Economic Analysis for

Highway

Highway Engineering 2

Introduction
Practice of engineering involve many choices among
alternative designs, procedures, plans, and methods.
Question will the benefit of the project worth the cost?
(Will it pay?)
Basic questions and issues what approach to be
taken, what data are needed, what analytical
techniques to be used.

Basic issues in analysis

A project to improve safety at
railroad grade crossing because of
accident or time delays at the
crossing site.
HOW to solve this problem?
WHAT is another alternatives?
WHICH of the solution/alternatives
worth the cost?

Alternative 1
Install gates and flashing light

Alternative 2
Construct a grade separated overpass

Objectives

General objective : to furnish the appropriate information about the outcome of each
alternative so that the selection can be made.
Some of the specific objectives in carrying out economic evaluation are:
I.

To decide whether the scheme under consideration is worth investment at all

II. To rank the scheme competing for scarce resources in order of priority
III. To compare and select the most economic and
IV. To assist in phasing the program

Basic Principles

Economic analysis involves choice between alternatives.- do nothing or improvements

>> to select the most attractive solution.
In economic analysis, all past actions are irrelevant and the prime importance is the
future flow of costs and benefit.
View point of the nation as a whole not to any subset i.e highway agencies, truck or
busses operators.
Economic analysis should not be misunderstood with financial analysis.
Economic analysis should take place within a set of established criteria, such as
minimum attractive rate of return, interest rate, etc.

Selecting and measuring evaluation

criteria
Criteria selection is a basic element of the
evaluation process because the measure used
becomes the basis on which project is
compared.
Criteria must be closely related to the stated
objective.
Criteria not only relevant to the problem but
should have other attributes.
Criteria should be easy to measure and
sensitive changes made in each
alternatives.

Evaluation based on economic

criteria

To consider economic worth of improvement : calculate improvement cost & compare

with the cost maintain the facility in its present condition (the do nothing alternative)
Two approaches:
1. Compare diff in cost and diff in benefit - select project if net increase in benefit >
net increase in cost

2. Consider total cost each alternatives, including user and facility, -> select
project with
lowest total cost
Need to identify elements of cost:
1. facility costs construction, maintenance, operation
2. user costs travel time, accidents, vehicle operating cost (voc)

Facility Costs

Two components:
first cost (design, row (right of way), construction)
- continuing cost (annual maintenance, operation and administration)

Cost common to both project can be excluded - since the

concern is in cost differences.
For most capital projects, a service life must be determined and
Estimate salvage value at end of service life (salvage value is
the worth of an asset at the end of its service life)

Road User Costs

Includes voc, travel time, and accidents
Sometimes referred as benefits due to the saving or reduction in user cost
Road user cost factors
1. VOC (vehicle operating cost) significant items since improvement that result in major
cost reduction for example a road improvement that eliminates grades, curves and
traffic signals (shortening the route). (fuel, lubricant, tires, parts, maintenance,
depreciation, toll, road tax, insurance, interest)
2. Travel time increase speed & reduce travel time, how to convert?? Eg. Private &
commercial vehicle (time value, passenger, good, vehicle)
3. Accident costs need to estimate number and type of accidents -> fatality, injuries,
property damage, injury-related accident valued from insurance data, human life??
4. Society environment, land value, discomfort & inconvenience

Road User Costs

Benefit from Highway Scheme

Represent the difference in cost with new facility compare to the
old facility.
Can be grouped into, benefit to:
1. Existing traffic, by reducing road user cost
2. Generated traffic
3. Diverted traffic from other routes and modes
4. Traffic operating on other routes and modes via reduction of
traffic by new facility

Time Value of Money

Fundamental premise on which all economic evaluation methods rest is that

money earns over a period of time
RM100 today will be worth RM672.75 at the end of 20 years if invested at
10% compound interest rate
Also, RM672.75 which might become due after 20 years from today is worth
RM100 at present, assuming same interest rate
Therefore, need to devaluing future benefits and cost to present time to
determine present worth
Process of calculating PW of future known as discounting and interest rate
used called discount rate

Formulae

To find F, given P (F/ P-i-n) :

F
To find A, given P (A/ P-i-n) :

A=P[ ]
To Find F, given A (F/ A-i-n) :

F=A[ ]

i = an interest rate per interest

period (also sometimes
represented by r)
n = number of interest period
P = present sum of money
F = a sum of money at the end of n
periods from the present date that
is equivalent to P with interest i
A = the end of period payment or
receipt in a uniform series (annual)
continuing for the coming n
periods, the entire equivalent to P

Cash Flow Diagram

o In solving economic problem, useful

to visualize the cost and revenue
(benefit) that will occur over the life
time of the project using cash flow
diagram.
o In this diagram, time is plotted along
the horizontal axis , while money
along the vertical axis.
o The relationship between actual,
Present [P], future [F], and annual [A]
is illustrate in the cash flow diagram.

Economic Analysis Methods

Present Worth (PW)/ Present Value

Equivalent Uniform Annual Cost (EUAC)/ Annual Worth
Benefit Cost Ratio (BCR)
Internal Rate of Return (ROR)
All will produce same results but just a matter of
convenience.

Present Worth
PW the most straight forward since represent current value of all the costs that will be
incurred over the lifetime of the project.

PW =
= Facility and user costs incurred in year n
n = service life

i = discount rate

Example:
As a routine maintenance work, RM.20 000/- each is to be spent on a particular stretch of a
highway during the 3rd year, 5th year and the 7th year.
Calculate the total present worth of these expenditures, if the annual discount rate is 12%.

Present Worth

Example:
As a routine maintenance work, RM.20 000 each is to be spent on a particular stretch of a
highway during the 3rd year, 5th year and the 7th year.
Calculate the total present worth of these expenditures, if the annual discount rate is
12%.
The present worth of the maintenance investment
is
1

1
1
RM 20,000

3
5
7
1.12
1.12
1.12

Net Present Worth (NPW)

NPW present worth of both cost and benefit (net: difference in cost and benefit of a
project)
Discount rate (i) used to convert money to particular time -> depends on risk and
economic conditions
Use cash flow diagram to depict costs and revenues (benefit)
Benefits are treated as + ve and costs are treated - ve
Select project with a positive NPW or highest NPW

NPW = [ ]

where,
Bn is the benefit of the nth year,
Cn is the cost of the nth year,
n is the number of years.

Or

Net Present Worth (NPW)

Example 1 NPW
The cost of improving an existing road, 25 km stretch is RM 4 million per km. The costs
of road users, accident and maintenance for with and without improvement are
tabulated below for a 10 year period after the completion of the improvements.
Assuming a discount rate of 10% find out whether the project is economically viable.
Use NPW method.
Year
Road User Costs
Accident Costs
Maintenance
Benefit
NPW
(n)
Costs
With

Without

With

Without

With

Without

-100

105.5

126.5

1.1

3.1

3.5

2.5

110.3

132.2

1.1

3.1

3.5

2.5

115.8

138.9

1.2

3.5

3.5

2.5

121.6

145.8

1.2

3.7

3.5

2.5

-100

Example 1 NPW
Year
(n)

Road User Costs

Accident Costs

Maintenance
Costs

With

Without

With

Without

With

Without

134.0

161.0

1.3

4.0

3.5

2.5

140.7

168.9

1.4

4.0

3.5

2.5

147.8

177.0

1.5

4.4

3.5

2.5

155.1

186.2

1.6

4.7

3.5

2.5

Benefit

NPW

10
162.9
195.2
1.6
4.9
3.5
2.5
Continued
Total
Cost of improvements = RM 4 million x 25 km = 100 million
NPW = RM --- million, since the NPW is positive, the project is economically viable

Net Present Worth (NPW)

NPW = -Co - [ - ] (P/A - i n)

Co : capital cost / first cost

Cn : continuing costs (maintenance, operating, etc)

Bn : benefits ( saving, salvage, revenues etc)
(P/A - i n): P = A [ ]

Example 2 NPW

The department of Traffic is considering three improvement plans for a heavily

traveled intersection within the city. The intersection improvement is expected to
achieve three goals : to improve travel speeds, to increase safety and to reduce
operating expenses for motorists. The annual dollar value of savings compared with
existing conditions for each criterion as well as additional construction and
maintenance costs is shown in table. If the economic life of the road is considered to
be 50 years and the discount rate is 3 percent, which alternative should be selected?
Solve the problem using the NPW methods for economic analysis.

Example 2 NPW
Alternative

Constructio
n Cost

Annual
Saving in
accident

Annual
Travel Time
Benefits

Annual
Operating
Savings

Annual
Additional
Maintenanc
e Cost

$ 185 000

$ 5 000

$ 3 000

$ 500

$ 1 500

ll

$ 220 000

$ 5 000

$ 6 500

$ 500

$ 2 500

lll

$ 310 000

$ 7000

$ 6 000

$ 2 800

$ 3 000

Benefit Cost Ratio

The ratio of the present worth (PW) of Net project benefits (all of the savings, revenue
& etc) and Capital costs is called the benefit cost ratio (BCR).
BCR used to show extend to which investment will result in benefit to society
Negative flows are considered costs and positives flows as benefits.
The saving in the transport cost are considered as benefits.
If the B/C ratio is more than one, the project is worth undertaking.
Need to do comparison to determine added benefit with added investment
BCR 2/1 = (B2 B1) / (C2 C1)
B/C = benefit in the reference year / Capital costs

Cost and Benefits

The economic analysis of highway schemes is generally done by computing the total
transport cost which consists of the following components:
I.

Cost of construction of the facility

II. Cost of maintenance of the facility

III. Road user cost
IV. Cost to the society
. The agencies providing the facility incurs expenditure in construction which includes
land acquisition, earthwork, road pavement and structures. These agencies also invest
money in maintenance.

Example 1 BCR

A single lane road 40 km long, is to be widened. Cost of widening is RM 2 million per

km inclusive of all improvements. The cost of vehicle operation on the single lane road
is RM2 per veh per km, whereas RM1.50 per veh per km on the improved road. The
average traffic is 2500 veh/day over the design period of 20 years. The interest rate is
10% per annum. The cost of maintenance is RM 5 500 per km on the existing road and
RM 10 000 per km on the improved road. Check whether the investment is worthwhile.
Solution:
Annual road user cost on existing road
Annual road user cost on improved road
Difference in annual maintenance costs

Example 1 BCR

Total cost of improvements (present)

Find the annual given present for n = 20, i= 10%
A=P[ ]

B/C = benefit in the reference year / annual cost
= [(Difference road user cost on existing & improved road) - Different in annual maintenance
costs ]/
Annual total cost of improvement

Existing road

Improved road

Benefits

Annual :
Road user cost

RM 2.00 x 2500 x
365 x 40 = 73
millions

RM 1.50 x 2500 x
365 x 40 = 54.75
millions

RM 73 -54.75 =
RM 18.25 millions

Annual :
Maintenance costs

RM5500 x 40 km = RM10 000 x 40 km

Rm 220 000
= Rm400 000

RM 220 000
RM400 000 =
-180 000
18.25 0.18 =
18.07

Capital cost of
improvements

RM 2 000 000 x 40 km = RM 80 millions

Annual :
Cost of improvement

RM 80 x (A/P 10 20)
RM 80 x 0.11746 = RM 9.40 M

BCR = 18. 07/9.40

= 1.92 > 1.0

Example 2 BCR
The department of Traffic is considering three improvement plans for a heavily
traveled intersection within the city. The intersection improvement is expected to
achieve three goals : to improve travel speeds, to increase safety and to reduce
operating expenses for motorists. The annual dollar value of savings compared with
existing conditions for each criterion as well as additional construction and
maintenance costs is shown in table. If the economic life of the road is considered to
be 50 years and the discount rate is 3 percent, which alternative should be selected?
Solve the problem using the BCR methods for economic analysis.
Alternative Constructio
Annual
Annual
Annual
Annual
n Cost
Saving in
Travel Time
Operating
Additional
accident
Benefits
Savings
Maintenanc
e Cost
I

$ 185 000

$ 5 000

$ 3 000

$ 500

$ 1 500

ll

$ 220 000

$ 5 000

$ 6 500

$ 500

$ 2 500

lll

$ 310 000

$ 7000

$ 6 000

$ 2 800

$ 3 000

 BCR l/DN = [(-1500 + 5000 + 3000 + 500) / (185 000 x (A/P -3-50)]
BCR ll/DN = ?
BCR lll/ll or BCR lll/DN =