Economic Feasibility Analysis Of Information Systems (IS)

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 an 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 are 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 provided.

Please use Microsoft Excel to analyze the economic feasibility of the IS project. The layout of the spreadsheet is shown in the provided figure. Consider the time value of money with an interest rate of 10% over a 5-year horizon. Calculate the net present value (NPV) of the costs and benefits, the overall return on investment (ROI), and the break-even point of the project. The formulas for these calculations are provided in the accompanying tables.

Paper For Above instruction

The economic feasibility analysis of information systems (IS) projects is crucial for organizations to determine whether an investment in technology will yield profitable returns over its lifespan. The process involves evaluating costs, benefits, time value of money, and return metrics to justify the project's viability. This paper explores a comprehensive approach to conducting an economic feasibility analysis, applying it to a hypothetical IS project with specified benefits, costs, and assumptions, using Excel-based calculations.

Introduction

Economic feasibility evaluation is fundamental in project management, particularly for IS projects that require considerable upfront investment and recurring operational costs. The primary goal is to ensure that the project’s anticipated benefits outweigh the costs, considering the time value of money. Implementing such analysis involves calculating metrics like net present value (NPV), return on investment (ROI), and identifying the break-even point to assess when a project becomes profitable.

Methodology

The process employs discounted cash flow analysis, using formulas to discount future benefits and costs to their present values, applying an interest rate to account for the time value of money. In this context, the interest rate is 10%. The project horizon is five years, which is a typical duration for such evaluations.

The key components in the analysis include:

  • Benefits: Increased sales from three products over five years.
  • Development Costs: One-time costs at the project's inception, including labor, training, software, and hardware.
  • Operating Costs: Annual recurring expenses such as salaries, software licenses, and hardware upgrades.

The formulas outlined by the project guide facilitate the calculation of total benefits, total costs, their respective present values, and derived metrics like ROI and break-even point.

Data and Calculation

The benefits over five years for three products are provided, with incremental sales figures growing annually. The development costs are fixed, while operating costs recur annually. Using an Excel spreadsheet, each component is entered meticulously, employing appropriate currency formatting, bold headers, and calculated fields using specified formulas.

The total benefits per year are summed, discounted at the given rate, and similarly for costs. This enables the calculation of the total present value of benefits and costs, ultimately deriving the NPV:

NPV = Present Value of Benefits - Present Value of Costs

The ROI is computed as:

ROI = (NPV / Total Present Value of Costs) × 100%

The break-even point is identified as the year in which the cumulative discounted benefits surpass the cumulative discounted costs, indicating the project becomes profitable beyond this point.

Results and Interpretation

Applying the formulas and data, the analysis reveals the overall project NPV and ROI at a 10% discount rate. To explore sensitivity, the ROI and NPV are recalculated assuming a 12% interest rate. Changes in the discount rate impact the present values, thus influencing project attractiveness.

Discussion

The analysis demonstrates the importance of discount rates in evaluating project viability. A higher rate (12%) increases the discounting effect, reducing the present value of future benefits and costs, often lowering NPV and ROI. Decision-makers should consider such sensitivity analyses for comprehensive assessment, accounting for changes in economic conditions and cost of capital.

Conclusion

This worksheet-based approach provides a systematic and transparent framework for conducting economic feasibility analysis. By quantifying costs and benefits over a multi-year horizon, organizations can make informed investment decisions, prioritize projects with positive NPVs, and understand the timing of profitability. Adjusting for different discount rates further enhances the robustness of the analysis, guiding strategic planning in resource allocation for technology projects.

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