A financial analyst's toolkit: analyzing the fiscal impacts of economic development projects.

• Author: Harris, Paul R.
• Position: Report

While no one would deny that the delivery of core services is the most important function of local governments, many would also admit to the politically seductive nature of economic development. The appeal of adding jobs and income is strong, and a healthy economy is an important attribute for any community. That's why nearly all local governments pursue economic development in some form.

There are different approaches to encouraging economic development. One is the laissez-faire approach, in which governments limit their intrusion into the private market. Many large cities, however, do not strictly adhere to this approach: Witness the growth in tax increment financing, property tax abatements, tax credits, and exemptions for economic development. These state and local incentives amounted to more than $50 million in 2002. (1)

The purpose of this article is not to debate whether incentives should be offered, but to provide considerations in analyzing the costs and benefits--the fiscal impacts--of economic development projects. The article also provides an overview of an economic impact analysis (due to space limitations, only the most important elements will be discussed).

THE SIX ANALYTICAL STAGES

Fiscal impact analysis measures the direct public revenues and costs engendered by a development. This article will concentrate on six analytical stages:

* Determine applicable revenues

* Develop or verify economic assumptions

* Account for economic displacement effects

* Consider opportunity costs

* Calculate the cost of economic development

* Account for the time value of money

Determine applicable revenues. The first step is to determine what revenues will accrue to the local government as a result of a new development. These may consist of directly collected revenues and/or some collected by the state, or other entity, and remitted to the locality. Examples include real estate, business personal property, gross receipts, state sales, lodging, rental car, restaurant meals, admissions, utility, local income, and capital stock or net worth tax.

Develop or verify economic assumptions. While identifying revenues subject to local taxation is relatively easy, quantifying them is not always so simple. Where developers seek some form of a public incentive or require public approval (e.g., land rezoning), they typically supply the proposed economic development estimates (e.g., gross sales). These estimates may reflect the developer's best approximation, but a financial analyst should be attentive to the possibility that such numbers may be optimistic. The question, then, is how the analyst is to go about verifying the estimates, or developing estimates if none were supplied. (2)

By using local tax data or national sources, an analyst can verify some economic estimates by comparing proxy estimates of sales per square feet for businesses that are similar to the proposed development. If a locality imposes a gross receipt, business personal property, meal, and/or hotel tax, then a governmental agency is responsible for collecting the tax levy. While disclosure of a single entity's tax revenue may be proprietary information, an analyst may be able to obtain aggregate tax data from the local tax office for a group of establishments within a business classification (aggregate tax data do not constitute a breach of confidentially).The exterior square footage of commercial properties is public information that is available through the local real estate tax assessor's office. An analyst, possessing aggregate sales and aggregate square footage for a group of establishments, can compute a sales-per-square-foot figure and compare these figures to the proposed development. The City of Virginia Beach, Virginia, has developed sales-per-square-foot benchmarks for several classifications of retail establishments as well as class-A office buildings (which are subject to a gross receipts tax in Virginia). (See Exhibit 1 for a hypothetical example of such a calculation.)

What if these taxes are not imposed locally and, therefore, cannot be used as a source in developing local estimates? Fortunately, relatively inexpensive national sources may serve as local proxies. Several sources are:

* BizMiner (www.bizminer.com) provides national sales per square foot for many classifications of retail for $149. See "Retail Sales Per Square Foot" under "Product Overviews"

* The National Restaurant Association's "Restaurant Industry Operation Report" provides national sales per square foot data for $125.

* The U.S Census Bureau's Economic Census provides state-level sales per square feet for selected establishments for 2002.

* Destination Marketing Association International provides convention-spending data.

* Smith Travel Research produces market trend reports on hotel occupancy and average daily hotel rates for cities for $425.

A Word about Hotel- and Convention-Related Expenditures

For cities with a sizeable convention business, there may be local survey data regarding average daily expenditures by category of expense. In lieu of local estimates, the Destination Marketing Association International...