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|Federal Highway Administration > Publications > Public Roads > Vol. 75 · No. 5 > Spotlight on Benefit-Cost Analysis|
Publication Number: FHWA-HRT-12-003
Spotlight on Benefit-Cost Analysis
by Nathaniel Coley
To help make every dollar work more effectively, transportation agencies can improve project appraisals to increase returns on investments. Proactive BCA can help make this happen.
In this time of limited resources and competing demands for public services such as health care and education, government spending is closely scrutinized. How can transportation agencies demonstrate accountability for expenditures from their limited budgets?
One method for demonstrating accountability is the analytical process of benefit-cost analysis (BCA) in decisionmaking. This process estimates the benefits and costs to society of transportation investments. When discounted future benefits equal or exceed the discounted life-cycle costs, a project is considered economically efficient. Applied correctly, BCA can support the selection and prioritization of projects that have the best potential to achieve long-term performance objectives of transportation investments. BCA explicitly identifies the benefits to the users of the system and the costs to the agency, providing transparency and accountability for investment decisions.
"Government decisions in general should be based on the best-quality analysis that is available," says Jack Wells, chief economist with the U.S. Department of Transportation (USDOT). "So our task is really to make sure that the best-quality analysis is available and is brought to bear on the decisionmaking process and on where our limited Federal funds are spent."
Most BCA ensures that transportation investment decisions are based on more than immediate benefits and initial construction costs. BCA includes benefits such as savings in travel time and vehicle operating costs, plus reductions in crashes. BCA also includes the life-cycle costs of a project, such as construction and maintenance costs incurred over an analysis period.
What Is Benefit-Cost Analysis?
BCA assigns a monetary value to the stream of benefits to society generated by the transportation investment. Transportation agencies can use BCA to measure the efficiency of spending from the viewpoint of benefits and costs to society. Efficiency, in the context of managing transportation assets, ensures that taxpayer dollars receive the best return on investment (ROI).
Applying BCA to highway investments would involve examining the stream of benefits and costs expected to occur over a specific time horizon. The use of BCA is appropriate to select among alternatives at a project level or to develop a program of projects. At the project level, transportation agencies would use BCA to evaluate initial questions about a project, such as whether it should be undertaken and, if so, when it should be scheduled. They also would use it to assess specific characteristics of a proposed project, such as which design is best suited for a particular location or need. In addition, they could use it to determine the best option among alternatives -- which project offers the best ROI and thus which project to fund. At the network or program level, BCA can play a critical role in the development of an overall program to improve the long-term performance of a roadway network.
For public agencies, BCA is essentially an ROI measure. In public dialogue, transportation agencies typically present the ROI measure in terms of benefits per dollars invested -- a benefit-cost ratio. The benefit-cost ratio is the sum of the present value of benefits expected from a particular transportation investment divided by the sum of costs to maintain the required performance expected over the life of the asset.
Good practice in applying benefit-cost or ROI analysis for transportation includes the analysis of impacts on roadway users, such as changes to the time they expend getting to their destinations; costs for construction, changes in costs of maintenance, and preservation of transportation assets; and reductions in crashes. Benefits also include reductions in environmental impacts, such as lowering air pollutants and noise from highways.
Monetizing the benefits of a project enables an agency to make direct comparisons between specific aspects of a project. To monetize the savings in travel time or reductions in crashes, a dollar value for each is needed. Various research studies provide dollar values for these measures. Agencies can use these values to consider how a project contributes to the goals of their organization. For USDOT's recommendation on sources and values for various BCA data inputs, see Appendix A of the Federal Register, Vol. 76, No. 156 / Friday, August 12, 2011 / Notices, available at www.dot.gov/docs/FY11_TIGER_NOFA.pdf.
What BCA Is Not
BCA cannot solve the issue of how to meet all the needs of the transportation system that confront most agencies. A common concern about BCA is how to fit its results into the context of limited funding. Although funding levels will provide direction on the final set of projects to be funded, the transportation agency should complete the BCA outside of the funding process. Once the agency identifies candidate projects that provide the greatest estimated benefits, the agency's decisionmakers can develop a program by selecting individual projects appropriate for expected funding levels.
In the context of this discussion, BCAs are different from economic impact analyses, which aim to identify the economic benefits of transportation investments to regions, businesses, or employment levels. Although BCA contributes to economic impact analyses, the objectives of BCA and economic impact analyses are different. The difference relates to matching appropriate measures with the social concerns to be addressed, as well as the perspective of the stakeholders. For the owners of transportation systems, BCA is the appropriate method when dealing with concerns such as limited funding and system performance. For elected officials, economic impact analyses might be the appropriate method for providing insights into the overall economy.
Benefits and Costs Typically Considered in a BCA
"We have to be very careful that we're clear about the differences in the use and measurement of effects represented by economic impact and benefit-cost analysis," says Glen Weisbrod, president of the Economic Development Research Group in Boston, MA.
Benefits Used in BCA
Benefits accrue over the life of the roadway investment as time elapses. The peak of the benefits typically occurs in the later years of the investment, once traffic volumes increase as new users take advantage of the roadway investment. Projects generally are designed to accommodate existing traffic plus a projected 20-year growth in traffic. Benefits typically increase especially in the final phase of the 20 years.
Benefits can take the form of improved long-term performance through investments in preservation of the roadway assets. Agencies might select transportation investments with short-term benefits as a focus. Periodic investments needed to maintain performance typically are undertaken in reaction to an immediate need without regard to long-term ROI or network goals. In situations that involve immediate hazards to public safety, such as addressing advanced deterioration of a bridge beam, such investments may be appropriate. However, for implementing a long-term investment strategy, analysis such as a BCA should help target limited resources for long-term goals.
The BCA Process
Including BCA in the overall decisionmaking process helps an agency plot a course to a desired objective. The BCA process involves six steps and draws on an understanding of how effective investments in the life cycle of transportation assets support the achievement of long-term performance goals. Each step relies on input from various areas of the organization, such as planning, design, traffic analysis, cost estimating, and safety analysis. Expected demands placed on the transportation system are a major input into the BCA.
Step 1. The first step in the BCA process focuses on understanding the transportation problem that the project seeks to resolve. This provides the basis for establishing the objectives of a project within the context of an agency's plans, policies, and goals for providing transportation services.
The Nevada Department of Transportation's (NDOT) 2010 Performance Management Report, for example, lists a safety performance goal of reducing fatal crashes. To achieve this result, NDOT uses BCA to determine how improvements will yield the best bang for the buck for achieving this goal. Nevada's policy of performing a BCA on all capacity improvement projects over $25 million provides the basis for developing an appropriate program based on the selection of individual projects.
Step 2. In this step, the alternatives to address the project need are identified. The current facility is the base case against which proposed alternatives are compared. The base case might include minimum investments to keep the facility functioning.
Step 3. The selected project will provide benefits over a given time horizon; therefore, an understanding of how the proposed projects will perform is needed. The projection of the performance of specific designs for expanding facilities or strategies to improve safety outcomes will play an important role in identifying the stream of benefits and costs expected over the time horizon of the analysis. Forecasting performance trends to rationalize the actions needed to meet the desired goals is important.
"In order to develop a program to meet performance objectives, an agency must be able to forecast future performance," says Yared Tesfaye, bridge engineer with the District Department of Transportation in Washington, DC.
Forecasting future performance is not a science, and many transportation decisionmakers struggle with understanding how to do it. Nevertheless, numerous examples of viable processes for forecasting performance exist. Some agencies use past performance trends to provide insights into the future. Others have developed sophisticated algorithms and software tools to assist in this process. Nevada is an example of the latter. Another example is the Federal Highway Administration's (FHWA) Bridge Preservation Guide, which offers guidance on how to apply various proactive actions to postpone advanced deterioration.
Quality data are a key input into the BCA process and to forecast performance. "It took us 30 years to develop a family of performance curves that accurately describe our pavements, but it all comes down to quality data," says David Luhr, pavement engineer with the Washington State Department of Transportation (WSDOT).
Any investment decision involves considering multiple types of information. Systems for managing assets such as bridges or pavements often provide the foundation for identifying when maintenance and preservation costs will be incurred. These data can inform the BCA process. For example, an agency might have an objective to improve its bridge network so that 80 percent of its bridges are in fair to good condition. Projecting performance trends, the agency then might recognize that investing in poor superstructures represents the greatest potential impact on meeting performance objectives.
In this example, investment candidates that include a combination of preservation of bridge decks and repairs to exterior beams therefore would offer the most potential for enhancing superstructure performance. This same example can apply to other assets such as pavements. Potential candidates will provide a pool of opportunities for achieving network and project objectives. Each candidate should be given equal consideration.
"Once we looked outside of our common practices, we found that we would probably do something different for the long term," says Emmanuel Uwaibi, pavement design engineer with the Florida Department of Transportation (FDOT). The FDOT Pavement Type Selection Manual now includes guidance on life-cycle cost analysis. Life-cycle cost analysis is an underlying process of BCA needed for understanding future agency costs.
A significant aspect of the BCA process is analyzing the impacts to traffic. This step focuses on estimating the number and demographics of roadway users in the affected traffic streams. This information will be used to quantify the impacts on them from potential investments. Agencies commission specific traffic counts of the numbers and types of vehicles as well as surveys of vehicle drivers and passengers to provide insight for use in estimating benefits. The trucking industry also offers a wealth of data to assist in analyzing traffic impacts, specifically with regard to freight movement.
In addition, traffic engineers play a significant role in understanding and forecasting traffic growth used in estimating the impacts of transportation investments. "Every transportation project starts with a comprehensive understanding of traffic," says Errol K. Stoute, P.E., transportation engineer with the Maryland State Highway Administration.
Analyzing the expected traffic streams helps to rationalize the comparative advantages of each investment candidate to identify those that most efficiently provide support for achieving objectives.
Step 4. Estimating the project's benefits and costs to society involves applying the relevant monetary unit costs to the current and future changes in travel time, travel distance, crashes, and emissions. The benefits and costs estimated over the analysis period are discounted to calculate the net present value of benefits and costs. These amounts can be compared to provide a benefit-cost ratio. Benefit-cost ratios greater than one identify projects worth investing in. The net present value of the benefits helps identify the benefits of projects and provides additional insight for ranking projects in step 6.
Step 5. The analysis is based on many assumptions of future outcomes. Examining the impact of the inherent uncertainties, or risks, of the inputs into the analysis is important. Forecasts of traffic, timing of activities, and impacts on users and the natural environment are not expected to be 100 percent accurate. Identifying and estimating the variances in those inputs and incorporating the variances into the analysis provide opportunities to make decisions based on the best statistical outcomes.
This fifth step is crucial in light of past estimates that have left taxpayers questioning why specific estimates were so far beyond planned expenditures. Being able to make investment decisions on the "most likely" outcome leads to better investment decisions. In addition, communicating to key decisionmakers and the public is more effective with statements such as "Based on our best estimates, this project could result in a 20 percent reduction in crashes or as much as a 45 percent reduction." These ranges of potential outcomes improve the credibility of decisions.
Step 6. The final step involves comparing and ranking alternatives, and then making recommendations. With the identification of investment candidates that best support policies and goals, and an understanding of the ranges of possible outcomes, agencies can use the BCA results to compare individual alternatives in order to select the best candidate.
After agencies have identified projects that best meet individual objectives, the BCA outputs can assist in organizing them into a plan or program that supports long-term network goals based on expected funding levels. Specifically, examining the amount of benefits derived from each project provides critical insight in developing a program that maximizes benefits with limited funds. Many agencies focus efforts on understanding tradeoffs between investing in various goal areas with anticipated funding. Tradeoffs are critical because project objectives can be achieved only with available resources.
Tools for Doing BCA
Various tools are available for performing a BCA on a project level as well as on a network level. These tools employ an engineering economic analysis process of analyzing highway projects to identify, qualify, and value the benefits and costs of highway projects and programs over a multiyear timeframe and to identify those projects that generate the highest return for each dollar invested in the Nation's transportation system. Transportation agencies can incorporate the results to target scarce resources that will maximize benefits to society. The use of consistent tools within an agency can help standardize the BCA and facilitate consistent and fair comparisons among projects.
Agencies should be careful to select the tools that are appropriate for specific uses. The underlying assumptions need to be transparent. Outputs from the tools also should clearly show the annual benefits and costs of the proposed project.
FHWA offers several tools to assist in performing a BCA. Each tool provides support in the form of training and improvements to the software based on the evolving needs of agencies.
From a project perspective, FHWA offers BCA.Net, a Web-based software application that facilitates the analysis of alternative strategies for highway management and improvement, and that supports resource allocation and investment decisions. It enables State and local decisionmakers to consider a broad range of design, timing, and strategic alternatives based on an array of benefit-cost measures. BCA.Net evaluates the benefit-cost of highway improvements while reporting the results for each facility segment and each benefits category (such as time savings, lower vehicle operating costs, reductions in injuries and loss of life, and reduced emissions).
BCA.Net is best suited for the evaluation of projects involving small- to medium-scale highway capacity that might cost many millions of dollars to build, but which will not lead to major systemwide reallocations of traffic. Very large projects that would cause regional changes in traffic patterns (for example, new expressways or major corridor enlargements) should be evaluated using economic methods linked to travel demand models, such as the Surface Transportation Efficiency Analysis Model (STEAM).
STEAM assesses the efficiency of multimodal transportation alternatives and demand management strategies on a corridor or regional level. FHWA developed STEAM, a computer-based BCA software application, for linking the outputs of regional travel demand models (that is, trip tables and traffic assignments) with computerized procedures to evaluate system, corridor, or project alternatives.
At a network level, FHWA offers agencies the National Bridge Investment Analysis System (NBIAS) and the Highway Economic Requirements System -- State Version (HERS-ST). The NBIAS and HERS-ST software packages use data sets collected by every State and U.S. territory. Each software package calculates the economic impact of the condition and performance of bridges and highways on highway users and agencies. The packages use engineering and economic principles to evaluate highway improvement projects by calculating user and agency benefits resulting from project strategies. Each potential strategy is subjected to a rigorous BCA that considers travel time, safety, vehicle operation, emissions, and agency maintenance and improvement.
Each of the tools listed is available at no charge to agencies. Training and technical support also are available free.
Getting BCA Into Decisionmaking
The need to meet increasing demands on the Nation's transportation system with diminishing capital and human resources poses a significant challenge to transportation decisionmakers. An inventory of aging assets, coupled with a focus on reactionary measures rather than strategic long-term investments, can lead to increasingly expensive options for investments. Public perception of decisions on transportation investments and a demand to do more with less, however, provide the leverage to implement proactive investment practices. Decisionmakers need to make every dollar work better by increasing returns on investments. To meet this need requires a shift from a reactive to a proactive management strategy -- a shift that BCA can assist in making successfully. Making that shift involves improving the decisionmaking framework that consists of numerous considerations, of which BCA is an important tool.
According to An Economic Analysis of Infrastructure Investment, a 2010 publication of the U.S. Department of the Treasury, "Not all infrastructure projects are worth the investment. Investing rationally in infrastructure is critically important."
Analyzing transportation investments strategically is crucial. Benefit-cost analysis is a tool that can aid in this process.
Nathaniel Coley is an engineer in FHWA's Office of Infrastructure and manages the agency's engineering economic analysis program. Previously, he was a program manager for asset management for Maryland transit, aviation, and port administrations, as well as a bridge engineer at the Maryland State Highway Administration. Coley has a B.S. in civil engineering and a master's degree in business administration, and he is a Certified Project Management Professional.
For more information, see www.fhwa.dot.gov/infrastructure/asstmgmt/economic.cfm, or contact Nathaniel Coley at 202-366-2171 or email@example.com.
The author would like to thank Rabinder Bains, senior economist with FHWA's Office of Transportation Policy Studies, for her contributions to this article.
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