Start Management in Practice How and Why to Study Economic and Financial Feasibility

# How and Why to Study Economic and Financial Feasibility

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O economic and financial feasibility study is the final part of the planning of a business, in which the viability of the business is measured through financial indicators. The result will depend on the estimated initial investment.

When to do: Um economic and financial feasibility study (EVE or EVET) should be performed whenever a new project is under evaluation. This project can be both the expansion of your business and the opening of the company itself.

Why do: The great benefit of this type of analysis is to be able to see through projections and numbers the real potential for the return of the investment in question and therefore to decide if the premises are interesting and whether the project should go forward or not.

How to: There are several steps to conduct a good economic feasibility study, so let's take a break.

## a) Revenue Projection

There is no specific order for completing the data for a feasibility study, but we suggest starting with revenue projection. The projection period varies from project to project according to expected return. That is, if you are going to open a diner, probably a horizon from 3 to 5 years will suffice. Already bigger projects like a construction of a hydroelectric plant, usually have horizons of decades, because the return is of greater term.

At this point, the important thing is to be able to make approximations of the size of the target audience, with conversions premises based on historical or comparative market data. In cases where no option is possible, the reverse calculation must be done starting with the costs already foreseen and the revenue required to obtain an attractive rate of return.

Another important point is to estimate the growth rate of the business over time, since revenue does not start or stay at the same level.

Example:

Let's say that your target audience are the residents of the neighborhood. It is known through information and research done by the city hall that the neighborhood in question has 100.000 residents. However, your service is focused only on women and that number drops to 45.000.

Therefore, if the expected client conversion is from 10% per month, you will have an audience of 4.500 clients. If the average ticket (average cost per customer) is R \$ 20,00, you can bill up to R \$ 90.000,00. If this is the highest possible billing in your business, you probably will not start earning it in the first month and you should project growth from the opening up to that point.

## b) Projection of Costs and Investments

Just as the revenues have been projected over time, you should raise the investments needed to start the business and also the operating costs of the business to function normally. This includes in a simplified way:

- Fixed Costs: Those that are recurrent and predictable like rent, salaries, light.

- Variable Costs: Those that vary according to production and sales as commissions, fees.

- Taxes: If the company is not yet open, it is important to see with the accountant what would be the classification of the new enterprise.

What is important in this step is to achieve the most realistic budgets possible in direct contact with suppliers or doing online surveys.

## c) Analysis of Indicators

In the previous steps, one may even encounter some problems in the business model and need to re-read the financial assumptions and projections. However, the real benefit of the economic feasibility study are the final indicators:

Net Present Value (NPV): This indicator indicates how much free accumulated cash flow from your total projection would be worth today. To reach this amount, you must discount the cost of capital (also known as discount rate or WACC). This amount should be basically compared to the invested capital to know if the project / company generated more capital than was invested. For example, if you invested R \$ 50.000,00 and your VPL for R \$ 45.000,00, that investment was not worth it. Although the financial flow was positive over time, economically the result was negative.

Internal Rate of Return (IRR): The IRR indicated the rate of return on investment using the same cumulative free cash flow from the NPV. The difference is that while the NPV offers an absolute and currency indicator, the IRR offers a percentage return view that can be more easily compared to other investments. That is, if your IRR is 0,2% per month and the savings are paying 0,5% per month, the mathematical decision should be to not invest in the project / company and save that money in the bank.

Payback: Paypack indicates the time at which the project already generated the same amount of cash you spent at the beginning of the project. In other words, it is the period (month or year) in which the accumulated free cash flow has stopped being negative to positive. So, you know how many months you will have to wait to have your money invested back. This calculation can be done by deducting or not the cost of capital. Usually, we choose not to discount, because the calculation is simpler and the variation is small in smaller projects.

previous articleContribution Margin: what is and how to calculate
Leandro started his professional life consulting hundreds of small companies throughout Brazil and was a professor at institutions such as SEBRAE, Vale, Souza Cruz, FIRJAN, COPPE and FGV. Today, it is enchanted by the facilities that Excel brings to business management and wants to bring this wonder to Brazil and the World!

1. A feasibility study is a detailed analysis of any project That cost includes project, risks, issues, etc. Before starting any project it is very essential to do proper study about the project.

2. You can make scenarios any way you prefer. They can be more complex or simpler. The only really important thing is to make sure they portray the reality in some way

3. I love to set up business scenarios ...
Is it not possible to make it as simple as possible and easy to start?

4. Hi Isabel, I have no specific book indication, but we have enough material here that deals with the subject (other posts)

5. He spoke and said everything. I am a professional in the area of ​​purchase of land does 20 years, my partner who is an engineer who had software that when feeding the information was a read work, but now we separated and each one to his side. Now, I need software to present to an investor in the field of ma purchase of land, projects and PSV. Construction

6. I would like an indication of books to delve into this subject. Thanks in advance!

7. Hi Marina, how are you? Regarding the structure of the feasibility study, I recommend our worksheet - https://luz.vc/planilhas-empresariais/planilha-de-estudo-de-viabilidade-economica - it greatly facilitates the creation of the study as a whole, since the structure is ready and, after filling, you already see the feasibility indicators

On ideas, it might be worth you to do surveys on how the frying oil is sold, what costs are involved in that. In addition it will be necessary to make calculations of production capacity, increase of this capacity over time, etc.

8. Good morning!
I am doing a master's degree of economic feasibility to build a mini-plant for the production of biodiesel from frying oil.
I am in doubt about this part of projecting revenues, expenses. I'm not sure where to begin with this. If you can help me, thank you very much.
Thank you!

9. need to evolve to practical analysis of tir, weighted average cost to study the step-by-step study

10. Leandro Borges You can send me this information by email please. "How and Why to Make an Economic and Financial Feasibility Study"

11. the discount rate usually of the amount invested and the value of the final product per unit and you can start calculating with 10% and go up or down depending on the product by calculating 10% * 4896USD / 100 = 489.6

12. Hi Amanda. To calculate viability you simply follow the same step by step described here. In general, you will need to analyze how much you have invested in your business, how much you have to spend and earn from month to month and make a projection of it. If the outlook is for improvement, just do a projection with growth.

With a projection made (I indicate something around 24 to 36 months), you can calculate the NPV (Net Present Value, TIR and Payback) to know if your business is viable or not .

Now, since your company is already open, closing the doors if prospects are not good may not be the best option. But it can be an indicator that changes are necessary if you want to stay in the market.

13. I already have an open company, how do you calculate the viability of this company and what time will I start to have a return on investment?

14. Good evening, Leandro,
I am doing my course work, I found this post very interesting, I would like to quote a passage in my work, can you inform me the year that was published?
Thank you!

15. Hi, Ibrahim, is everything okay?

Basically a projection is not so simple so there are several variables that can influence, but trying to summarize, you need to make the projection of initial investments, revenues and expenses for the desired period and thereafter calculate the NPV (net present value), IRR internal rate of return) and Payback. Here you find some posts about the subject - https://blog.luz.vc/serie/estudo-de-viabilidade-economica/

I recommend that you use our spreadsheet to facilitate this process for you - https://luz.vc/planilhas-empresariais/planilha-de-estudo-de-viabilidade-economica

16. Hi,
I am trying to create a microcredit micro-enterprise so I am reading some manuals and analyzing some case studies. However I have some difficulty in realizing the projection of some numbers in the cash flow table for feasibility analysis.
I would like, if anyone can explain me, to know how it is constructed and what formulas are used. It may be a projection of only 1 year.

17. Hi Leandro, so I can not do a calculation. I made an investment in the value of 40.000,00. I'm having a value of 15% on every sale. How to know if the result will be positive or negative. Thanks

18. Hi, Valdo,

It's OK? The indicators are these that can be found at the end of the post:

Net Present Value (NPV): This indicator indicates how much free accumulated cash flow from its total projection would be worth today. To reach this amount, you must discount the cost of capital (also known as discount rate or WACC). This amount should be basically compared to the invested capital to know if the project / company generated more capital than was invested. For example, if you invested R \$ 50.000,00 and your VPL for R \$ 45.000,00, that investment was not worth it. Although the financial flow was positive over time, economically the result was negative.

Internal Rate of Return (IRR): The IRR indicated the rate of return on investment using the same cumulative free cash flow from the NPV. The difference is that while the NPV offers an absolute and currency indicator, the IRR offers a percentage return view that can be more easily compared to other investments. That is, if your IRR is 0,2% per month and the savings are paying 0,5% per month, the mathematical decision should be to not invest in the project / company and save that money in the bank.

Payback: Paypack indicates the time at which the project already generated the same amount of cash as you spent at the beginning of the project. In other words, it is the period (month or year) in which the accumulated free cash flow has stopped being negative to positive. So, you know how many months you will have to wait to have your money invested back. This calculation can be done by deducting or not the cost of capital. Usually, we choose not to discount, because the calculation is simpler and the variation is small in smaller projects.

Hugs!

19. this will help me a lot I hope my project is going to make a lot of money.

20. Hi Joaquim, how are things good?

The logic is very similar to the use economic feasibility study. Basically you need to understand if the loan you are going to get will have return. That is, make the feasibility study putting the loan as an initial investment and make projections of the company's growth using this amount to understand whether the return makes sense or not.

Do not forget to take interest, inflation and similar items into account so you do not panic when you take the calculation to reality. Hugs and any other question just tell me

21. Hi Edson,

The discount rate is a bit more complex and we will post about it soon, okay? In a simplistic way, it is the minimum rate of attractiveness you would have in the project. You can, for starters, use the SELIC rate. But best practices indicate a weighted average of several possible sources of return.

Hugs!

22. Good for a script of ETE, but should better address how to do the calculations (wacc, NPV, IRR ...) a lot of people may have interest, look at this post, but can not calculate these indicators .. could make posts specific to each later , linking this article with future posts. Success!