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MANUAL
: VI
Subject
Code
: BBA - 304
Approved By :
H.O.D. (Management)
1
II
III
IV
PLAN
Topic
Project Planning Overview :
Capital investments : Importance & difficulties, Types of capital
investments, Phases of capital budgeting, Levels of decision
making, Facets of project analysis, Feasibility study, Objectives of
capital budgeting, Techniques of capital budgeting.
Capital Allocation Framework & Financing of Projects :
Capital structure, Mean of financing, Equity capital, Preference
capital, Internal accruals, Term loans, Debentures, Working capital
requirement & its financing, Miscellaneous sources, Raising
venture capital, Raising capital in international market.
Cost of project, Estimates of sales & production, Cost of
production, Profitability projections, Projected cash flow
statement, Projected balance sheet.
Market & Demand Analysis :
Conduct of market survey, Characterization of market, Demand
forecasting, Uncertainties in demand forecasting, Market planning.
Technical Analysis :
Manufacturing process / technology, Technical arrangements,
Product mix, Plant capacity, Location & site.
Project Management :
Forms of project organization, Project planning, Project control,
Human aspects of project management.
Network Techniques :
Development of project network, Time estimation (simple
practical problems with EST, EFT, LST, LFT, Total Float),
Determination of critical path, Scheduling when resources are
limited, PERT model, CPM model (simple practical problem of
crashing), Network cost system.
Project Review & Administrative Aspects :
Control of in-progress projects, Post completion audits.
Risk & Analysis Uncertainty :
Using sensitivity, Simulation, Decision & Other techniques.
No. of
Hours
8
4
4
4
6
2
4
Accept
PBP < Target period
ARR > Target rate
NPV > 0
IRR > Cost of capital
BCR > 1
Reject
PBP > Target period
ARR < Target rate
NPV < 0
IRR < Cost of capital
BCR < 1
8.1 Pay-back PeriodThe length of time required to recover the initial investment.
As such, shorter the payback period, the more desirable is the project. It is
simple method.
Financing of Projects :
A project requires investment in land, plant & machinery, miscellaneous fixed
assets, technical know-how, distribution network, working capital, etc.
Capital Structure The two broad sources of finance available are shareholders
funds (equity) & loan funds (debt). The basic differences are as follows:
Equity
Shareholders have residual claim
on income & wealth of the firm.
Ordinarily has an indefinite life.
Investors enjoy facility to control
the affairs of the form.
Dividend paid is not a tax deductible
payment.
Debt
Creditor have fixed claim of interest
& principal payment.
Fixed Maturity.
Investors play a passive role.
Interest paid is a tax deductible
payment.
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Debt
Applicable tax rate is high
Business risk exposure is low
Dilution of control is as issue
Assets of the project are mostly
tangible
Project with few growth options.
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Mean of Financing -Finance for a project can be obtained from variety of sources.
A firm can raise equity & debt capital from both public and private sources.
Capital raised from public sources is in the form of securities offered to public
through an offer document filed with SEBI. This can be traded on public
secondary markets.
Private capital may come from loans given by bank or financial institutions, etc.
Besides other sources may be Internal accruals like depreciation charges &
retained earnings, Working capital advance, etc.
Equity Capital represents ownership capital as equity holders collectively hold
the company. They enjoy the rewards & bear the risks of ownership. However their
liability is limited to their capital contributions unlike the liability of the owner in a
proprietary firm and the partners in a partnership concern. The terms followed are
Authorised Capital : The amount of capital that a company can potentially issue as
per its memorandum.
Issued Capital : The amount offered by the company to the investors.
Subscribed Capital : The part of the issued capital which is subscribed by the
investors.
Paid-up Capital : The actual amount paid-up by the investors.
Typically Issued, Subscribed & Paid-up capital are same.
Par value : The value stated in the memorandum & written in the share certificate.
It is generally Rs. 10 /Issue Price : The price at which the equity share is issued. Generally issue price &
par value are same.
Book value :
Paid-up equity capital + Reserves & surplus -- Intangibles
No. of outstanding equity shares
Market value : The price at which it is traded in the market. This price can be
easily established for a company which is listed on the stock market & actively
traded.
Rights of Equity Shareholders :
Right to Income the equity investors have a residual claim to the income of
the firm after satisfying the claim of all other investors. The income of the
equity shareholders may be retained by the firm or paid-out as dividends as
per decision of the Board of Directors.
Right to control Equity shareholders elect the Board of Directors & have
the right to vote on every resolution placed before the company. Scattered &
ill-organized, equity shareholders fail to exercise their collective power
effectively. Often the indirect control is weak & ineffective because of
indifference of most of the shareholders to attend annual general meeting
and rarely bother to cast their votes by post or proxy.
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Debentures
(2)
(3)
(4)
(5)
(6)
(7)
The working capital requirements should be met from both short-term as well as
long-term sources of funds. The finance manager has to make use of both shortterm & long-term sources of funds in a way that the overall cost of working capital
is the lowest and the funds are available on time & for the period needed.
There are limits in obtaining working capital advances from commercial banks.
They are decided by :
(a) Lending norms followed by respective banks.
(b) Against current asset a certain amount of margin money pr0ovided.
Assessment of Working Capital Requirement:
Different methods are available
1.By estimation of different constituents of working capital individually.
2. Percent of Sales Approach based on experience and past data.
3. Operating Cycle Approach begins with acquisition of raw materials
& ends with collection of receivables. Duration of working capital or
operating cycle O = R + W + F + D C
where
capital.
o Venture capital means funds made available for start-up firms and small
businesses with exceptional growth potential.
o Venture capital is money provided by professionals who alongside
management invest in young, rapidly growing companies that have the
potential to develop into significant economic contributors.
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Projected Cash Flow Statement The cash flow statement shows the
movement of cash into & out of the firm and its net impact on cash balance within
the firm.
Projected Balance Sheets The balance sheet shows the balance in various
asset & liability accounts reflecting the financial condition of the firm at a given
point of time.
Assets
Fixed assets
Investments
Current assets, loans & advances
Misc. expenditures & losses
The liabilities side of the balance sheet is the sources of finance employed by
the business.
Share capital paid-up equity & preference capital.
Reserves & surplus accumulated retained earnings shown in different accounts
like capital reserve, investment allowance reserve & general reserve.
Secured loans Borrowings of the firm against security like debentures, term loans
from financial institutions & loans from commercial banks.
Unsecured loans Borrowings of the firm without specific security like fixed
deposit from public & unsecured loans from promoters.
Current liabilities are obligations which mature in near future generally within a
year. These obligations arise from items which enter the operating cycle like raw
materials payment, accrual of wages, rentals, etc.
Provisions include provision for tax, provident fund, pension & gratuity,
proposed dividends, etc.
The assets side of the balance sheet shows how funds have been used in the
business.
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Fixed assets Tangible resources for producing goods & services. Shown as
original cost less depreciation.
Investments Financial securities owned by the firm.
Current assets, loans & advances Cash, debtors, inventories of different kinds,
loans & advances made by the firm.
Miscellaneous expenditures & losses Outlays not covered in the described asset
accounts & accumulated losses, if any.
For preparing projected balance sheet at the end of year n+1, the following
information are required:
o
o
o
o
o
o
o
UNIT II
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Characterization of Market:
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Based on the information gathered from secondary sources & through market
surveys, the market for the products / services may be described in terms of the
following
Effective demand in the past & present.
Breakdown of demand.
Price
Methods of distribution & sales promotion.
Consumers
Supply & competition
Government policy
Demand Forecasting:
The future demand may be estimated after collecting information about various
aspects of the market & demand from primary & secondary sources. A wide range
of forecasting methods are available to the market analysts as follows:
1.0 Qualitative Methodsbased on the views of experts e.g. Delphi method,
etc.
2.0 Time Series Projection Methodsgenerate forecasts on the basis of analysis
of historical time series e.g. Trend projection method, Exponential
smoothing method, Moving average method, etc.
3.0 Causal MethodsChain ratio method, Consumption level method, End use
method, etc.
Technical Analysis
Manufacturing Process / Technology: Out of different alternatives available,
Choice of technology is influenced by a variety of considerations
Plant capacity
Principal inputs
Investment outlay & production costs
Proven technology
Product mix
Latest developments
Ease of absorption
Plant Capacity: refers to the quantum of the item that can be manufactured
during a given time period. Several factors as follows have a bearing on the
capacity decision
Technological requirements minimum economic size especially in
chemical plants.
Input constraints basic raw materials, utilities like power, water, etc.
Investment cost
Market conditions
Resources of the firm both managerial & financial
Government policy
Location & Site: the choice is influenced by proximity to raw materials &
market, infrastructure facilities, availability of utilities & manpower, govt. policy,
environmental requirements, etc.
Proximity to raw material and markets
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A perfect location model is the one where the total cost i.e. raw material
transportation cost, production cost and distribution cost for the final product is
minimized.
Availability of infrastructure
Availability of power, transportation, water and communications should be
carefully assessed.
Labor situation
Availability of labor
Prevailing labor rates
Labor productivity
Degree of unionization
Government policies
In case of public sector projects, location is directly decided by the govt..
In case of private sector, location is influenced by certain govt. restrictions and
inducements.
Other factors
Climate conditions
General living conditions
Ease in coping with pollution
UNIT III
Project Management : Forms of Project Organization, Project
Sequencing of Activities
Project Planning:
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Planning is a vital aspect of management which serves several important functions Basis of organizing different works of the project & allocating
responsibilities to individuals.
Means of communication & coordination between all involved in the
project.
Induces people to look ahead.
Instills a sense of urgency & time consciousness.
Establishes the basis for monitoring & control.
Comprehensive project planning broadly covers the following areas
Detail planning of the project work with break down of activities. The
activities should be properly scheduled & sequenced.
Manpower planning Manpower required in different phases of the project
must be estimated realistically & the allotment of responsibilities.
Financial planning to control the expenditure in time phased manner as per
budgetary estimates & provision.
Communication, reporting & information planning for proper
implementation & monitoring / control of the project.
Tools of Planning Bar charts, Network techniques, etc.
Project Control:
Control becomes the dominant concern of the project manager after the project is
launched. It involves a regular comparison of performance against targets, search
for causes of deviation & initiate corrective measures or check variances. There are
different approaches for project control adopted based on requirements &
suitability, some of which are furnished
Variance Analysis This is a traditional approach involving comparison of
the actual cost with the budgeted cost to determine the variance. This has
the shortcoming of backward looking rather forward looking.
Performance Analysis This may be based on (a) budgeted cost for work
scheduled & work performed, (b) actual cost of work performed,
(c) Additional cost for completion, etc.
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D-1
B
A
1
D-2
1. Slack is the freedom for scheduling or to start any event. An event for
which slack is zero is critical event.
Float - Critical activities have no spare time. However, for non-critical
activities certain amount of spare time is available which is called Float.
This may be total, free or independent .
Total Float signifies the maximum delay that can be permitted in the
completion of activity without affecting project completion.
Free Float is the time an activity can be rescheduled without affecting
the commencement of succeeding activity.
Independent Float is the time by which an activity can be rescheduled
without affecting both preceding & succeeding activities.
Presence of float in a project signifies under utilization of resources and
indicates inherent flexibility in the process.
Features of Network :
1. In network diagrams arrows (
) represent activities & circles (O)
represent the events. Single activity can be represented once only in
the network & events should not be repeated.
2. More than 1 activity can originate from an event or lead into an event.
5. The tail of the arrow represents the starting point of time of the
activity & arrow head represents completion of time of the activity.
6. There should be no loops in the project network.
Time Estimates : Generally 3 time values are obtained for each activity.
Optimistic time (to) - shortest possible time to complete the activity if
everything goes well i.e. without provision for any delay or setbacks.
Most likely time (tm ) - is the best estimate of time which is likely to be
accomplished.
Pessimistic time (tp) - longest time to complete the activity under
adverse conditions i.e. everything went wrong excluding force majeure
situation.
to + 4 t m + t p
Expected activity time (te ) - is computed te = ---------------6
Earliest start time (EST) of an activity is the earliest finish time of
preceding activity as network logic indicates that an activity cannot
commence until the preceding event is completed.
Earliest finish time (EFT) equals the earliest starting time plus duration
of activity.
Latest starting time (LST) is the latest finishing time minus activity
duration.
Latest finish time (LFT) is the maximum time allowed to finish an
activity.
PERT NETWORK
This is a diagram showing the steps needed to reach a stated objective. It
depicts events, activities, interrelation-ship and recognizes progress to be
made in one activity before subsequent activities can begin. Thus PERT
network is a flow chart of independent events & activities each of which
must be completed to achieve project objective. This is used with
uncertain time estimates.
O----O----O----O
CRITICAL PATH METHOD
The comparison of duration of different paths identifies a path whose
duration is the longest. The path with longest duration of the project is
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called the critical path & the activities are known as critical activities.
Critical activities have no float associated with them. If any activity on
this path is delayed, then entire project is affected. The critical path helps
to identify a set of activities & events which are critical and as such must
be carefully monitored & controlled.
The critical path is shown by thick or red or double line for clear
differentiation.
Characteristics
Every network has a critical path.
It is possible to have more than one critical path.
Critical path connects first to last events.
Critical path is the longest path from the beginning event to the end
event.
The minimum time required for completing the project is the
duration of critical path.
Earliest starting time is same as latest starting time
Earliest finishing time is same as latest finishing time
Distinction between PERT and CPM
The basic differences between the two techniques are summarized below :
Sl.No.
PERT
CPM
A
probabilistic
model
with
uncertainty
in
A
deterministic
model
with certainty in
1.
2.
3.
4.
5.
activity duration
experience.
based
upon
past
Crashing of a Project:
Cost plays an important role in any project in addition to time management. Time
cost relationship is of great significance in project management.
Crash time is the minimum possible time in which the activity can be completed
and the cost associated with this time is the crash cost.
The project costs consist of both direct & indirect costs.
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Direct costs can be linked directly with the activity viz. labor, material, equipment
rental charges, etc. Generally increasing the direct activity cost e.g. working overtime by labor force can reduce the activity duration.
Indirect costs are overhead costs, interest charges, loss of revenue / benefit due to
late completion of the project, etc.
An optimal project completion time will be the time for which sum of the direct &
indirect costs are minimum. It can be observed that shortening the duration leads to
increase in direct cost but decrease in indirect costs. The strategy will be justified
only when there is net savings.
Actual time-cost relationship could be of any shape but with the assumption of
linearity for an individual activity, cost of crashing an activity by unit time is
Crash Cost Normal Cost__
Normal Time Crash Time
Procedure for Reducing Project Completion Time:
1. Identify all critical paths.
2. Compute for each activity on critical path, cost of reducing activity time
by one unit
Crash Cost Normal Cost__
Normal Time Crash Time
2. Consider the activity where the cost of crashing by unit time is
minimum. However no activity can be reduced lower than the crash
time. If there is at least one critical path on which none of the activities
can be crashed then no further reduction of project completion time is
possible.
Network Cost System : The techniques of PERT & CPM overlooks the cost
aspects which are equally important. To provide a vehicle for cost planning &
control of projects, the network cost system was developed.
The costs are planned, measured, analyzed & controlled in terms of project
activities.
Actual cost or cost incurred till date can be obtained by summing up costs for
various activities as costs are recorded activity-wise.
Value of work completed till date can be obtained by multiplying % work
completed with budgeted cost.
Cost over-run when the cost incurred is more than value of work done.
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Cost under-run when the cost incurred is less than value of work done.
Actual cost --- Value of work done
Cost over-run (under-run) to date:-------------------------------------------------- x100%
Value of work done
Project Review & Administrative Aspects:
A project is monitored during implementation phase so that time & cost over-runs
are minimized. After a project is completed & commissioned, the performance is
reviewed to check whether it is line with expectations.
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UNIT IV
Risk and Uncertainty Analysis : Using Sensitivity, Simulation, Decision &
Other Techniques.
--------------------------------------------------------------------------------------Risk : Risk is inherent in every business with variation. More so in the Capital
Budgeting decisions as they involve costs & benefits extending over a long period
of time during which many changes may occur in unanticipated ways.
In view of differences in risks in different types of projects, variations in risk are to
be evaluated. Different techniques have been suggested, but no single technique
can be deemed as best in all situations.
Risk analysis is one of the complex and multi-faced phenomenon of capital
budgeting.
Sources / Types of Risk :
Stand-alone Risk represents the risk of a project when viewed in isolation.
Corporate Risk reflects the contribution of a project to the risk of the firm.
Project Specific the earnings & cash-flows of the project may be lower
than expected due to estimation error or poor quality of management.
Competitive Risk - the earnings & cash-flows of the project may be affected
by unanticipated actions of the competitors.
Industry specific Risk Unexpected technical developments and regulatory
changes which will have an impact on the earnings & cash-flows of the
project.
Market Risk Unanticipated changes in macro-economic factors like GDP,
Growth rates, Interest rates & Inflation have an impact on all projects in
varying degrees.
International Risk - the earnings & cash-flows of the project may be
different than expected due to change in exchange rate & political factors.
The techniques suggested to handle risk in capital budgeting may be divided into 2
categories
1.0 Stand-alone risk of a project
2.0 Risk of a project in the context of firm or market.
Techniques of
Risk Analysis
Stand-alone Risk
Corporate Risk
Analysis
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Sensitivity
Analysis
Market Risk
Analysis
Simulation
However, in reality more than one variable may change at a time. A decision
maker may not feel confident if all the factors are not combined into a single
analysis with probabilities assigned.
The interpretation of results are subjective i.e. same sensitivity analysis may
lead one decision maker to accept the project while another may reject it.
1.5 Simulation :
This gives a better comparison of risk and return. The simulation is done with the
help of special software in a computer being a complex method.
The steps involved in simulation analysis are as follows :
1. Establish a relation between the NPV with project parameters & the variables.
2. Forecast various outcomes & assign probabilities to them.
3. Decide number of iterations (simulation runs) to be carried out.
4. For each iteration select different values for forecast parameters.
5. Calculate the NPV for the values of parameters selected in each run.
6. Repeat steps 4 & 5 for number of iterations selected.
7. Now one NPV is available for each run. Plot the frequency distribution of
each NPV.
Frequency
Net
Present
Value
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Decisions are very important in all aspects of life. In various situations in life, we
have to choose between different alternatives available sometimes even with
incomplete information. A wrong decision taken in haste without detail & longterm considerations may lead to disaster. As such before arriving at decisions all
pros & corns are examined from all possible angles to avoid future problems.
The simulation method gives a profile of the outcome with due recognition of
probabilities. But decision rules are not given. However, if the expected return &
standard deviation are calculated, then decision guidelines can be drawn.
From the above graph, the following decisions may be considered
(1) ProjectB seems to have clear edge over ProjectA. B has a higher expected
value & almost the same dispersion (or standard deviation) as compared to A.
(2) Between ProjectsB & C, the risk perception of the decision maker will have a
greater effect on the choice. ProjectC is less risky though giving an expected
NPV similar to B.
Based on the types of information available, the decision environment can be
classified as follows :
Decision making under certainty Complete & accurate knowledge of the
outcome of each alternative.
Decision making under un-certainty Multiple outcomes for each
alternatives can be identified without the knowledge of probability.
Decision under risk - Multiple outcomes for each alternatives can be
identified but with the knowledge of probability.
Decision Tree :
It consists of network of nodes, branches, probability estimates & pay-offs. There
are two types of decision trees deterministic & probabilistic. These can further be
divided into single stage & multi stage trees.
Decision tree diagram is useful for portraying the inter-related, sequential & multi
dimensional aspects of any major decision problem.
2.0 Corporate risk & Market risk it is analyzed on following groups
2.1 Port folio related risk measures : the mean variance portfolio model is most
widely used which is defined by the variance or standard deviation
of the probability distribution of portfolio returns.
The return of investment is generally measured as a holding period return
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