Social and Commercial Profitability Analysis

Social or National Profitability

Public projects like road, railway, bridge and other transport projects, irrigation, projects, power projects, etc for which socioeconomic considerations play a significant part, rather than mere commercial profitability. Such projects are analysis for their net socioeconomic benefits and the profitability analysis of such projects is known as social or national profitability analysis which is nothing but the socioeconomic cost benefit analysis done at the national level.

Steps involved in determination of social or national profitability:-

  1. National/Social profitability analysis takes into account the real cost of direct costs and real benefit of direct benefits,. For instance, some of the inputs may be subsidized. Only the subsidized prices of input is what is relevant for assessing commercial profitability. However the national profitability analysis takes into account the real cost of inputs i.e. cost of input had they not been subsidized. Accordingly the required adjustment to direct cost of input are made for national profitability analysis.
  2. National/Social profitability analysis takes into account the indirect costs and indirect benefits to the nation.While a nation bears the indirect, the people of the nation enjoy the indirect benefit. Hence indirect costs and benefits are given due recognition and accounted for in social cost benefit analysis. It is however difficult to assess exactly the quantum of indirect costs and indirect benefits.   Suppose construction of a bridge over a river. It’s indirect benefits may include improved communication facilities reduction in transportation costs, reduction in traveling time etc. while the indirect cost may include acquisition of private land by the state, removal of industrial, commercial, agricultural activities that prevailed in the land that was acquired disturbance of ecological balance etc.

National/Social profitability analysis can thus be regarded as a refinement over commercial appraisal taking the hidden factors into account. National/Social profitability analysis is mainly used for evaluating public investment projects. From the society’s standpoint, the project should maximize the aggregate consumption or the addition to the flow of goods or services in the economy investor looks for maximization on his individual basis, the society’s interest should look for maximization of the total output of the economy. The need total thus arises to have an analysis done of social costs and social benefits.

The various inputs required for the project are drawls out of the resources of the economy and constitutes social costs. And the output of the any of the public project represent social benefits. The input of goods and services and the outputs should be valued with reference to their relative value to society.

Commercial or Financial profitability

The national development point of view there are always more projects than there are resources and hence the necessity to appraise projects for selection. While the obvious choice will be the projects with higher returns the complexity arises because of the need to appraise projected outcome based on forecasts in a world of uncertainly, particularly in the context of endemic inflation. In the case of large projects, particularly public sector projects involving the building up of infrastructure it is essential to assess the social merits of the investment proposals.

Projects emanate from diverse and dispersed sources, such as individuals firms or institutions, and government at the state and central levels. In instance where the state government is not the owner of the business. The traditional yard stick of commercial or financial profitability is used for selection of projects for implementation. The financial benefits get related to the financial costs of the project and if there is a net surplus the project merit choice.While the process of selection of individual projects thus meets the profit criteria of the individual investors or promoters, the combination of choices may not necessarily result in the most socials profitable allocation of resources. For developing economies this is the very important factor but it cannot be ignored.

Commercial or financial profitability as the sole deciding factor has two major limitations viz.

  1. Financial or market values seldom match with social values and
  2. What is beneficial to one segment of society may not necessary be so to the entire society.

In financial analysis the market values of input and outputs are reckoned and compared. And since market distortions are many these values fail to reflect the relative worth on the society’s value scale. From society’s stand point, goods and services should be valued in terms of relative contributions to consumption. In the same manner the social value of resource should be reckoned interns of its opportunity cost, represented by the output or consumption value that it is capable of yielding in its next best alternative use.

In a free market economy the dominance of the forces of demand and supply has the effect of the market prices being kept close to social valuation. In a developing economy however there are several distortions entering into the market prices and they are far removed from their social valuation. The distortions arise from the monopolistic status of many large enterprise a system of administered prices in a controlled economy and from various government policy measures such as taxes, duties, controls and foreign exchange regulations.

A project may confer considerable good to society that does not get reflected in financial projections others though financially very rewarding may have some harmful effects on society that the financial results fail to interpret. These effects that are outside the purview of financial projections are known as externalities and are essential ingredients in the social profitability computations. The emphasis in social cost benefit analysis is the import on the whole society and not one segment.

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