Assessing the Economic Viability of Business Ideas for Productive Use

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Overview

For advance assessment of the economic viability of any business idea, experience from Integrated South Africa Business Advisory (INSABA) has shown that seasoned business consultants may be capable of qualitatively evaluating the viability of specific business ideas based on their in-depth understanding of local economic structures. Proper appraisal of a business idea’s viability requires extensive data collection and in-depth technological study to assess the idea’s feasibility under given socioeconomic conditions. If similar business ideas have already been implemented elsewhere in the region or country, those real cases can and should be analysed and possibly transferred and adapted to the location under study.


Feasibility

INSABA developed a sophisticated set of tools for assessing the feasibility of small businesses powered by electricity generated from renewable sources (see example below). These tools guide future entrepreneurs through a simple equation calculating the return on investment (ROI), a sensitivity analysis measuring changes in key business parameters as a function of changes in ROI, a competitiveness analysis, and a cash flow analysis.

The following data are required for these calculations:

  • investment capital and lifespan
  • production price per unit
  • variable cost per unit
  • cost of energy per unit
  • amortisation per unit
  • direct costs per unit
  • gross margin per unit
  • fixed cost per unit


Since most micro and small businesses in rural environments might not be able to calculate or even estimate all these data, the INSABA approach provided the facilitating services of an interdisciplinary advisory team (IAT). These experienced business advisors were trained in the methodology in a five-day INSABA toolkit seminar. They, in turn, trained local potential producers and suppliers of goods and services in how to obtain the necessary data and use the various tools. The methodology tends to be rather costly when considering small investment opportunities valued at less than USD 5,000.

The table below presents an INSABA business pre-assessment tool for calculating the ROI for a particular economic activity undertaken by a micro, small or medium-size enterprise (MSME). The example chosen here is a fruit drying business that utilises a solar dryer. The same computational tool can be applied for calculating ROI in electrical equipment.


Calculation of Return on Investment (ROI)

Calculation of ROI for a solar dryer used for drying fruit


Apple dryer

Determination of parameters

Definitions

Investment capital

9,957

Estimated, then computed for ROI0,3

Total cost of technology investment

Investment lifespan

5

Estimated for solar dryer

Service life of the technology - i.e. period before it must be replaced

Production

520

2 kg of dried apple chips sold daily 5 days per week for 52 weeks/year = 520 kg per annum

Units produced per year

Price/unit

19.50

Current market price

Sales price per unit produced and sold

Revenue

10,140

Euro

Sales price multiplied by number of units sold

Variable cost/unit

8.00

Costs for fresh apples: 10 x €0.55/kg = €5.5/kg (sales price of €0.55/kg is relevant as this is the opportunity cost of the farmer); costs for packaging: €0.50/kg; costs for preparation: 10 kg fresh apples can be prepared in 15 minutes at an hourly wage of €8.00: 2.00 €/kg

Cost per unit produced e.g. material, processing packaging

Cost of energy/unit


no other additional cost

Costs of power and fuel added to variable cost

Total fixed costs

1,000

Cost for display, handling

Annual indirect costs such as rent, telephones and salaries

Amortisation/unit

3.83

1,991


Amount needed per unit to cover investment in lifetime

Direct costs/unit

11.83

6,151

Variable costs plus amortisation plus cost of energ

Gross margin/unit

7.67


Sales price per unit less the direct costs per unit

Fixed costs/unit

1.92


Total fixed costs divided by the number of units produced

Total costs

13.75

7,151

Direct costs plus fixed costs

Net margin

5.75

2,989

Revenue less total costs

ROI

30%

Return on investment = net margin divided by capital investment

Payback period in years

2.00

Capital investment divided by cash flow until initial expenses are compensated by the net margin



Further Information



References

Good practice from the INSABA programme in Sub-Saharan Africa Introduction


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