52 Highway Engineering
time. The decision-maker must now choose the actual mechanism for com-
paring and analysing the costs and benefits in order to arrive at a final
answer for the net benefit of each of the project options under consideration.
Any of the three techniques listed earlier in the chapter can be used for this
purpose:
Net present value (NPV)
Internal rate of return (IRR)
Benefit/cost ratio (B/C).The NPV will estimate the economic worth of the project in terms of the present
worth of the total net benefits. The IRR will give, for each option under con-
sideration, the rate at which the net present value for it equals zero, with the B/C
ratio based on the ratio of the present value of the benefits to the present value
of the costs. For the last two methods, if the options under consideration are
mutually exclusive, an incremental analysis must be carried out to establish the
best performing one in economic terms.
All three methods depend on discounting to arrive at a final answer. All,
if used correctly, should give answers entirely consistent with each other, but
the specific technique to be used varies with the circumstances. Thus, while
the chosen technique is, to a certain extent, down to the preference of the
decision-maker, it is nonetheless dependent on the type of decision to be
taken within the analysis. If the decision is whether or not to proceed with a
given project, the result from the chosen technique is compared with some pre-
determined threshold value in order to decide whether the project is economi-
cally justified. Once a discount rate/minimum acceptable rate of return is set,
any of the above methods will give the same result. Assuming a discount rate
of 10%, the project will be economically acceptable if the NPV of the net ben-
efits at 10% exceeds zero, if the IRR is above 10% or if the B/C ratio at 10%
exceeds unity.
In the case of an independent project where choosing one does not exclude
the possibility of proceeding with one or all of the others, all techniques yield
the same result, the critical question being the choice of discount rate. In choos-
ing between mutually exclusive projects where choice of one immediately
excludes all others, the most straightforward method involves choosing the
option with the maximum NPV of net benefits.
There may however be situations where it is required to rank order a number
of highway projects, on the basis that there is a set quantity of resources
available for developing a certain category of project, and the decision-maker
wishes to have a sequence in which these projects should be approved and
constructed until the allotted resources are exhausted. In these cases, ranking
based on NPV may be of limited assistance, since high cost projects with slightly
greater NPV scores may be given priority over lower cost ones yielding greater
benefits per unit cost. A correct course of action would be to rank the different
project options based on their benefit/cost ratio, with the one with the highest