The town of .Magdeburg has a new subdivision, Paradise Mountain, at its outskirts. The town wants to encourage the growth of Paradise Mountain by improving transportation between Paradise Mountain and the centre of Magdeburg. Two alternatives are being considered: (1) new buses on the route between Paradise Mountain and Magdeburg and (2) improvement of the road between Paradise Mountain and Magdeburg.
Both projects will have as their main benefit improved transportation between Paradise Mountain and Magdeburg. Rather than measuring the value of this benefit directly to the city, engineers have estimated the benefit in terms of an increase in the value of land in Paradise Mountain. That is, potential residents are expected to show their evaluations of the present worth of improved access to the town centre by their willingness to pay more for homes in Paradise Mountain.
The road improvement will entail construction cost and increased operating and maintenance costs. As well, the improved road will require construction of a parking garage in the centre of Magdeburg. The new buses will have a first cost as well as operating and maintenance costs. Information about the two alternatives is shown below.
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Road Improvement
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New Buses
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First Cost
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€ 15,000,000
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€ 4,500,000
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PW(Opening and maintenance cost)
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5,000,000
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12,000,000
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Parking garage cost
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4,000,000
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Estimated increased land value
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26,000,000
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18,000,000
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(a) Compute the benefit-cost ratio of both alternatives. Is each individually viable?
(b) Csing an incremental benefit-cost ratio approach, which of the two alternatives should be chosen?
(c) Compute the present worths of the two alternatives. Compare the decision based on present worths with the decisions based on benefit-cost ratios.