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Ancillary Income

UNIT 17 COST BENEFIT ANALYSIS


Structure
17.0 Objectives
17.1 Introduction
17.2 Concept of Cost Benefit Analysis
17.3 Cost Benefit Analysis in Agriculture
17.4 Steps for Conducting Cost Benefit Analysis
17.5 Methods of Conducting Cost Benefit Analysis
17.6 Application of Cost Benefit Analysis in Agriculture
17.7 Examples for Application of Cost Benefit Analysis in Agriculture: An
Indian Context
17.8 Illustrations
17.9 Let Us Sum Up
17.10 Keywords
17.11 Suggested Further Readings/References
17.12 Answers to Check Your Progress

17.0 OBJECTIVES
After studying this unit, you will be able to:
 explain the concept of cost-benefit analysis in agriculture;
 evaluate the step-by-step process involved in conducting a cost-benefit
analysis;
 examine the outcomes and benefits of cost-benefit analysis;
 weighing the potential returns and economic viability of agricultural
projects; and
 solve numerical problems related to the application of cost-benefit analysis
in agriculture.

17.1 INTRODUCTION
In the previous unit, you have learnt about ancillary income in agriculture which
refers to additional revenue streams that farmers can generate alongside their
primary agricultural activities, such as agri-tourism, value-added products or
land leasing. When linked with cost-benefit analysis in agriculture, it becomes
evident that ancillary income can significantly impact the assessment of
agricultural projects or practices.

299
Agri Planning By considering ancillary income alongside the costs and benefits of various
agricultural endeavours, farmers can gain a more comprehensive and accurate
understanding of the economic viability of their initiatives. A cost-benefit
analysis should encompass both the primary agricultural activities and any
ancillary income opportunities, providing a more holistic view of the potential
returns and benefits associated with these combined efforts. In this unit, you
will learn the concept of cost-benefit analysis, the steps involved in conducting
cost-benefit analysis and computing costs and benefits related to agriculture.

17.2 CONCEPT OF COST BENEFIT ANALYSIS


Cost-benefit analysis (CBA) is a quantitative analytical tool that helps decision-
makers determine the value of a project, program, or policy. Its purpose is
to assist in making informed judgments and appraising available options by
identifying and quantifying the costs and benefits associated with a particular
activity or initiative. By converting complex data into manageable information,
cost-benefit analysis facilitates the efficient allocation of resources and supports
evidence-based decision-making.
According to Harvard Business School, a cost-benefit analysis is the process
of comparing the projected or estimated costs and benefits (or opportunities)
associated with a project decision to determine whether it makes sense from a
business perspective.
Cost-benefit analysis involves the identification of all the costs and benefits
associated with a particular decision or action, assigning a monetary value to
them and then comparing the total costs with the total benefits to determine
whether the decision or action is economically viable. The goal of cost-benefit
analysis is to provide decision-makers with a clear and objective assessment
of the potential costs and benefits of different options, allowing them to make
informed and efficient choices.

17.3 COST BENEFIT ANALYSIS IN


AGRICULTURE
In farming and agriculture, CBA can be used to evaluate various practices such
as crop production, animal husbandry and land management. It considers the
direct and indirect costs and benefits associated with a particular agricultural
practice, such as inputs (e.g., seeds, fertilizers, labour), equipment, and the
value of the output (e.g., crops, livestock, timber).
CBA also takes into account externalities or social costs and benefits that may
be associated with an agricultural project, such as impacts on the environment,
public health, and rural communities. By weighing the costs and benefits of
an agricultural practice, CBA helps farmers and policymakers make informed
decisions and optimize resource allocation to achieve sustainable and profitable
agricultural development.
Cost-benefit analysis helps farmers answer the questions such as:
i. Is it financially feasible to invest in a new agricultural project or practice?

300 ii. What are the expected costs and benefits associated with a particular
agricultural practice?
iii. How can resources be optimally allocated to maximize profits while Cost Benefit Analysis
minimizing costs?
iv. What is the economic viability of different options for managing land,
crops, or livestock?
v. What are the externalities or social costs and benefits associated with an
agricultural project, such as impacts on the environment, public health, and
rural communities?
vi. Which agricultural practices or projects provide the greatest return on
investment?
vii. How can risks and uncertainties associated with agricultural activities be
minimized?
By providing answers to these questions, cost-benefit analysis helps farmers
make informed decisions and optimize the use of their resources to achieve
sustainable and profitable agricultural development.
Cost-benefit analysis is of paramount importance in agriculture as it offers a
systematic framework for informed decision-making and resource optimization.
Evaluating the expected costs and benefits of various agricultural projects and
practices, empowers farmers and policymakers to choose investments that
maximize economic returns, thus enhancing overall farm profitability.

17.4 STEPS FOR CONDUCTING COST BENEFIT


ANALYSIS
There is no single universally accepted method of performing a cost-benefit
analysis. However, every process usually has some variation of the following
seven steps which are explained below:

 
  
   
  
   
  
 

Fig. 17.1: Steps for Conducting Cost-Benefit Analysis in Agri-Cost Management

Source: Buckley, J., & Peterson, H. C. (2015). Preliminary Cost-Benefit Analysis for Urban
Agriculture: An Introduction. Community and Regional Food Systems Project: Michigan,
USA.

a) Identify the Problem or Decision: The first step is to clearly define the
problem or decision that you want to analyze. This could be anything from
deciding whether to invest in a new piece of farming equipment to choosing
between different farming methods. 301
Agri Planning b) Identify Alternatives: Next, identify the different alternatives available
to you. This could involve comparing different equipment options or
evaluating different crop production techniques.
c) Identify Costs and Benefits: Once you have identified the alternatives, it
is important to identify all of the associated costs and benefits. This could
involve analyzing the costs of purchasing or leasing equipment, the cost
of labour, the cost of inputs such as seed and fertilizer, and the potential
benefits of increased yields or improved efficiency.
d) Assign Values to Costs and Benefits: Assign a monetary value to each of
the identified costs and benefits. This can be challenging, as some benefits
and costs may be difficult to quantify. However, it is important to do so in
order to accurately compare the different alternatives.
e) Calculate the Net Present Value (NPV): The NPV is the difference
between the present value of the benefits and the present value of the costs.
This helps to determine whether a particular alternative is profitable or
not.
f) Evaluate Sensitivity and Risk: It is important to evaluate the sensitivity
and risk associated with each alternative. This could involve evaluating
how changes in input costs or market prices might impact the profitability
of the project.
g) Make a Decision: Finally, based on the results of the cost-benefit analysis,
make a decision about which alternative is the most viable and likely to
provide the best return on investment.
By following these steps, farmers and agricultural organizations can make
more informed decisions about how to allocate resources and invest in different
projects or activities.
Check Your Progress 17.1
Note: a) Use the spaces given below for your answers.
b) Check your answer with those given at the end of the unit.
1. What do you understand by cost-benefit analysis in agriculture?
................………………………………………...…………………………
................………………………………………...…………………………
................………………………………………...…………………………
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2. Mention the steps for conducting a cost-benefit analysis.
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302 ................………………………………………...…………………………
Cost Benefit Analysis
17.5 METHODS OF CONDUCTING COST
BENEFIT ANALYSIS
The cost-benefit analysis involves comparing the costs to the benefits of a
project and then deciding whether to go ahead with the project. The costs and
benefits of the project are quantified in monetary terms after adjusting for the
time value of money, which gives a real picture of the costs and benefits.
There are two popular models of carrying out cost-benefit analysis calculations
i.e. Net Present Value (NPV) and Benefit-Cost Ratio. These are discussed
below:
a. The formula for Net Present Value (NPV) = ∑ Present Value of Future
Benefits – ∑ Present Value of Future Costs
For calculating Net Present Value, the following steps are used:
Step 1: Find out the future benefits.
Step 2: Find out the present and future costs.
Step 3: Calculate the present value of future costs and benefits. The present
value factor is

1
(1+r)n

Here r is the rate of discounting, and n is the number of years.


The formula for calculating the present value is:
Present Value of Future Benefits = Future Benefits * Present Value Factor.
Present Value of Future Costs = Future Costs * Present Value Factor
Step 4: Calculate the Net Present Value using the formula:
NPV = ∑ Present Value of Future Benefits – ∑ Present Value of Future Costs
Step 5: If the Net Present Value (NPV) is positive, the project should be
undertaken. If the NPV is negative, the project should not be undertaken.
b. The formula for benefit-cost ratio = ∑ Present Value of Future Benefits
/ ∑ Present Value of Future Costs.
For calculating the cost-benefit ratio, the given steps are followed:
Step 1: Calculate the future benefits.
Step 2: Calculate the present and future costs.
Step 3: Calculate the present value of future costs and benefits.
Step 4: Calculate the benefit-cost ratio using the formula
Benefit-Cost Ratio = ∑ Present Value of Future Benefits / ∑ Present Value of
Future Costs.
303
Agri Planning Step 5: If the benefit-cost ratio is greater than 1, go ahead with the project. If the
benefit-cost ratio is less than 1, you should not go ahead with the project.
Illustration of Cost-Benefit Analysis
Illustration 1:
The present value of the future benefits of a project is ₹ 6,00,000. The present
value of the costs is ₹ 4,00,000. Calculate the Net Present Value (NPV) of the
project and determine whether the project should be executed.
Solution:
NPV = ∑ Present Value of Future Benefits – ∑ Present Value of Future Costs
= ₹ 6,00,000 - ₹4,00,000 = ₹ 2,00,000
Since the NPV is positive, the project should be executed.
Illustration 2:
The CFO of Jaypin Inc. is in dilemma. He has to decide whether to go for
Project A or Project B. He decided to choose the project based on the benefit-
cost ratio model. The data for both projects is as under. Choose the project
based on the benefit-cost ratio.

Particulars Project A Project B


Present value of future benefits 78000 56000
Present value of future costs 60000 28000
Solution:
Calculation of the Benefit-Cost Ratio can be done as follows:
For Project A,
Benefit-Cost Ratio = ∑ Present Value of Future Benefits / ∑ Present Value of
Future Costs
= 78000/60000 = 1.3
For Project B,
Benefit-Cost Ratio = ∑ Present Value of Future Benefits / ∑ Present Value of
Future Costs
= 56000/28000 = 2
Since the benefit-cost ratio for Project B is higher, Project B should be chosen.
Check: Decision based on Net Present Value method:
Project A = 78000 – 60000 = 18000
Project B = 56000 – 28000 = 28000
Based on the NPV method also decision will also be for Project B having a
higher NPV.
304
Cost Benefit Analysis
17.6 APPLICATION OF COST BENEFIT
ANALYSIS IN AGRICULTURE
Cost-benefit analysis (CBA) is a useful tool for decision-making in agriculture,
where investments are often required to achieve different outcomes. Here are
some examples of how CBA can be applied in agriculture:
i) Investment in New Technology: Farmers may want to invest in new
technology, such as irrigation systems or precision agriculture tools, to
increase their yield and profitability. CBA can help them determine if the
potential benefits of the investment outweigh the costs.
ii) Crop Selection: Farmers may need to decide which crops to plant based
on their profitability. CBA can help farmers weigh the benefits of higher-
priced crops against the costs of production, including labour, seed, and
fertilizer.
iii) Pest Management: Farmers may need to decide whether to use pesticides
to control pests in their crops. CBA can help them evaluate the costs of
using pesticides against the benefits of higher crop yields and reduced crop
losses.
iv) Fertilizer Use: Fertilizer is a significant input cost in farming operations,
and excessive use can result in environmental damage and reduced
profitability. Cost-benefit analysis can help farmers evaluate the costs of
different fertilizer application rates against their expected benefits, such as
improved yields or reduced nutrient runoff.
v) Investment in Renewable Energy: Renewable energy, such as solar
or wind power, can help farmers reduce their energy costs and improve
their environmental sustainability. Cost-benefit analysis can help farmers
evaluate the costs of investing in renewable energy against their expected
benefits, such as reduced energy costs, improved energy security, and
reduced greenhouse gas emissions.
vi) Conservation Practices: Farmers may want to implement conservation
practices, such as crop rotation or cover crops, to improve soil health and
reduce erosion. CBA can help them evaluate the costs of implementing
these practices against the benefits of improved soil health and reduced
erosion. By comparing the costs of implementing these practices with the
expected benefits, farmers can make informed decisions about whether to
adopt them.
vii) Policy Evaluation: Policymakers can use CBA to evaluate the costs and
benefits of agricultural policies, such as subsidies, regulations, or research
and development programs. By quantifying the costs and benefits of
different policy options, policymakers can make more informed decisions
about which policies to implement and how to allocate resources.
viii) Land Use Decisions: Farmers may need to decide how to use their land,
such as whether to use it for crops, livestock, or other purposes. CBA can
help farmers evaluate the costs and benefits of different land use options
and choose the most profitable use for their land. 305
Agri Planning ix) Resource Allocation Decisions: Farmers may need to decide how to
allocate their resources, such as labour, fertilizer, and water, to different
crops and activities. CBA can help farmers compare the costs and benefits
of different resource allocation decisions and choose the most efficient use
of their resources.
x) Risk Management Decisions: Farmers may need to decide how to manage
risks, such as weather, pest infestations, or market fluctuations. CBA can
help farmers evaluate the costs and benefits of different risk management
strategies and choose the most effective and efficient strategies.
xi) Investment in Crop Insurance: Crop insurance can help protect farmers
against losses due to crop failure, extreme weather events, or pest outbreaks.
Cost-benefit analysis can help farmers evaluate the costs and benefits of
different crop insurance options and determine the optimal level of coverage
for their farm.
xii) Enables Comparison of Alternatives: Cost-benefit analysis enables
farmers to compare the costs and benefits of different agricultural practices,
enabling them to select the most suitable option. This can help them optimize
their resource allocation and reduce their risk exposure.
xiii) Helps in Identifying Externalities: Cost-benefit analysis takes into
account the externalities or social costs and benefits associated with an
agricultural practice. It helps in identifying the positive and negative impacts
of the practice on society, and the environment, and helps in minimizing
negative externalities.
xiv) Helps in Identifying Cost-Effective Practices: Cost-benefit analysis helps
in identifying agricultural practices that provide the highest benefits at the
lowest cost. This enables farmers to optimize their resources and reduce
unnecessary expenditures, thereby increasing their profits.
xv) Facilitates Communication and Transparency: Cost-benefit analysis
provides a clear and transparent way of communicating the expected costs
and benefits of agricultural projects or practices. It facilitates communication
between stakeholders and helps in building consensus around the best
course of action.
xvi) Provides a Clear Picture of Profitability: Cost-benefit analysis helps in
identifying the expected returns from an agricultural project or practice. It
helps in determining the financial feasibility of the project and provides a
clear picture of its profitability.
Thus, CBA helps farmers to evaluate the economic feasibility of different
options and make more informed decisions. By considering both the costs and
benefits of different options, farmers, policymakers, and other stakeholders can
make more efficient use of resources and achieve their goals more effectively.
In all of these examples, CBA provides a framework for decision-making
by quantifying the costs and benefits of different options. By using CBA,
farmers can make informed decisions that help them achieve their goals while
maximizing their return on investment.
306
Cost Benefit Analysis
Activity 17.1:
Visit a nearby farm and interact with the owner to know whether they are
aware of the concept of ‘Cost Benefit Analysis’ or not. If they are aware of
then list out the ways how they are applying ‘Cost Benefit Analysis’ in their
farming activity.
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Check Your Progress 17.2


Note: a) Use the spaces given below for your answers.
b) Check your answer with those given at the end of the unit.
1. What do you understand by the Net Present Value method of cost-benefit
analysis?
................………………………………………...…………………………
................………………………………………...…………………………
................………………………………………...…………………………
................………………………………………...…………………………
2. Give two examples of the application of Cost Benefit Analysis in
agriculture.
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17.7 EXAMPLES FOR APPLICATION OF COST


BENEFIT ANALYSIS IN AGRICULTURE: AN
INDIAN CONTEXT
Here are some case studies of cost-benefit analysis in farming in India:
i) Investment in Drip Irrigation: A study conducted in Maharashtra found
307
that farmers who adopted drip irrigation saw an average increase in yield of
Agri Planning 36%, leading to an increase in net income of ₹ 52,500 per hectare per year.
The cost-benefit analysis conducted as part of the study found that the net
benefits of drip irrigation were positive, with a benefit-cost ratio of 2.5.
ii) Investment in Improved Seeds: A study conducted in Madhya Pradesh
found that farmers who adopted improved seeds saw an average increase
in yield of 20%, leading to an increase in net income of ₹ 6,000 per hectare
per year. The cost-benefit analysis conducted as part of the study found that
the net benefits of improved seeds were positive, with a benefit-cost ratio
of 2.6.
iii) Investment in Integrated Pest Management: A study conducted in Andhra
Pradesh found that farmers who adopted integrated pest management
practices, such as the use of bio-pesticides and natural enemies, saw an
average increase in yield of 23%, leading to an increase in net income of
₹14,000 per hectare per year. The cost-benefit analysis conducted as part
of the study found that the net benefits of integrated pest management were
positive, with a benefit-cost ratio of 3.4.
iv) Investment in Agroforestry: A study conducted in Gujarat found that
farmers who adopted agroforestry practices, such as intercropping of trees
and crops, saw an average increase in net income of ₹5,000 per hectare per
year. The cost-benefit analysis conducted as part of the study found that the
net benefits of agroforestry were positive, with a benefit-cost ratio of 2.8.
v) Investment in Vermicomposting: A study conducted in West Bengal
found that farmers who adopted vermicomposting saw an average increase
in yield of 26%, leading to an increase in net income of ₹ 11,000 per acre.
The cost-benefit analysis conducted as part of the study found that the net
benefits of vermicomposting were positive, with a benefit-cost ratio of
2.4.
vi) Investment in Fish Culture: A study conducted in West Bengal found that
farmers who adopted fish culture in rice fields saw an average increase in
net income of ₹ 12,000 per acre. The cost-benefit analysis conducted as part
of the study found that the net benefits of fish culture were positive, with a
benefit-cost ratio of 1.7.
These case studies demonstrate how cost-benefit analysis can be applied to
different farming practices in India, such as drip irrigation, improved seeds,
integrated pest management, and agroforestry. By evaluating the costs and
benefits of different management practices and investments, farmers can make
informed decisions that optimize their returns and improve the sustainability of
their operations.

17.8 ILLUSTRATIONS
Here are some numerical examples of cost-benefit analysis in agriculture:
Illustration 1:
Suppose a farmer is considering investing in a new drip irrigation system that
costs ₹ 50,000. The farmer expects that the new system will increase crop yields
308 by 10% and reduce water usage by 30%. The expected increase in net income
due to the investment is ₹ 20,000 per year. The expected life of the system is 5 Cost Benefit Analysis
years. Evaluate the situation using cost-benefit analysis.
Solution:
The cost-benefit analysis would calculate the net present value (NPV) of the
investment as follows:
NPV = (Expected present value of future cash inflows) - (Expected present
value of future cash outflows)

Year Cash Inflow PVIF @ 10% PV of Cash Inflow


1 20,000 0.9091 18,182
2 20,000 0.8264 16,528
3 20,000 0.7513 15,026
4 20,000 0.6830 13,660
5 20,000 0.6209 12,418
Expected present value of future cash inflows 75,814
Expected present value of future cash outflows = ₹50,000
NPV = ₹ 75,814 - ₹ 50,000 = ₹ 25,814
The NPV of the investment is positive, indicating that the investment is likely
to generate positive returns and is therefore a good investment.
Illustration 2:
Suppose a farmer is considering investing in a new fertilizer that costs ₹ 10,000
per acre. The farmer expects that the new fertilizer will increase crop yields by
5% and reduce fertilizer usage by 20%. The expected increase in net income
due to the investment is ₹5,000 per acre per annum. The expected life of the
fertilizer is 3 years. Comment on the situation based on cost-benefit analysis.
Solution:
The cost-benefit analysis would calculate the NPV of the investment as
follows:

Year Cash Inflow PVIF @ 5% PV of Cash Inflow


1 5,000 0.9524 4,762
2 5,000 0.9070 4,535
3 5,000 0.8638 4,318
Expected present value of future cash inflows 13,616
Expected present value of future cash outflows = ₹ 10,000
NPV = ₹ 13,616 - ₹ 10,000 = ₹ 3,616
The NPV of the investment is positive, indicating that the investment is likely
to generate positive returns and is therefore a good investment.
Illustration 3:
A farmer is considering investing in a new pesticide that costs ₹10,000. The
309
expected increase in crop yield due to the pesticide is 15%, resulting in an
Agri Planning increase in net income of ₹ 8,000 per year. The expected life of the pesticide is
4 years. Calculate the benefit-cost ratio of the investment.
Solution:
Benefit-Cost Ratio = (Total Expected Benefits) / (Total Expected Costs)
Total Expected Benefits = ₹ 8,000 x 4 = ₹ 32,000
Total Expected Costs = ₹ 10,000
Benefit-Cost Ratio = ₹ 32,000 / ₹ 10,000 = 3.2
The benefit-cost ratio of the investment is 3.2, indicating that for every unit of
cost invested, the farmer can expect to receive 3.2 units of benefit. Hence, the
farmer may proceed for the investment.
Illustration 4:
A farmer is considering investing in new farm equipment that costs ₹ 50,000.
The equipment is expected to reduce labour costs by ₹15,000 per year. The
expected life of the equipment is 8 years. Calculate the benefit-cost ratio of the
investment.
Solution:
Benefit-Cost Ratio = (Total Expected Benefits) / (Total Expected Costs)
Total Expected Benefits = ₹ 15,000 x 8 = ₹ 120,000
Total Expected Costs = ₹ 50,000
Benefit-Cost Ratio = ₹ 120,000 / ₹ 50,000 = 2.4
The benefit-cost ratio of the investment is 2.4, indicating that for every unit of
cost invested, the farmer can expect to receive 2.4 units of benefit. Hence, the
farmer may proceed with the investment.
These numerical examples demonstrate how cost-benefit analysis can be useful
to evaluate the potential returns of different investments in agriculture to be
taken for routine agricultural activities. By comparing the expected costs and
benefits of different investment options, farmers can make informed decisions
that optimize their returns and improve the sustainability of their operations.

17.9 LET US SUM UP


In this unit, we have discussed the following:
• Cost-benefit analysis is a powerful tool in agriculture that one can use to
assess the financial feasibility and economic potential of various farming
practices and projects.
• It equips farmers and policymakers with the knowledge needed to make
well-informed choices by offering a complete view of the expected costs
and benefits associated with different options.
• One can make the most of our resources and avoid unnecessary expenses.
310
• Moreover, cost-benefit analysis also considers external factors like social Cost Benefit Analysis
and environmental impacts, helping us reduce negative effects on society
and nature.
• By encouraging efficient resource utilization, it contributes to making
agriculture more sustainable and profitable.
• Cost-benefit analysis is a vital method that supports evidence-based
decision-making in agriculture and fosters sustainable farming practices.
• Cost-benefit analysis becomes a tool for progress and innovation in the
agricultural sector, promoting the long-term success of farmers and a
healthier planet for future generations.
• It is a systematic approach to assess the economic viability and potential
return on investment of different options.

17.10 KEYWORDS
Cost-Benefit Ratio : The cost-benefit ratio is a financial metric used
to assess the profitability and efficiency of an
investment or project. It compares the total
benefits derived from the investment to the
total costs incurred. The ratio is calculated by
dividing the total benefits by the total costs.
Net Present Value : Net Present Value (NPV) is a financial
metric used to assess the profitability of an
investment or project by determining the
difference between the present value of cash
inflows and the present value of cash outflows
over a specified time period.
Organic Farming : Organic farming refers to a system of
agricultural production that emphasizes
the use of natural and environmentally
friendly practices to cultivate crops and raise
livestock.

17.11 SUGGESTED FURTHER READINGS/


REFERENCES
1. "Agricultural Production Economics" by David L. Debertin: This book
provides an overview of economic principles and their application in
agricultural production, including cost-benefit analysis techniques specific
to agriculture.
2. "Cost-Benefit Analysis in Environmental and Resource Management"
by Peter Nijkamp and Aura Reggiani: This book focuses on cost-benefit
analysis techniques and their application in environmental and resource
management, providing insights applicable to agricultural systems.
3. "Cost-Benefit Analysis: Concepts and Practice" by Anthony Boardman,
David Greenberg, and Aidan Vining: This comprehensive book offers a 311
Agri Planning detailed understanding of cost-benefit analysis methods, principles, and
applications in various sectors, including agriculture.
4. Buckley, J., & Peterson, H. C. (2015). Preliminary Cost-Benefit Analysis
for Urban Agriculture: An Introduction. Community and Regional Food
Systems Project: Michigan, USA.

17.12 ANSWERS TO CHECK YOUR PROGRESS


Check Your Progress 17.1
1. Cost-benefit analysis in agriculture assesses the economic viability of
farming decisions. It compares expected costs and benefits, quantifying
them for informed decision-making and prioritizing investments based on
potential returns.
2. In agricultural cost management, a cost-benefit analysis follows structured
steps. It begins with defining the specific project and identifying all related
costs and benefits, both direct and indirect. Monetary values are assigned,
timeframes considered, and cash flows adjusted for the time value of
money. The net present value (NPV) is calculated by subtracting total
discounted costs from total discounted benefits to assess financial gain or
loss. A positive NPV indicates a favourable investment. Sensitivity analysis
tests variable changes, aiding informed decision-making. These steps help
farmers optimize their cost management and investments.
Check Your Progress 17.2
1. The formula for Net Present Value (NPV) = ∑ Present Value of Future
Benefits – ∑ Present Value of Future Costs
For calculating Net Present Value, the following steps are used:
Step 1: Find out the future benefits.
Step 2: Find out the present and future costs.
Step 3: Calculate the present value of future costs and benefits. The present
value factor is
1
(1+r)n
Here r is the rate of discounting, and n is the number of years.
The formula for calculating the present value is:
Present Value of Future Benefits = Future Benefits * Present Value
Factor.
Present Value of Future Costs = Future Costs * Present Value Factor
Step 4: Calculate the Net Present Value using the formula:
NPV = ∑ Present Value of Future Benefits – ∑ Present Value of Future
Costs

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Step 5: If the Net Present Value (NPV) is positive, the project should be Cost Benefit Analysis
undertaken. If the NPV is negative, the project should not be undertaken.
2. Two examples of how CBA can be applied in agriculture are:
i. Investment in new technology: Farmers may want to invest in new
technology, such as irrigation systems or precision agriculture tools, to
increase their yield and profitability. CBA can help them determine if
the potential benefits of the investment outweigh the costs.
ii. Crop selection: Farmers may need to decide which crops to plant
based on their profitability. CBA can help farmers weigh the benefits
of higher-priced crops against the costs of production, including labour,
seed, and fertilizer.

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