Incidental Effects

Incidental effects are the “side effects” of taking a project or a merger. Also called externalities these are the incidental effects that the activities or actions of one party have on another party.

Positive externalities occur when the actions of a person or entity have a positive impact on an unrelated party. Negative externalities occur when a party’s actions have an adverse impact on other individuals or entities. Various types of positive and negative externalities exist in any kind of market. Examples:

• Industrial Output: If a company manages a manufacturing firm or an energy company then various types of byproducts are created during the production of your firm’s goods or energy. They must make arrangements to dispose of this waste, and that may include burning it, or dumping it in landfills.
• Building: When a new building is constructed for a business, negative externality may be created in the form of traffic because clients will crowd the surrounding roads.

A company is contemplating setting up of a chemical plant in a remote, backward area of the State of Gujarat. The company can attract the working force for the plant only if it provides basic facilities such as residential houses, approach roads, schools, hospital and so on to the employees. The estimates of cash flows of the chemical plant would include cash outlay to be incurred in creating the~ basic facilities for the employees.

Consider yet another example. A state government is considering the construction of a railroad bridge. In itself the construction of the bridge may not be beneficial. However, if the incidental effects, such as the operation of railroad, are considered, the proposal may become enormously profitable. The cash flow estimates of constructing the bridge should include the net benefits of operating the railroad.