Question

Case:

Hedley Valley has been facing long periods of drought which is reducing wheat production. The town depend very much on farming. Wheat is also exported.

The Headley Valley Water Control Board will undertake an irrigation project which will provide 100 million litres of water annually to 200 wheat farms of 150 hectares each to address the problem. The Board will charge $0.05 per litre for the water, which will be distributed equally among the 200 farms.

It is estimated that land rent in Hedley Valley will rise by $60 per hectare per year. 30 farm labourers will be attracted to work at Headley Valley farms from the vineyards of nearby Sunshine Valley, at a minimum wage of $10 per hour. The market wage for the nearby province is $8 per hour. Production of wheat on Headley Valley farms is expected to increase by 2% every year. Currently production of wheat in Headley Valley is 2,000 kg/ha. Yield is expected to double after the implementation of the irrigation project.

1.2: With the information above and any additional information you can find and your own reasonable assumptions, undertake a rough cost-benefit analysis

1.2.1: How will you quantify and monetize all your identified (10)

a. Costs

b. Benefits

c. What time frame will you use and why?

1.2.2: With a spreadsheet estimate (30)

a. The Present Value Cost – Economic

b. The present Value Benefits – Economic

c. Discuss any qualitative costs and benefits

1.2.3: With the following criteria, determine whether the project is economically feasible (10)

a. Net Present Value Criteria

b. Benefit-Cost Ratio

Thank you.

Answer 1

Ans 1.2.1)

Assumptions for the HVWCB: The Headley Valley Water Control Board (HVWCB) will bear cost of irrigation. Its revenue will be recognized from water sales. Cost of irrigation project = $10000000. Project lifespan = 3 years. Discount rate = 5%, considering inflation and other overheads rerlated to the project.

Calculations: Cost will be $10000000 Revenue per period =Total liters of water distributed* Price per liter = 100,000,000*0.05 = $5,000,000. If undiscounted payback method is used the HVWCB will recover its costs after 2 years.

Assumptions for farmers: Starting rent per hectare= $120. Hours per day per laborer = 12. Laborers per farm = 5. Days needed to work on each farm = 50. Selling price per kg of wheat = $0.5.

Calculations for farmers:

Costs per year per farmer is as follows:

Land per farmer	150
Year	0	1	2	3
Rent per hectare	$120	$180	$240	$300
Total Rent	$18,000	$27,000	$36,000	$45,000
Labor cost	$30,000	$30,000	$30,000	$30,000
Water cost per annum	$25,000	$25,000	$25,000	$25,000
Total cost	$73,000	$82,000	$91,000	$100,000

Benefits will be revenues generated by wheat sales as follows:

Price per kg	0.5
Land per farmer	150
Year	0	1	2	3
Yield per hectare	2000	4000	4080	4161.6
Total yield	300000	600000	612000	624240
Total income	150000	300000	306000	312120

Time frame used will be of 3 years as inflation and labor rates remain nearly constant over that time.   

Ans 1.2.2) Present value cost for the HVWCB is as follows: It is limited to the initial outflow of $10000000.

Present value cost for one farmer is as follows:

Year	Cost	PV of Cost
0	$73,000.00	$73,000.00
1	$82,000.00	$78,095.24
2	$91,000.00	$82,539.68
3	$100,000.00	$86,383.76

Benefits for the HVWCB are:

Year	Benefits	PV of Benefits
0	$0.00
1	$500,000	$476,190.48
2	$500,000	$453,514.74
3	$500,000	$431,918.80

Benefits for farmers are:

Year	Benefits	PV of Benefits	PV factor
0	150000	150000	1
1	300000	285714.3	1.05
2	306000	277551	1.1025
3	312120	269621	1.1576

The irrigation project will result in increse in employment in the valley ths boosting the local eonomy.

Ans 1.2.3) NPV for the HVWCB:

Year	Cashflow	PV of Cashflow	Cumulative cashflow
0	-10000000	-10000000	-1000000
1	5000000	4761904.76	-5238095.24
2	5000000	4535147.39	-702947.85
3	5000000	4319187.99	3616240.15

This project is economically feasible using NPV.

Benefit-Cost Ratio:

13616240.15/10000000 = 1.361624

This project is feasible for the HVWCB.

NPV for each farmer is: In each case the income is more than cost as per assumptions and given data, hence NPV will always be positive and the project is feasible for each farmer.

Benefits-Cost Ratio: 1068120/346000 = 3.087 approx. Hence the project is feasible.