Financial Feasibility: How to Calculate Your Project’s Return and Payback Period

The market study tells you whether there is demand, and the technical study tells you how you will produce. The financial study answers the question that matters to investors and financiers: will the project return its money and generate a return worth the risk? In this article we explain the core indicators in simple language, with a practical example.

What does the financial study include?

• Investment costs: fixed assets, fit-out and pre-operating costs.
• Working capital: the inventory, receivables and cash needed to operate.
• Expected revenue: based on the market study, pricing and sales volume.
• Operating costs: raw materials, salaries, rent and general expenses.
• Projected statements: the income statement, cash flows and financial position.
• Feasibility indicators: the subject of this article.

For example, the Saudi Industrial Development Fund (SIDF), in its feasibility study preparation guide, requires a financial model in Excel that includes expected revenue, production cost, the income statement, the proposed financing structure, the liquidity plan, cash flows, the payback period, net present value and the internal rate of return.

1. Payback period

The question: When will the project recover what was invested in it?

If the annual cash flow is constant:

Payback period = initial investment ÷ annual net cash flow

If cash flows vary, they are added up year by year until the total equals the initial investment.

Advantage: easy to understand, and measures how quickly the money is recovered. Drawback: it ignores the time value of money and what happens after the payback period.

2. Return on investment (ROI)

Return on investment = (net profit ÷ investment) × 100

A quick indicator for comparing alternatives, but it does not account for the timing of profits.

3. Net present value (NPV)

A riyal you will receive in five years is worth less than a riyal today. Net present value converts all future cash flows into today’s value using a discount rate that reflects the cost of financing and the risk.

Net present value = sum of [cash flow in year ÷ (1 + discount rate) ^ year number] − initial investment

• If it is positive: the project earns a return higher than the required discount rate.
• If it is negative: the project does not cover the cost of the funds invested in it.

4. Internal rate of return (IRR)

This is the discount rate that makes the net present value equal to zero. It can be understood as the project’s “actual annual return”.

The rule: if the internal rate of return is higher than the cost of financing or the required return, the project is financially attractive.

5. Break-even point

Break-even point in units = fixed costs ÷ (unit selling price − unit variable cost)

It tells you how many units must be sold to cover all costs, with neither profit nor loss. It is very useful for testing how realistic the sales plan is.

A simple example

A project with an initial investment of SAR 500,000 is expected to generate a net cash flow of SAR 150,000 a year for five years:

• Payback period = 500,000 ÷ 150,000 ≈ 3.3 years.
• Net present value at a 10% discount rate: the present value of the cash flows is about SAR 568,600, so the net present value is about SAR 68,600 (positive).
• Internal rate of return is about 15%, which is higher than the 10% discount rate.

The result: the project is financially acceptable under these assumptions. But what matters most is sensitivity testing: what if sales fall by 20%? Or costs rise? A good study presents more than one scenario — and this is exactly what the Saudi Industrial Development Fund explicitly requires: sensitivity analysis and risk assessment under different scenarios.

The figures are illustrative only and do not represent a real project.

Working capital: the item that gets forgotten

The Saudi Industrial Development Fund points out that a project needs the financial capacity to cover its working-capital needs in the early years, before it starts generating operating profit. So don’t stop at calculating the cost of assets; calculate the cash needed to run the project until it covers its expenses from its revenue.

Common mistakes in the financial study

• Assuming full production capacity is sold from the first year.
• Neglecting working capital.
• Using a low discount rate that does not reflect the actual risk.
• Not linking revenue to the findings of the market study.

How CBF can help

We prepare complete market, technical and financial feasibility studies, with an editable financial model and sensitivity and scenario analysis, in a format suitable for presenting to investors and financiers.

Source: Saudi Industrial Development Fund — feasibility study preparation guide (sidf.gov.sa)

Try it on your own project: Feasibility calculator→