Cost Benefit Analysis
rating: 0+x

Decision Making Techniques

  • Break Even Analysis
  • Differential Cost Analysis
  • Cost Estimation
    • With probabilities and sensitivity analysis
    • With learning curve

Break Even Analysis

  • this technique uses projections of costs, revenues, contributions, and appropriations to determine the level of operation where total costs are equal to total revenues.
  • It is called break even because the point of intersection between total cost and total revenue is the break even point because there is neither a loss nor a profit.
  • Formula for break even point:
  • break even point = fixed cost dollars/selling price (per unit)-variable cost
  • or break even point = fixed cost dollars/contribution margin per unit
  • Example of selling book bags to patrons
  • Cost from supplier is $12
  • Library will purchase 300 bags, nonreturnable
  • Library will sell them for $15 each.
  • How many to sell to break even
  • =$12 x 300/$15 = 240 bags
  • Limitations:
    • distinguishing between fixed and variable costs
    • fixed costs and time period under analysis; fixed costs may not remain constant over the long term

Differential Cost Analysis

  • Like Break Even, uses projected cost information to make decisions
  • Unlike Break Even, manager is only concerned with costs that change when faced with making a choice between two alternatives
  • Usually with short term projects, so present value calculations not relevant
  • Only cash costs between alternatives considered
  • Both fixed and variable costs can change between alternatives
  • Data are not “hard” data but projections developed by managers and vendors
  • Examples
  1. whether to develop a new asset within the library or purchase it from an outside vendor
  2. replacement of equipment

Cost Estimation

  • With Probabilities and Sensitivity Analysis
  • Subjective probability – estimated by individual manager
  • Empirical probability – calculated through sampling or count of activities; probability then calculated based on the frequency of past occurrence of these counted activities
    • Example is selling library T shirts in different sizes and estimating how many of each size would be needed.
  • With Learning Curve – based on pilot of how long it takes an employee to carry out a task
    • Assumes that first time you carry out a task you are inefficient
    • As you continue to perform it you discover efficiencies and short cuts
    • Several iterations are measured and calculation is made to determine how long it will take to reach an expected standard rate of performing a task.
    • The learning curve shows the relationship between the amount of time required to complete a task and the cumulative amount of items that are produced. It is a measure of efficiency.
    • Most directly applicable to technical type activities such as cataloging, maintaining the catalog, processing digital files.
    • The learning curve allows a manager to determine how many hours it should take to complete a repetitive activity.
    • Caveat: Always clarify whether you are dealing with an estimate or “hard data.” If an estimate, always find out how it was determined.
Add a New Comment