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A Broad Understanding

Economic and Financial Analysis of Zones. A Broad Understanding. Why Do We Do the Analysis?. To determine whether an investment in a Zone is worthwhile or viable: Will it be profitable? Will the profit be better than a safe and certain alternative?

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A Broad Understanding

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  1. Economic and Financial Analysis of Zones A Broad Understanding

  2. Why Do We Do the Analysis? • To determine whether an investment in a Zone is worthwhile or viable: • Will it be profitable? • Will the profit be better than a safe and certain alternative? • Will the profit be enough to justify the risks?

  3. How Do We Determine If An Investment is Profitable? We look at the Cash Flow and see if it is positive Cash Flow = Incomings minus Outgoings   = Earnings minus Spending Lets Look at Each in Turn

  4. Spending or Outgoings In investing in a Zone what do we spend our money on? •  Our original investment paid out of our own money to develop the Zone • Paying back any money borrowed to develop the zone • Paying the interest on money borrowed • Paying for the maintenance of the zone • Paying for the provision of services to the zone such as security

  5. What Do We Spend Our Money On In Developing the Zone? (1/2) What Do We Spend Our Money On In Developing the Zone? •  Buying the land • Fencing the site • Leveling the site • Building Roads

  6. What Do We Spend Our Money On In Developing the Zone? (2/2) What Do We Spend Our Money On In Developing the Zone? • Building distribution network for utilities -- electricity, water, telephone, internet • Building waste removal network • Constructing electricity generator if needed • Constructing any buildings that are necessary -- standard factory buildings, service buildings, administration buildings, community facilities.

  7. How Do We Earn Cash from the Zone? • Sell land in the Zone • Lease land in the Zone • Rent buildings in the Zone • Charge for maintenance • Charge for service provision • Charge for electricity and water provided • Charge for waste removal and treatment • Sell the Zone as an ongoing business

  8. How do we express Profit? Remember that PROFIT is given by Earnings minus Spending Expressed as a Percentage (%) of the Developer’s Investment of Cash This is known as the Return on Equity or Internal Rate of Return (IRR) on Equity

  9. Is the Profit better than a safe alternative? What are the alternatives to spending money developing a zone in Haiti? • Put the money in the Bank • Buy a Government Bond • Invest in the Stock Market in safe stocks • Invest in a Zone somewhere else There Are Many Alternatives

  10. Over the long term what can these alternatives earn? For the purposes of this feasibility study we assume that a developer could earn 5% Over the long term from a safe alternative investment

  11. Is investing in a Zone in Haiti risky? Investing in a Zone anywhere in the world is risky In Haiti the following factor may make such an investment risky: • Inflation • The Industry Mix attracted • Willingness and Ability to Pay of Potential RMG Tenants • Labour Conditions, Productivity and Price • Site Development Costs • Cost of Capital or Interest Charges

  12. What is the effect of this Risk on a Development Decision? A Developer will only invest if the profit from the investment is enough to cover the risk. That means that that the IRR must be above the long term bond rate. How much is the BIG QUESTION This risk adjusted Rate is known as The HURDLE RATE

  13. So what is the HURDLE Rate for this Study? For this Study we assume that The Risk Premium is 10% Now recall Hurdle Rate = Bond Rate + Risk Premium Thus for this study the Hurdle Rate = 5% + 10% = 15% Study HURDLE RATE is 15%

  14. Market disequilibrium in Haiti means that the IRR is below the Hurdle Rate Price Price developers need to cover costs Gap to be covered by PPP Price tenants are willing to pay t0 tn Time

  15. Take Aways • A Financial Analysis is done to determine if an investment in a Zone is worthwhile • It is IRR on Equity Invested is greater than the Hurdle Rate • The Hurdle Rate is the Bond Rate plus the Risk Premium • The IRR on Equity is given by Profit expressed as a Percentage of Equity Invested by the Zone Developer • Profit is given by Earnings Minus Spendings • In Haiti the price tenants are willing to pay is less than the developers costs IRR for a Private Investor is less than Hurdle Rate of 15% without the participation of GOH

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