASIBILITY STUDY

The Pre-Feasibility Study is a more comprehensive

study that determines the technical and economic
viability of a project.
 The Pre-Feasibility Study indicates if
the project looks promising and has an
attractive payback.
Phase 3. FEASIBILITY STUDY

(Bankable Feasibility Study)

 “What are the
Types of Studies in a Feasibility Study?”
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 Technical Study
A technical feasibility study is an assessment that
evaluates whether a proposed project, system, or solution
can be successfully developed and implemented using
available technology, skills, and resources.
 Economic Study
Also called financial feasibility study. An economic feasibility
study is an evaluation of the cost-effectiveness of a proposed
project or solution to determine whether it is financially
viable and worth pursuing.
 Market Study
A market feasibility study is an analysis that evaluates the
demand for a product or service in a target market to
determine whether a project or business idea has the
potential to succeed commercially.
 Legal Study
A legal feasibility study is an analysis conducted to
determine whether a proposed project, business
idea, or solution complies with all relevant laws,
regulations, and legal obligations.
 Schedule Study
A schedule feasibility study is an evaluation to
determine whether a proposed project or system can be
completed within a reasonable or required time frame.
 Environmental Study

An environmental feasibility study is an assessment that

evaluates the potential environmental impacts of a
proposed project or system to determine whether it can be
carried out in a way that complies with environmental
laws, standards, and sustainability goals.
 Risk Analysis

Risk analysis is the process of understanding and

evaluating the potential problems (or "risks") that could
negatively affect a project, decision, or business activity.
 A Social Study

A Social Feasibility Study is an assessment conducted to determine

whether a proposed project or initiative is acceptable, beneficial,
and sustainable within the social and cultural context of the target
community or population.
" Will people support this project? Will it make their lives
better or worse”
Economic Feasibility Study
Definitions and Applications
of Important
“Financial and Economic
Terms and Indicators”
 Capital Structure

The capital structure refers to the way a company finances its assets and
investments through a mix of debt and equity.

In other words, it shows the proportion between funds coming from

borrowed money (debt/Loan) and owners’ funds (equity).
Equity :
The money or assets contributed by the owners/investors in exchange for
ownership in the project.
It's the portion of total project funding that does not come from loans or debt,
but rather from the owners ’pockets or investors.

loan :
Is money borrowed from a bank, financial institution, or lender to help
finance the costs of launching or running a new project.
This money does not give the lender ownership, but you are legally
obligated to repay it, often in fixed installments over a set period.
 Typical Project Financing Structure
Many industrial projects are financed with a combination of equity
and debt (loan). A common structure might be:
•30% Equity
•70% Debt (Loan)
 Example: 30% Equity / 70% Loan

Financing Source Percentage Amount (USD) Description

Contributed by project
sponsors or investors
Equity 30% $18,000,000
(owners’ money, no
repayment)
Borrowed from banks or
financial institutions
Loan (Debt) 70% $42,000,000
(must be repaid with
interest)
Covers full CAPEX (Fixed
Total 100% $60,000,000
Capital + Working Capital)
What Is the Optimal Capital Structure of a Project?

The optimal capital structure is the best mix between sources of financing
(debt and equity) that allows the project to achieve:
•The lowest possible cost of capital,
•The highest possible return for shareholders,
•Without increasing the risk of financial distress or bankruptcy.
In simple terms:

It is the ideal balance between debt financing and equity financing that
achieves financial stability and maximizes the project’s value.
How to Determine the Optimal Capital Structure:

1. Cost of Capital Analysis:

Calculate the Weighted Average Cost of Capital (WACC) based on different debt-to-
equity ratios.
The optimal structure is the one that achieves the lowest possible WACC.

2. Financial Risk Analysis:

Higher debt increases financial risk .
The goal is to balance the benefits of debt (like tax deductibility of interest) against its
risks.
3. Project Cash Flow Stability:
Projects with stable cash flows can safely carry higher debt.
Projects with volatile or uncertain cash flows should rely more on equity to
minimize risk.

4. Economic and Financial Market Conditions:

When interest rates are low, debt financing is more attractive.
In times of high interest rates or economic instability, equity financing is safer.
5. Project Phase:
•Construction Phase: greater reliance on equity (high risk, no revenue yet).
•Operation Phase: debt can be introduced to enhance return on equity.

6. Tax Considerations:
Interest payments on loans are tax-deductible, making debt financing more
attractive from a tax standpoint.
 Example:
A project requires a total investment of $100 million.
Several financing scenarios are compared:

Debt Ratio Equity Ratio WACC Financial Risk Notes

0% 100% High Very Low No tax benefit
40% 60% Lowest (e.g., 8%) Moderate Optimal Structure
80% 20% Higher (e.g., 9%) High High default risk

Thus, the optimal capital structure in this example is 40% debt – 60% equity, as it minimizes the cost
of capital without creating excessive financial risk.

Summary:
The optimal capital structure is the financing mix that minimizes the overall cost of capital, balances
risk and return, and maximizes the project’s long-term value.
 Financing Charges

Types of Financing Charges:

1. Financing Charges during Construction.

2. Financing Charges during Operation.
Financing Charges During the Construction Period

Refer to all financial costs incurred by the project owner or developer as

a result of using borrowed funds (financing) before the project starts
operating and generating revenue.
Such as:
Interest, fees, exchange rate difference, financial advisory and legal
fees, and financial costs arising from loans or financing obtained to
fund the construction of a project up to the date it becomes
operational.

Once the project starts operating, these charges are either capitalized
as part of the asset’s cost or expensed as operating costs.
Example:
If a company is constructing a factory over two years and finances part
of the cost through a bank loan at an 8% annual interest rate,
the interest paid during those two years is considered financing charges
during the construction period and should be added to the factory’s
construction cost, not treated as an operating expense.
2. Financing Charges During the Operation Period

Refer to all financial costs incurred by a company as a result of using

financing (such as loans, credit facilities, or other financial instruments)
after the project has started operating and generating revenue.

In other words, they represent the cost of servicing debt that continues as
long as financial obligations exist.
Such as:
The interest, fees, and financial expenses arising from the
use of loans or financing during the operational phase of a
project.
These charges are recorded as expenses in the income
statement, since they relate to the current operating period
and are not capitalized as part of asset cost.
Example:
A company has begun operating its factory and is partially
financing it through a $10 million bank loan with a 7% annual
interest rate.
The yearly interest of $700,000 is considered a financing
charge during the operation period and is recorded as a
financial expense in the income statement.
 CAPITAL INVESTMENT (CAPEX)
TOTAL CAPITAL INVESTMENT
TCI==Fixed
FCICapital
+ WC+ Working Capital
TCI = FC + WC

TCI = CAPEX
Category Amount
Fixed Capital Investment (FC) $50 million
Working Capital (WC) $10 million
Total Capital Required (TCI) $60 million
 Fixed Capital

Fixed capital of a project refers to the long-term investment in

physical assets that are used repeatedly in the production process
over a long period.

Fixed Capital = Direct Cost+ Indirect Cost

Direct Cost:
1. Purchased equipment: Columns, Heat Exchangers, pumps, tanks, etc.
2. Equipment Installation
3. Piping (includes insulation)
4. Instruments and Control
5. Electrical Equipment.
6. Buildings: Process, Administration, Maintenance shops, etc.
7. Site Preparation
8. Service Facilities: steam, water, air, fuel, etc.), Waste treatment, fire control. Offices, etc.
9. Land
 Direct Costs ($35 million)
These are costs directly related to the physical construction and installation of plant assets.

Item Description Estimated Cost (USD)

Land Purchase of land $2 million
Site Preparation Clearing, grading, fencing $1 million
Reactors, distillation columns,
Process Equipment $15 million
pumps
Foundations, erection of
Installation Costs $4 million
equipment
Buildings Production buildings, warehouses $6 million
Piping, wiring, steam, water, gas
Utilities $4 million
lines
Instrumentation & Controls Control panels, sensors $3 million

Total Direct Cost: $35 million

Indirect Costs:
1. Engineering and Supervision:

- Administrative and Design.

- Supervision and Inspection

2. Construction Expenses

3. Contractor's fee

4. Contingency.

5. Start up expenses
Indirect Costs ($15 million)
These are costs necessary for the project but not directly tied to physical construction.

Item Description Estimated Cost (USD)

Process design, blueprints, 3D

Engineering & Design $5 million
modeling

Project Management Planning, supervision, cost control $3 million

Zoning, environmental, safety

Legal & Permits $1 million
permits

Budget for unforeseen issues

Contingency $4 million
(typically 10%)

Startup & Commissioning Testing, calibration, trial runs $2 million

Total Indirect Cost: $15 million

 WORKING CAPITAL :
Capital needed for the initial operation of the Plant.
Raw material and supplies, cash for operating expenses. Typically, it is 10-20% of the Total
Capital Investment TCI.
Formula:
Working Capital = Current Assets – Current Liabilities
Where:
•Current Assets include:
•Cash
•Accounts receivable (money customers owe you)
•Inventory (raw materials, finished goods)
•Current Liabilities include:
•Accounts payable (money you owe suppliers)
•Short-term loans
•Accrued expenses (e.g., salaries, utilities)
Working Capital Total Estimate: $10 million
Working Capital Breakdown (3 Months)

No. Component Description 3-Month Cost (USD)

Chemicals, solvents,
1 Raw Materials $4,500,000
catalysts, additives
Operators, engineers,
2 Labor (Wages & Salaries) $1,500,000
technicians, admin staff

3 Utilities Electricity, gas, water, steam $900,000

Regular maintenance
4 Maintenance & Spare Parts $450,000
supplies and equipment
Office expenses,
5 Admin & Overheads $300,000
management, insurance
Packaging, logistics,
6 Marketing & Distribution $750,000
promotional costs
Unsold product stock (3
7 Finished Goods Inventory $1,200,000
months)
Cushion for customer credit
7 Accounts Receivable Buffer $400,000
terms
Total Working Capital $10,000,000
Total Capital Investment = Fixed Capital + Working Capital

TCI = FC + WC
CAPEX = (35 + 15) + 10

TCI (CAPEX) = 60 M USD

Opex (Operating Expenditures)
Definition:
Opex refers to day-to-day expenses necessary to run a business or keep a project operational.
Purpose:
To maintain daily operations and generate revenue in the short term.
Examples:
•Salaries and wages
•Rent and utilities
•Repairs and maintenance
•Raw materials and supplies
•Office expenses
•Insurance and licensing fees
OPEX Breakdown (Annual)

Category Sub-Items Annual Cost (USD)

1. Raw Materials Chemicals, additives, feedstock $18,000,000
Salaries, benefits, training for
2. Labor Costs $6,000,000
plant staff
Electricity, steam, water,
3. Utilities $3,600,000
compressed air, etc.
Spare parts, inspections, plant
4. Maintenance $1,800,000
servicing
Office expenses, insurance,
5. Administration $1,200,000
security, HR
Packaging, transportation,
6. Logistics & Distribution $2,500,000
warehousing
Promotion, advertising, sales
7. Marketing & Sales $1,000,000
force
Environmental control, safety
8. Waste Treatment & Safety $9,00,000
systems
ERP software, digital systems, IT
9. IT & Support Services $500,000
support
Total OPEX $35,500,000/year
Revenues:
are the total income a new project earns from selling its products or services before
subtracting any costs or expenses.
Revenues = Money the project brings in from its main business activity.

Basic Revenue Formula:

Revenue = Price per Unit × Quantity Sold
Example:
You sell a product for $ 50, and you sell 1000 units:htnom a ni
Revenue = 50 X 1000 = $ 50000

Revenue ≠ Profit
revenue is before deducting costs like rent, salaries, and materials.
Cost of Goods Sold (COGS)
Definition:
The direct costs of producing the goods or services sold by a business.
This includes materials and labor, but not indirect costs like rent or utilities.
Example:
If the bakery spent $1,000 on flour, yeast, and labor to make the bread,
then:
COGS = $ 1,000
Gross Profit
Definition:
Revenue minus the Cost of Goods Sold. It shows how much money is left after
paying for the direct production costs.
Formula:
Gross Profit = Revenue - COGS
Example:
$3,000 Revenue - $1,000 COGS = $ 2,000 Gross Profit
Net Profit (Net Income)
Definition:
The final profit after all expenses have been deducted from revenue, including COGS,
operating expenses, taxes, etc.
Formula:
Net Profit = Gross Profit - Operating Expenses - Taxes
Example:
From the bakery:
•Revenue = $ 3,000
•COGS = $1,000
•Operating Expenses = $1,000
•Taxes = $ 200
Net Profit = $3,000 - $ 1,000 - $ 1,000 - $ 200 = $ 800
Profit Margin
Definition:
A percentage that shows how much profit a company makes for every dollar of
revenue.
Formula:
Profit Margin = (Net Profit / Revenue) x 100
Example:
Profit margin = $ 800/ $ 3000 x 100 = 26.67 %
 Break-Even Point (BEP)
The Break-Even Point is the sales volume or revenue at which
total revenues = total costs, meaning the project neither makes a profit nor a loss.

Focus: Profitability at a specific sales level

Measures costs vs. revenues, often in units or money
Total Revenues

Total Cost
T
FINANCIAL STATEMENTS
What Are Financial Statements?
They are structured reports that summarize:
•What a business owns and owes
•How much money it makes
•Where its cash goes
•Changes in its financial position over time
3 Main Financial Statements
1. Balance Sheet
A balance sheet is a snapshot of a company’s financial position at a specific point in
time — like a photograph of what the company owns and owes.

The balance sheet is divided into three main sections:

[Link] – What the company owns
[Link] – What the company owes
[Link] – The owner’s interest in the company

Assets = Liabilities + Equity

This is called the accounting equation.
Example (in simple numbers):

Category Amount
Assets $500,000
Liabilities $300,000
Equity $200,000

The balance sheet balances:

Assets = Liabilities + Equity
$500,000 = $300,000 + $200,000
 Company Balance Sheet
Assets Liabilities
Current Assets Current Liabilities
Cash $10,000 Accounts Payable $5,000
Accounts Receivable $8,000 Short-term Loan $3,000
Inventory $7,000

Total Current Assets $25,000 Total Current Liabilities $8,000

Non-Current Assets Long-Term Liabilities

Equipment $15,000 Bank Loan $10,000
Total Liabilities $18,000
Total Assets $40,000
Equity
Owner's Capital $22,000
Net Income $0
Total Equity $22,000

Total Liabilities + Equity $40,000

 Why Is the Balance Sheet Important?
•Shows financial health and solvency
•Helps investors and lenders assess risk
•Tracks business growth over time
•Required for audits, loans, and strategic planning
 Why is it called a "Balance" Sheet?
Because it always must balance:

Everything the company owns (Assets) = Everything it owes (Liabilities + Equity)

2. Income Statement

An Income Statement, also called a Profit and Loss Statement (P&L).

It is a financial report that shows a company's revenues, expenses, and
profits or losses over a specific period (e.g., monthly, quarterly, or
annually).

Purpose:
It provides a detailed summary of how the company performed
financially during that period.
Structure of the Income Statement
1. Revenue (Sales) – The money the company earns from selling goods or services.
2. Cost of Goods Sold (COGS) – The direct costs of producing the goods or services sold (materials,
labor, etc.).
3. Gross Profit – Revenue minus COGS. This is how much money the company made from its core
activities before other expenses.
4. Operating Expenses – Costs related to running the business, such as marketing, salaries, rent,
utilities, etc.
5. Operating Income – Gross profit minus operating expenses. It shows the profit from day-to-day
operations.
6. Other Income/Expenses – Non-operating income (like investment income) or non-operating
expenses (such as interest paid).
7. Net Income (Profit or Loss) – The final bottom-line result after all revenues and expenses have
been accounted for. This is often referred to as the "bottom line."
Income Statement Formula:

Net Income = Revenue - COGS - Operating Expenses - Other Expenses + Other Income
Income Statement

Category Amount (USD)

Revenue $1,215,000
Cost of Goods Sold (COGS) $555,000
Gross Profit $660,000
Operating Expenses $405,000
Operating Profit (EBIT) $255,000
Other Expenses (interest) $30,000
Profit Before Tax $225,000
Income Tax (25%) $56,250
Net Profit $168,750
Income vs. Profit
Income (often called Revenue):
•This is the total money a business earns from its core operations—like sales of products or
services—before any expenses are deducted.
•Think of it as the top line on the income statement.
Example:
You sell$ 50, 000 worth of goods →That’s your income/revenue.

Profit:
•This is what’s left after subtracting expenses from income.
•It reflects how much the business actually made after costs.
There are several types of profit (gross, operating, net), but in general, when people
say "profit" alone, they usually mean net profit.
Net income & Net profit

Actually Net income = Net profit

“The final amount a business earns after subtracting all expenses” ,including:
•Cost of goods sold (COGS)
•Operating expenses
•Interest
•Taxes
•Depreciation and amortization
3. Cash Flow Statement

A Cash Flow Statement is one of the key financial statements that shows how cash
moves in and out of a business during a specific period (monthly, quarterly, or
annually).
It tracks the actual flow of cash, not just revenues and expenses on paper.
This statement helps you understand whether a company is generating enough cash
to fund its operations, pay debts, and invest in growth.
Main Sections of the Cash Flow Statement
There are three main categories:
1. Operating Activities
These are day-to-day business activities.
Cash Inflows (examples):
Sales of products or services
Payments received from customers
Other operating income
Cash Outflows (examples):
Payments to suppliers - Salaries and wages
Rent, utilities, raw materials - Taxes
2. Investing Activities
These involve buying or selling long-term assets.
Cash Inflows:
•Selling equipment, or property.
Cash Outflows:
•Buying land, machinery, buildings
•Investing in other companies or projects
These usually show cash being spent in a growing business.
3. Financing Activities
These involve raising or repaying capital.
Cash Inflows:
•Getting a loan
•Owner or investor contributions
•Issuing shares
Cash Outflows:
•Repaying loans
•Paying interest
•Paying dividends
Shows how you fund the business.
 Why Cash Flow Is Critical in a Project

• Avoids running out of cash, even if the project is profitable

• Helps plan for loan repayments and expenses
• Shows when you need extra funding
• Used to calculate IRR, NPV, and payback period in project feasibility
 Cash Flow Statement
Activity Cash Inflows Cash Outflows Net
Operating Activities $150,000 $20,000 + $30,000 $100,000
Investing Activities — $200,000 + $100,000 $300,000
Financing Activities $250,000 + $150,000 $20,000 $380,000

Cash Flow Summary

Activity Net Cash Flow

Operating Activities $+100,000
Investing Activities $–300,000
Financing Activities $+380,000

Total Net Cash Flow:

+100,000−300,000+380,000=+180,000
Financial Metrics
Or
Financial Indicators
Key Financial Indicators in a Feasibility Study

The main ones to judge feasibility:

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[Link] Period
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1. Net Present Value (NPV)
It is a financial measurement used to evaluate whether a project or investment is
profitable when considering the time value of money.

It represents the difference between the present value of expected future cash
inflows and the initial cost (or cash outflows) of the project.

It tells you how much value (profit) a project will add today, considering future
cash flows and the time value of money.
NPV tells you how much money you’re really making (or losing) from an
investment, after adjusting for time and risk.
NPV Formula n

NPV = ∑ CFt – C0
t=0 (1+r)t

Where:
CFt = Cash flow in period 𝑡(future money)
•Rt = Net cash inflow during period t
•r = Discount rate (cost of capital or required rate of return)
•t = Time period (usually in years)
•C0 = Initial investment
•n = number of years
How to Interpret NPV
•NPV > 0 → The project is profitable (financially feasible)
•NPV = 0 → The project breaks even (no gain or loss)
•NPV < 0 → The project will lose money (not financially feasible)

Benchmark ehT :higher the NPV er'uoy erus ekam tuB .retteb eht ,
elbanosaer a gnisudiscount rate ( typically 8-15 %depending on the
risk and industry).
Example 1
An investment costs $1,000 today and will return $600 per year for two years.
Discount rate is 10%.
Present value of returns:
•Year 1: 600 / (1+10%)¹ = 545
•Year 2: 600 / (1+10%)² = 496
Total PV of inflows = 545 + 496 = 1,041

NPV = 1,041 − 1,000 = +41

Result : The project adds $41 in today’s value.
Discount Rate

Project Type Risk Discount Rate

Government utility Low 6-8%
Retail business Medium 10-12%
New tech startup High +20%
 Example 2:
Let’s say you are evaluating a project with the following details:
•Initial investment: $100,000
•Expected annual net cash inflow: $30,000
•Project duration: 5 years
•Discount rate: 10%

Step 1: Calculate the present value of each year’s cash inflow

PV= 30,000 + 30,000+ 30,000+ 30,000+ 30,000

(1+0.1)1 (1+0.1)2 (1+0.1)3 (1+0.1)4 (1+0.1)5

This equals approximately:

PV= 27,273+24,793+22,539+20,490+18,627= $ 113,722
Step 2: Subtract the initial investment
NPV=113,722−100,000= $ 13,722

Conclusion
Since NPV is positive, the project is financially viable.
 2. Internal Rate of Return (IRR)

Internal Rate of Return (IRR) is the discount rate that makes the Net
Present Value (NPV) equal to zero for a project.
In other words, IRR is the break-even discount rate at which the present
value of cash inflows equals the initial investment.

It tells you the maximum rate of return a project can generate without losing money.
IRR answers this question:

What is the annual percentage return the project truly generates?

If IRR is higher than the return you can get elsewhere, the project becomes a
winner.
•IRR is the value of r that makes the NPV zero.

How to Interpret IRR

IRR vs. Discount Rate (or Required Return) Decision

IRR > Discount Rate Accept the project

IRR < Discount Rate Reject the project

IRR = Discount Rate Neutral / break-even

What Is a “Good” IRR?

IRR Value Meaning

Usually too low unless it's a very safe or
<8%
strategic project.
Acceptable for low-risk or long-term
8 % – 12%
investments.
Good return for many businesses and
13 % – 20 %
private projects.
Excellent, but may involve more risk or
>20%
uncertainty.
Conceptual Example (No Numbers)
Suppose you’re investing in a new product line.
•You invest money today.
•You get profits every year for the next few years.
• If your IRR is 14% and your company wants at least a 10% return on any project,
you’d go ahead with it — because 14% is greater than the required 10%.
Numerical Example
Let’s say you have the following project:
•Initial investment: $100,000
•Annual net cash inflows: $30,000
•Project duration: 5 years
You’re asked: What is the IRR?
You'd use Excel or a financial calculator to solve this equation:
0= 30,000+ 30,000+ 30,000+ 30,000+ 30,000−100,000
(1+r)1 (1+r)2 (1+r)3 (1+r)4 (1+r)5

Using Excel’s :
IRR = 15.2 %
Conclusion

•If your company’s required rate of return is 10%, and the IRR is
15.2%, you accept the project.

•IRR helps you compare different investment opportunities,

especially when used alongside NPV.
3. Return on Investment (ROI)

It is a simple financial metric used to evaluate the efficiency or profitability of an

investment. It measures how much profit or return is generated compared to the
amount of money invested.
ROI tells you: “For every dollar I invest, how much profit do I earn?”
ROI Formula:

ROI = Net Profit ×100

Total Investment
Where:
•Net Profit = Total Revenue – Total Costs
•Total Investment = Initial cost or capital invested
How to Interpret ROI

ROI Value Meaning

Positive ROI The investment is profitable
Negative ROI The investment results in a loss
Better return — more efficient
Higher ROI
use of money
Example
Let’s say:
•You invested: $50,000
•Your total net profit after 1 year: $12,500

ROI = 12,500 x 100 = 25 %

50,000

This means: for every $1 invested, you earned $0.25 in profit

 Acceptable ROI Ranges:

ROI Range Interpretation

Often considered too low—usually not
Below 5% attractive to investors unless the risk is
extremely low.
Modest, might be acceptable for safe,
5 % - 10% low-risk projects (e.g., infrastructure,
real estate).
Generally good and acceptable in most
10 % - 20% industries—shows reasonable
profitability.
Very attractive—often expected in high-
20 % - 30 % risk or high-growth sectors (like tech or
startups).
4. Payback Period:
Is the amount of time it takes for a project to recover its initial investment from its net cash
inflows.
In simple terms:

How long until you break even?

Example (with equal annual inflows):

. •Initial Investment = $ 100000

•Annual Cash Inflow = $25000
•Payback Period = 100000 ÷ 25000 = 4 years
That means it takes 4 years to recover the initial investment
Example (with uneven inflows):
If the initial investment was $ 100000
the payback period si between Year 3 and 4 Year .
To be exact:
•You still need $ 10000 after Year 3
•In Year 4 , you make $ 15000 → recover in 10000 ÷ 15000 = 0.67 year
So, Payback Period = 3.67 years

Year Cash Inflow Cumulative Cash Flow

1 $ 30000 $ 30000
2 $ 25000 $ 55000
3 $ 35000 $ 90000
4 $ 15000 $ 105000
Ideal Payback Period for a 30-Year Project
While there is no universal "best" number, in general:

Payback Period Interpretation

< 5 years Excellent – very quick recovery, low risk.
Good – typical for large infrastructure or
5–10 years
capital-intensive projects.
Acceptable if project has low risk, stable
10–15 years
returns, and strategic value.
Risky – the project may be vulnerable to
> 15 years
economic or political changes over time.
 In Calculating Pay-Back Period:

Why Use Cash Inflows Instead of Profit?

 1. Cash is King
Payback period is all about liquidity — how quickly you get your
money back.
•Cash inflows represent actual money coming in.
•Profit includes non-cash items (like depreciation), so it doesn’t
reflect the real timing of money received.

Example:
If a project earns $10,000 in accounting profit but includes $3,000
in depreciation, only $7,000 might actually be cash. Payback
focuses on that cash.
2. Timing Matters
Cash inflows are tracked based on when money is received, not just when
income is "earned" (as in accrual accounting).
•Investors care about when they actually recover their investment, not just
when the business says it's profitable.

3. Operating Costs Are Already Reflected in Net Cash Inflows

When calculating net annual cash inflows, we usually deduct operating costs
already.
So, the "cash inflow" used for payback is after operating expenses, but before
non-cash and financing costs.
4. Simplicity
The payback period is meant to be a quick and simple tool.
•It helps investors see how fast they can get their investment back,
in pure cash terms.
•It avoids complications from accounting assumptions.
 Summary:
We use cash inflows (not profits) for the payback period because:

Reason Explanation
Real money received is what matters for
Cash reflects liquidity
recovery
Like depreciation, which doesn’t affect
Profit includes non-cash items
liquidity
Operating costs are included in net They're not ignored, just part of the cash
inflows flow calculation
It’s quick, intuitive, and doesn’t rely on
Simpler decision-making tool
accounting nuances
 Relationship Between Payback Period and Break-Even Point

Comparison Payback Period Break-Even Point

Measures Time (usually years) Volume or Revenue (units or $)
Covering total costs (fixed +
Focus Recovering investment
variable)
Operational and pricing
Use Investment decision-making
decisions
Revenues and both fixed +
Includes Only cash flows
variable costs
Profit after point? Yes Yes
When reached, indicates… You got your money back You're no longer losing money