Financial vs. Economic Appraisal: Lessons from Real Case Studies

 Financial vs. Economic Appraisal: Lessons from Real Case Studies

Dr. Engr. Md. Abdur Rashid

Director (Research & Publication)

NAPD, Dhaka, Bangladesh

When we talk about project appraisal, we’re really asking one big question: Should this project go ahead?

It’s the final checkpoint before financing, where feasibility, costs, and broader impacts are weighed. But here’s the catch — a project that looks profitable on paper may not always deliver real value to society. That’s where the distinction between financial appraisal and economic appraisal becomes crucial.

Economic Appraisal: The Society’s Lens

Economic appraisal goes beyond financial returns, focusing on societal impact:

• Social cost-benefit analysis
• Shadow pricing to adjust for market distortions
• Effects on income distribution, savings, and investments
• Contribution to national goals: self-sufficiency, employment, and social order

Financial Appraisal: The Investor’s Lens

Financial appraisal asks: Is the project financially viable?

• Can it service debt?
• Does it meet return expectations?

Key tools include NPV (Net Present Value), IRR (Internal Rate of Return), and BCR (Benefit-Cost Ratio).

 Case Studies

1. Health Center Project (Economic Analysis)

• Capital cost: $1,000,000
• Operating cost: $50,000/year
• Benefits: $350,000/year (patients treated + productivity gains)
• Results:
• NPV = $78,548 (positive)
• IRR = 13.5% (>12% discount rate)
• BCR = 1.08 (>1)
• Decision: Accept – project adds net economic value.
  (“NPV > 0 -> Project adds net economic value.”)

2. Road Project (Shadow Prices)

• Financial appraisal (market wage $10/hr):
• NPV = $895,400 → Highly profitable
• Economic appraisal (shadow wage $6/hr):
• NPV = $137,240 → Marginally beneficial to society
• Lesson: Shadow pricing reveals the true social impact, often lower than financial returns.
  (“Economic appraisal shows the project is still viable, but the net benefit to society is much lower.”)

3. Savings Certificate Investment (NPV, IRR, BCR)

• Case 1 (9% return vs. 10% opportunity cost):
• NPV = -25,207 (negative)
• IRR ≈ 9% (<10%)
• BCR = 0.975 (<1)
• Decision: Reject – better to invest in bank at 10%.
• Case 2 (11% return vs. 10% opportunity cost):
• NPV ≈ +25,000 (positive)
• IRR ≈ 11% (>10%)
• BCR = 1.025 (>1)
• Decision: Accept – financially viable.

Key Lesson Learned-

• Financial appraisal focuses on profitability for investors.
• Economic appraisal evaluates broader social welfare, often using shadow prices.
• NPV, IRR, and BCR are essential tools for decision-making.
• A project may look profitable financially but only marginally beneficial economically.
• Investment decisions must consider opportunity cost and discount rates.