Cost Benefit Analysis
What is cost-benefit analysis?
Cost-benefit analysis compares the total expected costs of a decision with its total expected benefits, so leaders can decide whether it is worth doing and which option is best. It is used for software purchases, hires, new services, equipment, and process changes. The goal is a clear, documented case instead of a gut feeling.
Numetix is the expert-led, AI-powered, human-in-the-loop bookkeeping layer that supplies the actual cost and time data behind each estimate, so the analysis starts from facts instead of guesses.
The formulas
Net benefit = total benefits minus total costs
Benefit-cost ratio = total benefits ÷ total costs
A ratio above 1.0 means benefits exceed costs. For decisions that span several years, benefits and costs are usually discounted to today, which this simple version leaves out.
Steps
- Define the decision and the options, including doing nothing
- List every cost, including setup, training, and staff time
- List every benefit and put a dollar value on it
- Compare totals for each option and rank them
- Test the assumptions with sensitivity analysis
Worked example
The figures below are illustrative. A firm considers project management software. Year one costs are $12,000 for the license and $6,000 for setup. Year two costs are $12,000. The software saves 10 staff hours a week at a loaded cost of $40 an hour, which is $20,000 a year across 50 weeks.
- Year one: benefits $20,000, costs $18,000, net benefit $2,000
- Year two: benefits $20,000, costs $12,000, net benefit $8,000
- Two-year total: benefits $40,000, costs $30,000, net benefit $10,000, benefit-cost ratio about 1.33
Common pitfalls
- Counting benefits that depend on behavior change that may not happen
- Leaving out hidden costs such as training time and lost productivity during rollout
- Ignoring benefits that are real but hard to measure, without at least noting them
Related tools include break-even analysis, payback period, and a cash flow forecast to check the timing of cash.
Frequently asked questions
What is a good benefit-cost ratio?
Any ratio above 1.0 means estimated benefits exceed costs. Because estimates are uncertain, many firms look for a comfortable margin above 1.0 before approving a project. The right threshold depends on risk, how soon the benefits arrive, and how confident you are in the numbers.
How is cost-benefit analysis different from ROI?
Return on investment expresses net benefit as a percentage of cost, so a $10,000 net benefit on a $30,000 cost is about 33 percent. The benefit-cost ratio divides total benefits by total costs, giving about 1.33 in the same example. Both describe the same result in different forms.