Economic Feasibility Analysis of Information Systems (IS) Projects Assume that you are assigned to assess the economic feasibility of a project…
Economic Feasibility Analysis of Information Systems (IS) Projects
Assume that you are assigned to assess the economic feasibility of a project on developing information systems (IS) for a company. The development of the information systems results in increase in sales of three products that the company manufactures. However, the development of the IS application involves development costs (such as, labor, training, software, and hardware) which is incurred at the beginning of the project. The project also involves annual operating costs (such as, salaries, software licenses, and hardware upgrades). The estimated benefits and costs of the IS project are presented in table 1.
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Use Microsoft Excel to analyze the economic feasibility of the IS project. The layout of the spread sheet is shown in figure 1. Please consider the time value of money and assume an interest rate of 10% on investment. Using a 5-year horizon, calculate the net present value of the costs and benefits. Also calculate the overall return on investment (ROI) and the break-even point of the IS project. The formulae to calculate net present values, ROI, and the break-even point are presented in table 2.
Table 1 – Estimated Benefits and Costs of the Project
|
|
2013 |
2014 |
2015 |
2016 |
2017 |
|
Benefits |
|
|
|
|
|
|
Increased sales from Product 1 |
|
$ 20000 |
$ 22500 |
$ 24500 |
S 25500 |
|
Increased sales from Product 2 |
|
$ 35000 |
$ 36000 |
$ 47500 |
$ 40500 |
|
Increased sales from Product 3 |
|
$ 45000 |
$ 56500 |
$ 48000 |
$ 51000 |
|
|
|
|
|
|
|
|
Development Costs (one-time) |
|
|
|
|
|
|
Labor |
$ 40000 |
|
|
|
|
|
Training |
$ 20000 |
|
|
|
|
|
Software |
$ 22000 |
|
|
|
|
|
Hardware |
$ 20000 |
|
|
|
|
|
|
|
|
|
|
|
|
Operating Costs (Recurring Costs) |
|
|
|
|
|
|
Salaries |
|
$ 35000 |
$ 45750 |
$ 56500 |
$ 62250 |
|
Software Licenses |
|
$ 7000 |
$ 6000 |
$ 5000 |
$ 4500 |
|
Hardware Upgrades |
|
$ 7000 |
$ 6250 |
$ 5500 |
$ 4700 |
|
|
|
|
|
|
|
Table 2 – Formulae Used in the Worksheet
|
Total benefit |
Sum of increased sales from products 1, 2, and 3 |
|
Discount rate |
1/(1+Interest rate)n Where n=number of years in future |
|
Present value of benefits |
=Total benefit * Discount Rate |
|
Total Development cost |
Labor cost + Training cost + Software cost + Hardware cost |
|
Total Operating Costs |
Salaries + Software Licenses + Hardware Upgrades |
|
Total Costs |
Total Development Cost + Total Operating Cost |
|
Present Value of Total Costs |
Total Costs * Discount Rate |
|
Overall Net Present Value (NPV) |
Present Value of all benefits* – Present Value of all Total Costs* |
|
Return on Investment |
Overall NPV/Present Value of all costs* |
|
Break-even Analysis (Yearly NPV Cash Flow) |
Present Value of benefits for the year – Present value of total costs for the year |
|
Break-even Analysis ( Overall NPV Cash Flow) |
Overall NPV Cash Flow of the previous year + Yearly NPV Cash Flow |
|
Break-even Point |
(Yearly NPV Cash Flow-Overall NPV Cash Flow)/ Yearly NPV Cash Flow. Use the data from the year in which the overall NPV Cash Flow is Positive |
*Over the duration of the project
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