Вы находитесь на странице: 1из 131

Unit-1: Introduction to Management 1.

UNIT – I
INTRODUCTION TO MANAGEMENT

CONCEPT OF MANAGEMENT
Management is what managers do. It refers to the people at top level in the
organization. It is often viewed as maneuvering, i.e. doing something cleverly to change a
situation and make things happen the way you want them to. It has drawn the concepts and
principles from a number of disciplines such as economics, sociology, psychology,
anthropology, and statistics and so on. There are a variety of views about the term
management. Traditionally, the term "management" refers to the activities (and often the
group of people) involved in the four general functions (planning, organizing, leading,
controlling).
Another common view is that "management" is getting things done through others. To
most employees, the term "management" probably means the group of people (executives and
other managers) who are primarily responsible for making decisions in the organization. In
non-profit organizations, the term management might refer to all or any of the activities of the
board, executive director and/or program directors.

Human Physical
Resources resources
Effective and
Managerial efficient Goals
activities utilization

Financial
Resources Information
resources
In general, management is a set of activities directed at the efficient and effective
utilization of resources in the pursuit of one or more goals. Different scholars from different
disciplines have expressed their views on management. For example, economists have treated
management as a factor of production; sociologists have treated it as a class or group of
persons; practitioners have treated it as a process comprising different activities.

Definition:
1. According to Harold Koontz, “Management is an art of getting things done through
and with the people in formally organized groups. It is an art of creating an
environment in which people can perform and individuals and can co-operate towards
attainment of group goals”.
2. According to F.W. Taylor, “Management is an art of knowing what to do, when to do
and see that it is done in the best and cheapest way”.
3. According to Henry Fayol, “To manage is to forecast and to plan, to organize to
command, to coordinate and to control”.
Therefore, a good management includes both being effective and efficient. Being
efficient means doing the task correctly atleast possible cost with minimum wastage of
resources. Management is a process involving planning, organizing, staffing, directing and
controlling human efforts to achieve stated objectives in an organization.

Management Science
Unit-1: Introduction to Management 1.2

IMPORTANCE OF MANAGEMENT
Management has been important to the daily lives of people and to the organizations.
The importance of management may be traced in the following contexts:
1. Achievement of group goals: A human group consists of several persons, each
specializing in doing a part of the total task. Each person may be working efficiently,
but the group as a whole cannot realize it objectives unless there is mutual
cooperation and coordination among them. Management creates team work and
coordination in the group.
2. Optimum utilization of resources: Managers forecast the need for materials,
machinery, money and manpower. They ensure that the organization has adequate
resources and at the same time does not have idle resources.
3. Minimization of Cost: In the modern era of cut-throat competition no business can
succeed until it is able to supply the required goods and services at the lowest possible
cost per unit. Management directs the day-to-day operations in such a way that all
wastages are avoided.
4. Survival and Growth: An enterprise has to adapt itself to the changing demands of
the market and society. It takes steps in advance to meet the challenges of changing
environment. Managers enable the enterprise to minimize the risks and maximize the
benefits of opportunities.
5. Generation of Employment: By setting up and expanding business enterprises,
managers create jobs for the people. Managers also create such an environment that
people working in enterprise can get job satisfaction and happiness.
6. Continuity in the organization: Continuity is very important in the organization. It
is only management that keeps the organization continuing. Where there are no proper
guidelines for decision making continuity cannot be guaranteed.
7. Development of the Nation: Efficient management is equally important at National
level. The development of a country largely depends on the quality of the
management of its resources. By producing wealth, management increases the
national income and living standards of people.

NATURE OF MANAGEMENT
The study and application of management techniques in managing the affairs of the
organization have changed its nature over a period of time. The following points will describe
the nature of management:
1. Management is a Social process: Management is done by people, through people
and for people. Social process refers to a series of activities that are performed in the
society. These activities are carried out by administrators, politicians, economists,
doctors, lawyers, parents, etc.
2. Management is goal oriented: Management involves achieving certain goals; it has
no justification to exist without goals. The basic goal of management is to ensure
efficiency and economy in utilization of human, physical and financial resources.
3. Management is Universal: Management is an essential element of every organized
activity irrespective of the size or type of activity. All types of organizations require
management. Managers at all levels perform the same basic functions.
4. Management is a continuous process: Management is dynamic and an on-going
process. The cycle of management continuous to operate so long as there is organized
action for the achievement of group goals.

Management Science
Unit-1: Introduction to Management 1.3

5. Management is a Group Activity: Management is very much less concerned with


individual’s efforts. It is more concerned with groups. It involves the use of group
effort to achieve predetermined goal of management of ABC & Co. is good refers to a
group of persons managing the enterprise.
6. Relative, Not Absolute Principles: Management principles are relative, not absolute,
and they should be applied according to the need of the organization. A particular
management principle has different strengths in different conditions. Therefore,
principles should be applied according to the prevailing conditions.
7. Management is Multidisciplinary: Management has been developed as a separate
discipline, but it draws knowledge and concepts from various disciplines like
psychology, sociology, economics, statistics, operations research, etc. Management
integrates the idea and concepts taken from these disciplines and presents newer
concepts which can be put into practice for managing the organizations.
8. Management is Intangible: Management is an unseen or invisible force. It cannot be
seen but its presence can be felt everywhere in the form of results. However, the
managers who perform the function are tangible or visible.
9. Management is a Profession: A Profession refers to a vocation or a branch of
advanced learning such as engineering or medicine. Management helps to carry out
every profession in a scientific manner.
10. Management is an Art as well as Science: An art is characterized by practical
knowledge, personal creativity and skill. A science is a systematized body of
knowledge of facts. It involves basic principles, which are capable of universal
application.

FUNCTIONS OF MANAGEMENT
Management is a process of the quality of both physical as well as human resources to
seek objectives. The elements or activities which are performed in this process are known as
functions of management. Various authors have classified these functions differently:
Writers Management Functions
Henry Fayol Planning, Organizing, Commanding, Coordinating, Controlling

Luther Gullick POSDCORD- Planning, Organising, Staffing, Directing


Coordinating, Reporting, Directing

Koontz Planning, Organising, Staffing, Leading, Controlling


Thus, the functions of management may be classified in to five categories: Planning,
Organizing, Staffing, Directing (leadership, motivation, communication, coordination)and
Controlling.

Management Science
Unit-1: Introduction to Management 1.4

PLANNING
The first function of the manager is planning. It is also the foremost and the essential
function. Planning defines the goals and objectives to be reached in the plan period. It also
consists of policies, procedures, methods, budgets, strategy and programmes that are needed
to achieve the goals set. Decision-making is the most important and integral part of planning.
Planning is the most basic and pervasive process involved in managing. It means
deciding in advance what actions to take and when and how to take them. Planning is needed,
firstly for committing and allocating the organization’s limited resources towards achieving
its objectives in the best possible manner and, secondly for anticipating the future
opportunities and problems.
Planning is putting down in black and white the actions which a manager intends to
take. Each manager is involved in planning though the scope and character may vary with the
level of the manager. Planning involves determination of objectives; forecasting; formulation
of policies and programmes; and preparation of schedules.

The steps generally involved in planning are as follows:


1. Establishing Verifiable Goals or Set of goals to be achieved
2. Establishing Planning Premises
3. Deciding the planning Period
4. Finding Alternative Course of Action
5. Evaluating and selecting a Course of Action
6. Developing Derivative plans
7. Measuring and Controlling the progress

ORGANIZING
Organizing is to give a proper shape to the structure that should execute the plan
smoothly to achieve its success. It is the function of putting together different parts forming
an enterprise and makes it an organic whole to enable it to carry out defined operations.
Various activities to fulfill the goals have to be grouped and these are to be assigned to
people in-groups or departments. The authority, responsibility, accountability needed at each
level to execute the plan is to be defined and delegated.
Organizing simply can be defined as a process that results in organizational structure
through departmentalization, linking departments together, defining authority and
responsibility and prescribing authority relationship sub activities. The organizing function
deals with all those activities that result in the formal assignment of tasks and authority and a
coordination of effort. The supervisor staffs the work unit, trains employees, secures
resources, and empowers the work group into a productive team.

The process of organizing consists of the following steps:


a. Determining and defining the activities required for the achievement of planned goals;
b. Grouping the activities into proper and convenient units;
c. Assigning the duties and activities to specific positions and people
d. Delegating authority to those positions and people;
e. Defining and fixing responsibility for performance; and
f. Establishing horizontal and vertical authority-responsibility relationship throughout
the organization.

Management Science
Unit-1: Introduction to Management 1.5

STAFFING
It is the function of manning the organization structure and keeping it manned.
Staffing has assumed greater importance in the recent years due to advancement of
technology, increase in size of business, complexity of human behavior etc. The main
purpose of staffing is to put right man on right job i.e. square pegs in square holes and round
pegs in round holes.
The staffing function involves identifying/selecting the right person for executing
each task planned. By carrying the functions of organizing and staffing the "plan" is
transformed from a document level to the operational stage. Having found the right
candidate, it is equally important that you are able to retain him. Among other things,
motivation and leadership provided by the top management of organization also plays an
important role.
The staffing function includes all the jobs connected with:
 Manpower Planning;
 Recruitment; Selection & placement;
 Training & development;
 Remuneration, Performance Appraisal;
 Promotions & Transfer.

DIRECTING
It is that part of managerial function which actuates the organizational methods to
work efficiently for achievement of organizational purposes. It is considered life- spark of the
enterprise which sets it in motion the action of people because planning, organizing and
staffing are the mere preparations for doing the work. Direction is that inert-personnel aspect
of management which deals directly with influencing, guiding, supervising, motivating sub-
ordinate for the achievement of organizational goals.
The function of directing embraces the following activities:
a. Issuing orders and instructions.
b. Supervising (overseeing) people at work.
c. Motivation, i.e. creating the willingness to work for certain objectives.
d. Communication, i.e. establishing understanding with employees regarding plans and
their implementation, and
e. Leadership or influencing the behavior of employees.
Direction has following elements:
1. Supervision: implies overseeing the work of subordinates by their superiors. It is the
act of watching & directing work & workers.
2. Motivation: means inspiring, stimulating or encouraging the sub-ordinates with zeal
to work. Positive, negative, monetary, non-monetary incentives may be used for this
purpose.
3. Leadership: may be defined as a process by which manager guides and
influences the work of subordinates in desired direction.
4. Communications: is the process of passing information, experience, opinion etc
from one person to another. It is a bridge of understanding.

CONTROLLING
Control is the tool for course regulation as the organization marches ahead and
correcting it when it diverts off-course. The results of the activity must confirm to the laid
down standards and all variations should be analyzed and root cause identified. Controlling

Management Science
Unit-1: Introduction to Management 1.6

includes ongoing collection of feedback, and monitoring and adjustment of systems,


processes and structures accordingly. Examples include use of financial controls, policies and
procedures, performance management processes, measures to avoid risks etc.
Planning and controlling go hand in hand. There can be no control without a plan and
plans cannot be successfully implemented in the absence of controls. Controls provide a
means of checking the progress of the plans and correcting any deviations that may occur
along the way. It implies measurement of accomplishment against the standards and
correction of deviation if any to ensure achievement of organizational goals.
The purpose of controlling is to ensure that everything occurs in conformities with the
standards. Controlling is the measurement & correction of performance activities of
subordinates in order to make sure that the enterprise objectives and plans desired to obtain
them as being accomplished.
The process of controlling involves the following steps:
a. establishing standards for measuring work performance;
b. measurement of actual performance and comparing it with the standards;
c. finding variances between the two and see the reasons ; and
d. taking corrective action for rectifying deviations so as to ensure attainment of
objectives

EVALUATION OF MANAGEMENT THOUGHT


From the start of the 19thcentury until the 20thcentury, managers and scholars have
formed a theoretical framework to explain what they believe to be good practices of
management. Their efforts led to different classes of perspectives on management and each
perspective is based on different assumptions towards the objectives of the organization and
human behavior.

The schools of management thoughtsare classified as follows:


1. Classical Perspective: This perspective existed in the 19th century and early 20th century.
It focuses on the rational and scientific approaches to the study of management and on
finding ways to mould an organization to become more efficient.Classical management
theory can be divided into three perspectives distinguished by the issues and problems
that they address.
 Scientificmanagement emerged primarily among American scholars and managers
and focused on issues involved in the management of work and workers. The theory
of scientific management developed by F.W.Taylor and others accepted the
empirical methods for arriving at conclusions.
 Administrativetheory (also called Functional approach) evolved from a concern
by both European and American academicians and managers with the nature and
management of the total organization. Issues and problems that they sought to
address focused on the technical efficiency of the organization. Other thinkers like

Management Science
Unit-1: Introduction to Management 1.7

Henry Fayol following the functional approach emphasized on the importance of


managerial functions and principles for universal application.
 Bureaucracy theory was developed by the German sociologist, Max Weber, which
portrays the structure and design of organization characterized by a hierarchy of
authority, formalized rules and regulations that serve to guide the coordinated
functioning of an organization.

2. Neo-Classical or Human Relations Perspective: The neo-classical writers tried to


remove the deficiencies of the classical school and suggested improvements for good
human relations in the organization. Human relation is frequently used as a general term
to describe the ways in which managers interact with their employees. When ‘employee
management’ stimulates more and better work, the organization has effective human
relations, when morale and efficiency deteriorate, its human relations are said to be
ineffective.
The human relations movement/approach arose from early attempts to
systematically discover the social and psychological factors that would create effective
human relations. Their propositions are based on 'human relations studies' and
motivational theories such as Hawthorne Experiments, Maslow’s need hierarchy theory,
etc.

3. Quantitative Management or Behavioral Sciences Perspective:The behavioral school


emerged partly because the classical approach did not achieve sufficient production,
efficiency and workplace harmony. People did not always follow predicted or expected
patterns of behavior. Thus there was increased interest in helping managers deal more
effectively with the people side of their organizations.
Several theorists tried to strengthen neoclassical management theory with the
insights of sociology and psychology. The behavioral science perspective believes that it
is difficult to understand the sociology of a group separate from the psychology of the
individuals comprising it and the anthropology of the culture within which it exists.

4. Contemporary or Modern Perspective: The modem management thinkers define


organization as a system and also consider the impact of environment on the effectiveness
of the organization. The organization is viewed as adaptive systems which must in order
to survive adjust to environmental changes. As a result, two approaches have gained
prominence after 1960s, which are: Systems approach and Contingency approach.

SCIENTIFIC MANAGEMENT
The classical scientific branch arose because of the need to increase productivity and
efficiency. The emphasis was on trying to find the best way to get the most work done by
examining how the work process was actually accomplished and by scrutinizing the skills of
the workforce.
The concept of scientific management was introduced by Frederick Winslow Taylor
in USA in the beginning of 20th century (1856-1915).Since Taylor has put the emphasis on
solving managerial problems in a scientific way, often, he is called as Father of Scientific
Management and his contributions as the principles of scientific management. He also
developed a theory of organizations, which has been largely accepted by subsequent
Management Philosophers.

Management Science
Unit-1: Introduction to Management 1.8

Definition:
“Scientific management is concerned with knowing exactly what you want to do and
then see in that they do it in the best and cheapest way.”
Taylor was concerned with the problems of increasing labour productivity without
putting under strain or workers. Scientific management implies the application of scientific
methods of study and analysis to the problems of management. On the basis of experiments,
he published many papers and books and all his contributions were compiled in his book
“Scientific Management”.

His contributions are divided into two parts:


 Principles of scientific management.
 Elements and tools of scientific management.

Principles of Scientific Management:


Taylor has given certain basic principles of scientific management.
1) Replacing rule of thumb with science: It requires scientific study and analysis of
each element of a job in order to replace the old rule of thumb approach development
of a science for each element of a man’s job requires that decisions should be made on
the basis of facts rather than opinions and beliefs.
2) Harmony in group action: Taylor has pointed out that attempts should be made to
obtain harmony in group action rather than discord. Group harmony suggests that
there should be mutual give and take situation and proper understanding so that group
as a whole contributes to the maximum.
3) Co-operation: Scientific management involves achieving cooperation rather than
chaotic individualism. It is based on mutual confidence, co-operation and goodwill.
Co-operation between management and workers can be developed through mutual
understanding and a change in thinking.
4) Maximum output: Scientific management involves continuous increase in
production and productivity instead of restricted production either by management or
by worker. This can be possible when efficiency and output are maximized.
Maximum output and optimum utilization of resources brings profits.
5) Development of workers: All workers should be developed to the fullest extent
possible for their own and for the company’s highest prosperity. Training should be
provided to the workers to keep them fully fit according to the requirement of new
methods of working which may be different from non-scientific methods.

Elements and Tools of Scientific Management:


1. Separation of planning & doing: Taylor emphasized the separation of planning
aspect from actual doing of the work. In other words planning should be left to the
supervisor and the worker should concentrate only on operational work.
2. Functional foremanship: Taylor introduced the concept of functional foremanship
based on specialization of functions. In this system, eight persons are involved to
direct the activities of workers. Out of these four persons are concerned with planning
viz., route clerk, instruction card clerk, time and cost clerk and disciplinarian. The
remaining four persons are concerned with doing aspect of the job, viz., speed boss,
inspector, gang boss and maintenance foreman.

Management Science
Unit-1: Introduction to Management 1.9

Work Shop Manager

Planning In charge Production In charge

Route Time and Instruction Disciplinar Gang Route Inspecto Maintenance


Clerk cost clerk Card clerk ian Boss Boss r Foreman

Worker

3. Standardization:It is a process of fixing well thought out and tested standards of


norms with a view to minimize efficiency of work.It should be maintained in respect
of instruments and tools, period of work, amount of work, working conditions, cost of
production, etc.
4. Selection and Training: Taylor has suggested that workers should be selected on
scientific basis taking into account their education, work experience, aptitude,
physical strength, etc. A worker should be given work for which he is physically and
technically most suitable. Apart from selection, proper training should be provided to
workers to make them more effective and efficient.
5. Financial Incentives: Financial incentives can motivate workers to put in their
maximum efforts. If provisions exist to earn higher wages by putting in extra effort,
workers will be motivated to earn more. According to this scheme, a worker who
completes the normal work gets wages at higher rate per piece and one who does not
complete gets at lower rate.
6. Economy:While applying scientific management, not only scientific and technical
aspects should be considered but adequate consideration should be given to economy
and profit. The economy and profit can be achieved by making the resources more
productive as well as by eliminating the wastages.
7. Mental Revolution: scientific management depends on the mutual co-operation
between management and workers. For this co-operation, there should be mental
change in both parties from conflict to co-operation.

CRITICISM:
Scientific management ignored human side of organization. Taylor and his disciples
were called "Efficiency Experts" because they concentrated attention on improving
efficiency of workers and machines. Scientific management is therefore restricted in scope as
a theory of Industrial Engineering or Industrial Management, rather than a general theory of
management.
Although it is accepted that the scientific management enables the management to put
resources to its best possible use and manner, yet it has not been spared of severe criticism.
Employer’s Viewpoint:
1. More Expensive: Scientific management is a costly system and a huge investment is
required in establishment of planning dept., standardization, work study, training of
workers. It may be beyond reach of small firms.
2. Time Consuming: Scientific management requires mental revision and complete
reorganizing of organization. A lot of time is required for work, study standardization
& specialization.

Management Science
Unit-1: Introduction to Management 1.10

Workers Viewpoint:
1. Unemployment: Workers feel that management reduces employment opportunities
through replacement of men by machines and by increasing human productivity
fewer workers are needed to do work leading to chucking out from their jobs.
2. Exploitation: Workers feel they are exploited as they are not given due share in
increasing profits which is due to their increased productivity. Wages do not rise in
proportion as rise in production. Wage payment creates uncertainty & insecurity.
3. Monotony: Due to excessive specialization the workers are not able to take initiative
on their own. Their status is reduced to being mere cogs in wheel. Jobs become dull.
Workers lose interest in jobs and derive little pleasure from work.
4. Weakening of Trade Union: Everything is fixed & predetermined by management.
So it leaves no room for trade unions to bargain as everything is standardized,
standard output, standard working conditions, standard time etc.
5. Over speeding: The scientific management lays standard output, time so they have to
rush up and finish the work in time. The workers speed up to that standard output, so
scientific management drives the workers to rush towards output and finish work in
standard time.

ADMINISTRATIVE/MODERN OPERATIONALMANAGEMENT
Administrative theory focuses on the total organization and attempts to develop
principles that will direct managers to more efficient activities. Administrative theorists
looked at productivity improvements from the "top down", as distinguished from the
Scientific Approach of Taylor, who reorganized from "bottom up". Administrative theorists
developed general guidelines of how to formalize organizational structures and relationships.
Henri Fayol(1841-1925) was a French mining engineer who spent many of his later
years as an executive for a French coal and iron combine. In 1916, as director of the
company, Fayol penned the book General and Industrial Management. In this book, Fayol
classified the study of management into several functional areas which are still commonly
used in executive training and corporate development programs. The functional areas
identified by Fayol are planning, organizing, commanding, coordinating, and controlling. His
contributions are divided in the following categories:
According to Fayol the following are the list of qualities required in a manager:
 Physical – includes Health, Vigor and address.
 Mental – includes ability to understand and learn, judgment, and capability.
 Moral – includes energy, firmness, initiative, loyalty, etc.
 Educational – includes qualifications.
 Technical - peculiar to the function being performed.
 Experience – knowledge in related field.
Organizational Activities:
He emphasized the role of administrative management and concluded that all
activities that occur in business organizations could be divided into six main groups.
1. Technical - related to production or manufacturing.
2. Commercial – includes buying, selling and exchange.
3. Financial – includes search for capital and its optimum use.
4. Security – related to protection of property and person.
5. Accounting – includes record keeping, costing and statistics.
6. Managerial – includes planning, organizing, commanding, coordinating and
controlling).

Management Science
Unit-1: Introduction to Management 1.11

He concluded that the six groups of activities are interdependent and that it is the role
of management to ensure all six activities work smoothly to achieve the goals of an
enterprise.

General 14 Principles of Management:


Henry Fayol has given 14 general principles of management:
1. Division of work: It is helpful to take the advantage of specialization. Here, the work
is divided among the members of the group based on the employee’s skills and
talents.
2. Authority and Responsibility: Fayol finds authority as a continuation of official and
personal factors. Official authority is derived from the manager’s position and
personal authority is derived from personal qualities such as intelligence, experience,
moral worth, past services, etc., Responsibility arises out of assignment of activity.
3. Discipline: All the personal serving in an organization should be disciplined.
Discipline is obedience, application, behavior and outward mark of respect shown by
employees.
4. Unity of Command: Unity of command means that a person should get orders from
only one superior. Fayol has considered unity of command as an important aspect in
managing an organization.
5. Unity of Direction: According to this principle, each group of activities with the
same objective must have one head and one plan. Unity of direction provides better
coordination among various activities to be undertaken by an organization.
6. Subordination of individual interest to general interest: Individual interest must be
subordinate to general interest when there is conflict between the two. However
factors like ambition, laziness, weakness, etc., tend to reduce the importance of
general interest. Therefore, superiors should set an example in fairness and goodness.
7. Remuneration to Personnel: Remuneration to employees should be fair and provide
maximum possible satisfaction to employees and employers.
8. Centralization of Authority: Authority is to be centralized when decision making
powers are retained at top level. The degree of centralization or decentralization is
determined by the needs of the company.
9. Scalar Chain: There should be a scalar chain of authority and of communication
ranging from the highest to the lowest. It suggests that each communication going up
or coming down must flow through each position in the line of authority. It can be
short-circuited only in special circumstances.Scalar chain can be presented as follows:

10. Order: This is a principle relating to the arrangement of things and people. In social
order, there should be the right man in the right place.
11. Equity: Equity is the combination of justice and kindness. Equity in treatment and
behavior is liked by everyone and it brings loyalty in the organization.
12. Stability of tenure: No employee should be removed or transferred within short time.
There should be reasonable security of jobs. Stability of tenure is essential to get an
employee accustomed to new work and succeeding in doing it well.
13. Initiative: Within the limits of authority and discipline, managers should encourage
their employees for taking initiative. Initiative is concerned with thinking out and
execution of a plan. Initiative increases zeal and energy on the part of human beings.

Management Science
Unit-1: Introduction to Management 1.12

14. Esprit de corps: It is the principle of ‘union is strength’ and extension of unity of
command for establishing team work. The manager should encourage esprit de corps
among his employees.
Until today, his principles remain important as they continue to have a significant
impact on current managerial thinking. Fayol's main contribution was the idea that
management was not a talent related to genetic hereditary, but a skill that could be taught. He
created a system of ideas that could be applied to many areas of management and laid down
basic rules for managing large organizations.

THEORIES OF MOTIVATION
The word ‘motivation’ has been derived from the latin word ‘motive’ which means
any idea, need or emotion that prompts a man into action. Human motives are internalised
goals within individuals. Motivation may be defined as those forces that cause people to
behave in certain ways. Motivation encompasses all those pressures and influences that
trigger, channel, and sustain human behaviour. Most successful managers have learned to
understand the concept of human motivation and are able to use that understanding to achieve
higher standards of subordinate work performance.
Motivation is the process of channelling a person's inner drives so that he wants to
accomplish the goals of the organization. It seeks to know the incentives for work and tries to
find out the ways and means whereby their realization can be helped and encouraged.
Managers, by definition, are required to work with and through people, so they must gain at
least some understanding of the forces that will motivate the people they are to manage.

Definition:
1. Koontz and O'Donnell, "Motivation is a general term applying to the entire class of
drives, needs, wishes and similar forces".

2. Lewis Allen, "Motivation is the work a manager performs to inspire, encourage and
impel people to take required action".

Theories of Motivation:
Many methods of employee motivation have been developed. There are many
approaches to classify the theories of motivation. Two primary approaches to motivation are
content and process.
1. The content approach emphasizes what motivates employees, focuses on the
assumption that individuals are motivated by the desire to fulfill inner needs. Content
theories focus on the needs that motivate people.
2. The process approach emphasizes how and why people choose certain behaviors in
order to meet their personal goals. Process theories focus on external influences or
behaviors that people choose to meet their needs.

Management Science
Unit-1: Introduction to Management 1.13

MAYO’S HAWTHORNE EXPERIMENTS


The human relations approach was born out of a reaction to classical approach. For
the first time an intensive and systematic analysis of human factor in organisations was made
in the form of Hawthorne experiments.
To investigate the relationship between productivity and physical working conditions,
a team of four members George Elton mayo, White head, Roethlisberger and William
Dickson was introduced by the company in Hawthorne plant. These experiments are often
referred to as the Hawthorne experiments or Hawthorne studies as they took place at the
Western Electric Company in Chicago.
They conducted various researches in four phases:
1. Experiments to determine the effects of changes in illuminations on productivity.
Illumination experiments (1924-27).
2. Experiments to determine the effects of changes in hours and other working
conditions on productivity. (Relay assembly test room experiments 1927-28).
3. Mass interviewing programme (1928-1930).
4. Determination and analysis of social organization at work (Bank wiring observation
room experiments 1931-32).

Experiment Results:
After analyzing the results from the Hawthorne experiments Mayo concluded that
workers were motivated by more than self-interest and the following had an impact too:
1. Psychological Contract:There is an unwritten understanding between the worker
and employer regarding what is expected from them; Mayo called this the
psychological contract.
2. Interest in Workers:A worker’s motivation can be increased by showing an interest
in them. Mayo classified studying the workers (through the experiments) as showing
an interest in the workers.
3. Work is a Group Activity:Work is a group activity, team work can increase a
worker’s motivation as it allows people to form strong working relationships and
increases trust between the workers. Work groups are created formally by the
employer but also occur informally.
4. Social Aspect of Work:Workers are motivated by the social aspect of work, as
demonstrated by the female workers socializing during and outside work and the
subsequent increase in motivation.
5. Recognize Workers:Workers are motivated by recognition, security and a sense of
belonging.
6. Communication:The communication between workers and management influences
workers’ morale and productivity. Workers are motivated through a good working
relationship with management.

Conclusion:
The traditional view of how to motivate employees is that you offer monetary rewards
(pay increases, bonuses, etc.,) for work completion. However the Hawthorne experiments
may suggest that motivation is more complicated than that. Advocates of the "Hawthorne
Effect" will state that the Hawthorne experiment results show that motivation can be
improved through improving working relationships and social interaction.

Management Science
Unit-1: Introduction to Management 1.14

MASLOW’S THEORY OF HUMAN NEEDS


Abraham H. Maslow, a famous social scientist or psychologist, has given a
framework that helps to explain the strength of certain needs. He identifies five levels of
needs, which are best seen as a hierarchy with the most basic need emerging first and the
most sophisticated need last. People move up the hierarchy one level at a time. Gratified
needs lose their strength and the next level of needs is activated. As basic or lower-level
needs are satisfied, higher-level needs become operative. A satisfied need is not a motivator.
The most powerful employee need is the one that has not been satisfied.

The hierarchy of needs is identified as follows:

1. Physiological needs: The Physiological needs are at the top of hierarchy because they
tend to have the highest strength until they are reasonably satisfied. It includes the
need for food, sleep, shelter, etc. these are the basic needs and if these are not
satisfied, one does not think of needs at higher level.
2. Safety or Security Needs: Once physiological needs are satisfied to a reasonable
level, the next level in the hierarchy is safety. Safety means being free of physical
danger or self-preservation. It covers protection, job security, safety of property, food
or shelter, etc.
3. Affiliation or Acceptance or Social needs: After the first two needs are satisfied,
social needs become important in the need hierarchy. Man wants to live in the society
as a member of society. He wants to love and be loved by others. It includes desire to
seek or show affection and recognition, need for companionship, identification with a
group, etc.
4. Esteem needs: These needs are concerned with self respect, self confidence, a feeling
of personal worth, feeling of being unique and recognition. Satisfaction of these needs
produces feelings of self confidence, prestige, power and control.
5. Self actualization needs: These needs indicate the strong desire to achieve
something, particularly in view of potential one has. This includes competence which
implies control over environmental factors both physical and social and achievement.

Conclusion:
Maslow suggest that the various levels are interdependent and overlapping, each
higher level need emerging before the lower level need has been completely satisfied.

Management Science
Unit-1: Introduction to Management 1.15

DOUGLAS Mc GREGOR’S THEORY X AND THEORY Y


McGregor's work was based on Maslow's hierarchy of needs. He grouped Maslow's
hierarchy into "lower order" (Theory X) needs and "higher order" (Theory Y) needs.
McGregor, in 1960 in his book “The Human side of Enterprise” states that people inside the
organization can be managed in two ways. The first is basically negative, which falls under
the category X and the other is basically positive, which falls under the category Y.
After viewing the way in which the manager dealt with employees, McGregor
concluded that a manager’s view of the nature of human beings is based on a certain grouping
of assumptions and that he or she tends to mold his or her behavior towards subordinates
according to these assumptions.
Douglas McGregor has classified the basic assumption regarding human nature into
twoparts and has designated them as 'theory X’ and 'theory Y' as discussed below:

Theory - X: This is the traditional theory of human behaviour, which makes the following
assumptions about human nature:
1. Management is responsible for organizing the elements of productive enterprises -
money, material, equipment, and people - in the interest of economic ends.
2. With reference to people it is a process of directing their efforts, motivating them,
controlling their actions, modifying their behaviour in order to be in conformity with
the needs of the organization.
3. Without this active intervention by management, people would be passive – even
resistant to organizational needs. Hence they must be persuaded, rewarded, punished
and properly directed.
4. The average human being has an inherent dislike of work and will avoid it if he can.
5. He lacks ambition, dislikes responsibility and prefers to be led.
6. He is inherently self-centred, indifferent to organizational needs.
7. He is by nature resistant to change.
8. He is gullible, not very bright.

Theory - Y: The assumption of theory Y, according to McGregor are as follows:


1. Work is as natural as play or rest, provided the conditions are favourable; the average
human being does not inherently dislike work.
2. External control and the thrust of punishment are not the only means for bringing
about efforts towards organizational objectives. Man can exercise self-control and
self-direction in the service of objectives to which he is committed.
3. Commitment to objectives is a result of the rewards associated with their
achievement. People select goals for themselves if they see the possibilities of some
kind of reward that may be material or even psychological.
4. The average human being, under proper conditions does not shirk responsibility, but
learn not only to accept responsibility but also to seek it.
5. He has capacity to exercise a relatively high degree of imagination, ingenuity and
creativity in the solution of organizational problems in widely, not narrowly
distributed in the population.
6. Under conditions of modern industrial life the intellectual potentialities of people are
only partially utilized. As a matter of fact, men, have unlimited potential.

Management Science
Unit-1: Introduction to Management 1.16

Comparison of Theory X and Theory Y:


Theory - X Theory - Y
Theory X assumes human beings Theory Y assumes that work is as
inherentlydislike work and are distasteful naturalas play or rest.
towards work.
Theory X emphasizes that people do not Theory Y assumes just the reverse.
haveambitions and they shrink Given proper conditions, people
responsibility. haveambitions and accept responsibility.

Theory X assumes that people in general According to Theory Y the creativity


havelittle capacity for creativity. iswidely distributed in the population.

According to Theory X, people lack self- While in Theory Y people are self-
motivation and require be externally directedand creative and prefer Self-
controllingand closely supervising in control.
order to get maximumoutput.

Theory X emphasize upon centralization Theory Y emphasizes decentralization


ofauthority in decision-making process. and greater participation in
decisionmakingprocess.

HERZBERG’S TWO FACTOR THEORY OF MOTIVATION


Frederick Hertzberg conducted a structured interview programme to analyze the
experience and feelings of 200 engineers and accountants in nine different companies in
Pittsburg area, U.S.A. During the structured interview, they were asked to describe a few
previous job experiences in which they felt ‘exceptionally good’ or exceptionally bad about
their jobs.
In his analysis, he found that there are some job conditions which operate primarily to
dissatisfy employees when the conditions are absent, however their presence does not
motivate them. It is referred as Hygiene or Maintenance Factors.Another set of job conditions
operates primarily to build strong motivation and high job satisfaction, but their absence
rarely proves strongly dissatisfying. It is referred as motivational factors.
1. Hygiene Factors: According to Hertzberg, there are 10 maintenance factors.These
maintenance factors are necessary to maintain at a reasonable level of satisfaction in
employees. Any increase beyond this level will not produce any satisfaction to the
employees. However, any cut below this level will dissatisfy them.Dissatisfaction
occurs when the following hygiene factors, extrinsic or job context, maintenance
factors are not present on the job and include:
1. company policy and administration,
2. technical supervision,
3. salary,
4. job security,
5. personal life,
6. status,
7. working conditions,
8. interpersonal relationship with superiors,
9. interpersonal relationship with peers and
10. interpersonal relationship with subordinates

Management Science
Unit-1: Introduction to Management 1.17

2. Motivational Factors: These factors are capable of having a positive effect on job
satisfaction often resulting in an increase in ones total output. Most of the factors are
related with job contents. An increase in these factors will satisfy the employees.
However, any decrease in these factors will not affect their level of
satisfaction.Satisfaction comes from motivators that are intrinsic or job content, such
as:
1. achievement,
2. recognition,
3. advancement;
4. work itself,
5. possibility of growth and
6. responsibility

DECISION MAKING
Decision-making is an essential aspect of modern management. It is a primary
function of management. Decision-making is the key part of manager's activities. Decisions
are important as they determine both managerial and organizational actions. A decision may
be defined as "a course of action which is consciously chosen from among a set of
alternatives to achieve a desired result." It represents a well-balanced judgment and a
commitment to action.
Decision is a choice from among a set of alternatives. The word 'decision' is derived
from the Latin words de ciso which means 'a cutting away or a cutting off or in a practical
sense' to come to a conclusion. Decision-making is a process by which a decision (course of
action) is taken. Decision-making lies embedded in the process of management.
According to Trewatha& Newport, "Decision-making involves the selection of a
course of action from among two or more possible alternatives in order to arrive at a solution
for a given problem".

Decision Making Process:


Decision-making involves a number of steps which need to be taken in a logical
manner. Decision-making process prescribes some rules and guidelines as to how a decision
should be taken or made. This involves many steps logically arranged. Drucker recommended
the scientific method of decision-making which, according to him, involves the following six
steps as shown below:
Identify/Define the Problem

Analyzing the Problem

Developing Alternative Solutions

Selecting the Best Solution

Implementation of Decision

Feedback & Follow up Action

Management Science
Unit-1: Introduction to Management 1.18

1. Identify/Define the Problem: Identification of the real problem before a business


enterprise is the first step in the process of decision-making. It is rightly said that a
problem well-defined is a problem half-solved. Information relevant to the problem
should be gathered so that critical analysis of the problem is possible. In brief, the
manager should search the 'critical factor' at work. It is the point at which the choice
applies.
2. Analyzing the Problem: After defining the problem, the next step in the decision-
making process is to analyze the problem in depth. This is necessary to classify the
problem in order to know who must take the decision and who must be informed
about the decision taken.
3. Developing Alternative Solutions: After defining the problem and analyzing its
nature, the next step is to obtain the relevant information/ data about it. Using this
data the manager has to determine available alternative courses of action that could be
used to solve the problem at hand. If necessary, group participation techniques may be
used while developing alternative solutions as depending on one solution is
undesirable.
4. Selecting the Best Solution: After preparing alternative solutions, the next step in the
decision-making process is to select an alternative that seems to be most rational for
solving the problem. The alternative thus selected must be communicated to those
who are likely to be affected by it. Acceptance of the decision by group members is
always desirable and useful for its effective implementation.
5. Implementation of Decision: After the selection of the best decision, the next step is
to convert the selected decision into an effective action. Without such action, the
decision will remain merely a declaration of good intentions. Here, the manager has to
convert 'his decision into 'their decision' through his leadership.
6. Ensuring Feedback: Feedback is the last step in the decision-making process. Here,
the manager has to make built-in arrangements to ensure feedback for continuously
testing actual developments against the expectations. It is like checking the
effectiveness of follow-up measures.

Factors influencing the managerial decision making process:


There are many reasons due to which the decision taken by the manager may be
ineffective. The various factors influencing the managerial decision making process are:
1. Inadequate information, data and knowledge: For rational decision-making accurate,
reliable and complete information about various aspects of the problem under
investigation is necessary. The possible future trends can be estimated with the help of
such information. However, adequate and reliable information may not be available at
the time of decision-making.
2. Uncertain environment: Decisions are taken on the basis of information available
about various environmental variables. However, the variables are many and complex
in nature. They may be related to political, economic, social and other aspects. It is
not possible to study all such variables in depth due to inadequate information/data.
3. Limited capacity of decision-maker: A decision-maker should be expert,
knowledgeable, intelligent and matured. He needs vision and capacity to imagine
possible future situation. In the absence of such qualities, the decision-maker may not
be able to take rational decisions. Similarly, the decision taken may not be rational if
the decision-maker fails to follow all necessary steps required for scientific decision-
making.

Management Science
Unit-1: Introduction to Management 1.19

4. Personal element in decision-making: Decision-making should be always impartial


and also favorable to the organization. Decision against organization but favorable to
decision maker or other employees will be unfair. Such decision will not be rational.
Similarly, every decision-maker has his own personal background in the form of
personal beliefs, attributes, preferences, likes and dislikes and so on.
5. A decision cannot be fully independent: Managerial decisions are interlinked and
interdependent. A manager has to make adjustments or compromises while making
decisions. For example, for reducing price, some compromise with the quality may be
necessary.

BASIC CONCEPTS OF ORGANISATION


The term 'organization' connotes different meanings to different people. Many writers
have attempted to state the nature, characteristics and principles of organization in their own
may. The word 'organization' is also used widely to connote a group of people and the
structure of relationships.The term ‘organization’ is used in many ways. It means different
things different people. Currently the following uses of the term are popular
 A group of people united by a common purpose.
 An entity, an ongoing, business unit engaged in utilizing resources to create a
result.
 A structure of relationships between various positions in an enterprise.
 A process by which employees, facilities and tasks are related, to each other, with a
view to achieve specific goals.

Definition:
According to Koontz and O'Donnel"It is grouping of activities necessary to attain
enterprise objectives and the assignment of each grouping to a manager with authority
necessary to supervise it".

Steps in Organizing:
Organizing involves the following interrelated steps:
1. Determination of Objectives: Organization is always related to certain objectives.
Therefore, it is essential for the management to identify the objectives before starting
any activity. It will help the management in the choice of men and materials with the
help of which it can achieve its objectives.
2. Identification and Grouping of Activities: If the members of the group are to pool
their efforts effectively, there must be proper division of the major activities. Each job
should be properly classified and grouped. This will enable the people to know what
is expected of them as members of the group.
3. Assignment of Duties: After classifying and grouping the activities, each individual
should be given a specific job to do according to his ability and made responsible for
that. He should also be given the adequate authority to do the job, assigned to him.
4. Developing Authority,Responsibility and Relationships: Since so many individuals
work in the same organization, it is the responsibility of management to lay down
structure of relationships in the organization. This will help in the smooth working of
the enterprise by facilitating delegation of responsibility and authority.

Management Science
Unit-1: Introduction to Management 1.20

PRINCIPLES OF ORGANISATION
Effective and efficient working of any organization depends on how the managerial
function of organization is being performed. The function of organization can be carried
effectively with the help of under mentioned principles:
1. Division of work: While structuring organization, division of work, at the very
outset, should be considered as the basis of efficiency. It is an established fact that
group of individuals can secure better results by having division of work. This is also
called the principle of specialization.
2. Attention to objectives: An organization is a mechanism to accomplish certain goals
or objectives. The objectives of an organization play an important role in determining
the type of structure which should be developed.
3. Span of Management: Span of management also refers to span of control signifying
the number of subordinates reporting directly to any executive. It is an established fact
that larger the number of subordinates reporting directly to the executive, the more
difficult it tends to be for him to supervise and coordinate them effectively.
4. Unity of Command: Organization structure should also be designed in such a way
that there exists unity of command in the sense that a single leader is the ultimate
source of authority.
5. Flexibility: While designing the organization it should be kept in mind that
organizational structure should not be regarded as static. Every organization is a
living entity in a living environment which is fast changing.
6. Proper balance: It is important to keep various segment or departments of an
organization in balance. The problem of balance basically arises when an activity or a
department is further divided and subdivided into smaller segments
7. Efficiency: The organization should be able to attain the predetermined objectives at
the minimum cost. From the point of view of an individual, a good organization
should provide the maximum work satisfaction.
8. Decentralization: This principle is of great significance to big organizations.
Decentralization implies selective dispersal of authority to help departments and units
to run effectively and efficiently without frequent interruptions from the top of the
enterprise.
9. Scalar principle: Scalar chain refers to the vertical placement of superiors starting
from the chief executive at the top through the middle level to the supervisory level at
the bottom. Proper scalar chain or line of command is prerequisite for effective
organization.
10. Continuity: The form of organization structure should be such which is able to serve
the enterprise to attain its objectives for a long period of time.
11. Coordination: The principal of coordination underlines that there should be proper
liaison and cooperation between different departments and units of work. Unity of
efforts for the accomplishment of desired objectives is the main aim of organization.
12. Authority and Responsibility: Authority should commensurate with responsibility.
While assigning the responsibility, authority should also be assigned. If authority is
not granted, the subordinates cannot discharge their responsibility properly.

Management Science
Unit-1: Introduction to Management 1.21

TYPES OF ORGANISATION STRUCTURES


An organization structure shows the authority and responsibility relationships
between the various positions in the organization by showing who reports to whom. It is a set
of planned relationships between groups of related functions and between physical factors
and personnel required for the achievement of organizational goals.
Organization involves establishing an appropriate structure for the goal seeking
activities. The structure of an organization is generally shown on an organization chart or a
job- task pyramid. For instance, if an undertaking is in production line, the, dominant element
in its organization chart, would be manufacturing and assembling. A good organization
structure should not be static but dynamic. It should be subject to change from time to time in
the light of the changes in the business environment. While designing the organization
structure, due attention should be given to the principles of sound organization.

There are two types of structural variables, namely;


a) Basic structure involves such central issues as how the work of the organization will
be divided and assigned among positions, groups, departments, divisions, etc. and
how the coordination necessary to achieve organizational objectives will be brought
about.
b) Operating mechanism includes such factors as information system, control
procedures, rules and regulations, system of reward and punishment, etc.

Management Science
Unit-1: Introduction to Management 1.22

In order to organize the efforts of individuals, any of the following types of


organization structures may be set up:
1. Line organization
2. Line and staff organization
3. Functional organization
4. Matrix organization
5. Committee organization
6. Inverted Pyramid structure
7. Virtual organization
8. Team structure
9. Boundary less organization
10. Lean and Flat organization

LINE ORGANIZATION
It is also known as scalar or military or vertical organization and perhaps is the oldest
form. In this form of organization managers have direct responsibility for the results; line
organization can be designed in two ways:
a) Pure Line Organization: Under this form, similar activities are performed at a
particular level. Each group of activities is self – contained unit and is able to perform
the assigned activities without the assistance of others.

Production Manager

Foreman-A Foreman-B Foreman-C

Worker Worker Worker

b) Departmental Line Organization: Under this form, entire activities are divided into
different departments on the basis of similarity of activities. The basic objective of
this form is to have uniform control, authority and responsibility.

Production Manager

Foreman-A Foreman-B Foreman-C


(Body Moulding) (Seating) (Finishing)

Worker Worker Worker

Suitability:
This type of organisational structure is suitable to small scale organizations where the
number of subordinates is quite small.

Management Science
Unit-1: Introduction to Management 1.23

Advantages:
1. Simplicity: Line organization is very simple to establish and can be easily understand
by the employees.
2. Discipline: Since each position is subject to control by its immediate superior position,
often the maintenance of discipline is easy unity of command and unity of direction
foster discipline among the people in the organization.
3. Co-ordination: The hierarchy in management helps in achieving effective coordination.
4. Effective communication: There will be a direct link between superior and his
subordinate; both can communicate properly among him or herself.
5. Economical: Line organization is easy to operate and it is less expensive.
6. Unity of command: In this every person is under the command of one boss only.
7. Prompt decision: Only one person is in charge of one division or department. This
enables manager to take quick decisions.
8. Over all development of the managers: The departmental head has to look after all the
activities of his department; therefore, it encourages the development of all round
managers at the higher level of authority.

Disadvantages:
1. Ability of Manager: The success of the enterprise depends upon the caliber and
ability of few departmental heads, loss of one or two capable men may put the
organization in difficulties.
2. Personnel limitations: In this type of organization an individual executive is suppose
to discharge different types of duties. He cannot do justice to all different activities
because he cannot be specialized in all the trades.
3. Overload of work: Departmental heads are overloaded with various routine jobs
hence they cannot spare time for managerial functions like planning, budgeting, etc.
4. Dictatorial way: In line organization, too much authorities centre on line executive.
Hence it encourages dictatorial way of working.
5. Duplication of work: Conflicting policies of different departments result in
duplication of work.
6. Unsuitable for large concerns: It is limited to small concerns.
7. Scope of favourism: As the departmental heads has the supreme authority, there is
chance of favourism.

LINE AND STAFF ORGANIZATION


It refers to a pattern in which staff specialists advise line managers to perform their
duties. When the work of an executive increases its performance requires the services of
specialists which he himself cannot provide because of his limited capabilities on these
matters. Such advice is provided to line managers by staffs personal who are generally
specialists in their fields. The staff people have the right to recommend, but have no authority
to enforce their preference on other departments.
Features:
1) This origin structure clearly distinguishes between two aspects of administration viz.,
planning and execution.
2) Staff officers provide advice only to the line officers; they do not have any power of
command over them.
3) The staff supplements the line members.

Management Science
Unit-1: Introduction to Management 1.24

Suitability:
It can be followed in large organizations where specialization of activities is required,
because it offers ample opportunities for specialization.

Advantages:
1. Planned specialization: The line and staff structure is based upon the principle of
specialization. The line managers are responsible for operations contributing directly to
the achievement of organizational objectives where as staff people are there to provide
expert advice on the matters of their concerns.
2. Quality decisions: Decisions come after careful consideration and thought each expert
gives his advice in the area of his specialization which is reflected in the decisions.
3. Prospect for personal growth: Prospect for efficient personal to grow in the
organization not only that, it also offers opportunity for concentrating in a particular
area, thereby increasing personal efficiency
4. Less wastage: There will be less wastage of material.
5. Training ground for personnel: It provides training ground to the personnel in two
ways. First, since everybody is expected to concentrate on one field, one’s training
needs can easily be identified. Second, the staff with expert knowledge provides
opportunities to line managers for adopting rational multidimensional approach towards
a problem.

Disadvantages:
1. Chances of Mis-interpretation: Although the expert advice is available, yet it reaches
the workers through line supervisors. The line officers may fail to understand the
meaning of advice and there is always a risk of misunderstanding and
misinterpretation.
2. Chances of friction: There are bound to be occasions when the line and staff may
differ in opinion may resent in conflict of interests and prevents harmonious relations
between the two.
3. Ineffective Staff in the absence of authority: The staff has no authority to execute
their own advice. Their advice is not a binding on the line officers. Therefore the
advice given by specialist may be ignored by line heads.

Management Science
Unit-1: Introduction to Management 1.25

4. Expensive: The overhead cost of the product increases because of high salaried
specialized staff.
5. Loss of initiative by line executives: If they start depending too much on staff may
lose their initiative drive and ingenuity.

FUNCTIONAL ORGANIZATION
It is the most widely used organization structure in the medium and large scale
organizations having limited number of products. This structure emerges from the idea that
the organization must perform certain functions in order to carry on its operations.
Functional structure is created by grouping the activities on the basis of functions
required for the achievement of organizational objectives. For this purpose, all the functions
required are classified into basic, secondary and supporting functions according to their
nature & importance.
Features:
1) The whole activities of an organization are divided into various functions.
2) Each functional area is put under the charge of one executive.
3) For any decision, one has to consult the functional specialist.

Suitability:
Functional organisational structure is suitable for large scale organizations.

General Manager

Marketing Finance Personnel Production


Manager Manager Manager Manager

Branch Manager Office Manager Factory Manager

Line of authority
Functional authority

Advantages:
1. Separation of work: In functional organization, work has been separated from routine
work. The specialist has been given the authority and responsibility for supervision
and administration pertaining to their field of specialization unnecessary over loading
of responsibilities is thus avoided.
2. Specialization: Specialization and skilled supervisory attention is given to workers
the result is increase in rate of production and improved quality of work.
3. Ease in selection and training: Functional organization is based upon expert
knowledge. The availability of guidance through experts makes it possible to train the
workers properly in comparatively short span of time.

Management Science
Unit-1: Introduction to Management 1.26

4. Reduction in prime cost: Since for every operation expert guidance is there, wastage
of material is reduced and thus helps to reduce prime cost.
5. Scope of growth and development of business: This type of organization presents
ample scope for the growth and development of business.

Disadvantages:
1. Indiscipline: Since the workers receive instructions from number of specialist it leads
to confusion to which they should follow. Therefore, it is difficult to maintain
discipline
2. Shifting of responsibility: It is difficult for the top management to locate
responsibility for the unsatisfactory work everybody tries to shift responsibility on
others for the faults and failure.
3. Kills the initiative of workers: As the specialized guidance is available to the workers
the workers will not be using their talents and skills therefore their initiative cannot be
utilized.
4. Overlapping of authority: The sphere of authority tends to overlap and gives rise to
friction between the persons of equal rank.
5. Lack of co-ordination between functions: except the function in which he is
specialized he is absolutely indifferent to other functions. Therefore, there is a lack of
coordination of function and efforts.

MATRIX ORGANISATION
It is also called project organization. It is a combination of all relationships in the
organization, vertical, horizontal and diagonal. It is a mostly used in complex projects. The
main objective of Matrix organization is to secure a higher degree of co-ordination than what
is possible from the conventional, organizational structures such as line and staff.
In matrix organization structure, a project manager is appointed to co-ordinate the
activities of the project. Under this system a subordinate will get instructions from two or
more bosses, Viz., administrative head and his project manager.

General Manager

Production Personnel Finance Marketing

Project A
W W W W
Manager

Project B W
W W W
Manager

Project C
W W W W
Manager

Management Science
Unit-1: Introduction to Management 1.27

Suitability:
It can be applicable where there is a pressure for dual focus, pressure for high
information processing, and pressure for shred resources.
Ex: Aerospace, chemicals, Banking, Brokerage, Advertising etc.

Advantages:
1. It offers operational freedom & flexibility
2. It focuses on end results.
3. It maintenance professional Identity.
4. It holds an employee responsible for management of resources.

Disadvantages:
1. It calls for greater degree of coordination,
2. It violates unity of command.
3. Difficult to define authority & responsibility.
4. Employee may be de motivated.

COMMITTEE ORGANISATION
A committee does not represent a separate type of organization like line and staff, or
functional. It is rather a device which is used as supplementary to or in addition to any of the
above types of organizations. A committee may be defined as a group of people performing
some aspects of Managerial functions. Thus, a committee is a body of persons appointed or
elected for the Consideration of specific matters brought before it.

Suitability:
It is suitable for educational organizations and universities.
Merits:
1. Pooling up of opinions.
2. It facilitates coordination.
3. It enhances communication.
4. It gives better motivation.
Demerits:
1. It is highly expensive.
2. It makes compromised decisions.
3. Lack of secrecy.
4. Domination by few members.

Management Science
Unit-1: Introduction to Management 1.28

VIRTUAL ORGANIZATION
The concept of virtual organisation or corporation along with virtual team and office
has entered management field very recently. The meaning of virtual is having the efficacy
without the material part; unreal but capable of being considered as real for the purpose. It
works in a network of external alliances, using the Internet. This means while the core of the
organization can be small but still the company can operate globally is a market leader in its
niche.
Employees in a virtual organization will become emasculate and ineffective in the
absence of information and knowledge. Therefore, virtual organizations use a seamless web
of electronic communication media. The main components of this web are as follows:
1. Technology: The traditional ways of working has been transformed through new
technology.
2. E-mail integration: The whole organization can take advantage of SMS products
such as ‘Express Way’ by integrating SMS into the existing e-mail infrastructure.
3. Office systems integration: SMS technology can greatly enhance the existing or new
office systems. For example, phone messages can be sent via SMS rather than
returning it in a message book.
4. Voice Mail Alert: Addition of SMS technology to the existing voice mail system
builds an effective method of receiving voice mail alerts.
5. Mobile Data: This enables a laptop to retrieve information anywhere through the
mobile phone network. In the past corporate information has been inaccessible from
many places where it is needed. One can keep connected to his/her virtual
organization from anywhere by linking laptop to mobile phone.

Advantages:
1. Saves time and travel expenses.
2. Provides excess to outside experts, without down time and travel or logging expenses.
3. Ability to organize in teams even if members are not in reasonable proximity to each
other.
4. Firms can expand their potential labour markets. They can hire and retain the best
people irrespective of their physical locations.

Management Science
Unit-1: Introduction to Management 1.29

5. Employees can accommodate both personal and professional lives.


6. Employees can be assigned to multiple concurrent teams.
7. Dynamic team membership allows people to move from one project to another.
8. Team communication and work reports are available on-line to facilitate swift
responses to the demands of a global market.

Disadvantages:
1. Lack of physical interactions.
2. Lack of synergies arising from face-to-face interaction.
3. Non-availability of verbal and non-verbal cues such as voice, eye movement, facial
expression and body language which make communication more effective.

BOUNDARY LESS ORGANIZATION


It may be defined as an organisation structure that can avoid all the barriers (vertical,
horizontal, external, geographic) much more permeable than they are now. Boundary less
organisation allows free flow of ides/information / resources throughout the organisation and
into others. The boundaries are:
1. Vertical: Boundaries between layers within an organization.
2. Horizontal: Boundaries which exist b/w organizational departments.
3. External: Barriers between the organization and the outside world. (Customers,
suppliers other govt. committees).
4. Geographic: Barriers among organization units located in different countries.
A boundary less organisation is the opposite of a bureaucracy with numerous barriers
and division. In contrast, the organisation without boundaries offers interaction and
networking among professionals inside and outside the organisation. It is characterized by
teamwork and communication.
The purpose of this initiative was to remove barriers between the various departments
as well as between domestic and international operations. To reward people for adopting the
“integration model”, bonuses were awarded to those who not only generated new ideas but
also shared them with others.

Advantages:
1. It allows free flow of ideas of information or resources throughout the organisation
and others.
2. Boundary less organization is able to achieve greater integration and coordination.
3. They are able to adapt to environmental changes.
4. It is highly flexible and responsive.
5. It reduces ineffectiveness.
6. Creativity, quality, timeliness.
7. Increase in speed and flexibility.

Disadvantages:
1. Lack of flexibility to changing mission needs/rapidly changing world.
2. Slow/poor in responding customer requirement.
3. Failure to get things to done.
4. Customer/vendor has a hard time dealing with the organization.

Management Science
Unit-1: Introduction to Management 1.30

TEAM STRUCTURE
One of the newest organizational structures developed in the 20th century is team. In
small businesses, the team structure can define the entire organization. Teams can be both
horizontal and vertical. While an organization is constituted as a set of people who synergies
individual competencies to achieve newer dimensions, the quality of organizational structure
revolves around the competencies of teams in totality.
For example, every one of the Whole Foods Market stores, the largest natural-foods grocer in
the US developing a focused strategy, is an autonomous profit centre composed of an average
of 10 self-managed teams, while team leaders in each store and each region are also a team.
Larger bureaucratic organizations can benefit from the flexibility of teams as well.

Suitable:
Xerox, Motorola, and DaimlerChrysler are all among the companies that actively use
teams to perform tasks.

Advantages:
1. Team-based organizations filter decision making down to all levels of management.
2. Team-based organizations require that all employees participate in the decision-
making process.
3. Employees feel they are part of the total organization, rather than members of an
individual department.
4. Team-based organizations run more efficiently and effectively, giving them a
competitive edge in today's global market.

Disadvantages:
1. Recognition for individual achievement within a hierarchical organization is a
motivator and a factor in determining compensation.
2. Team-based organizations value team performance over individual performance.
3. Lack of focus on the individual in team-based organizations.
4. Motivating individuals in a team-based organization can be more challenging.
5. Team-based organizations are decentralized rather than hierarchical.

INVERTED PYRAMID STRUCTURE


This is an alternative to traditional chain of command. This is a structure which is
narrow at the top and wide at the base. It includes few levels of management i.e. sales people
and sales support staff sit at the top as they are key decision makers for all issues related to
sales and dealings with customers. Since they are in tough with customers, they are given all
the freedom to follow their own judgment at all levels.

Management Science
Unit-1: Introduction to Management 1.31

Suitable:
This organisation structure is suitable for sales associates, journalism, etc.

Advantages:
1. In this structure the customers are given the first preference.
2. It becomes simple to know their preferences and plan the strategies of the
organisation accordingly.
3. Front line employees are given more responsibility and authority in the organisation
than the top management because they are closest to the customers.
4. Decentralization of authority and responsibility place a very important role in prompt
and timely decisions.
5. The inverted pyramid structure motivates the employees as they are placed in a better
position than the top management.

Disadvantages:
1. This structure may be dangerous because the role of top management is shifted to
supporting one from that of commanding one which ultimately leads to the direction
less-organisation.
2. In this structure there is absence of clear authority and responsibility levels as a result
of which people become confused and business veers out of control.
3. Frontline supervisor cannot make strategies regarding organisations even though they
have proper understanding of the customers because they are not equipped to do so.

FLAT AND LEAN ORGANISATION

Flat Organizations are those, which have few or even one level of management. For
example, a service organization with equal partners and 30 employees. Flat organizations are
known by their wider span of management of control. Each manager controls more number
of employees at a given point of time.

Managing Director

Sales Manager Production Manager Personnel Manager Finance Manager

Management Science
Unit-1: Introduction to Management 1.32

Tall/Lean organizations may have many levels of management. It focuses on vertical


communication through the levels of grades. It involves narrow span of management.
Generally the greater the height of organizational chart, the smaller is the span of control,
vice versa.
Managing Director

General Manager

Sales Manager Production Manager Personnel Manager Finance Manager

Advantages:
1. It is simple to understand.
2. Easy supervision & control.
3. Quick decisions are possible.
4. It sets clearly the direct lines of authority and responsibility of a line manager.

Disadvantages:
1. Lack of specialization
2. Low – Morale
3. Autocratic approach
4. Overburden to manager

IMPORTANT QUESTIONS
1. Explain the nature and functions of management?
2. Explain how scientific management paved way for changes in the traditional mindset.
3. “Management is regarded as an art by some, science by others”. In the light of this
statement, Explain the exact nature of management
4. What is the contribution of Henry Fayol to management thought? Explain 14
principles of management thought.
5. Write short notes on:
a. Maslow theory of Hierarchy of Human Needs
b. Frederick Herzberg two factor theory of motivation.
c. Theory X and Theory Y (Douglas Mc. Gregor)
d. Mayo’s Hawthorne Experiments
6. What are the challenges you have to face as a manger? Discuss.
7. State the history of evolution of management thought with emphasis on modern
management techniques.
8. Explain the meaning of organization and state its principles.
9. Write brief notes and merits and demerits of the following.
a. Line & staff organization
b. Line organization
c. Functional organization
10. What are the different organizational structure designs in modern trends?

Management Science
Unit-2: Operations & Project Management 2.1

UNIT – II
OPERATIONS MANAGEMENT

PLANT LAYOUT
Plant layout deals with the arrangement of work areas and equipment. It is related to
allocation of adequate spaces at the appropriate places for work equipment, working men,
materials, other supporting activities and also customers. The basic theme behind the
arrangement of work area is to produce the product economically, to provide the service
effectively and to provide a safe and good physical environment for the users that is, the
workers and / or the consumers.

Definition:
According to Moore, “Plant layout is a plan of an optimum arrangement of facilities
including personnel, operating equipment, storage space, material handling equipment and all
other supporting services along with the design of best structure to contain all these
facilities”.

OBJECTIVES OF PLANT LAYOUT


The primary goal of the plant layout is to maximise the profit by arrangement of all
the plant facilities to the best advantage of total manufacturing of the product. The objectives
of plant layout are:
1. Streamline the flow of materials through the plant.
2. Facilitate the manufacturing process.
3. Maintain high turnover of in-process inventory.
4. Minimize materials handling and cost.
5. Effective utilization of men, equipment and space.
6. Provide for employee convenience, safety and comfort.
7. Minimize investment in equipment.
8. Minimize overall production time.
9. Facilitate the organizational structure.

PRINCIPLES OF PLANT LAYOUT


1. Principle of integration: A good layout is one that integrates men, materials,
machines and supporting services and others in order to get the optimum utilization of
resources and maximum effectiveness.
2. Principle of minimum distance: This principle is concerned with the minimum
travel (or movement) of man and materials. The facilities should be arranged such
that, the total distance travelled by the men and materials should be minimum and as
far as possible straight line movement should be preferred.
3. Principle of cubic space utilization: The good layout is one that utilize both
horizontal and vertical space. It is not only enough if only the floor space is utilized
optimally but the third dimension, i.e., the height is also to be utilized effectively.
4. Principle of flow: A good layout is one that makes the materials to move in forward
direction towards the completion stage, i.e., there should not be any backtracking.

Management Science
Unit-2: Operations & Project Management 2.2

5. Principle of maximum flexibility: The good layout is one that can be altered without
much cost and time, i.e., future requirements should be taken into account while
designing the present layout.
6. Principle of safety, security and satisfaction: A good layout is one that gives due
consideration to workers safety and satisfaction and safeguards the plant and
machinery against fire, theft, etc.
7. Principle of minimum handling: A good layout is one that reduces the material
handling to the minimum.

TYPES OF PLANT LAYOUT


The Plant Layouts can be classified into the following five categories:
1. Process layout
2. Product layout
3. Fixed position layout
4. Combination layout
5. Hybrid layout

1. PRODUCT LAYOUT OR LINE LAYOUT


This type of layout is developed for product-focused systems. In this type of
layout only one product, or one type of product, is produced in a given area. In case of
product being assembled, this type of layout is popularly known as an assembly line
layout. The equipment here is laid out accordance to the sequence in which it is used for
making the product. Product layout is usually suitable for assembling operations, for
example in the automobile industry.
Product layout can be applicable where:
 the machines can be continuously handled for longer periods.
 time and motion study can be conducted.
 the products so manufactured do not require higher degree of inspection.

Advantages:
1. Removal of obstacles in production: Product layout ensures unrestricted and
continuous production thereby minimizing bottlenecks in the process of production,
this is because work stoppages are minimum under this method.
2. Economies in material handling: Under this method there are direct channels for the
flow of materials requiring lesser time which considerably eliminate back-tracking of
materials. On account of this, cost of material handling is considerably reduced. This
is greatly helpful in achieving desired quality of the end product.
3. Lesser manufacturing time: Under this method (as already pointed), backward and
forward handling of materials is not involved; it leads to considerable saving in
manufacturing time.
4. Lesser work in progress: On account of continuous uninterrupted mass production,
there is lesser accumulation of work in progress or semi-finished goods.

Management Science
Unit-2: Operations & Project Management 2.3

5. Proper use of floor space: This method facilitates proper and optimum use of
available floor space. This is due to non- accumulation of work in progress and
overstocking of raw materials.
6. Economy in inspection: Inspection can be easily and conveniently undertaken under
this method and any defect in production operations can be easily located in
production operations. The need for inspection under this method is much less and
can be confined at some crucial points only.
7. Lesser manufacturing cost: On account of lesser material handling, inspection costs
and fullest utilization of available space, production costs are considerably reduced
under this method.
8. Lesser labour costs: Due to specialization and simplification of operations and use of
automatic simple machines, employment of unskilled and semi-skilled workers can
carry on the work. The workers are required to carry routine tasks under this method.
This leads to lesser labour costs.
9. Introduction of effective production control: Effective production control on
account of simple operation of this method can be employed successfully. Production
control refers to the adoption of measures to achieve production planning.

Dis-Advantages:
1. Lesser flexibility: As work is carried in sequence and process arranged in a line, it is
very difficult to make adjustments in production of operations. Sometimes, certain
changes under this method become very costly and impractical.
2. Large investment: Under this method, machines are not arranged in accordance with
functions as such similar type of machines and equipment is fixed at various lines of
production. This leads to unavoidable machinery duplication resulting in idle capacity
and large capital investment on the part of the entrepreneur.
3. Higher overhead charges: Higher capital investment leads to higher overheads
(fixed overheads) under this method. This leads to excessive financial burden.
4. Interruption due to breakdown: If one machine in the sequence stops on account of
breakdown, other machines cannot operate and work will be stopped. The work
stoppage may also take place on account of irregular supply of material, poor
production scheduling and employee absenteeism etc.
5. Difficulties in expanding production: Production cannot be expanded beyond
certain limits under this method.
6. Lack of specialization in supervision: Supervision of different production jobs
becomes difficult under this method as there is absence of specialized supervision as
the work is carried on in one line having different processes and not on the basis of
different departments for different specialized jobs.
7. Under-utilization of machines: As has already been pointed out, separate set of one
type of machines is fixed at different lines of production. Usually, these machines are
not properly and fully utilized and there remains idle capacity in the form of under-
utilized equipment.

2. PROCESS LAYOUT OR FUNCTION LAYOUT:


Process layout is recommended for batch production. All machines performing
similar type of operations are grouped at one location in the process layout e.g., all lathes,
milling machines, etc. are grouped in the shop will be clustered in like groups. Thus, in
process layout the arrangement of facilities are grouped together according to their
functions. The flow paths of material through the facilities from one functional area to
another vary from product to product. A typical process layout is shown below.

Management Science
Unit-2: Operations & Project Management 2.4

Process layout can be preferred when:


 more varieties of products are manufactured in fewer quantities
 close quality inspection is required
 it is difficult to carry out time and motion study
 it is necessary to use the same machine for more than one product

Advantages:
1. Maximum utilisation of machines: This method ensures fuller and effective
utilisation of machines and consequently investment in equipment and machines
becomes economical.
2. Greater flexibility: Changes in the sequence of machines and operations can be made
without much difficulty. This is because the machines are arranged in different
departments in accordance with the nature of functions performed by them.
3. Scope for expansion: Production can be increased by installing additional machines
without much difficulty.
4. Specialisation: As has already been pointed out that under this method, specialised
machines are used for performing different production operations. This leads to
specialisation.
5. Effective utilisation of workers: Specialised workers are appointed to carry different
type of work in different departments. This leads to effective and efficient use of their
talent and capabilities.
6. More effective supervision: As the machines are arranged on the basis of functions,
performed by them, the specialised and effective supervision is ensured by the
specialised knowledge of supervisors. Each supervisor can perform his task of
supervision effectively as he has to supervise limited number machines operating in
his department.
7. Lesser work stoppages: Unlike the product method, if a machine fails, it does not
lead to complete work stoppage and production schedules are not seriously affected.
Due to breakdown in one machine, the work can be easily transferred to the other
machines.

Management Science
Unit-2: Operations & Project Management 2.5

Disadvantages:
1. Coverage of more floor area: Under this method, more floor space is needed for the
same quantum of work as compared to product layout.
2. Higher cost of material handling: Material moves from one department to another
under this method, leading to the higher cost of material handling. The mechanical
devices of material handling cannot be conveniently employed under this method on
account of functional division of work.
3. Higher labour costs: As there is functional division of work, specialised workers are
to be appointed in different departments for carrying specialised operations. The
appointment of skilled worker leads to higher labour costs.
4. Longer production time: Production takes longer time for completion under this
method and this leads to higher inventories of work-in-progress.
5. Difficulties in production, planning and control: Due to large variety of products
and increased size of the plant, there are practical difficulties in bringing about proper
coordination among various areas (departments) and processes of production. The
process of production, planning and control becomes more complex and costly.
6. Increased inspection costs: Under this type of layout more supervisors are needed
and work is to be checked after every operation which makes the process of
supervision costlier.

3. FIXED POSITION LAYOUT


This is also called the project type of layout. In this type of layout, the material, or
major components remain in a fixed location and tools, machinery, men and other
materials are brought to this location. This type of layout is suitable when one or a few
pieces of identical heavy products are to be manufactured and when the assembly consists
of large number of heavy parts, the cost of transportation of these parts is very high.
For example, building ships, manufacture of aircrafts, heavy pressure vessels and
automobile industries, etc,.

Advantages:
1. Economies in transformation: As the work is carried at one place and material is not
taken from one place to another, this leads to savings in transformation costs.
2. Different jobs with same layout: Different projects can be undertaken with the help
of same layout.
3. Production in accordance with specifications: The jobs can be performed in
accordance with the specifications given by the customers.
4. Scope for flexibility: It provides maximum flexibility for various changes in
production processes and designs of the products.
Disadvantages:
1. Immobility of material: As material is fixed at one place, this leads to certain
difficulties in arranging specialised workers, machines and equipment for the job.
2. Large investment: This method is time consuming and costlier as compared to first
two methods.

Management Science
Unit-2: Operations & Project Management 2.6

3. Unsuitable for small products: This method is not suitable for producing and
assembling small products in large quantities. In actual practice, it has been observed
that a judicious combination of three types’ viz., product, process and stationary
material layout is undertaken by different organisations.

4. COMBINATION LAYOUT:
A combination of process and product layouts combines the advantages of both
types of layouts. A combination layout is possible where an item is being made in
different types and sizes. Here machinery is arranged in a process layout but the process
grouping is then arranged in a sequence to manufacture various types and sizes of
products. It is to be noted that the sequence of operations remains same with the variety
of products and sizes. The below figure shows a combination type of layout:

5. HYBRID OR CELLULAR LAYOUT:


It is also called Multi-Objective Layout. A grouping of equipment for performing
a sequence of operations on family of similar components or products has become all the
important. Group technology (GT) is the analysis and comparisons of items to group them
into families with similar characteristics. GT can be used to develop a hybrid between
pure process layout and pure flow line (product) layout. This technique is very useful for
companies that produce variety of parts in small batches to enable them to take advantage
and economics of flow line layout.
The application of group technology involves two basic steps; first step is to
determine component families or groups. The second step in applying group technology
is to arrange the plants equipment used to process a particular family of components. This
represents small plants within the plants.

Management Science
Unit-2: Operations & Project Management 2.7

Advantages:
1. The group technology reduces production planning time for jobs.
2. It reduces the set-up time.
3. It can increase component standardization and rationalization.
4. Effective machine operation and productivity.
5. It can decrease the Paper work and overall production time.
6. Work-in-progress and work movement.
7. It can reduce the Overall cost.
Disadvantages:
1. This type of layout may not be feasible for all situations.
2. If the product mix is completely dissimilar, then we may not have meaningful cell
formation.

WORK STUDY
Work study is a generic term for those techniques, method study and work
measurement which are used in the examination of human work in all its contexts. According
to British standard (BS 3138), work study refers to the method study and work measurement,
which are used to examine human work in all its contexts by systematically investigating into
all factors affecting its efficiency and economy to bring forth the desired improvement. The
principal aim of work study is to bring efficiency and economy by making improvements in
the method of doing the job. It is used in agricultural, manufacturing, services, transport, etc.
It has 2 parts:

Work study is a means of enhancing the production efficiency (productivity) of the


firm by elimination of waste and unnecessary operations. It is a technique to identify non-
value adding operations by investigation of all the factors affecting the job. It is the only
accurate and systematic procedure oriented technique to establish time standards.

METHOD STUDY
Method study enables the industrial engineer to subject each operation to systematic
analysis. The main purpose of method study is to eliminate the unnecessary operations and to
achieve the best method of performing the operation. Method study is also called methods
engineering or work design. Method engineering is used to describe collection of analysis
techniques which focus on improving the effectiveness of men and machines.
According to British Standards Institution (BS 3138), “Method study is the systematic
recording and critical examination or existing and proposed ways or doing work as a means
or developing and applying easier and more effective methods and reducing cost.”

Management Science
Unit-2: Operations & Project Management 2.8

Fundamentally method study involves the breakdown of an operation or procedure


into its component elements and their systematic analysis. In carrying out the method study,
the right attitude of mind is important. The method study man should have:
1. The desire and determination to produce results;
2. Ability to achieve results;
3. An understanding of the human factors involved.
Method study scope lies in improving work methods through process and operation
analysis, such as: Manufacturing operations and their sequence, Workmen, Materials, tools
and gauges, Layout of physical facilities and work station design, Movement of men and
material handling, and Work environment.

Steps Involved in Method Study:


The process of method study involves the following procedure:

Method Study

Aim: To develop better working methods

PROCEDURE
SELECT the task to be studied.
RECORD all related facts about current or proposed methods.
EXAMINE the facts critically considering the purpose,
sequence, place and resources.
DEVELOP the best possible method.
DEFINE the best possible method.
EVALUATE different alternatives to develop new method.
INSTALL the new improved method.
MAINTAIN verify the installed method.

RESULT
Increased Efficiency, Cost Effectiveness and
productivity through
a) Improved workplace layout
b) Improved equipment design
c) Reduction in worker fatigue
d) Improved product/process design

1. Select: The task or work to which the method study principles are to be applied is to be
identified and the objectives such as saving costs, increasing productivity, eliminating
unnecessary emotions by works, etc are to be specified.
2. Record: The current process of doing job has to be recorded. While doing so, every
detail, however small it may be, has to be identified. Where the process is too long,
involving many stages of production, inspection, the present process of doing the job is
recorded sufficiently, together with all the relevant information, by using the process
chart symbols.

Management Science
Unit-2: Operations & Project Management 2.9

Symbol Meaning
Operation (doing something):
It involves change in the condition of a product
Ex: Assembly of spare parts
Transport (Moving something from one location to
another): Ex: Assembled PC is moved to inspection
section.
Storage (Permanent):
It occurs when object is kept and protected against
unauthorized removal.
Ex: When PC is put into store after inspection.
Delay (Temporary storage):
It occurs to an object when conditions do not permit the
D performance of next job.
Ex: Machinery breakdown, waiting for next stage, etc.
Inspection:
To check whether the Quality and quantity of the product
is good or not.
Operation cum Inspection:
Inspection is taking place during the production process.

Operation cum Transportation:


Assembling is taking place while spares are transported.

3. Examine: This is the most important phase of method study. After an activity has been
suitably recorded by means of any method, the recorded events are to be critically
examined. The analysis may be based on primary questions like purpose, place,
sequence, person etc.
4. Develop: Based on the recorded data, the alternative methods of doing the same job
more effectively are to be identified and evaluated. From these alternatives, the best one
is selected and developed to suit the requirements.
5. Evaluate: The different alternatives to developing a new improved method comparing
the cost-effectiveness of the selected new method with the current method with the
current method of performance.
6. Install: The new method so developed is to be installed in a phased manner. As part of
installation, adequate planning of schedules and deployment of resources should be
taken care of. Once the method is adopted, the workers have to be retrained, the
equipment has to be provided, and the method has to be tested in order to seek
improvement.
7. Maintain: It should be ensured that the method is used in the manner intended.
Complaints and improvements in productivity should be registered. Once the new
method starts yielding the desired result, it is necessary to maintain the new method
without any change for some time.

Objectives of Method Study:


Method study is essentially concerned with finding better ways of doing things. It
adds value and increases the efficiency by eliminating unnecessary operations, avoidable
delays and other forms of waste. The objectives of method study techniques are:

Management Science
Unit-2: Operations & Project Management 2.10

1. Improved layout and design of workplace.


2. Improved and efficient work procedures.
3. Effective utilisation of men, machines and materials.
4. Improved design or specification of the final product.
5. Present and analyse true facts concerning the situation.
6. To examine those facts critically.
7. To develop the best answer possible under given circumstances based on critical
examination of facts.

WORK MEASUREMENT
Work measurement is also called by the name ‘Time Study’. Work measurement is
absolutely essential for both the planning and control of operations. Without measurement
data, we cannot determine the capacity of facilities or it is not possible to quote delivery dates
or costs. We are not in a position to determine the rate of production and also labour
utilization and efficiency. It may not be possible to introduce incentive schemes and standard
costs for budget control.
According to British Standard Institute time study has been defined as “The
application of techniques designed to establish the time for a qualified worker to carry out a
specified job at a defined level of performance”.

Procedure Involved in Time Study:


The process of work measurement involves the following procedure:

Work Measurement

Aim: To develop Time Standard

PROCEDURE
DESCRIBE the given work for measurement.
BREAK the job into elements.
MEASURE the performance of operator.
DETERMINE the basic time.
PROVIDE time allowance for fatigue etc.
DETERMINE standard time.

RESULT
Increased Efficiency and
Higher productivity through
a) Scientific basis to develop incentive systems
b) Maintain reasonable levels of employment
c) Reliable means of planning and control

The essential pre-requisite to carry out work measurement is to describe the method
underlying the job. Stop watch time is the basic technique for determining accurate time
standards. They are economical for repetitive type of work. Steps in taking the time study are:

Management Science
Unit-2: Operations & Project Management 2.11

1. Select the work to be studied.


2. Obtain and record all the information available about the job, the operator and the
working conditions likely to affect the time study work.
3. Breakdown the operation into elements. An element is a instinct part of a specified
activity composed of one or more fundamental motions selected for convenience of
observation and timing.
4. Measure the time by means of a stop watch taken by the operator to perform each
element of the operation. Either continuous method or snap back method of timing
could be used.
5. At the same time, assess the operator’s effective speed of work relative to the
observer’s concept of ‘normal’ speed. This is called performance rating.
6. Adjust the observed time by rating factor to obtain normal time for each element
Normal = Observed time X Rating / 100
7. Add the suitable allowances to compensate for fatigue, personal needs, contingencies,
etc., to give standard time for each element.
8. Compute allowed time for the entire job by adding elemental standard times
considering frequency of occurrence of each element.
9. Make a detailed job description describing the method for which the standard time is
established.
10. Test and review standards wherever necessary. The basic steps in time study are
represented by a block diagram.

The objectives of work measurement are to provide a sound basis for:


1. Comparing alternative methods.
2. Assessing the correct initial manning (manpower requirement planning).
3. Planning and control.
4. Realistic costing.
5. Financial incentive schemes.
6. Delivery date of goods.
7. Cost reduction and cost control.
8. Identifying substandard workers.
9. Training new employees.

STATISTICAL QUALITY CONTROL


The process of applying statistical principles to solve the problem of controlling the
quality control of a product of service is called Statistical Quality control. W.A.Shewart in
1931 introduced, the control charts on basis of statistical principles.
Quality Control (QC) may be defined as a system that is used to maintain a desired
level of quality in a product or service. It is a systematic control of various factors that affect
the quality of the product. It depends on materials, tools, machines, type of labour, working
conditions etc. Quality control aims at prevention of defects at the source, relies on effective
feedback system and corrective action procedure. Quality control uses inspection as a
valuable tool.

Definition:
According to Juran “Quality control is the regulatory process through which we
measure actual quality performance, compare it with standards, and act on the difference”.

Management Science
Unit-2: Operations & Project Management 2.12

Quality is of two types:


a) Quality of design: It refers to product features such as performance, reliability,
durability, use, service, etc., in comparing two products.
b) Quality of conformance: It means whether the product meets the given quality
specifications or not.

TYPES OF QUALITY CONTROL


Quality Control is not a function of any single department or a person. It is the
primary responsibility of any supervisor to turn out work of acceptable quality. Quality
control can be divided into three main sub-areas, those are:
1. Off-Line Quality Control: Its procedure deal with measures to select and choose
controllable product and process parameters in such a way that the deviation between
the product or process output and the standard will be minimized. Much of this task is
accomplished through product and process design. Example: Taguchi method,
principles of experimental design etc.
2. Statistical Process Control: SPC involves comparing the output of a process or a
service with a standard and taking remedial actions in case of a discrepancy between
the two. It also involves determining whether a process can produce a product that
meets desired specification or requirements.
3. Acceptance sampling plans: A plan that determines the number of items to sample
and the acceptance criteria of the lot, based on meeting certain stipulated conditions
(such as the risk of rejecting a good lot or accepting a bad lot) is known as an
acceptance sampling plan.

STATISTICAL PROCESS CONTROL


Statistical process control (SPC) is the application of statistical techniques to
determine whether the output of a process conforms to the product or service design. It aims
at achieving good quality during manufacture or service through prevention rather than
detection. It is concerned with controlling the process that makes the product because if the
process is good then the product will automatically be good.

Confidence limit:
It indicates the range of confidence level. A confidence level refers to the probability
that the value of measurement or parameter, such as length of screw, is correct.
Ex: If a component is required with measurement of 50 mm. across, then the buyer
accepts all components measuring between 48 mm and 52 mm across, considering a five
percent confidence level.
Control limit:
Control limits are found in the control charts. There are two control limits 1) Upper
control limit (UCL) and 2) Lower control limit (LCL). These are determined based on the
principles of normal distribution.
Ex: In a pilot investigation of the length of the nails produced in the shop floor, it is
found that the mean length X is cm, the S.D 3σ, the measure of variability of the nails
produced 0.2 cm. How do you construct the control chart for this data.

Management Science
Unit-2: Operations & Project Management 2.13

CONTROL CHARTS:
It is a technique of ensuring the quality of the products during the manufacturing
process itself. It aims to control and maintain the quality of products in manufacturing
process. It is carried out through control charts. A control chart compares graphically the
process performance data to compute statistical control limits. It is of two types:

1. Variable charts:
A variable is one whose quality measurement changes from unit to unit. The
quality of these variables is measured in terms of hardness, thickness, length, etc.
These are drawn using principles of normal distribution. It is meant for variable type
of data i.e. X-Bar chart and R charts.

X – Charts:
In control charts for variables, to construct a chart, only the mean or the
average value of dimensions in the samples in plotted on it. Procedure for
construction X-Chart:
a) Compute average of averages X.
b) Calculate average of Range (R).
c) Multiply the average range by the conversion factor (A2). This gives A2R.
d) Calculate the upper control and lower control limits
Upper control limit (UCL) = X+A2R
Lower control limit (LCL) = X+A2R
Where, A2 are conversion factors from table of constants.

R – Charts:
In control charts for variables, to construct a chart, only the mean or the
average value of dimensions in the samples in plotted on it. Procedure for
construction R-Chart:
a) Compute average of averages X and R for each of the samples obtained.
b) Calculate average of Range (R).
c) Multiply the average range by the conversion factor (D4 or D3).
d) Calculate the upper control and lower control limits
Upper control limit (UCL) = D4R
Lower control limit (LCL) = D4R
Where, D4 or D3 are conversion factors from table of constants.
R is average of sample ranges

Management Science
Unit-2: Operations & Project Management 2.14

Table of constants for X and R charts


n A2 D3 D4
2 1.880 0 3.268
3 1.023 0 2.574
4 0.729 0 2.282
5 0.577 0 2.114
6 0.483 0 2.004
7 0.419 0.076 1.924
8 0.373 0.136 1.864
9 0.337 0.184 1.816
10 0.308 0.223 1.777

2. Attribute charts:
The quality of attributes can be determined on basis of yes or no. It is one in
which it is not possible to measures the quality characteristics of a product, i.e., it is
based on visual inspection only like good or bad, success or failure, accepted or
rejected. It is meant for attribute type of data i.e. C-chart and P-chart.

C – Chart:
It is used where there are a number of defects per unit. Here the sample size
should be a constant. It is used when there are several independent defects that occur
in ever unit produced. It is calculated as:
Upper control limit (UCL) = c + 3√c
Lower control limit (LCL) = c + 3√c
Where,
Total No. of defects in all samples
c = -------------------------------------------
Total No. of samples inspected

P – Chart:
It is used where there is data about the number of defectives per sample. It is
also known as fraction defective or percentage defective chart. It is classified on ‘go
or nogo’ basis i.e. good or bad defective. It is calculated as:
Upper control limit (UCL) = p + 3[√ p (1 – p)] / n
Lower control limit (LCL) = p + 3[√ p (1 – p)] / n
where,
Total No. of defectives found
average defective (p) = --------------------------------------
Total No. of pieces inspected
n = No. of pieces inspected.

Management Science
Unit-2: Operations & Project Management 2.15

ILLUSTRATIONS
1. Construct x and R charts from the following information and state whether the process
is in control for each of the following x has been computed from a sample of 5 units
drawn at an interval of half an hour from an ongoing manufacturing process.

Solution:
The mean of means =

Range is calculated as =

X Chart: X chart UCL and LCL compute at sample size 5 in A2 table value is 0.58

R Chart: R chart UCL and LCL compute at sample size 5 in D4 table value is 2.11
and D3 table value is 0

Management Science
Unit-2: Operations & Project Management 2.16

2. From the following data prepare C - chart:

Solution:

3. For each of the 14 days a number of magnets used in electric relays are inspected and
the number of defectives is recorded. The total number of magnets tested is 14,000. The
following are the particular of the number of defectives found every day.

Management Science
Unit-2: Operations & Project Management 2.17

Solution:

Management Science
Unit-2: Operations & Project Management 2.18

MATERIALS MANAGEMENT
Materials management is a function, which aims for integrated approach towards the
management of materials in an industrial undertaking. Its main objective is cost reduction and
efficient handling of materials at all stages and in all sections of the undertaking. Its function
includes several important aspects connected with material, such as, purchasing, storage,
inventory control, material handling, standardization etc.
Materials management plays a significant role in controlling the costs and reducing
the wastage in a manufacturing industry. Most oftenly, 70% of the price of goods are towards
cost of materials and rest on wages, salaries, overheads and profits. It means material cost
form a significant portion of total cost. For running any industry or business, we need a
number of resources. These resources are popularly known as 5 M's of any Industrial activity
i.e. Men, Machines, Materials, Money and Management.
Materials refer to inputs into the production process, most of which are embodied in
the finished goods being manufactured. It may be raw materials, work in progress, finished
goods, spare parts, etc.

Objectives of Materials Management:


The objectives of integrated materials management can be classified in two categories:
1. Primary Objectives:
i) To purchase the required materials at minimum possible prices by following the
prescribed purchase policies and encouraging healthy competition.
ii) To achieve high inventory turnover.
iii) To incur minimum possible expenditure on administrative and other activities.
iv) To ensure that continuity of supply of materials.
v) To supply materials of consistent quality.
vi) To maintain good relationship with the suppliers of materials.
vii) To ensure training and development of employees.
2. Secondary Objectives:
a) To assist technical/design department in developing new materials and products.
b) To make economic 'make or buy' decisions.
c) To ensure standardization of materials.
d) To contribute in the product improvement.
e) To contribute in the development of inter departmental harmony.
f) To follow scientific methods of forecasting prices and future consumption.

INVENTORY MANAGEMENT
An inventory is a list of items or goods. Inventory and stock control are used
interchangeably in business circle. There are various types of inventory depending upon the
context or situations. For example, inventory in a library means the list of books, journals,
periodicals, furniture, fans, etc.
A typical firm carries different kinds of inventories such as: raw materials and
purchased parts; partially completed goods called work-in-process (WIP); finished-goods or
merchandise in retail stores; replacement parts, tools, and supplies; and goods-in-transit to
warehouses or customers (called pipeline inventory).
Generally a firm has about 30 percent of its current assets and as much as 90 percent
of its working capital invested in inventory. Because inventories may represent a significant
portion of total assets, a reduction of inventories can result in a significant increase in return
on investment (ROI) - a ratio of profit after taxes to total assets.

Management Science
Unit-2: Operations & Project Management 2.19

It is, therefore, necessary to hold inventories of various kinds to act as a buffer


between supply and demand for efficient operation of the system. Thus, an effective control
on inventory is a must for smooth and efficient running of the production cycle with least
interruptions.

INVENTORY CONTROL
Inventory control is a planned approach of determining what to order, when to order
and how much to order and how much to stock so that costs associated with buying and
storing are optimal without interrupting production and sales. Inventory control basically
deals with two problems:
(i) When should an order be placed? (Order level), and
(ii) How much should be ordered? (Order quantity).
These questions are answered by the use of inventory models. The scientific inventory
control system strikes the balance between the loss due to non-availability of an item and cost
of carrying the stock of an item. Scientific inventory control aims at maintaining optimum
level of stock of goods required by the company at minimum cost to the company.

Objectives of Inventory Control:


1. To ensure adequate supply of products to customer and avoid shortages as far as
possible.
2. To make sure that the financial investment in inventories is minimum (i.e., to see that
the working capital is blocked to the minimum possible extent).
3. Efficient purchasing, storing, consumption and accounting for materials is an
important objective.
4. To maintain timely record of inventories of all the items and to maintain the stock
within the desired limits.
5. To ensure timely action for replenishment.
6. To provide a reserve stock for variations in lead times of delivery of materials.
7. To provide a scientific base for both short-term and long-term planning of materials.

ECONOMIC ORDER QUANTITY (EOQ)


It is defined as that quantity of material, which can be ordered at one time to minimize
the cost of ordering and carrying the stocks. It refers to the size of each order that keeps the
total cost low. The framework used to determine this order quantity is also known as Wilson
EOQ Model or Wilson Formula. It is also known as quantitative technique. It depends on
two types of costs:

Management Science
Unit-2: Operations & Project Management 2.20

1. Inventory Ordering Costs: The cost refer to the cost incurred to procure the materials
particularly in large organizations, these cost are significant. This is also called as
procurement cost.
Definition: It is the cost of placing an order from a vendor. This includes all costs
incurred from calling for quotation to the point at which the item is taken into stock.
Ex: Receiving quotations, processing purchase requisition, Receiving materials and
then inspecting it, Follow up and expediting purchase order, processing sellers
invoice.

2. Inventory carrying cost: Carrying cost which are also known as holding costs are the
costs incurred in maintaining the stores in the firm. They are based on average inventory.
Ex: Storage cost includes: Rent for storage facilities, Salary of person and related storage
expenses, Cost of insurance, Cost of capital.

Determining EOQ:
(a) Graphical Method:
Total cost = ordering costs + carrying costs
EOQ = quantity at which total cost is minimum

Management Science
Unit-2: Operations & Project Management 2.21

Algebraic Method:
Step-1:
Total ordering cost per year = No. of order placed per year x ordering costs per order
=A/SxO
Step-2:
Total carrying cost per year = Average inventory level x carrying cost per year
=S/2xC
Where, A = Annual Demand
S = Size of each order (units per order)
O = ordering cost per order
C = carrying cost per unit
Step-3:
EOQ = TOC = TCC
=A/SxO
=S/2xc
2AO = S2C
S2 = 2AO / C
S = 2AO / C

EOQ =
Where,
EOQ is the size of economic order quantity
A is the annual demand in units
O is the ordering costs per order
C is the carrying cost per unit

ILLUSTRATIONS
1. A biscuit manufacturing company buys lot bags of 10,000 bags wheat per annum. The
cost per bag is Rs.500 and ordering cost is Rs.400. The inventory carrying cost is
estimated at 10% of the price of the wheat. Determine EOQ and number of orders
required per year.
Solution:
Annual demand (A) = 10,000 bags
Ordering cost per order (O) = Rs.400
Carrying cost per unit (C) = 10% of Cost price
= 0.10 x 500 = Rs.50/-

EOQ = 400 bags

In the above case, the company has to place 25 orders to optimize its ordering and
carrying costs.

Management Science
Unit-2: Operations & Project Management 2.22

2. An oil engine manufacturer purchases lubricants at the rate of Rs.42 per piece from a
vendor. The requirements of these lubricants are 1800 per year. What should be the
ordering quantity per order, if the cost per placement of an order is Rs.16 and inventory
carrying charges per rupee per year is 20 paise.
Solution:
Given data are:
Number of lubricants to be purchased, A = 1800 per year
Procurement cost, O = Rs. 16 per order
Inventory carrying cost, C = Rs. 42 × Re. 0.20 = Rs. 8.40 per year
Then, optimal quantity (EOQ),

EOQ =
√ x 1800 x 16
= .

= 82.8 or 83 lubricants (approx).

3. A manufacturing company purchase 9000 parts of a machine for its annual


requirements ordering for month usage at a time, each part costs Rs. 20. The ordering
cost per order is Rs. 15 and carrying charges are 15% of the average inventory per
year. You have been assigned to suggest a more economical purchase policy for the
company. What advice you offer and how much would it save the company per year?
Solution:
Given data are:
Number of lubricants to be purchased, A = 9000 parts per year
Cost of the part = Rs. 20
Procurement cost, O = Rs. 15 per order
Inventory carrying cost, C = 15% of cost of the part
= Rs. 20 × 0.15 = Rs. 3 per each part per year
Then, optimal quantity (EOQ),

Q=
√ x 9000 x 56
=
= 300 units

And, Optimum order interval, (to) = Q/D in years


= 300 / 9000
= 1/30 years

Minimum average cost = √2.A.C.O


= √2 x 9000 x 15 x 3
= Rs.900

If the company follows the policy of ordering every month, then the annual ordering cost is
= Rs 12 × 15
= Rs. 180

Lot size of inventory each month = 9000/12


= 750

Management Science
Unit-2: Operations & Project Management 2.23

Average inventory at any time = Q / 2


= 750/2
= 375

Therefore, storage cost at any time = 375 × C


= 375 × 3
= Rs. 1125

Total annual cost = 1125 + 180


= Rs. 1305

Hence, the company should purchase 300 parts at time interval of 1/30 year instead of
ordering 750 parts each month. The net saving of the company will be
= Rs. 1305 – Rs. 900
= Rs. 405 per year.

4. The XYZ Ltd. carries a wide assortment of items for its customers. One of its popular
items has annual demand of 8000 units. Ordering cost per order is found to be Rs.12.5.
The carrying cost of average inventory is 20% per year and the cost per unit is Re. 1.00.
Determine the optimal economic quantity and make your recommendations.

Solution:

The table and the graph indicates that an order size of 1000 units will gives the
lowest total cost among the different alternatives. It also shows that minimum total
cost occurs when carrying cost is equal to ordering cost.

Management Science
Unit-2: Operations & Project Management 2.24

ABC ANALYSIS
It is a technique of controlling inventories based on their value and quantities. It is
remembered as “Always Better Control”. In this analysis, the classification of existing
inventory is based on annual consumption and the annual value of the items. Hence we obtain
the quantity of inventory item consumed during the year and multiply it by unit cost to obtain
annual usage cost.
The items are then arranged in the descending order of such annual usage cost. The
analysis is carried out by drawing a graph based on the cumulative number of items and
cumulative usage of consumption cost.
Classification is done as follows:
Category Value (%) Volume (%) Degree of Control
A 70 10 Strict
B 20 20 Moderate
C 10 70 Low

100

90 C
Volume of Inventory (Rs.)
70

0 10 30 100
Volume of inventory (units)

A – Category:
It comprises of inventory which are costly and valuable. Normally 70% of funds are
tied up in costly stocks, which would be 10% of total volume of stock and these require strict
monitoring on a day to day basis.
B – Category:
It comprises of inventory which is less costly. 20% of funds are tied up in such stocks
which are 20% of total of stocks. These require monitoring on a weekly or fortnightly basis.
C – Category:
It consists of least cost inventory. 10% of funds are tied up in such stocks which are
70% of total volume. It can be monitored on a monthly or bi-monthly basis.
For effective inventory control, combination of the techniques of ABC with VED or
ABC with HML or VED with HML analysis is practically used.

Advantages of ABC Analysis:


(1) Exercise selective control is possible.
(2) Focus high attention on high value items is possible.
(3) It helps to reduce the clerical efforts and costs.
(4) It facilitates better planning and improved inventory turnover.
(5) It facilitates goods storekeeping and effective materials handling.

Management Science
Unit-2: Operations & Project Management 2.25

ILLUSTRATION

1. A computer hardware company has organized its 10 items on an annual dollar-


volume basis. Details like item numbers, their annual demand, unit cost, annual dollar
volume, and percentage of the total represented by each item are shown in Table.
Solution:
The items are classified as A, B, and C in the Table and the same is shown
graphically in the accompanied figure.

ABC Analysis of 10 Items


Item no. % of no. of Annual Unit cost Annual $ % of annual Combined Class
items volume ($) volume Dollar volume %
stocked (Units) = (3) ×
(1) (3) (4) (4)
1 (2)
20% 1000 90.00 90,000 38.8% 72% A
2 500 154.00 77,000 33.2% A
3 30% 1550 17.00 26,350 11.3% 23% B
4 350 42.86 15,001 6.4% B
5 1000 12.50 12,500 5.4% B
6 50% 600 14.17 8,502 3.7% 5% C
7 2000 0.60 1,200 0.5 % C
8 100 8.50 850 0.4 % C
9 1200 0.42 504 0.2 % C
10 250 0.60 150 0.1 % C
8550 $232,057 100%

Note that C type items are not necessarily unimportant; incurring a stock-out of C
items such as the nuts and bolts used to assemble manufactured goods can result in a costly
shutdown of an assembly line. However, due to the low annual dollar volume of C items,
there may not be much additional cost incurred by ordering larger quantities of some items,
or ordering them a bit earlier.

Management Science
Unit-2: Operations & Project Management 2.26

PROJECT MANAGEMENT

NETWORK ANALYSIS
It refers to a number of techniques for planning and control of complex projects. The
basis of network planning is the representation of sequential relationships between activities
by means of network of lines and circles. The idea is to link various activities in such a way
that the overall time spent on the project is kept to a minimum.
The advantages of developing a network are:
1. They provide logical picture of the layout and sequence of a project.
2. They help to identify the activities and events of the project.
3. They provide basis for working out times, costs involved in project.
4. They act as a focus point for action and coordination.
5. They make an enormous contribution to planning of projects.

There are two forms used for network planning:


1. Programme Evaluation and Review Technique (PERT): It is generally used for
those projects where time required to complete various activities are not known as a
priori. It is probabilistic model & is primarily concerned for evaluation of time. It is
event oriented.

2. Critical Path Method (CPM): It is a commonly used for those projects which are
repetitive in nature & where one has prior experience of handling similar projects. It
is a deterministic model & places emphasis on time & cost for activities of a project.

Features of Network Analysis:


1. Logical base of planning: Network analysis is highly applicable at several stages of
project management right from early planning stage of selecting right option from
various alternatives to scheduling stage and operational stage.
2. Simple in nature: Net work analysis is straightforward in concept and can be
easily explained to any laymen. Data calculations are simple and for large projects
computers can be used.
3. Improves coordination and communication: The graphs generated out of network
analysis display simply and direct way the complex nature of various sub- divisions
of project may, quickly perceive from the graph.
4. Wider application: The network analysis is applied to many types of projects.
Moreover, they may be applied at several levels within a given project from a single
department working on a sub-system to multi-plant operations within corporation.
Basic Network Terminologies:
1. Activity: This is a task or job of work, which takes time and resources. It is
represented by an arrow. ( ). The head of arrow indicates where the task ends
and tail where the task begins. An activity may be critical or non-critical. The arrow
points from left to right. It is used to establish:
(a) The activities involved in the project;
(b) The logical relationship;
(c) An estimate of time, which the activity is expected to take.
2. Event: This is a point in time and indicates the start or finish of an activity. Ex:
building wall completed, electrical connections started and ended. It is represented by

Management Science
Unit-2: Operations & Project Management 2.27

a circle or node ( ). The event from which an arrow comes out is called preceedor
event. The event into which the arrow gets in is called the successor event.

Tail Event Head Event

Preceedor Successor
Event Event

3. Dummy Event: This is an activity drawn to show clear and logical dependencies
between activities so as not to violate the rules of drawing networks. It does not
consume resources. Dummy activity is a hypothetical activity which takes no
resource or time to complete. It is represented by broken arrowed line & is used for
either distinguishing activities having common starting & finishing events or to
identify & maintain proper precedence relationship between activities that are not
connected by events.
It is represented by dotted arrow ( ).

4. Numbering the Event (Fulkerson’s Rule):


a) The initial event which has all outgoing arrows with no incoming arrow is
numbered “1”.
b) Delete all the arrows coming out from node “1”. This will convert some
more nodes into initial events.
c) Number these events as 2, 3, 4, ….
d) Delete all the arrows going out from these numbered events to create more
initial events. Assign the next numbers to these events.
e) Continue until the final or terminal node, which has all arrows coming
in with no arrow going out, is numbered.
f) Events have to be progressively numbered from left to right i.e. 1,2,3, etc.

NETWORK:
This is the combination of activities, dummy activities and events in a logical
sequence, according to the rules of drawing a network. Each activity of the project is
represented by arrow pointing in direction of progress of project. The events of the network
establish the precedence relationship among different activities.
The rules of drawing a network:
1. A complete network should have only one point of start and only point of end event.
2. Each activity must have one preceding or tail event and one succeeding or head event.
3. An event is not complete until all activities are complete.
4. All activities must be tied into the network. Events left untied to network are called
danglers.
5. Arrows cannot go backward and loop network should be avoided.
6. An arrow should always be straight, not curved, head from left to right and do not
cross each other.
7. Use dummies only when it is required.

Steps for drawing CPM/PERT network:


1. Analyze & breakup of the entire project into smaller systems i.e. specific activities
and/or events.
2. Determine the interdependence & sequence of those activities.

Management Science
Unit-2: Operations & Project Management 2.28

3. Draw a network diagram.


4. Estimate the completion time, cost, etc. for each activity.
5. Identify the critical path (longest path through the network).
6. Update the CPM/PERT diagram as the project progresses.

PROJECT LIFE CYCLE


A project life cycle is the sequence of phases that a project goes through from its
initiation to its closure. The number and sequence of the cycle are determined by the
management and various other factors like needs of the organization involved in the project,
the nature of the project, and its area of application. The phases have a definite start, end, and
control point and are constrained by time. The project lifecycle can be defined and modified
as per the needs and aspects of the organization.
Even though every project has a definite start and end, the particular objectives,
deliverables, and activities vary widely. The lifecycle provides the basic foundation of the
actions that has to be performed in the project, irrespective of the specific work involved.

Stages in Project Life Cycle:


The project life cycle typically passes through four stages, viz., Initiating, planning,
executing and closing. The following figure shows the Project Life Cycle. The starting point
begins the moment the project is given the go- ahead. Project efforts starts slowly, build to a
peak and then declines to delivery of the project to the customer. The stages in the project life
cycle are discussed below:

Management Science
Unit-2: Operations & Project Management 2.29

a) Project Initiation Stage (Starting of the project): In this stage, the specifications of
the project are defined along with the clear cut project objectives. Project teams are
formed and their major responsibilities are assigned. More specifically, this stage
defines the goals, specifications, tasks and responsibilities.
It includes information such as:
 Project’s purpose, vision, and mission
 Measurable objectives and success criteria
 Elaborated project description, conditions, and risks
 Name and authority of the project sponsor
 Concerned stakeholders

b) Project Planning Stage (Organizing and Preparing): In this stage, the effort level
increases and plans are developed to determine what the project will entail, when it
will be scheduled, whom it will benefit, what quality level should be maintained and
what the budget will be. More specifically, this stage will include planning schedules,
budgets, resources, risks and staffing.

c) Project Execution Stage (Carrying out the project): In this stage, a major portion of
the project work takes place. The physical product is produced (For eg., house, bridge,
software program, report, etc). Time, cost and specification measures are used for
control. More specifically, this stage will take care of status reports, changes, quality
and forecasts.

d) Project Closure stage (Termination of the project): This is the final stage which
includes two activities, viz., delivering the outcome of the project to the customer and
redeploying the project resources. Delivery of the project might include customer
training and transferring documents. Redeployment usually involves releasing project
equipment/materials to other projects and finding new assignments for team members.
More specially, this stage will undertake activities relating to training the customer,
transfer of documents, releasing resources, releasing staff and learning lessons.

PROGRAMME EVALUATION AND REVIEW TECHNIQUE (PERT)


It is a tool to evaluate a given programme and review the progress made in it from
time to time. A programme is also called a project. A project is defined as a set of activities
with a specific goal occupying a specific period of time. PERT is concerned with estimating
the time for different stages in a project and find out what the critical path is, i.e. which
consumes the maximum resources.

Time Estimates in PERT:


1. Optimistic Time Estimate (to): It refers to minimum time the activity takes,
assuming that there will not be any hindrances like delay, setbacks, etc in completion.

2. Pessimistic Time Estimate (tp): This is the maximum possible time it could take to
complete the job barring the major disturbances like labour strike, etc.

3. Most-Likely time Estimate (tm or ti): It is the time estimate which likes between the
optimistic and pessimistic time estimates.

Management Science
Unit-2: Operations & Project Management 2.30

4. Average Time Estimate (te): according to beta distribution, the average of the 3
estimates is equal to the aggregate of one-sixth of optimistic, two-thirds of most likely
and one-sixth of pessimistic time estimates. This equation is very significant in PERT
analysis:
te = 1/6 to + 2/3 tm + 1/6 tp
or
te = to +4tm + tp / 6

5. Range, Standard Deviation and Variance: In beta distribution, the range is equal to
the difference between pessimistic time estimate (tp) and optimistic time estimate (to).
Range = tp - to
Standard Deviation (σ) is equal to one-sixth of range.
σ = (tp- to) / 6
Variance (σ2) = [(tp- to) / 6]2

CRITICAL PATH METHOD (CPM)


This assumes that the time required to complete an activity can be predicted
accurately, and thus the costs can be quantified once the critical path is identified. It involves
determining an optimum duration of the project, i.e. minimum duration which involves
lowest costs.
Examples of PERT and CPM:
1. Construction of projects like buildings, highways, bridges, etc.
2. Preparation of bids and proposals like multipurpose projects.
3. Maintenance and planning of oil refineries, ship repairs, etc.
4. Manufacture and assembly of large items like aeroplanes, ships etc.
5. Development of new products or services.

Difference between PERT and CPM:


PERT CPM
1. It is event oriented. It is activity oriented
2. It is based on 3 estimates: optimistic, It is deterministic.
most likely and pessimistic.

3. It is a technique for evaluating the Here time estimates are based on past
probability of completing the project. data.

4. It is not related to costs. Here time is related to costs.


5. It includes network diagram, event, It involves arrow diagram, nodes and
slack, etc. float.

6. It assumes all resources (money, It is more realistic. It provides


men, materials and machines) are information about the implications of
available as and when required crashing the duration of network and
additional costs.

Management Science
Unit-2: Operations & Project Management 2.31

IDENTIFYING CRITICAL PATH


It is the path which consumes the maximum amount of time or resources. It is that
path which has zero slack. Slack means the time taken to delay a particular event without
affecting the project completion time. If the path has zero slack, it means it is the critical path.
Slack is the difference between latest allowable occurrence time (T L) and the earliest
expected time (TE).

1. Earliest Expected Time (TE): (Forward pass time): It refers to the time when an
event can be expected to be completed at the earliest. It is computed by adding t e’s of
the activity path leading to that event. It is started with the start event and worked out
for all events. Where there is more than one path leading to a particular event,
consider the maximum value of the TE’s.
TE (Successor Event) = maximum value of [TE (preceedor event) + te (activity)]

2. Latest Allowance Occurrence Time (TL): (Backward pass time): It is the latest
time by which an event must occur to keep the project on schedule. If not the project
is delayed. Where TE for the end event becomes TL for the end event. We start with
the end event and work out latest allowable occurrence time to all other events. Where
there is more than one path, consider the minimum value of TL.
TL (Preceedor Event) = minimum value of [TL (successor event) + te (activity)]

3. Critical Path: Critical path is that path which consumes the maximum amount of
time or resources. It is that path which has zero slack value.
(TL – TE)

4. Slack: Slack means the time taken to delay a particular event without affecting the
project completion time. If a path has zero slack that means it is the critical path.
Slack = LFT – EFT

5. Earliest Start Time (EST): It is the earliest possible time at which an activity can
start, and is calculated by moving from first to last event in the network diagram.

6. Earliest Finish Time (EFT): It is the earliest possible time at which an activity can
be finished.
EFT = EST + Duration of activity

7. Latest Start Time (LST): It is the latest possible time by which an activity can start
without delaying the date of completion of the project.
LST = LFT – Duration of the activity

8. Latest Finish Time (LFT): It is the latest time by which the activity must be
completed. So that the scheduled date for the completion of the project may not be
delayed. It is calculated by moving backwards.

Management Science
Unit-2: Operations & Project Management 2.32

FLOAT
Floats in the network analysis represent the difference between the maximum
time available to finish the activity and the time required to complete it. The basic difference
between slack and float times is a slack is used with reference to event, float is use with
reference to activity.
Floats are three types:
1. Total float: It is the additional time which a non critical activity can consume
without increasing the project duration. However total float may affect the floats in
previous and subsequent activities.
Total float = LST – EST or LFT – EFT

2. Free float: Free float refers to the time by which an activity can expand
without affecting succeeding activities.
Free float = EST of Head Event – EST of Trail Event – Activity duration

3. Independent float: This the time by which activity may be delayed or extended
without affecting the preceding or succeeding activities in any away.
Independent float = EST of Head event – LFT of Trail event – Activity duration

PROBABILITY
To compute the probability of completing the project within a given time, we use the
concepts of range, standard deviation and variance. The following steps are involved in
determining probability:
1. Find out the range of pessimistic and optimistic time estimates of those activities
covered by critical path (tp – to).
2. Determine standard deviation (σ) for each activity.
3. Determine the variance (σ2).
4. Find the sum of variances of projects Σ σ2 = σ21, σ22 + … + σnn
5. Determine square root of sum of variances
σ = √ σ 21, σ22 + … + σnn
6. Divide the slack (i.e. difference between the scheduled completion time and the latest
allowable occurrence time) by SD of entire network.
Normal deviate = Z = [TL – TE / σ]
This should be within a range of +-3 σ limits.
7. To arrive at % of probability of completing the project within a given time, the value
of the normal deviate has to be converted into the value of probability by use normal
distribution function table. The probability of not completing the project with time is
(100 + % of probability of completing the project).

PROJECT CRASHING
In project crashing, the starting point is the critical path. Once the critical path in a
network is identified, it is necessary to identify the crash activities by calculating cost slope.
The network diagram should be reconstructed at every stage of crashing incorporating the
effect of crashing in the selected sequence.
For reducing the duration, extra expenditure is required to be incurred, but to save
resources; organizations keep this extra expenditure at a minimum. As such, the decision to
crash or expedite should be taken for only those activities which would involve minimum
extra cost.

Management Science
Unit-2: Operations & Project Management 2.33

Total Cost (A + B)
0

(B) Indirect costs


Project cost

(A) Direct costs

0 CT OT NT X
Project Time Duration
Where, CT = Crash time
OT = Optimum time
NT = Normal time

From the above graph, it can be observed that direct cost (A) decrease with an
increase in time. As the project duration increases, the indirect cost (B) increases. The total
cost (A+B) curve is flat U-shaped, which implies that only up to a particular point (0) the
crashing is economical. The time duration which involves the least total cost is the optimum
duration at optimum cost. Crashing the duration of a project may not be possible and may not
be possible beyond a particular point.

The costs associated with any project can be classified as:


1. Direct costs: The costs which are directly proportional to the number of activities
involved in the project. The more the number of activities, the more is the direct cost.
Ex: payment of salaries, etc.
2. Indirect costs: The cost those are determined per day. These are directly proportional
to the number of days of the duration of the project. Ex: Rent, interest on borrowings,
advertisement, bonus to staff, etc.
3. Normal costs: The costs that is incurred if the project allowed taking its normal
duration of time, considering the most efficient utilization of the resources.
4. Crash costs: The cost incurred to reduce activity duration to its minimum. Ex: extra
wages, over time, etc.

Computation of Project Crashing:


There are usually compelling reasons to complete the project earlier than the
originally estimated duration of critical path computed on the normal basis of a new project.
Activity Cost Slope = (Cc - Nc) ÷ (Nt - Ct)
Where,
Cc = Crash Cost = Direct cost that is anticipated in completing an activity within
crash time.
Nc = Normal Cost = This is the lowest possible direct cost required to complete an
activity
Nt = Normal Time = Min. time required to complete an activity at normal cost
Ct = Crash Time = Min. time required to complete an activity

 The total project cost is the sum of the direct & the indirect costs.
 Optimum duration is the project duration at which total project cost is lowest.

Management Science
Unit-2: Operations & Project Management 2.34

ILLUSTRATIONS
1. Draw a network to represent the project and find the minimum time of completion of
the project when time, in days, of each task is as follows. Also identify the critical path.

Activity: 1-2 1-3 2-3 2-5 3-4 3-6 4-5 4-6 5-6 6-
Duration 15 15 3 5 8 12 1 14 3 14
7
:
(Weeks)
Solution:

Network Diagram:

Critical Path = 1 – 2 – 3 – 4 – 9 – 7
Project Duration = 54 weeks

2. A small engineering project consists of 6 activities namely A, B, C, D, E & F with


duration of 4, 6, 5, 4, 3 and 3 days respectively. Draw the network diagram and calculate
EST, LST, EFT, LFT and floats. Mark the critical path and find total project duration.

Activity A B C D E F
Preceding - A B A D C,E
Activity
Duration 4 6 5 4 3 3

Solution:
Network Diagram:

Critical path = A-B-C-F


Project duration = 18 days

Management Science
Unit-2: Operations & Project Management 2.35

Total Free Independent


Activity Duration EST LST EFT LFT
float float float
A 4 0 0 4 4 0 0 0
B 6 4 4 10 10 0 0 0
C 5 10 10 15 15 0 0 0
D 4 4 8 4 12 4 0 0
E 3 8 12 11 15 4 4 0
F 3 15 15 18 18 0 0 0

Note: LST = LFT – activity duration


LFT = EST + activity duration
Total float = LST – EST or LFT – EFT
Free float = EST of Head Event – EST of Tail Event – Activity duration
Independent float = EST of Head event – LFT of Tail event – Activity duration

3. A small engineering project consists of six activities. The three time estimates in number
days for each activity are given below.
Activity to tm tp
1–2 2 5 8
2–3 1 1 1
3–5 0 6 18
5–6 7 7 7
1–4 3 3 3
4–5 2 8 14
Find out:
a) Calculate the values of expected time (te), SD, variance of each activity
b) Draw the network diagram and calculate total slack for each activity
c) Identify the critical path and mark on the net work diagram
d) Probability of completing project in 25 days

Solution:

Management Science
Unit-2: Operations & Project Management 2.36

Critical path = 1-2-3-5-6


Project Duration = 20 days

Activity EST LFT LST EFT Slack


1-2 0 5 0 5 0
2-3 5 6 5 6 0
3-5 6 13 6 13 0
5-6 13 20 13 20 0
1-4 0 5 2 3 2
4-5 3 13 5 11 2

Probability for completing project in 25 days:



=

Here, ts = 25 days
te = 20 days

= √1 + 0 + 9 + 0 = √10

25 − 20
=
√1 + 0 + 9 + 0

5
=
√10

= 1.50
From the table value (z = 1.50) = 93.32%

Management Science
Unit-2: Operations & Project Management 2.37

4. Given the following data, work out the minimum duration of the project and
corresponding cost.

Solution:

Critical path is 1-2-5-6


Project Duration is 28 days
Total cost is = Direct cost + Indirect cost
= 3700 + 0 = Rs.3700/-

Management Science
Unit-2: Operations & Project Management 2.38

1-2 activity crashing by 4 days:

Critical path is 1-2-5-6


Project Duration is 24 days
Total cost is = Direct cost + Indirect cost
= 3700 + (4 x 50) + 0 = Rs.3900/-

5-6 activity crashing by 2 days:

Critical path is 1-2-5-6


Project Duration is 22 days
Total cost is = Direct cost + Indirect cost
= 3900 + (100 x 2) + 0 = Rs.4100/-

2-5 activity crashing by 2 days:

Management Science
Unit-2: Operations & Project Management 2.39

Critical path is 1-2-5-6


Project Duration is 20 days
Total cost is = Direct cost + Indirect cost
= 4100 + (2 x 130) + 0 = Rs.4360/-

Optimum cost = Rs.4,360/-


Optimum Duration = 20 days

5. The following table gives the information relating to a project. By using the given data
calculate the optimum duration of the project. Where indirect cost is estimated Rs.2,000
per day.

Solution:

Management Science
Unit-2: Operations & Project Management 2.40

Critical path is 1-2-5


Project Duration is 9 days
Total cost is = Direct cost + Indirect cost
= 5800 + (2000 x 9) = Rs.23,800/-

1-2 crashing by 1 day:

Critical path is 1-2-5


Project Duration is 8 days
Total cost is = Direct cost + Indirect cost
= [5800 + (1 x 1000)] + (2000 x 8) = Rs.22,800/-

2-5(a) crashing by 2 days:

Critical paths are 1-2-4-5 and 1-3-4-5


Project duration is 7 days only
Total cost = Direct cost + Indirect cost
= [6800 + (2 x 1500)] + (2000 x 7) = Rs.23,800/-
Here project crashed by 2 days and total cost incurred by the firm is 23,800/- but
duration is reduced by only one day. So it is suggested to crash the network by only one day,
it can help to reduce the cost. So that 2-5 activity crashing by only 1 day.

2-5(b) activity crashing by 1 day only:

Management Science
Unit-2: Operations & Project Management 2.41

Project Duration is 7 days


Total cost = Direct cost + Indirect cost
= [6800 + (1 x 1500)] + (2000 x 7)
= 8300 + 14000 = Rs.22,300/-

All activities comes under the critical activities, the priority are changed according to
the cost slope 4-5 activity having minimum cost slope. So, that it is possible to crash out 4-5
activity by one day only and 2-5 by one day simultaneously.

4-5 activity crashing by 1 day and 2-5 crashing by 1 day only:

Project Duration is 6 days


Total cost = Direct cost + Indirect cost
= [8,300 + (1 x 1500) + (1 x 200)] + (2000 x 6)
= (8300 + 1700) + (12000) = Rs.22,000/-

This network diagram not possible to crashing further, So that the project duration is 6
days and optimum cost is Rs.22,000/-
Optimum cost = Rs.22,000/-
Optimum Duration = 6 days

IMPORTANT QUESTIONS

1. What are the objectives of plant layout? Explain the factors influencing plant layout.
2. What do you understand by product layout? Analyse the advantage & disadvantage of
product layout.
3. What is SQC? Explain the various techniques of SQC and throw light on their
limitations?
4. What are the objectives of work measurement? Briefly point out the methods of work
measurement?
5. What do you mean by work study/ Explain the basic procedure involved in method
study and work measurement.
6. Graphically represent “economic order quantity” and explain the type of costs that go
into them.
7. Discuss the procedure of classifying inventory into A,B,C categories.

Management Science
Unit-2: Operations & Project Management 2.42

8. The demand for a product is 30000 units per annum. Cost per unit is Rs 4,
procurement cost is Rs.60 per order and carrying cost is 20% of inventory value.
Determine EOQ.
9. What is meant by inventory? What is the need for inventory control at different stages
of production? What are the different costs involved in maintaining inventory?
10. Explain and illustrate what you understand by network analysis.
11. What do you mean by crashing a network? State step by step procedure of crashing.
12. What is CPM? What are the essential steps in CPM for project planning?
13. Explain PERT. What are the requirements for application of PERT technique?

SIMPLE PROBLEMS
1. Draw the network diagram for the following project:
Activity Immediate predecessors
A -
B -
C A
D B
E C,D
F D
G E
H F

2. The following details are available regarding a project. Determine the critical path, the
critical activities and the project completion time.
Activity Predecessor Activity Duration
A - 3
B A 5
C A 7
D B 10
E C 8
F D,E 4

3. Draw the network diagram and determine the critical path for the following project:
Activity Time Estimates (Weeks)
1-2 5
1-3 6
1-4 3
2-5 5
3-6 7
3-7 10
4-7 4
5-8 2
6-8 5
7-9 6
8-9 4

Management Science
Unit-2: Operations & Project Management 2.43

4. A project consists of seven activities for which relevant data are given below:
(i) Draw the network, (ii) Name and highlight the critical path.
Activity Preceding activity Activity duration (days)
A - 4
B - 7
C - 6
D A, B 5
E A, B 7
F C, D, E 5
G C, D, E 4

5. A small maintenance project small maintenance project consists of the following 12 jobs
with duration in days. Find out the critical path, total project duration, float.
Job Duration
1-2 2
3-4 3
5-8 5
7-9 4
2-3 7
3-5 5
6-7 8
8-9 1
2-4 3
4-6 3
6-10 4
7-10 7

6. A project consists of the following activities and different time estimates (in days). Draw
a network and find the critical path. What is the probability that the project will be
completed by 27 days?
Activity Optimistic time Most likely time Pessimistic time
1-2 3 6 15
1-3 2 5 14
1-4 6 12 30
2-5 2 5 8
2-6 5 11 17
3-6 3 6 15
4-7 3 9 27
5-7 1 4 7
6-7 2 5 8

Management Science
Unit-2: Operations & Project Management 2.44

7. A project is composed of seven activities whose time estimates are listed in


the following table. Activities are identified by their beginning ‘i’ and ending ‘j’
mode numbers:
Activity Estimated duration (weeks)
i j optimistic Most likely pessimistic
1 2 1 1 7
1 3 1 4 7
1 4 2 2 8
2 5 1 1 1
3 5 2 5 14
4 6 2 5 0
5 6 3 5 15

(i) Draw the project network and identify all paths for its completion
(ii) Find the expected duration and variance of the project
(iii) Calculate the early and late occurrence time for each mode. Calculate
expected project length
(iv) Calculate the slack of each activity

8. A project consists of seven activities and the time estimates of the activities are
furnished as under:
Activity Optimistic Most likely Pessimistic
Days Days Days
1-2 4 10 16
1-3 3 6 9
1-4 4 7 16
2-5 5 5 5
3-5 8 11 32
4-6 4 10 16
5-6 2 5 8
 Draw the network diagram.
 Identify the critical path and its duration.
 What is the probability that project will be completed in 5 days earlier than the
critical path duration?
 What project duration will provide 95% confidence level of completion (Z0.95
=1.65)?
Z 1.00 1.09 1.18 1.25 1.33
Probability 0.1587 0.1379 0.1190 0.1056 0.0918

9. An Engineering Project has the following activities, whose time estimates are listed:
Activity Estimated Duration (in months)
(i-j) Optimistic Most Likely Pessimistic
1-2 2 2 14
1-3 2 8 14
1-4 4 4 16
2-5 2 2 2
3-5 4 10 28
4-6 4 10 16
5-6 6 12 30
 Draw the project network and find the critical path.
 Find the expected duration and variance for each activity. What is the
expected project length?

Management Science
Unit-2: Operations & Project Management 2.45

 Calculate the variance and standard deviation of the project length.


 What is the probability that the project will be completed at least eight months
earlier than expected time?
 If the project due date is 38 months, what is the probability of not meeting the
due date? Given:
z 0.50 0.67 1.00 1.33 2.00
P 0.3085 0.2514 0.1587 0.0918 0.0228

10. From the following data crash the network and identity the optimum time of the project
where the indirect cost is estimated Rs.2000 per day.

11. Given the following details of a project, determine the optimum duration and cost of the
project. Indirect cost is 1300 per week
Activity Time (weeks) Cost (rs.)
Normal Crash Normal Crash
1-2 6 4 5000 6200
1-3 4 2 3000 3900
2-3 7 6 6500 6800
2-4 3 2 4000 4500
3-4 5 3 8500 10000

Management Science
Unit-2: Operations & Project Management 2.46

NORMAL DISTRIBUTION TABLE

Table for Areas under the Standard Normal Curve from


0 to Z (Type II)
[P (0 ≤ X ≤ x) = n (0 ≤ Z ≤ z)]

z 0.00 0.01 0.02 0.03 0.04 0.05 0.06 0.07 0.08 0.09
0.0 0.0000 0.0040 0.0080 0.0120 0.0160 0.0199 0.0239 0.0279 0.0319 0.0359
0.1 0.0398 0.0438 0.0478 0.0517 0.0557 0.0596 0.0636 0.0675 0.0714 0.0753
0.2 0.0793 0.0832 0.0871 0.0910 0.0948 0.0987 0.1026 0.1064 0.1103 0.1141
0.3 0.1179 0.1217 0.1255 0.1293 0.1331 0.1368 0.1406 0.1443 0.1480 0.1517
0.4 0.1554 0.1591 0.1628 0.1664 0.1700 0.1736 0.1772 0.1808 0.1844 0.1879
0.5 0.1915 0.1950 0.1985 0.2019 0.2054 0.2088 0.2123 0.2157 0.2190 0.2224
0.6 0.2257 0.2291 0.2324 0.2357 0.2389 0.2422 0.2454 0.2486 0.2517 0.2549
0.7 0.2580 0.2611 0.2642 0.2673 0.2704 0.2734 0.2764 0.2794 0.2823 0.2852
0.8 0.2881 0.2910 0.2939 0.2967 0.2995 0.3023 0.3051 0.3078 0.3106 0.3133
0.9 0.3159 0.3186 0.3212 0.3238 0.3264 0.3289 0.3315 0.3304 0.3365 0.3389
1.0 0.3413 0.3438 0.3461 0.3485 0.3508 0.3531 0.3554 0.3577 0.3599 0.3621
1.1 0.3643 0.3665 0.3686 0.3708 0.3729 0.3749 0.3770 0.3790 0.3810 0.3830
1.2 0.3849 0.3869 0.3888 0.3907 0.3925 0.3944 0.3962 0.3980 0.3997 0.4015
1.3 0.4032 0.4049 0.4066 0.4082 0.4099 0.4115 0.4131 0.4147 0.4162 0.4177
1.4 0.4192 0.4207 0.4222 0.4236 0.4251 0.4265 0.4279 0.4292 0.4306 0.4319
1.5 0.4332 0.4345 0.4357 0.4370 0.4382 0.4394 0.4406 0.4418 0.4429 0.4441
1.6 0.4452 0.4463 0.4474 0.4484 0.4495 0.4505 0.4515 0.4525 0.4535 0.4545
1.7 0.4554 0.4564 0.4573 0.4582 0.4591 0.4599 0.4608 0.4616 0.4625 0.4633
1.8 0.4641 0.4649 0.4656 0.4664 0.4671 0.4678 0.4686 0.4693 0.4699 0.4706
1.9 0.4713 0.4719 0.4726 0.4732 0.4738 0.4744 0.4750 0.4756 0.4761 0.4767
2.0 0.4772 0.4778 0.4783 0.4788 0.4793 0.4798 0.4803 0.4808 0.4812 0.4817
2.1 0.4821 0.4826 0.4830 0.4834 0.4838 0.4842 0.4846 0.4850 0.4854 0.4857
2.2 0.4861 0.4864 0.4868 0.4871 0.4875 0.4878 0.4881 0.4884 0.4887 0.4890
2.3 0.4893 0.4896 0.4898 0.4901 0.4904 0.4906 0.4909 0.4911 0.4913 0.4916
2.4 0.4918 0.4920 0.4922 0.4925 0.4927 0.4929 0.4931 0.4932 0.4934 0.4936
2.5 0.4938 0.4940 0.4941 0.4943 0.4945 0.4946 0.4948 0.4949 0.4951 0.4952
2.6 0.4953 0.4955 0.4956 0.4957 0.4959 0.4960 0.4961 0.4962 0.4963 0.4964
2.7 0.4965 0.4966 0.4967 0.4968 0.4969 0.4970 0.4971 0.4972 0.4973 0.4974
2.8 0.4974 0.4975 0.4976 0.4977 0.4977 0.4978 0.4979 0.4979 0.4980 0.4981
2.9 0.4981 0.4982 0.4982 0.4983 0.4984 0.4984 0.4985 0.4985 0.4986 0.4986
3.0 0.4987 0.4987 0.4987 0.4988 0.4988 0.4989 0.4989 0.4989 0.4990 0.4990
3.1 0.4990 0.4991 0.4991 0.4991 0.4992 0.4992 0.4992 0.4992 0.4993 0.4993
3.2 0.4993 0.4993 0.4994 0.4994 0.4994 0.4994 0.4994 0.4995 0.4995 0.4995
3.3 0.4995 0.4995 0.4995 0.4996 0.4996 0.4996 0.4996 0.4996 0.4996 0.4997
3.4 0.4997 0.4997 0.4997 0.4997 0.4997 0.4997 0.4997 0.4997 0.4997 0.4998
3.5 0.4998 0.4998 0.4998 0.4998 0.4998 0.4998 0.4998 0.4998 0.4998 0.4998
3.6 0.4998 0.4998 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999
3.7 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999 0.4999

Management Science
Unit-3: Human Resource Management 3.1

UNIT –III
HUMAN RESOURCE MANAGEMENT

CONCEPT OF HRM
Human Resource Management (HRM) is a relatively new approach to managing
people in any organisation. People are considered the key resource in this approach. Human
Resource Management is a process, which consists of four main activities, namely,
acquisition, development, motivation, as well as maintenance of human resources. Human
Resource Management is responsible for maintaining good human relations in the
organisation. It is also concerned with development of individuals and achieving integration
of goals of the organisation and those of the individuals.

Definition:
1. Scott, Clothier and Spriegel, “Human Resource Management as that branch of
management which is responsible on a staff basis for concentrating on those aspects
of operations which are primarily concerned with the relationship of management to
employees’ and employees to employees and with the development of the individual
and the group.”
2. Edwin B. Flippo, “Human resource management is planning, organizing, directing
and controlling of the procurement, development, and resources to the end that
individual and societal objectives are accomplished.”

Nature of Human Resource Management:


The nature of the human resource management has been highlighted in its following
features:
1. Inherent Part of Management: Human resource management is inherent in the
process of management. This function is performed by all the managers throughout
the organisation rather that by the personnel department only. If a manager is to get
the best of his people, he must undertake the basic responsibility of selecting people
who will work under him.
2. Pervasive Function: Human Resource Management is a pervasive function of
management. It is performed by all managers at various levels in the organisation. It is
not a responsibility that a manager can leave completely to someone else. However,
he may secure advice and help in managing people from experts who have special
competence in personnel management and industrial relations.
3. Basic to all Functional Areas: Human Resource Management permeates all the
functional area of management such as production management, financial
management, and marketing management. That is every manager from top to bottom,
working in any department has to perform the personnel functions.
4. People Centered: Human Resource Management is people centered and is relevant in
all types of organizations. It is concerned with all categories of personnel from top to
the bottom of the organisation. The broad classification of personnel in an industrial
enterprise may be as
 Blue-collar workers (i.e. those working on machines and engaged in loading,
unloading etc.) and white-collar workers (i.e. clerical employees),
 Managerial and non-managerial personnel,
 Professionals (such as Chartered Accountant, Company Secretary, Lawyer,
etc.) and non-professional personnel.

Management Science
Unit-3: Human Resource Management 3.2

5. Personnel Activities or Functions: Human Resource Management involves several


functions concerned with the management of people at work. It includes manpower
planning, employment, placement, training, appraisal and compensation of
employees. For the performance of these activities efficiently, a separate department
known as Personnel Department is created in most of the organizations.
6. Continuous Process: Human Resource Management is not a one shot function. It
must be performed continuously if the organisational objectives are to be achieved
smoothly.
7. Based on Human Relations: Human Resource Management is concerned with the
motivation of human resources in the organisation. Human relations skills are also
required in training performance appraisal, transfer and promotion of subordinates.

FUNCTIONS OF HR MANAGER
The various functions of a HR Manager are as follows:
1. Manpower Planning: Manpower planning is also known as human resource planning
(HRP). It may be defined as a rational method of accessing the requirements of
human resources at different level in an organization. It ends with proposals of
recruitment, retention or dismissal. Through planning a management strives to have
the right number and the right kinds of people at the right places, at the right time, to
do things which result in both the organisation and the individual receiving the
maximum long-range benefit.
Importance of Manpower planning:
1. It directly contributes to achieve the corporate objectives.
2. It enables to secure the right kind of quantity of human resources at different
levels.
3. It helps decision makers in search for optimum strategy.
4. It helps the line managers to highlight the existing problems in managing the
HR under their control.
5. It provides an adequate basis to take meaningful decisions.

2. Recruitment: Recruitment means search of the prospective employee to suit the job
requirements as represented by job specification–a technique of job analysis. When the
manpower plan reveals the need for additional people in organization, the manager
has to initiate the search for employees and see that they apply for jobs in the
organization. Recruitment is often called Positive function. At this stage the
applications are invited for further scrutiny and short-listing.
The sources of recruitment includes internet, executive search agencies,
employment exchanges, university and college campus, Ads in TV and Radio,
recommendation of existing employees, etc.

3. Selection: The process of identifying the most suitable persons for the organization is
called selection. It is also called Negative function because here applications are
screened and shortlisted on the basis of selection criteria. The main purpose is to
choose right person for right job. The selection procedure, depending upon the cadre,
involves different stages. The organizations are free to formulate their own selection
procedures, as there is no standard practice.

Management Science
Unit-3: Human Resource Management 3.3

Normally a selection process involves: Initial screening or short listing,


Comprehensive application or bio-data screening, Aptitude or written tests, Group
discussions, Personal interview, Medical examination, Employment offer.

4. Training and Development skills: Training is an organized activity for increasing


the knowledge and skills of people for a definite purpose. It involves systematic
procedures for transferring technical know-how to the employees so as to increase
their knowledge and skills for doing specific jobs with proficiency. In other words,
the trainees acquire technical knowledge, skills and problem solving ability by
undergoing the training programme.
The training methods are differed into two categories:
 On-the-job training methods: It is designed to make employees immediately
productive. It is learning by physically doing the work. These methods
include: Job instruction training, Experimental learning, Demonstration,
Apprentice learning.
 Off-the-job training Methods: It is meant for developing an understanding of
general principles, providing background knowledge, generating an awareness
of comparative ideas and practice. It includes: Lectures or talks and class room
instructions, Conferences, Seminars, Team discussions, Case study, Role
planning, Programmed instructions.

5. Placement: After training the employee is placed in his position under the charge of a
manager. The new recruit is allowed to exercise full authority and is held responsible
for the results. Placement involves assigning a specific job to each one of the selected
candidates. However, placement is not simple as it looks. It involves striking a fit
between the requirements of a job and the qualifications of a candidate. The
importance of placement is that it reduces employee’s turnover, absenteeism,
accidents and dissatisfactions.

6. Salary and Wage Administration: Compensation is the Human Resources


Management function that deals with the every type of reward individuals receives in
the exchange for performing organizational tasks. It is the major cost of doing the
business for many organizations. It is the chief reason why some individuals seek
employment. The objective of the compensation is to create the system of rewards that is
equitable to the employers and employees alike. The desired outcome of the
employees is to attract the employees towards the tasks.
The salary constitutes of the Basic Salary, Dearness Allowance (DA), House
Rent Allowance (HRA) and other allowances. Some other benefits include profit
sharing, bonus, leave travel concessions, medical reimbursement, provident fund,
gratuity, group insurance schemes, pension, accident compensation, leave with pay,
educational allowance, etc.

7. Promotion: It refers to the advancement of an employee to a job with a higher


authority and responsibility. It may also carry better compensation package. It is
viewed as a means of filling up vacancies in the organization from time to time. The
basis of promotion could be merit or seniority depending upon the nature and level of
job. As and when the vacancies arise, the qualified staff may get promotion.

Management Science
Unit-3: Human Resource Management 3.4

8. Transfer: It is a lateral shift that moves an individual employee from one position to
another i.e. it may be in same department or to a different department or location. To
optimize the human resources at different locations or departments, employees are
transferred from one location to another. It is also viewed as a tool for punishing the
employee in case of misconduct or misbehavior. It does not involve any change in
salary, duties and responsibilities.

9. Separation: It refers to termination of employment i.e. the employee is separated


from his job. It is also called as dismissal. In case of misconduct or misbehavior or
where the employee is not in a position to improve his performance, he is terminated.

MANPOWER PLANNING
Manpower planning is also known as Human Resource Planning (HRP). Human
Resource Planning is concerned with the planning the future manpower requirements are the
organisation. Human Resource planning is the process by which a management determines
how an organisation should move from its current manpower position to its desired
manpower position. Through planning a management strives to have the right number and the
right kinds of people at the right places, at the right time, to do things which result in both the
organisation and the individual receiving the maximum long-range benefit.
Definition:
1. Coleman – “Human Resource Planning as the process of determining manpower
requirements and the means for meeting those requirements in order to carry out the
integrated plan of the organisation.
2. Leap and Crino – “HRP includes the estimation of how many qualified people are
necessary to carry out the assigned activities, how many people will be available, and
what, if anything, must be done to ensure that personnel supply equals personnel
demand at the appropriate point in the future”.
Objectives of HR Planning:
The objectives of human resource planning may be summarized as below:
1. Forecasting Human Resources Requirements: HRP is essential to determine the
future needs of HR in an organization. In the absence of this plan it is very difficult to
provide the right kind of people at the right time.
2. Effective Management of Change: Proper planning is required to cope with changes
in the different aspects which affect the organization. These change needs
continuation of allocation/reallocation and effective utilization of HR in organization.
3. Realizing the Organizational Goals: In order to meet the expansion and other
organizational activities the organizational HR planning is essential.
4. Promoting Employees: HRP gives the feedback in the form of employee data which
can be used in decision-making in promotional opportunities to be made available for
the organization.
5. Effective Utilization of HR: The data base will provide the useful information in
identifying surplus and deficiency in human resources.

Manpower Planning Process (HRP Process):


Human resource planning refers to a process by which companies ensure that they
have the right number and kinds of people at the right place, at the right time; capable of
performing different jobs efficiently. Planning the use of human resources is an important

Management Science
Unit-3: Human Resource Management 3.5

function in every organisation. A rational estimate to various categories of personnel in the


organisation is an important aspect of human resource planning.
HRP involves the following process:

Corporate Goals and Resources


----------------------------------------------------------------------------------------------------------------
Departmental targets and resources
Department
Level Identify and Analyze workload

Access manpower requirements

Succession plan Employee Turnover Employee Development

Shortage or Surplus of Staff


----------------------------------------------------------------------------------------------------------------
Formulate strategies for
Succession, Recruitment, Redundancy, Employee Development

Top Management Review


Company
Level Financial Clearance

Management Approval
---------------------------------------------------------------------------------------------------------------
Action Plans

Evaluation and Control

Steps in Human Resource Planning:


1. The manpower planning starts with identifying the corporate goals and resources.
2. Each department has to identify their targets and resources allocated.
3. Analyze their work load and access manpower requirements.
4. They have to formulate succession plan, training programs for employee
development and employee turnover.
5. In case of additional staff required, plan for recruitment and in case of surplus,
discharge them.
6. Accordingly the proposals are made to top management. They review the
proposal.
7. After getting clearance, the departments evaluate the financial terms.
8. After approval, they formulate action plans to implement the decisions.
9. Action plans are evaluated and controlled in terms of department requirements
and financial constraints.

Management Science
Unit-3: Human Resource Management 3.6

TRAINING AND DEVELOPMENT


Training is an organized activity for increasing the knowledge and skills of people for
a definite purpose. It involves systematic procedures for transferring technical know-how to
the employees, so as to increase their knowledge and skills for doing specific jobs with
proficiency. In other words, the trainees acquire technical knowledge, skills and problem
solving ability by undergoing the training programme.
Training makes newly appointed workers fully productive in the minimum of time.
Training is equally necessary for the old employees whenever new machines and equipment
are introduced and/or there is a change in the techniques of doing the things. In fact, training
is a continuous process. It does not stop anywhere. The managers are continuously engaged
in training their subordinates. The purpose of training is to bring about improvement in the
performance of work. They should ensure that any training programme should attempt to
bring about positive Changes in the Knowledge, Skills, and Attitudes of the workers.

Definition:
According to Edwin B. Flippo, “Training is the act of increasing the knowledge and
skills of an employee for doing a particular job”.

Need and Importance of Training:


1. Increasing Productivity: Instruction can help employees increase their level of
performance on their present job assignment. Increased human performance often
directly leads to increased operational productivity and increased company profit.
2. Improving Quality: Better informed workers are less likely to make operational
mistakes. Quality increases may be in relationship to a company product or service, or
in reference to the intangible organizational employment atmosphere.
3. Helping Company fulfills its Future Personnel Needs: Organizations that have a
good internal educational programme will have to make less drastic manpower
changes and adjustments in the event of sudden personnel alternations. When the need
arises, organizational vacancies can more easily be staffed from internal sources if a
company initiates and maintains and adequate instructional programme for both its
non-supervisory and managerial employees.
4. Improving Organizational Climate: An endless chain of positive reactions results
from a well-planned training programme. Production and product quality may
improve; financial incentives may then be increased, internal promotions become
stressed, less supervisory pressures ensue and base pay rate increases result.
5. Improving Health and Safety: Proper training can help prevent industrial accidents.
A safer work environment leads, to more stable mental attitudes on the part of
employees. Managerial mental state would also improve if supervisors now that they
can better themselves through company-designed development programmes.
6. Obsolescence Prevention: Training and development programmes foster the
initiative and creativity of employees and help to prevent manpower obsolescence,
which may be due to age, temperament or motivation, or the inability of a person to
adapt himself to technological changes.
7. Personal Growth: Employees on a personal basis gain individually from their
exposure to educational experiences. Again, Management development programmes
seem to give participants a wider awareness, an enlarged skin, an enlightened
altruistic philosophy, and make enhanced personal growth possible.

Management Science
Unit-3: Human Resource Management 3.7

METHODS OF TRAINING:
The following methods are generally used to provide training i.e. On-the-Job Training
and Off-the-Job Training:

On-the-Job Training Methods:


This type of training is imparted on the job and at the work place where the employee
is expected to perform his duties. It enables the worker to get training under the same
working conditions and environment and with the same materials, machines and equipments
that he will be using ultimately after completing the training.
1. On Specific Job: On the job training methods is used to provide training for a specific
job such electrician, motor mechanic, pluming etc.
a) Experience: This is the oldest method of on-the-job training. Learning by
experience cannot and should not be eliminated as a method of development, though
as a sole approach, it is a wasteful, time consuming and inefficient.
b) Coaching: On-the-Job coaching by the superior is an important and potentially
effective approach is superior. The technique involves direct personnel instruction
and guidance, usually with extensive demonstration.

2. Job Rotation: The major objective of job rotation training is the broadening of the
background of trainee in the organisation. If trainee is rotated periodically from one job
to another job, he acquires a general background.

3. Special Projects: This is a very flexible training device. The trainee may be asked to
perform special assignment, thereby he learns the work procedure. Sometime a task-
force is created consisting of a number of trainees representing different functions in the
organisation.
4. Apprenticeship: Under this method, the trainee is placed under a qualified supervisor
or instructor for a long period of time depending upon the job and skill required. Wages
paid to the trainee are much less than those paid to qualified workers. This type of
training is suitable in profession, trades, crafts and technical areas like fitter, turner,
electrician, welders, carpenters etc.

5. Vestibule Training: Under this method, actual work conditions are created in a class
room or a workshop. The machines, materials and tools under this method is same as
those used in actual performance in the factory. This method gives more importance to
learning process rather than production.

6. Multiple Management: Multiple management emphasizes the use of committees to


increase the flow of ideas from less experience managers and to train them for positions
of greater responsibility.

Off-the-job Training Methods:


The following are the off the job training techniques:
1. Special Courses and Lectures: Lecturing is the most traditional form of formal
training method. Special courses and lectures can be established by business
organizations in numerous ways as a part of their development programmes.
a) First, there are courses, which the organizations themselves establish to be taught by
members of the organizations.

Management Science
Unit-3: Human Resource Management 3.8

b) Second approach to special courses and lectures is for organizations to work with
universities or institutes in establishing a course or series of course to be taught by
instructors by these institutes.
c) Third approach is for the organizations to send personnel to programmes established
by the universities, institutes and other bodies.

2. Conferences: This is also an old method, but still a favorite training method. In this
method, the participants pools, their ideas and experience in attempting to arrive at
improved methods of dealing with the problems, which are common subject of
discussion; Conferences may include buzz sessions that divide conferences into small
groups of four or five intensive discussion. These small groups then report back to the
whole conference with their conclusions or questions.

3. Case Studies: This technique, which has been developed, popularized by the Harvard
Business School, U.S.A is one of the most common form of training. A case is a written
account of a trained reporter of analyst seeking to describe an actual situation. Some
causes are merely illustrative; others are detailed and comprehensive demanding
extensive and intensive analytical ability. Cases are widely used in variety of
programmes. This method increases the trainee‘s power of observation, helping him to
ask better questions and to look for broader range of problems.

4. Brainstorming : This is the method of stimulating trainees to creative thinking This


approach developed by Alex Osborn seeks to reduce inhibiting forces by providing for a
maximum of group participation and a minimum of criticism. A problem is posed and
ideas are invited. Quantity rather quality is the primary objective. Ideas are encouraged
and criticism of any idea is discouraged.

5. Laboratory Training: Laboratory training adds to conventional training by providing


situations in which the trains themselves experience through their own interaction some
of the conditions they are talking about. Laboratory training is more concerned about
changing individual behaviour and attitude. There are two methods of laboratory
training: simulation and sensitivity training.
a) Simulation: An increasing popular technique of management development is
simulation of performance. In this method, instead of taking participants into the
field, the field can be simulated in the training session itself Simulation is the
presentation of real situation of organisation in the training session. There are two
common simulation methods of training: role-playing is one and business game.
b) Sensitivity Training: Sensitivity training is the most controversial laboratory
training method. Many of its advocates have an almost religious zeal in their
enhancement with the training group experience. Some of its critics match this
favour in their attacks on the technique.

Management Science
Unit-3: Human Resource Management 3.9

JOB EVALUATION
It is a technique of assessing systematically the relative worth of each job. The
fundamental pre-requisite to the establishment of a compensation policy is the determination
of the comparative values of jobs throughout the hierarchy. These values form the basis to
build the pay and the benefits package.

Objectives:
1. To establish correct wage correct wage differentials for all jobs within the factory.
2. To bring new jobs into their proper relatively with jobs previously established.
3. To help clarify lines of authority, responsibility and promotion.
4. To accomplish the foregoing by means of the facts and principles, this can be readily
explained to and accepted by all concerned.
5. To establish a general wage level for a given factory which will have parity with those
of neighboring factories.
Advantages:
1. It is simple, inexpensive and expeditions.
2. It is easily understood and easily administered.
3. It helps setting better rates based purely a judgment and experience.
4. Same unions prefer it, because it leases more room for bargaining.

Disadvantages:
1. Job may be ranked on the basis of incomplete inform action and without the benefits
of well defined standards.
2. The rank position of different jobs is likely to be influenced by prevailing wage ranks.
3. No one committee number is likely to be familiar with all the jobs.

JOB EVALUATION METHODS


It is broadly be classified as: Qualitative Method and Quantitative Method
Qualitative Method:
It can broadly be classified as ranking or classifying the job from lowest to highest.
1. Ranking technique: In this method, the jobs in the organization are arranged in either
in the ascending or descending order and numbered serially. The basis of such
arrangement could be the job description in terms of duties, responsibilities,
qualifications needed, relative difficulty involved in don the job, or value to the
company.
 Amount of work involved
 Supervision needed
 Extent of responsibility required
 Difficulties involved in the work conditions

2. Classification Method: This is also called job-grading method. Here, the number of
grades and the salary particulars for each grade are worked out first. The grades are
clearly described in terms of knowledge, skill and so on. Major steps for job
evaluation:
 Deciding the number of grades
 Writing grade descriptions
 Identifying/listing of the jobs to be evaluated
 Preparing job descriptions

Management Science
Unit-3: Human Resource Management 3.10

Quantitative Method:
Where point values are assigned to the various demands of a job and relative value is
obtained by summing all such point values.
1. Factor comparison method: Every job requires certain capabilities on the part of the
person who does the job. These capabilities are considered as critical factors, which
can be grouped as follows:
 Mean effort
 Skill
 Physical
 Responsibility
 Working conditions
Step involved in the factor comparison method:
i) Identify the key jobs
ii) Rank the key job, factor by factor
iii) Apportion the salary among each factor and rank the key jobs
iv) Compare factor ranking of each job with its monetary ranking
v) Develop a monetary comparison scale
vi) Evaluate non-key jobs based on the monetary comparison scale

2. Point-rating method: There are four widely accepted factors used in the point rating
method, skill, effort, responsibility and job conditions each of these factors is divided
into sub-factors.
 Skills: It includes the rating factors such as Education and training,
Experience, Judgment and initiative.
 Efforts: This factor includes Physical and Mental abilities of an individual.
 Responsibility: It includes the factors like Materials or product, Equipment or
process, Safety of others, and Work of others.
 Job conditions: It includes the working environment of the organisation.

PERFORMANCE APPRAISAL

Performance appraisal is a method of evaluating the behaviour of employees in a


work place, normally including both the quantitative and qualitative aspect of job
performance. Performance appraisal is a systematic evaluation of the employee’s
performance at work. Performance appraisal is a process of evaluating an employee’s
performance on a job in terms of its requirement. It is a process of estimating or judging the
value, excellence, qualities of status of some object, person or thing. It indicates how well an
individual fulfilling the job demands. Performance is measured in terms of results. Thus,
performance appraisal comprises all formal procedures used in organisations to evaluate
contributions, personality, and potential of individual employees. In other words,
performance appraisal includes the comparison of performance scales of different individuals
holding similar areas of work responsibilities and relate to determination of worth of the
scales for the achievement of organisaton objective.

Definition:
According to Edwin Flippo, “Performance appraisal is the systematic, periodic and an
impartial rating of an employee‘s excellence in matters pertaining to his present job and his
potential for a better job.”

Management Science
Unit-3: Human Resource Management 3.11

Objectives of Performance Appraisal:


1. To effect promotions based on competence and performance.
2. To confirm the services of probationary employees.
3. To assess training and development needs of the employees.
4. To decide upon a pay raise when regular pay scales have not been fixed.
5. To let the employees know where they stand in so far as their performance is
concerned and to assist them with constructive criticism and guidance for the purpose
of their development.
6. To improve communication between rater and ratee.
7. Finally, Performance appraisal can be used to determine whether human resource
programmes such as selection, training & development, and transfers have been
effective or not.

Performance Appraisal Process


Performance appraisal can be undertaken either on informal basis or on formal and
systematic basis. In comparatively smaller organizations appraisal either based on traits or
performance or a combination of both, is done informally through the observation of
concerned employees. In larger organization, appraisals are more systematic as evaluation
reveals lot of useful information. Following is the systematic performance appraisal:

1. Defining Objectives: The first step in the systematic appraisal system is to define the
objectives of the appraisal itself. Appraisal is used for different purposes from motivating
appraise to controlling their behaviour. In each case, the emphasis on different aspects of
appraisal differs. For example, reward providing appraisal, such as salary revision or
promotion differs from appraisal for training and development.
2. Defining Appraisal Norms: Appraisal is done in the context of certain norms or
standards. These may be in the form of various traits of apprises or their expected work
performance results. Since one of the basic long-term objectives is to improve
performance, appraisal is more performance oriented. Hence, performance norms are to
be specified in the beginnings of the period for which appraisal is concerned.
3. Designing Appraisal Programme: In the design for appraisal programme, types of
personnel to act as appraisers, appraisal methodology and types of appraisal are all to be
decided. Ideally speaking all personnel of the organization should be covered by the
appraisal system. But generally various organizations keep lower level employees out of
the purview of formal appraisal. Generally, the superior concerned appraises his
subordinates. However, the present trend in appraisal suggests the concept of 360 degree
appraisal, which involves appraisal by the apprises himself known as self appraisal. The
next issue is the methodology to be used in appraisal system. Should it be through
structured forms and questionnaire or personal interview of appraises or a combination of
both is to be decided. Along with this the time period and tuning of the appraisal should
be decided.

Management Science
Unit-3: Human Resource Management 3.12

4. Implementing Appraisal Programme: In implementing appraisal programme, the


appraisal is conducted by the appraisers and they may also conduct interview if it is
provided in the appraisal system. The results of the appraisal are communicated to HR
department for follow up actions which should be oriented towards the objectives of the
appraisal.
5. Appraisal Feedback: Appraisal feedback is the most crucial stage in appraisal process. If
they are rated high or performance highly applauded, naturally they are happy and feel
their self – esteem is high. On the other if they are rated low they resent, cry and may
even be illtempered. But the fact is fact. Even in such cases, their plus points should be
listed out. Their weaknesses may be put clearly through counselors and advised.
6. Post – Appraisal Action: Rewards, promotions, training and patting on the back follows
in the post –appraisal action.

Methods or Techniques of Performance Appraisal


Several methods and techniques are used for evaluating employee performance. They
may be classified into two broad categories as shown.
Traditional Methods:
There are different techniques/methods which are used for performance appraisal of
employees. Some of the methods of performance appraisal are:
1. Ranking Method: Ranking method is the oldest and simplest method of rating. Here,
each employee is compared with all others performing the same job and then he is
given a particular rank i.e. First Rank, Second Rank etc. It states that A is superior to
B. B is superior to C and so on. This method ranks all employees but it does not tell
us the degree or extent of superiority i.e. by how much one employee is superior to
another. Secondly, this ranking is based on only mental assessment so it is not
possible to give any objective proof about why the rater has ranked one employee as
superior to another. In this method, the performance of individual employee is not
compared with the standard performance. Here, the best is given first rank and poorest
gets the last rank.
2. Grading Method: Under this method of performance appraisal, different grades are
developed for evaluating the ability of different employees and then the employees
are placed in these grades. These grades may be as follows: (i) Excellent; (ii) very
good; (iii) Good; (iv) Average; (v) Bad; (vi) Worst.
3. Man-to-Man Comparison Method: This method was first used in USA army during
the 1st World War. Under this method, few factors are selected for analysis purposes.
These factors are: leadership, dependability and initiative. After that a scale is
designed by the rate for each factor. A scale of person is also developed for each
selected factor. Each person to be rated is compared with the person in the scale, and
certain scores for each factor are awarded to him/her. In other words, instead of
comparing a whole man to a whole man personnel are compared to the key man in
respect of one factor at a time.
4. Graphic Rating Scale Method of Performance Appraisal: This is the very popular,
traditional method of performance appraisal. Under this method, scales are established
for a number of fairly specific factors. A printed form is supplied to the rater. The
form contains a number of factors to be rated. Employee characteristics and
contributions include qualities like quality of work, dependability, creative ability and
so on. These traits are then evaluated on a continuous scale, where the rater places a
mark somewhere along the scale. The scores are tabulated and a comparison of scores
among the different individuals is made. These scores indicate the work of every
individual.

Management Science
Unit-3: Human Resource Management 3.13

Modern Method of Appraisal:


Most of the traditional methods emphasize either on the task or the worker‘s
personality, while making an appraisal. For bringing about a balance between these two,
modern methods have been developed. The details of these methods are as follows:
1. Management by Objective (MBO): It was Peter F. Drucker who first gave the
concept of MBO to the world in 1954 when his book The Practice of Management
was first published. Management by objective can be described as, a process whereby
the superior and subordinate managers of an organization jointly identify its common
goals, define each individual‘s major areas of responsibility in terms of results
expected of him and use these measures as guides for operating the unit and assessing
the contribution of each of its members.
2. Assessment Centre Method: This concept was first applied to military situations by
Simoniet in the Geran Army in the 1930s and the War office Selection Board of the
British Army in the year 1960. The main objective of this method was and is to test
candidates in a social situation, using a number of assessors and variety of procedures.
The most important characteristic of the assessment centre is job-related simulations.
These simulations involve characteristics that managers feel are important to the job
success. The evaluators observe and evaluate participants as they perform activities
commonly found in these higher level jobs.
3. Human Asset Accounting Method: This technique refers to money estimates to the
value of a firm‘s internal human organization and its external customer goodwill. If
well trained employees leave a firm, the human organization is worthless; if they join
it, its human assets are increased. If distrust and conflict prevail, the human enterprise
is devalued. If team work and high morale prevail, the human organization is a very
valuable asset.
4. Behaviourally Anchored Rating Scales (BARS): This method is also called
behavioral expectation scales. These are the rating scales whose scale points are
determined by statements of effective and ineffective behavior. They are said to be
behaviorally anchored in that the scales represent a range of descriptive statements of
behavior varying from the least to the most effective. A rater must indicate which
behavior on each scale best described an employee‘s performance. Behaviourally
anchored rating scales (BARS) are having 5 steps: Generate Critical Incidents,
Develop Performance Dimensions, Reallocate Incidents, Scale of Incidents, and
Develop Final Instrument.
5. 360o Appraisal: In 360-degree performance appraisal technique a manager is rated by
everyone above, alongside and below him. 360 degree approach is essentially a fact-
finding, self-correcting technique, used to design promotions. The personality of each
top manager – their talents, behavioral traits, values, ethical standards, tempers,
loyalties – is to be scanned, by their colleagues as they are best placed to diagnose
their suitability for the job requirements. In this method a question are structured to
collect required data about a manager from his bosses, peers, subordinates.

COMPETENCY MANAGEMENT

Competency management is the set of management practices that identify and


optimize the skills and competencies required to deliver on an organization’s business
strategy. Competency management provides the foundation to manage strategic talent
management practices such as workforce planning, acquiring top talent, and developing
employees to optimize their strengths.

Management Science
Unit-3: Human Resource Management 3.14

The word ‘competency’ has its roots in a Latin word ‘competentia’ that implies
“having the right to speak” or “being authorized to judge”. Thus, they are abilities, traits,
skills or knowledge that is considered favorable for good job performance. The concept of
Competency management in HRM in not new and traces its history to 1970s.
Competency Management focuses on integration of human resource planning in an
organization with its strategic vision by qualitative and quantitative analysis of competencies
of current manpower of the organization and its comparison with the level of competencies
required to meet the goals and mission of the organization. After this analysis, targeted and
efficient HR policies and strategies are devised to bridge gaps.
Today, competency management is being used in every facet of human resource
management. It is utilized in recruitment and selection, succession planning, compensation
and benefits, training and career development as well. The approach undertaken is to identify
an appropriate competency model, which is a framework that lists down the required
competencies for being effective in the assigned job. Here, the competencies are categorized
into two- soft competency that relates to communication and interpersonal skills like
leadership and hard competency, which relates to technical qualifications needed for the job,
like financial analysis and operational analysis. Many ‘core’ competencies are first identified,
which is then followed by choosing additional competencies for each sub-group.
Competency Management is being increasingly used in organizations as it targets
enhancing the potential of the organization’s workforce which will ultimately aid in the
organization reaping more revenues and having an edge over other competing firms. It
encompasses competency profiling, competency based job descriptions, competency based
selection, and competency based training. For example, an organization that designs its
training program directed towards achieving set objectives and ‘performing’, rather than
focusing on ‘knowing’ is using competency based training.

Challenges of Competency Management


1. Competency management is treated as an HR process, rather than a business
imperative. On average, 88 percent of organizations identified better leader and
employee performance as important or critical to the business. When asked about the
single most important call to action to improve performance, interviewees said, “Tell
employees what is expected of them to excel.” Performance excellence, then, means
clear communication of the competencies for which an employee is accountable
2. Identification of critical competencies is difficult. Without an assessment strategy
(15 percent) and the ability to predict the skills needed by the business going forward,
organizations are left clueless as to what skills exist and are needed. Some 74 percent
of organizations say that definition of essential competencies by talent segment and
job role is critical, or important, to the business. Yet, a stark .7 percent of
organizations have the means to predict the essential skills required.
3. Alignment of competency development with business goals is weak. Some 61
percent of organizations have only somewhat effectively, or not at all, identified
critical talent segments and key job roles. Hence, it goes without saying that most
have yet to define critical job responsibilities and success criteria. In the absence of
these competency procedures, it is no surprise that 72 percent of organizations
indicate that employee and leader skill building is only somewhat, or not at all,
focused on developing competencies requisite for achieving business goals.
4. Investment in competency management is deprioritized: For the first time ever, an
organization’s people strategy supersedes the organization’s business strategy, in
regard to its importance in meeting business goals.

Management Science
Unit-3: Human Resource Management 3.15

5. Competency models are exclusive of technical competencies: Too often


organizations exclude technical skills from the functional portion of their competency
model. Technical skills are prevalent among many critical job roles including
engineers, IT specialists, medical professionals, and others. However, in many
organizations, their competency models are, unfortunately, void of technical
competencies.
6. Competencies are too often paper-based: In Brandon Hall Group’s 2015 State of
Performance Management Study, 30 percent of organizations said their primary tool
for managing performance is paper-based spreadsheets. Without an automated
competency model, leadership is challenged to accurately assess employee
performance and focus on developing strengths and closing skill gaps. Automating
competency management, among other things, provides a means to create a standard
approach to competency management across the enterprise and provide for integration
of competencies among all talent processes.

Benefits of Competency Management


Effective and automated competency management creates a real-time and predictive
inventory of the capability of any workforce. By defining and automating job roles and
associated competency proficiency, leadership can readily identify strengths and skill gaps.
Competency management then informs targeted skills development learning solutions
improving individual and organizational performance, leading to better business results.
High-performance organizations describe the following benefits of effective and
automated competency management:
1. Enriched understanding of expected behaviours and performance: Organizations
that take the time to define the short list of competencies and expected proficiency
level for each competency, by job role, essential for the achievement of business
goals, have taken the first step toward giving employees and leaders the best shot at
performance excellence.
2. Improved talent planning: Competency assessment results inform leadership about
current and future talent capability. To be assessed as competent, the employee must
demonstrate the ability and experience to perform a job’s specific tasks. Data and
analytics about employees’ skills and knowledge are essential for performance risk
mitigation that leadership would otherwise be blind to.
3. Optimized development and mobility strategy: High-performance organizations
realize that organizational success depends on how capable their people are. They also
recognize that formal training does not necessarily equip employees with the
appropriate skills to thrive in the workplace. This is where competency management
and competency-based development comes in. Competency-based development is
created around the competency standards that have been identified for a specific role
in an organization.
4. Enhanced talent pipeline: Automated competency management enables on-demand
information about employees’ and leaders’ competency mastery and readiness to
move into next-level or other critical roles. In this fashion, organizations are better
prepared with development planning and, as a result, yield healthier talent pipelines
regardless of business cycle or economic conditions.
5. Improved operational efficiencies: Competency management automation facilitates
business-driven learning and development, eliminates non-value-add training,
highlights strengths to be further developed, flags critical skill gaps for mitigation,
and generates higher levels of employee and leader satisfaction with their overall
experience with the organization.

Management Science
Unit-3: Human Resource Management 3.16

6. Integrated talent processes: Serving as the standard for expected performance by


job role, competency management becomes the standard by which the highest-
performing organizations talk about and manage all phases of the employee lifecycle:
from talent acquisition to development, to retention and reward.

IMPORTANT QUESTIONS
1. Discuss in detail the objectives & functions of HRM.
2. What do you understand by job evaluation? Explain in detail different methods of job
evaluation.
3. “HRM in an organization is the most challenging function”. Do you agree? Justify
your answer.
4. What is the purpose of training? Explain how training can be imparted.
5. What is the difference between job evaluation & performance appraisal?
6. “Training is an ever continuing process….” Explain briefly and state the objectives of
training.
7. What is Human Resource Planning? Explain the process of manpower planning?
8. What is Competency Management? Explain its challenges and benefits.

Management Science
Unit-4: Marketing Management 4.1

UNIT – IV
MARKETING MANAGEMENT

MARKETING MANAGEMENT
The term “market” originates from the Latin word “Marcatus” which means “a place
where business is conducted.” A layman regards market as a place where buyers and sellers
personally interact and finalize deals. Marketing is an essential function of a modern
organization whether it deals in products or services. Marketing is a process of identifying the
customer’s requirements and satisfying them efficiently and effectively. It constitutes the
eyes and ears of the business.
Marketing is the basic reason for the existence of a business organization. In the age
of fast changes, marketing is springboard of all business activities. It works as the guide for
all business/non-business organization. It is a powerful mechanism which alone can satisfy
the needs and wants of consumers at the place and price they desire. Marketing is said to be
the eyes and ears of a business organization because it keeps the business in close contact
with its economic, political, social and technological environment, and informs it of events
that can influence its activities as per requirements of the market.

Definition:
1. Philip Kotler defines, “Marketing is a societal process by which individuals and
groups obtain what they need and want through creating, offering and freely exchange
products and services of value with others.”
2. E.F.L. Brech defines, “Marketing is the process of determining consumer demand for
a product or service, motivating its sales and distributing it into ultimate consumption
at a profit.”
For a managerial definition, marketing has often been described as “the art of selling
products.” Marketing management takes place when at least one party to a potential exchange
thinks about the means of achieving desired responses from other parties. Marketing
management as the art and science of choosing target markets and getting, keeping, and
growing customers through creating, delivering, and communicating superior customer value.

FUNCTIONS OF MARKETING MANAGEMENT


The marketing functions direct and facilitate the flow of goods and services from the
producer to the end user. Firms must spend money to create time, place and ownership
utilities as discussed earlier. Several studies have been made to measure marketing costs in
relation to overall product costs and service costs and most estimates have ranged between
40-60 percent. These costs are not associated with raw materials or any of the other
production functions necessary for creating form utility. What then does the consumer
receive in return for this proportion of marketing cost? This question is answered by
understanding the functions performed by marketing.
The marketing process starts and ends with these functions. Marketing is responsible
for the performance of 8 universal functions: buying, selling, transporting, storing,
standardizing and grading, financing, risk taking and securing marketing information. Some
functions are performed by manufacturers, others by marketing intermediaries like
wholesalers and retailers.

Management Science
Unit-4: Marketing Management 4.2

The marketing functions can be broadly categorized into three categories. Buying and
selling, the first two functions represent exchange functions. Transporting and storing are
physical distribution functions. The final four marketing functions – standardizing and
grading, financing, risk taking and securing market information – are often called facilitating
functions because they assist the marketer in performing the exchange and physical
distribution functions.

A. Exchange functions:
1. Buying: Ensuring that product offerings are available in sufficient quantities to
meet customer demands.
2. Selling: Using advertising, personal selling and sales promotion to match goods
and services to customer needs.
B. Physical distribution functions:
1. Transporting: Moving products from their points of production to locations
convenient for purchasers.
2. Storing: Warehousing products until needed for sale.
C. Facilitating functions:
1. Standardizing and grading: Ensuring that product offerings meet established
quality and quantity control standards of size, weight and so on.
2. Financing: Providing credit for channel members or consumers.
3. Risk taking: Dealing with uncertainty about consumer purchases resulting from
creation and marketing of goods and services that consumers may purchase in the
future.
4. Securing marketing information: Collecting information about consumers,
competitors and channel members for use in marketing decision making.

MARKETING MIX
The term ‘marketing mix’ was introduced by Prof. N.H. Borden of the Harward
Business School. It describes combination of the four inputs which constitute a company’s
marketing system the product, the distribution system, the price structure and the promotional
activities. Marketing mix strategy is an overall marketing approach that is used to achieve
objectives of strategy marketing plans. A marketer involves several factors while dealing
with the marketing-mix strategy product lines, brands and packaging, price setting and
strategies, channel, design, selection and management and communication strategies.

Definition:
1. According to Philip Kotler, “Marketing Mix is the set of controllable variables that
the firm can use to influence the buyer’s response”.
2. According to Mr. Jerome McCarthy an American expert, “Marketing mix is the pack
of four sets of variables, namely product variables, price variables, promotion
variables and place variables.
3. According to Stanton, marketing-mix is a combination of four elements – product,
pricing structure, distribution system and promotional activities used to satisfy the
needs of an organizations target market and at the time achieve its marketing
objectives. Marketing mix represents a blending of decision in four areas, product,
pricing, promotion and physical distribution. These elements are interrelated because
decision in one area usually affects actions in the others.

Management Science
Unit-4: Marketing Management 4.3

Marketing mix is the set of controllable variables and their levels that the firm uses to
influence its target market. McCarthy popularized the four Ps nearly product, price, place and
promotion. Each firm strives to build up such a composition of 4‘P’s, which can create
highest level of consumer satisfaction and at the same time meet its organisational objectives.
Thus, this mix is assembled keeping in mind the needs of target customers, and it
varies from one organisation to another depending upon its available resources and marketing
objectives. Marketing – mix is a combination of several mixes as shown in above fig.
Marketing – mix encompasses product-mix (brand, quality, weight, etc.), price-mix (unit
price, discount credit etc.), promotion mix (advertising, salesmanship and sales promotion),
and place-mix (distribution channels, transport, storage, etc.).

Importance of Marketing Mix:


Determination of marketing-mix is an important decision which the marketing
manager has to take. If proper marketing mix is determined the following benefits will occur
to the organization.
1. Marketing-mix takes care of the needs of the customers
2. Marketing-mix helps in increasing sales and earning higher profits.
3. Marketing-mix facilitates meeting the requirements of different types of customers.
4. Marketing-mix gives consideration to the various elements of the marketing system.
There is a balanced relation between these elements.
5. Marketing-mix serves as the link between the business firm and its customers. It
focuses attention on the satisfaction of customers.

Various elements of marketing-mix are inter related and inter dependent as shown in
the fig. below. For instance, feature of a product inefficient its price, but the price customer
can pay also determines the product features. The choice of channels is determined by the
nature of product and its price. Similarly, promotional activities add to the cost of the
product, the nature of product and its price also influence the kind of promotion to be done.

Management Science
Unit-4: Marketing Management 4.4

A brief description of the elements of marketing-mix is given below:


1. Product: Product is a set of tangible and intangible attributes designed to satisfy
consumer needs. Marketing activities start from the generation of idea about product
and ends with the positioning of the product in the target markets. Customer’s needs
should be identified by the company, so it could design the product or services
accordingly. In the process of product planning and development, the marketer should
take into account the right design, desired color and size, preferred style, appealing
brand name, attracting packaging, well informed label and effective after sales
services of the products.
The marketer should identify the important specific variable out of the above
and it should be given due importance in product planning and development. In short,
product planning and development involves decisions about: quality of the product,
size of the product, design of the product, volume of production, Packaging,
warranties and after – sale service, product testing and product range, etc.

2. Price: It is one of the most difficult tasks of the marketing manager to fix the right
price. The marketing manager has to do a lot of exercise to determine the price. Price
is the value of the product or service expressed in monetary turns. From buyer’s point
of view, it is the cost which he is paying to marketer in order to obtain product or
service. Price has its important role in marketing. The price of the product is related
with affordable paying capacity of the consumer, the purpose and motive behind the
purchase etc.
The marketer should explore and design suitable price strategies to capture
maximum market share. Major price policies and strategies are geographical pricing,
uniform pricing, unit pricing, resale price maintenance, leader pricing, follow the
leader pricing, skim pricing, psychological pricing, price competition, non-price
competition and discount and allowances Pricing decisions and policies have direct
influence on the sales volume and profits of the firm. Price therefore is an important
element of the marketing-mix. Right price can be determined through pricing research
and by adopting test marketing techniques.

Management Science
Unit-4: Marketing Management 4.5

3. Promotion: Promotion is the communication by the marketer to its target customers


regarding its products or services. In advertising, sales promotion and publicity it is
unilateral. In personal selling it is fully bilateral but in public relations it is up to some
extent bilateral. The marketer must make a judicious mixture of three basic elements
of sales promotion, advertising, personal selling and sales promotion keeping in view
the type of product, number of customers, geographical area of market, financial and
managerial resources.
Promotion deals with informing and persuading the customers regarding the
firm’s product. Most promotional campaigns comprise a combination of two or more
promotional methods as no single method of promotion is effective alone. Factors like
nature of product, nature of customer, stage of demand and promotional budget
influence the inputs that should be taken into consideration while devising a
promotion plan.

4. Place or Physical Distribution: Production has no meaning until and unless the
product is delivered to the consumers. In this regard, the marketer should select the
right distribution policy. The marketer should take into account the factors affecting
the choice of channel of distribution. Place-mix entails activities that are necessary to
transfer – ownership of goods to customers and to make available goods at the right
time and place. Thus it includes decision about the channel of distribution and the
place at which the products should be displayed and made available to the customers.
The basic purpose of establishment of channel is to provide convenience in
buying to the customers so that they can purchase firms products or services without
any harassment. The important channels used for physical distribution of goods are
wholesalers and retailers. In some cases the manufacturers even own the retail outlets.
e.g., oil companies in India have their own stations distributing their petroleum
products.

5. The Fifth P: Packaging: Apart from the 4Ps which are basic to the value delivery
process of any company, packaging has assumed its importance as the 5th ‘P’ of
marketing mix strategy. Packaging is the art, science and technology of preparing
goods for transport, sale and exchange. In recent times, packaging has become an
effective marketing tool. It has become a useful marketing tool because of the
growing importance of self-service, innovation in packaging industry.
The significance of packaging has increased these days because of severe
competition in the market and rise in the standard of living of the people. Packaging
facilitates the sale of a product. It acts as a silent salesman of the manufacturer,
particularly at a place where there is methods of retail selling, automatic vending and
other self-selection methods of retail selling.

The Expanded Marketing Mix:


In service industry one needs more P’s than the five already discussed.
1. Physical Evidence: Before making a service purchase, the customer doesn’t know
how to examine the quality of service provided by a service outlet and hence certain
physical clues like actual location etc. help in making a decision. Thus cleanliness at
school, college, hotels, clinics, restaurants, cinema hall, airports etc. becomes more
important. Where people exchange the services, the provision of adequate facilities
becomes more important as in case of hotels, airports, etc. Second part of the physical
evidence is the peripherals service coupon, air ticket, cash memo, cheque book, token,
slips, pen, crockery etc.

Management Science
Unit-4: Marketing Management 4.6

2. People: People constitute an important dimension of marketing of services as quality


of service depends of quality employees it has. As provider of services, the marketer
must deliver the right product to the customer. Every employee in the organization
becomes a sales person of company’s service. Therefore, his attitude, style, sense of
responsibility etc. become more important. People are important to influence the other
customers.

3. Process: It refers to the process by which a customer is served with the desired
product. The process of delivery becomes important in a service organization. It
includes the procedures, mechanism and routines which remain within the
organization. The decisions in service process cover technology, specific equipments,
location, layout etc.
Thus, we see that marketing of services requires an expanded marketing mix
comprising the product, price, place, promotion and the people, physical evidence and
process. The marketer has to be more careful in selecting the right marketing-mix strategy in
case of marketing of services to satisfy the customer requirements.

MARKETING STRATEGIES BASED ON PRODUCT LIFE CYCLE


A product is a physical good or service or combination of both. It is capable of
satisfying the buyer’s needs. It attempts to recognize distinct stages in sales history of the
product. The success or failure of a product life depends on how well it makes adjustments to
ever changing, saturation and decline stages. The length of each stage or product life cycle
varies on product nature and environment conditions.
A product has a life cycle is to assert four things:
1. Products have a limited life.
2. Product sales pass through distinct stages, each posing different challenges,
opportunities, and problems to the seller.
3. Profits rise and fall at different stages of the product life cycle.
4. Products require different marketing, financial, manufacturing, purchasing, and
human resource strategies in each stage of their life cycle.

Stages in Product Life Cycle (PLC):


There are six stages a product passes through from time of its introduction to decline
over a period of time:

Sales

Introduction Growth Maturity Decline

Time

Management Science
Unit-4: Marketing Management 4.7

Introduction phase:
During the introduction phase, pricing can be a quandary, especially if you enjoy a
temporary monopoly. In that situation, there may be no direct competitor and thus no
benchmark for what buyers will tolerate or for their sensitivity to price differences. There
may be indirect competitors (substitutes), however, and they can be used as starting points for
the pricing decision. The total economic value equation becomes relevant, wherein the price
of the best alternative is known but the value of the performance differential of the new
product is unknown. Customers themselves may have difficulty in sizing up the value of
something that is new and different. They too lack benchmarks of value. In such instances,
any of the following strategies may be adopted:
 Skimming: Some people will be happy to pay a high price for anything that is new
and unique. This strategy, of course, is short term and contains dangers like attracting
competition.
 Penetration pricing: A low price may have the threefold benefits of (1) getting
established as the market share champion, (2) discouraging market entry by
competitors, and (3) creating broad-based demand for the product.
 Cost-plus: In a monopoly, the producer can administer its own price and cost-plus is
one way of determining that price. However, product monopolies are short-lived.
Pricing decisions in this introductory phase are not only difficult but also deadly
important. Putting too high a price on a newly introduced product may kill it in its infancy,
undoing the work of many employees over a long period of development.

Growth phase:
The growth phase is characterized by increasing unit sales and accelerating customer
interest. If competitors have not yet surfaced (which is an unlikely event), skimming may be
appropriate. All the deep-pocketed buyers who simply had to be the first in their
neighborhoods to own the product have already been skimmed in the introduction phase. So
now, the price must be reduced gradually, skimming other market segments that are
progressively more price sensitive. A producer that enjoys prime position on the experience
curve will also want to progressively reduce prices during this phase. Doing so will maintain
its margins even as the strategy expands unit sales and punishes late-into-the-game rivals in
the marketplace. Some of these rivals will either take a loss on every sale or simply wind up.

Mature phase:
By the time a product enters this phase, growth in unit sales is leveling off and the
remaining competitors are trying to find ways to differentiate their products. During this
phase, one may see sellers offer different versions of the product, each version trying to
colonize a targeted segment. Price is one of the factors used in this strategy (i.e. by
developing and pricing good, better and best versions to expand the product line).

Decline phase:
Competition gets ugly in this phase. Total demand for the product category is now
visibly slipping, perhaps because of the appearance of superior substitutes or because of
market saturation. Whatever the case, unit sales will continue to decline. Some companies
will get out of the business entirely; those that remain will aggressively try to take business
away from the rivals. Every player in the market is trying to harvest as much as possible from
a contracting market. Price tactics include the following:
 Beat a retreat on price, but work overtime to reduce production costs. Success in the
latter will maintain a decent profit margin;

Management Science
Unit-4: Marketing Management 4.8

 Increase the price on the few remaining units in inventory. This is because there may
be a small number of customers who still rely on that particular product. This is
particularly true of replacement parts. Here, the seller hopes that the higher price will
compensate for fewer sales. When the inventory is exhausted, the product line is
terminated.

CHANNELS OF DISTRIBUTION
Channels of distribution refer to the ways and means of reaching the customer
through the intermediaries such as wholesalers, retailers and other agencies, if any. The
channel intermediaries involve the transfer of goods from seller at a given place to the buyer
in a different place. Thus, they provide place utility to the marketing process. They bring the
goods to the consumer in a convenient shape, unit, size, style and package when he wants
them. The wholesaler buys the goods from the manufacturer, stores them, if necessary, and
sells to the retailers for onward sale to the ultimate customer. Thus, they add time utility also.

Definition:
According to Stanton, “A distribution channel consists of the set of people and firms
involved in the transfer of title to a product as the product moves from producer to ultimate
consumer or business user”.

Functions of channel of distribution:


Primarily a channel of distribution performs the following functions:
1. It helps in establishing a regular contact with the customers and provides them the
necessary information relating to the goods.
2. It provides the facility for inspection of goods by the consumers at convenient points
to make their choice.
3. It facilitates the transfer of ownership as well as the delivery of goods.
4. It helps in financing by giving credit facility.
5. It assists the provision of after sales services, if necessary.
6. It assumes all risks connected with the carrying out the distribution function.

Factors affecting channels of distribution:


1. Type, size and nature of consumers demand: If the customer wants small
quantities, long channels are preferred and vice versa.
2. The nature of company’s business: Choose the channel according to the nature of
business activity such as agricultural products, industrial products, services, etc.
3. The type of product sold: The goods may be consumer goods, durable goods or
producer or industrial goods or other goods.
4. The price of the unit of sale: If the price of one unit is as high as that of an
aeroplane, the producer can contact the consumer directly.
5. The profit margins and mark-ups: These, together with the extent of the seller’s
product line play a role in attracting distributors to handle the goods.
6. Degree of competition: If the completion is intense, the manufacture has to arrange
for even door-to-door selling or retail outlets.

Types of Channels of Distribution:


The producers/manufacturers usually use services of one or more middlemen to
supply their goods to the consumers. But sometimes, they do have direct contact with the

Management Science
Unit-4: Marketing Management 4.9

customers with no middlemen in between them. This is true more for industrial goods where
the customers are highly knowledgeable and their individual purchases are large. The various
channels used for distribution of consumer goods can be described as follows:
1. Zero stage channel of distribution
2. One stage channel of distribution
3. Two stage channel of distribution
4. Three stage channel of distribution

1. Zero stage channel of distribution:


(Manufacturer – consumer) Zero stage distribution channels exists where there is
direct sale of goods by the producer to the consumer. This direct contact with the
consumer can be made through door-to-door salesmen, own retail outlets or even
through direct mail. Also in case of perishable Products and certain technical
household products, door-to-door sale is an easier way of convincing consumer to
make a purchase. For example, Eureka Forbes sells its water purifiers directly through
their own sales staff.
Examples: Industrial goods such as Aeroplanes, Turbo-engines, Ships, Teleshopping,
E-Business, Internet and E-Commerce.

2. One stage channel of distribution:


(Manufacturer – Retailer – consumer) In this case, there is one middleman i.e., the
retailer. The manufacturers sell their goods to retailers who in turn sell it to the
consumers. This type of distribution channel is preferred by manufacturers of
consumer durables like refrigerator, air conditioner, washing machine, etc. where
individual purchase involves large amount. As the retailers enjoy large discounts in
this process, they share this benefit with their customers by keeping their products
competitively priced. The consumers patronage this channel because they can buy in
small quantities from a wide variety at lower prices.
Examples: Supermarkets, departmental stores (Big Bazaar, Spensors), etc.

3. Two stage channel of distribution:


(Manufacturer-wholesaler-retailer-consumer) This is the most commonly used
channel of distribution for the sale of consumer goods. In this case, there are two
middlemen used, namely, wholesaler and retailer. This is applicable to products where
markets are spread over a large area, value of individual purchase is small and the
frequency of purchase is high. Manufacturers would find it prohibitively expensive to
set up their own outlets in such circumstances. For manufacturers of consumer goods

Management Science
Unit-4: Marketing Management 4.10

such as hosiery, food items, confectionery, clothes, and readymade garments,


cosmetics, and so on, intermediaries are indispensable in the distribution chain.
Example: Food items, clothes, cosmetics, readymade garments, etc.

4. Three stage channel of distribution:


(Manufacturer-Agent-wholesaler-retailer-consumer) When the number of
wholesalers used is large and they are scattered throughout the country, the
manufacturers often use the services of mercantile agents who act as a link between
the producer and the wholesaler. They are also known as distributors or agents.
Example: Food items, clothes, movies, etc.

IMPORTANT QUESTIONS
1. Define Marketing? Explain the functions of Marketing?
2. Explain the concept of Marketing Mix in detail?
3. What do you mean by Channels of distribution? Explain its importance and functions
in marketing.
4. What are the factors that determine the choice of Channel of distribution? Why
manufacturer do favours intermediaries.
5. “Marketing should aim at meeting a given consumers need rather than selling a given
product”. Comment.
6. Describe different stages of product life cycle and marketing strategies required at
each stage.

Management Science
Unit-5: Financial Management 5.1

UNIT – V
FINANCIAL MANAGEMENT

FINANCIAL MANAGEMENT
Financial management means money management. Financial management is
concerned with the planning and controlling of the financial resources of the business firm.
The term financial management has emerged from the generic discipline of management. As
an academic discipline, the subject of financial management has undergone radical changes
in relation to its scope, functions and objectives. In the past, the financial management was
confined to rising of the funds and its procedural aspects. In the broader sense, it is now
concerned with the optimum use of financial resources in addition to its procurement.
Therefore, financial management is that part of management which is concerned mainly with:
 Fund Raising: raising the right type of funds in the most economic and suitable
manner.
 Use of Funds: using the funds in the most profitable and safest possible manner.

Meaning:
Financial management refers to that part of the management activity, which is
concerned with the planning, & controlling of firm’s financial resources. It deals with finding
out various sources for raising funds for the firm. Financial management is practiced by many
corporate firms and can be called Corporation finance or Business Finance.
Financial management is the art of planning; organizing, directing and controlling of
the procurement and utilization of the funds and safe disposal of profits to the end that
individual, organizational and social objective are accomplished.

Definition:
The simple definition of Financial Management is `the ways and means of managing
money’. This statement can be further expanded to define Financial Management: the
determination, acquisition, allocation and utilization of the financial resources with the aim of
achieving the goals and objectives of the enterprise.
 According to Archer and Ambrosia, “Financial management is the application of the
planning and control functions to the finance function”.
 Joseph and Massie, “Financial management is the operational activity of a business
that is responsible for obtaining and effectively utilizing the funds necessary for
efficient operation”.

NATURE AND IMPORTANCE OF FINANCIAL MANAGEMENT


Finance is the lifeblood of business organization. It needs to meet the requirement of
the business concern. Each and every business concern must maintain adequate amount of
finance for their smooth running of the business concern and also maintain the business
carefully to achieve the goal of the business concern. The business goal can be achieved only
with the help of effective management of finance. We can’t neglect the importance of finance
at any time at and at any situation. The nature of the financial management is as follows:
1. Financial Planning: Financial management helps to determine the financial
requirement of the business concern and leads to take financial planning of the
concern. Financial planning is an important part of the business concern, which helps
to promotion of an enterprise.

Management Science
Unit-5: Financial Management 5.2

2. Acquisition of Funds: Financial management involves the acquisition of required


finance to the business concern. Acquiring needed funds play a major part of the
financial management, which involve possible source of finance at minimum cost.
3. Proper Use of Funds: Proper use and allocation of funds leads to improve the
operational efficiency of the business concern. When the finance manager uses the
funds properly, they can reduce the cost of capital and increase the value of the firm.
4. Financial Decision: Financial management helps to take sound financial decision in
the business concern. Financial decision will affect the entire business operation of
the concern. Because there is a direct relationship with various department functions
such as marketing, production personnel, etc.
5. Improve Profitability: Profitability of the concern purely depends on the
effectiveness and proper utilization of funds by the business concern. Financial
management helps to improve the profitability position of the concern with the help of
strong financial control devices such as budgetary control, ratio analysis and cost
volume profit analysis.
6. Increase the Value of the Firm: Financial management is very important in the field
of increasing the wealth of the investors and the business concern. Ultimate aim of
any business concern will achieve the maximum profit and higher profitability leads
to maximize the wealth of the investors as well as the nation.
7. Promoting Savings: Savings are possible only when the business concern earns
higher profitability and maximizing wealth. Effective financial management helps to
promoting and mobilizing individual and corporate savings.
Now-a-days financial management is also popularly known as business finance or
corporate finances. The business concern or corporate sectors cannot function without the
importance of the financial management.

SCOPE OF FINANCIAL MANAGEMENT


Financial management is one of the important parts of overall management, which is
directly related with various functional departments like personnel, marketing and
production. Financial management covers wide area with multidimensional approaches. The
following are the important scope of financial management.
1. Financial Management and Economics: Economic concepts like micro and
macroeconomics are directly applied with the financial management approaches.
Investment decisions, micro and macro environmental factors are closely associated
with the functions of financial manager. Financial management also uses the
economic equations like money value discount factor, economic order quantity etc.
2. Financial Management and Accounting: Accounting records includes the financial
information of the business concern. Hence, we can easily understand the relationship
between the financial management and accounting. In the olden periods, both
financial management and accounting are treated as a same discipline and then it has
been merged as Management Accounting because this part is very much helpful to
finance manager to take decisions.
3. Financial Management and Mathematics: Modern approaches of the financial
management applied large number of mathematical and statistical tools and
techniques. They are also called as econometrics. Economic order quantity, discount
factor, time value of money, present value of money, cost of capital, capital structure
theories, dividend theories, ratio analysis and working capital analysis are used as
mathematical and statistical tools and techniques in the field of financial management.

Management Science
Unit-5: Financial Management 5.3

4. Financial Management and Production Management: Production management is


the operational part of the business concern, which helps to multiple the money into
profit. Profit of the concern depends upon the production performance. Production
performance needs finance, because production department requires raw material,
machinery, wages, operating expenses etc. These expenditures are decided and
estimated by the financial department and the finance manager allocates the
appropriate finance to production department.
5. Financial Management and Marketing: Produced goods are sold in the market with
innovative and modern approaches. For this, the marketing department needs finance
to meet their requirements. The financial manager or finance department is
responsible to allocate the adequate finance to the marketing department. Hence,
marketing and financial management are interrelated and depends on each other.
6. Financial Management and Human Resource: Financial management is also
related with human resource department, which provides manpower to all the
functional areas of the management. Financial manager should carefully evaluate the
requirement of manpower to each department and allocate the finance to the human
resource department as wages, salary, remuneration, commission, bonus, pension and
other monetary benefits to the human resource department. Hence, financial
management is directly related with human resource management.

OBJECTIVES OF FINANCIAL MANAGEMENT


Effective procurement and efficient use of finance lead to proper utilization of the
finance by the business concern. It is the essential part of the financial manager. Hence, the
financial manager must determine the basic objectives of the financial management.
Objectives of Financial Management may be broadly divided into two parts such as:
 Profit maximization
 Wealth maximization

PROFIT MAXIMIZATION
The main aim of any kind of economic activity is earning profit. A business concern
is also functioning mainly for the purpose of earning profit. Profit is the measuring
techniques to understand the business efficiency of the concern. Profit maximization is also
the traditional and narrow approach, which aims at, maximizes the profit of the concern.

Profit maximization consists of the following important features.


1. Profit maximization is also called as cashing per share maximization. It leads to
maximize the business operation for profit maximization.
2. Ultimate aim of the business concern is earning profit hence; it considers all the
possible ways to increase the profitability of the concern.
3. Profit is the parameter of measuring the efficiency of the business concern. So it
shows the entire position of the business concern.
4. Profit maximization objectives help to reduce the risk of the business.

Favourable Arguments for Profit Maximization


The following important points are in support of the profit maximization objectives of
the business concern:
1. Main aim is earning profit.
2. Profit is the parameter of the business operation.
3. Profit reduces risk of the business concern.

Management Science
Unit-5: Financial Management 5.4

4. Profit is the main source of finance.


5. Profitability meets the social needs also.

Unfavourable Arguments for Profit Maximization


The following important points are against the objectives of profit maximization:
1. Profit maximization leads to exploiting workers and consumers.
2. Profit maximization creates immoral practices such as corrupt practice, unfair trade
practice, etc.
3. Profit maximization objectives leads to inequalities among the stake holders such as
customers, suppliers, public shareholders, etc.

Drawbacks of Profit Maximization


Profit maximization objective consists of certain drawback also:
1. It is vague: In this objective, profit is not defined precisely or correctly. It creates
some unnecessary opinion regarding earning habits of the business concern.
2. It ignores the time value of money: Profit maximization does not consider the time
value of money or the net present value of the cash inflow. It leads certain differences
between the actual cash inflow and net present cash flow during a particular period.
3. It ignores risk: Profit maximization does not consider risk of the business concern.
Risks may be internal or external which will affect the overall operation of the
business concern.

WEALTH MAXIMIZATION
Wealth maximization is one of the modern approaches, which involves latest
innovations and improvements in the field of the business concern. The term wealth means
shareholder wealth or the wealth of the persons those who are involved in the business
concern. Wealth maximization is also known as value maximization or net present worth
maximization. This objective is a universally accepted concept in the field of business.

Favourable Arguments for Wealth Maximization


1. Wealth maximization is superior to the profit maximization because the main aim of
the business concern under this concept is to improve the value or wealth of the
shareholders.
2. Wealth maximization considers the comparison of the value to cost associated with
the business concern. Total value detected from the total cost incurred for the business
operation. It provides extract value of the business concern.
3. Wealth maximization considers both time and risk of the business concern.
4. Wealth maximization provides efficient allocation of resources.
5. It ensures the economic interest of the society.

Unfavourable Arguments for Wealth Maximization


1. Wealth maximization leads to prescriptive idea of the business concern but it may not
be suitable to present day business activities.
2. Wealth maximization is nothing, it is also profit maximization, and it is the indirect
name of the profit maximization.
3. Wealth maximization creates ownership-management controversy.
4. Management alone enjoy certain benefits.
5. The ultimate aim of the wealth maximization objectives is to maximize the profit.
6. Wealth maximization can be activated only with the help of the profitable position of
the business concern.

Management Science
Unit-5: Financial Management 5.5

WORKING CAPITAL MANAGEMENT


Working capital management is also one of the important parts of the financial
management. It is concerned with short-term finance of the business concern which is a
closely related trade between profitability and liquidity. Efficient working capital
management leads to improve the operating performance of the business concern and it helps
to meet the short term liquidity. Hence, study of working capital management is not only an
important part of financial management but also for overall management of the business
concern. Working capital is described as the capital which is not fixed but the more common
uses of the working capital is to consider it as the difference between the book value of
current assets and current liabilities.

Definitions:
 Mead, Baker and Malott, “Working Capital means Current Assets”.
 J.S.Mill, “The sum of the current asset is the working capital of a business”.
 Weston and Brigham, “Working Capital refers to a firm’s investment in short-term
assets, cash, short-term securities, accounts receivables and inventories”.

CONCEPT OF WORKING CAPITAL


Working capital can be classified or understood with the help of the following two
important concepts.
1. Gross Working Capital: Gross Working Capital is the general concept which
determines the working capital concept. Thus, the gross working capital is the capital
invested in total current assets of the business concern. Gross Working Capital is
simply called as the total current assets of the concern.
GWC = CA

2. Net Working Capital: Net Working Capital is the specific concept, which considers
both current assets and current liability of the concern. Net Working Capital is the
excess of current assets over the current liability of the concern during a particular
period. If the current assets exceed the current liabilities it is said to be positive
working capital; it is reverse, it is said to be Negative working capital.
NWC = C A – CL

COMPONENTS OF WORKING CAPITAL


Working capital constitutes various current assets and current liabilities. This can be
illustrated as follows:

Current Assets and Liabilities: Current assets refer to those assets which can be easily
converted in to cash normally within a period of one year. While current liabilities are
those liabilities which have to be paid in the ordinary course of time i.e. normally
liabilities have to be settled within a period of one accounting year.

Current Liabilities Current Assets


Sundry Creditors Cash in hand
Bills Payable Cash at bank
Accounts Payable Bills receivables
Bank Overdraft Sundry debtors
Short term loan Accounts receivables
Outstanding Expenses Short term advances/investments

Management Science
Unit-5: Financial Management 5.6

Provision for doubtful debts Stocks


Income received in advance Prepaid Expenses
Accrued Income

Non-current Assets and Liabilities: All Assets and liabilities other than current assets
liabilities come within the category of non-current assets and liabilities.

Non-Current Liabilities Non-Current Assets


Equity share capital Goodwill
Preference share capital Land & Buildings
Debentures Plant & Machinery
Long-term loans Furniture & Fittings
Net Profit Trademark
Capital Reserve & Surplus Patent
Retained Earnings Long-term investments

TYPES OF WORKING CAPITAL


Working Capital may be classified into three important types on the basis of time.
1. Permanent Working Capital: It is also known as Fixed Working Capital. It is the
capital; the business concern must maintain certain amount of capital at minimum
level at all times. The level of Permanent Capital depends upon the nature of the
business. Permanent or Fixed Working Capital will not change irrespective of time or
volume of sales.
2. Temporary Working Capital: It is also known as variable working capital. It is the
amount of capital which is required to meet the Seasonal demands and some special
purposes. It can be further classified into Seasonal Working Capital and Special
Working Capital. The capital required to meet the seasonal needs of the business
concern is called as Seasonal Working Capital. The capital required to meet the
special exigencies such as launching of extensive marketing campaigns for
conducting research, etc.
3. Semi Variable Working Capital: Certain amount of Working Capital is in the field
level up to a certain stage and after that it will increase depending upon the change of
sales or time.

FUNDS FLOW ANALYSIS

Funds Flow Statement is a widely used tool in the hands of financial executives for
analyzing the financial performance of a business concern. Funds keep on moving in a
business which itself is based on a going concern concept.
Funds Flow Statement is prepared to study the changes in the financial position of a
business over a period of time generally one year. Funds Flow Statement reveals both inflow
and outflow of funds. The inflow of funds is known as sources of the funds and the outflow
of funds means uses or application of the funds. Funds flow statement is also known as
Statement of sources and Applications of funds or where got-where gone statement. Funds
Flow Statement highlights and changes in the financial structure of an undertaking. It
determines the financial consequences of business operations. Thus, Funds, Flow Statement,
in general is able to present that information which either is not available or not readily
apparent from an analysis of other financial statements.

Management Science
Unit-5: Financial Management 5.7

Significance of Funds Flow Statement:


Funds flow statement is prepared to know the changes in assets, liabilities and owners
equity between dates of two Balance Sheets. It is a statement of sources and uses of funds.
1. Analysis of financial operations: The Funds Flow Statement reveals the net effect of
various transactions on the operational and financial position of the business concern.
It determines the financial consequences of business operations. This statement
discloses the causes for changes in the assets and liabilities between two different
points of time. It highlights the effect of these changes on the liquidity position of the
company.
2. Financial policies: Funds Flow Statement guides the management in formulating the
financial policies such as dividend, reserve etc.
3. Control device: It serves as a measure of control to the management. If actual figures
are compared with budgeted/projected figures, management can take remedial action
if there are any deviations.
4. Evaluation of firm’s financing: Funds Flow Statement helps in evaluating the firm’s
financing. It shows how the funds were obtained from various sources and used in the
past. Based on this, the financial manager can take corrective action.
5. Acts as a future guide: Funds Flow Statement acts as a guide for future, to the
management. It helps the management to know various problems it is going to face in
near future for want of funds.
6. Appraising the use of working capital: Funds Flow Statement helps the
management in knowing how effectively the working capital put into use.
7. Reveals financial soundness: Funds Flow Statement reveals the financial soundness
of the business to the creditors, banks and financial institutions.
8. Changes in working capital: Funds Flow Statement highlights the changes in
working capital. This helps the management in framing its investment policy.
9. Assessing the degree of risk: Funds Flow Statement helps the bankers, creditors, and
financial institutions in assessing the degree of risk involved in granting the credit to
the business concern.
10. Net results: This statement reveals the net results of operations during the year in
terms of cash.

Sources of Funds
1. Issue of share capital: If there is any increase in share capital it denotes issue of
additional shares during the period. Issue of shares is a source of funds as it
constitutes inflow of funds. Even calls received on partly paid shares constitute an
inflow of funds. If shares are issued at premium, the premium will also become a
source of fund. If shares are issued and allotted for other than cash, consideration do
not generate fund.
2. Issue of debentures of long term loans: Issue of debentures, accepting public
deposits, and raising long term loans results in the flow of funds. If debentures like
shares have been allotted to somebody other than cash, consideration do not generate
fund.
3. Sale of fixed assets or long term investments: When any fixed asset like Land,
Building, Machinery, Furniture on long term investments etc. are sold, it generate
funds and becomes a source of funds.
4. Non-trading income: Any non-trading receipts like dividends, rent, interest etc.
5. Decrease in working capital: If working capital is decreased during the accounting
period, when compared with previous period, it denotes release of funds from
working capital and it constitutes a source of funds.

Management Science
Unit-5: Financial Management 5.8

Application or Use of Funds:


1. Redemption of preference share capital: If there is any decrease in preference share
capital during current year, when compared with previous year, we must assume that
the preference shares are redeemed. It results in the outflow of funds and is taken as
Application of funds.
2. Redemption of debentures: If any debentures are redeemed during the account
period, it constitutes application of funds.
3. Repayment of long-term loans: Repayment of long-term loan also constitutes an
application of funds.
4. Purchase of fixed assets or long term investments: If any fixed assets like land,
buildings, furniture, long-term investments etc., are purchased for cash, funds outflow
from the business. If any fixed asset is purchased for a consideration of issue of shares
or debentures, it does not involve any funds and hence not an application of funds.
5. Non-trading payment: Payment of dividends and tax etc. reduce the working capital
and is an application of funds. Mere declaration of dividend or creating a provision
for taxation, do not be treated as an outflow of funds.
6. Any other non-trading payment: Any payment or expense not related to the trading
operations of the business amounts to outflow of funds and also taken as application
of funds.
7. Funds lost in operations: If there is any loss during the accounting period, it amounts
to loss of funds in operations. Such loss of funds in trading operations treated as
outflow of funds.

PREPARATION OF FUNDS FLOW STATEMENT


Two statements are involved in funds flow analysis.
1. Statement or Schedule of Changes In Working Capital
2. Statement of Funds Flow

1. Statement Of Changes In Working Capital:


This statement when prepared shows whether the working capital has increased or
decreased during two balance sheet dates. But, this does not give the reasons for increase
or decrease in working capital. This statement is prepared by comparing the current assets
and the current liabilities of two periods. Any increase in current assets will result in
increase in working capital and any decrease in current assets will result in decrease in
working capital. Any increase in current liability will result in decrease in working capital
and any decrease in current liability will result in increase in working capital. It may be
shown in the following form:

Schedule of changes in Working Capital


Items As on As on Increase Decrease
Current Assets
Cash Balance
Bank Balance
Marketable Securities
Stock
Prepaid Expenses
(A) Total Current Assets
Current Liabilities

Management Science
Unit-5: Financial Management 5.9

Bank Overdraft
Outstanding expenses
Accounts payable
Provision for tax
Dividend
(B) Total Current Liabilities
Increase/Decrease in Working
capital

Illustration 1
From the following details, prepare a schedule of changes in working capital

Management Science
Unit-5: Financial Management 5.10

2. Funds Flow Statement:


Funds flow statement is also called as statement of changes in financial position or
statement of sources and applications of funds or where got, where gone statement. The
purpose of the funds flow statement is to provide information about the enterprise’s
investing and financing activities. The activities that the funds flow statement describes
can be classified into two categories:
(i) activities that generate funds, called sources, and
(ii) activities that involve spending of funds, called uses.
When the funds generated are more than funds used, we get an increase in working
capital and when funds generated are lesser than the funds used, we get decrease in working
capital. The increase or decrease in working capital disclosed by the schedule of changes in
working capital should tally with the increase or decrease disclosed by the funds flow
statement. The funds flow statement may be prepared either in the form of a statement or in
`t’ shape form. When prepared in the form of statement it would appear as follows:

Management Science
Unit-5: Financial Management 5.11

It may be seen from the proforma that in the funds flow statement preparation, current
assets and current liabilities are ignored. Attention is given only to change in fixed assets and
fixed liabilities. In this connection an important point about provision for taxation and
proposed dividend is worth mentioning. These two may either be treated as current liability
or long-term liability. When treated as current liabilities they will be taken to `schedule of
changes in working capital’ and thereafter no adjustment is required anywhere. If they are
treated as long-term liabilities there is no place for them in the schedule of changes in
working capital. The amount of tax provided and dividend proposed during the current year
will be added to net profits to find the funds from operations. The amount of actual tax and
dividend paid will be shown as application of funds in the funds flow statement. In this
lesson, we have taken them as current liabilities.

Management Science
Unit-5: Financial Management 5.12

Illustration 1: The balance sheet of Mahathi limited for two years are as follows:

Additional Information:
 Depreciation written off during the year on Plant and machinery Rs.6,400 and
Furniture Rs. 200
Prepare a schedule of changes in working capital and a statement of sources and
application of funds.

Management Science
Unit-5: Financial Management 5.13

Management Science
Unit-5: Financial Management 5.14

Illustration-2: From the following balance sheets of X Ltd. On 31st December, 2011 and
2012, you are required to prepare a schedule of changes in working capital and Funds flow
Statement.

The following additional information has also been given:


Depreciation charged on Plant was ` 4,000 and on Building ` 4,000
Provision for taxation of ` 19,000 was made during the year 2012.
Interim Dividend of ` 18, 000 was paid during the year 2012.

Solution
Schedule of Changes in Working Capital

Management Science
Unit-5: Financial Management 5.15

Management Science
Unit-5: Financial Management 5.16

CAPITAL BUDGETING

Capital budgeting is the process of making investment decision in long-term assets or


courses of action. Capital expenditure incurred today is expected to bring its benefits over a
period of time. These expenditures are related to the acquisition and improvement of fixes
assets.
Capital budgeting is the planning of expenditure and the benefit, which spread over a
number of years. It is the process of deciding whether or not to invest in a particular project.
The manager has to choose a project, which gives a rate of return, which is more than the cost
of financing the project. The benefits are the expected cash inflows from the project, which
are discounted against` a standard, generally the cost of capital.

Definition:
 According to Charles T. Horngreen, "Capital budgeting is long-term planning for
making and financing proposed capital outlays."
 According to G.C.Philippatos, "Capital budgeting is concerned with the allocation of
the firm's scarce financial resources among the available market opportunities. The
consideration of investment opportunities involves the comparison of the expected
future streams of earnings from a project with the immediate and subsequent streams
of expenditure for it".
Thus, capital budgeting decision may be defined as "The firms decision to invest its
current funds most efficiently in long-term projects, in anticipation of an expected flow of
future funds over a series of years". It therefore involves the process of generation of
investment proposals, estimation of cash flows for the proposals, evaluation of cash flows,
selection of projects based upon an acceptance criterion and finally continuous revaluation of
investment projects after their acceptance.

NATURE OF CAPITAL BUDGETING


The nature and importance of Capital Budgeting are as follows:
1. Long-Term effect on business operations: Capital budgeting decisions have long term
implications on business operations. An unwise decision may affect the long-term
survival of the company. The investment decision taken today not only affects the
present earnings but also the growth and profitability of the firm in the future.
2. Large amount as investments: Capital budgeting decisions involve large amount of
funds. But the funds available with the firm are always limited. Therefore it is necessary
to take the decisions very carefully and control its capital expenditure.
3. Irreversible: The capital budgeting decisions are of irreversible nature as it is difficult
to find the market for such capital goods. Once the decision for acquiring a permanent
asset is taken, it becomes very difficult to dispose off, these assets and the only way is
to scrap these assets which involve huge losses.
4. Difficulties of investment decisions: The long - term investment decisions are difficult
to make because it involves the assessment of future events which are difficult to
ascertain. The investments are required to be made immediately but the returns are
expected over a number of years.
5. Ability to compete: It has been observed that many firms fail not because they have too
much capital equipment but because they have too little ability to compete. Hence it
must consider the investment in capital assets so that the company can face and meet
the competition from other.

Management Science
Unit-5: Financial Management 5.17

6. National importance: Investment decision is of national importance because it


determines the employment, economic activities and economic growth of a county.

CAPITAL BUDGETING PROCESS


The capital budgeting process involves generation of investment, estimation of cash-
flows, evaluation of cash-flows, selection of projects based on acceptance criterion and
finally the continues revaluation of investment after their acceptance the steps involved in
capital budgeting process are as follows:

1. Project generation: The capital budgeting process starts with the identification of
investment proposals to be undertaken depending upon its future plans of activity. The
proposal about potential investment opportunities may originate from the top
management or may come from any officer of the organization. The various proposals are
according to the following categories:
 Replacement of equipment: In this case the existing outdated equipment and
machinery may be replaced by purchasing new and modern equipment.
 Expansion: The Company can go for increasing additional capacity in the
existing product line by purchasing additional equipment.
 Diversification: The Company can diversify its product by producing various
products and entering into different markets. For this purpose, it has to acquire the
fixed assets to enable producing new products.
 Research and Development: Where the company can go for installation of
research and development suing by incurring heavy expenditure with a view to
innovate new methods of production new products etc.
2. Project evaluation: The next step in the capital budgeting process is to evaluate the
profitability of various proposals. The process of project evaluation comprises two steps.
 Estimation of benefits and costs: These must be measured in terms of cash
flows. Benefits to be received are measured in terms of cash inflows and costs to
be incurred are measured in terms of cash outflows.
 Selection of an appropriate criterion: The selection of an appropriate method to
judge desirability of the project is also a step in project evaluation. However, it
should be noted that the various proposals to be evaluated may be classified as:
a. Independent proposals: Independent proposals are those which do not
compete with one another and the same may be either accepted or rejected
on the basis of a minimum return on investment required.
b. Contingent proposals: The proposals whose acceptance depends upon the
acceptance of one or more proposals are the contingent proposals.
c. Mutually exclusive proposals: Mutually exclusive proposals are those
which compete with each other and one of those may have to be selected at
the cost of the other.
3. Project selection: After evaluating various proposals, the unprofitable or uneconomic
proposals may be rejected straight away. But there is no standard administrative
procedure for approving the investment decisions. Hence, it is very essential to rank the
various proposals and to establish priorities after considering urgency, risk and
profitability involved there in. However, the proposals are scrutinized at multiple levels
and the final approval of the project generally rests with the top management of the
company.

Management Science
Unit-5: Financial Management 5.18

4. Project Execution: It is not possible to implement the project just by preparing a capital
expenditure budget and incorporating a particular proposal in the budget. A request for
authority to spend the amount should further be made to the Capital Expenditure
Committee which may like to review the profitability of the project in the changed
circumstances.
5. Performance Review: This is the last stage in the process of capital budgeting and
involves the evaluation of the performance of the project. The evaluation is made by
comparing the actual expenditure on the project with the budgeted one and also by
comparing the actual return from the investment with the anticipated return.

TECHNIQUES OF CAPITAL BUDGETING


A business firm has a number of proposals regarding various projects in which it can
invest funds. But the funds available with the firm are always limited and it is not possible to
invest funds in all the proposals at a time. The capital budgeting appraisal methods of
evaluation of investment proposals will help company to decide upon the desirability of an
investment proposal depending upon their relative income generating capacity and rank them
in order of their desirability. These methods provide the company a set of norms on the basis
of which, either it has to accept reject the investment proposal.
The crucial factor that influences the capital budgeting decision is the profitability of
the prospective investment. There are many methods of evaluating profitability of capital
investment proposals. The criteria for the appraised of investment proposals are grouped into
two types, viz.,
1. Traditional Methods: These methods determine the desirability of an investment
project on the basis of its useful life and expected returns. These methods will not take
into consideration the concept of 'time value of money' and depend upon the
accounting information available from the books of accounts of the company.
a) Pay Back Period Method (PBP)
b) Accounting Rate of Return (ARR)

2. Time-Adjusted method / Discounted Cash Flow Methods: It is also known as Time


Adjusted method. The traditional method does not take into consideration the time
value of money. They give equal weight age to the present and future flow of
incomes. The DCF methods are based on the concept that a rupee earned today is
more worth than a rupee earned tomorrow. These methods take into consideration the
profitability and also time value of money. It is divided in to three categories:
a) Net Present Value (NPV)
b) Internal Rate of Return (IRR)
c) Profitability Index (PI)

PAY-BACK PERIOD METHOD


It is the most popular and widely recognized traditional method of evaluating the
investment proposals. It can be defined, as ‘the number of years required to recover the
original cash outlay invested in a project’. It is also called payout or payoff period. According
to James C. Vanhorne, “The payback period is the number of years required to recover initial
cash investment.”

Management Science
Unit-5: Financial Management 5.19

Formula:
a. When cash flows are even:
Cash Outlay (or) Original cost of project
Pay Back period =
Annual Cash inflow

b. When cash flows are uneven:


Take the cumulative cash inflows and see how much time it takes to get back the
original investment.

Accept or Reject Criteria:


Under this method the projects are ranked on the basis of the length of the payback
period. A project with the shortest payback period will be given the highest rank and taken as
the best investment.
Merits:
1. It is one of the earliest methods of evaluating the investment projects.
2. It is simple to understand and to compute.
3. It does not involve any cost for computation of the payback period.
4. It is one of the widely used methods in small scale industry sector.
5. It can be computed on the basis of accounting information.

Demerits:
1. This method fails to take into account the cash flows received by the company after
the payback period.
2. It doesn’t take into account the interest factor involved in investment outlay.
3. It is not consistent with the objective of maximizing the market value of the
company’s share.

ACCOUNTING (OR) AVERAGE RATE OF RETURN METHOD (ARR):


It is an accounting method, which uses the accounting information repeated by the
financial statements to measure the probability of an investment proposal. It can be
determined by dividing the average income after taxes by the average investment i.e., the
average book value after depreciation.
According to ‘Soloman’, accounting rate of return on an investment can be calculated
as the ratio of accounting net income to the initial investment.
Formula:
Average net income after taxes
Accounting Rate of Return (ARR)= x100
Net Investment
(Or)
Average net income after taxes
Average Rate of Return (ARR)= x100
Average Investment

Total income after taxes


Average net income after taxes=
No. of Years
Total investment
Average investment =
2

Management Science
Unit-5: Financial Management 5.20

Accept or Reject Criteria:


The company can select all those projects whose ARR is higher than the minimum
rate established by the company. It can reject the projects with an ARR lower than the
expected rate of return. In case of several project a highest rank will be given to a project
with highest ARR, where as a lowest rank to a project with lowest ARR.

Merits:
1. It is very simple to understand and calculate.
2. It can be readily computed with the help of the available accounting data.
3. It uses the entire stream of earning to calculate the ARR.

Demerits:
1. It is not based on cash flows generated by a project.
2. It ignores the length of the projects useful life.
3. It does not take into account the fact that the profits can be re-invested.

NET PRESENT VALUE METHOD (NPV)


The NPV takes into consideration the time value of money. NPV is the difference
between the present value of cash inflows of a project and the initial cost of the project.
According to Ezra Solomon, “It is a present value of future returns, discounted at the required
rate of return minus the present value of the cost of the investment.”

Steps to calculate NPV:


1. Calculation of cash inflows and outflows during life of the project.
2. Determination of discount rate or cost of capital. It is always the expected rate of the
business without which the business cannot run smoothly.
3. Computation of present value of cash inflows and outflows by discounting them with
discounting rate.
4. Calculation of NPV by subtracting present value of cash outflows from inflows.
5. Projects are selected when present value of cash inflow is more or equal to present
value of cash outflows.
Formula:
NPV= Present value of cash inflows – investment

CF1 CF2 CFn


NPV = [ + + ……. + ] - IO
(1+k)1 (1+k)2 (1+k)n
n
At
NPV= - AO
i(1+K)t
t=1
where,
IO = Investment or cash outflows
CF1, CF2, …CFn = cash inflows in different years
K= Cost of the Capital (or) Discounting rate
t = No. of Years

Management Science
Unit-5: Financial Management 5.21

Accept or Reject Criteria:


According the NPV technique, only one project will be selected whose NPV is
positive or above zero. If a project(s) NPV is less than ‘Zero’, it gives negative NPV hence it
must be rejected. If there is more than one project with positive NPV’s the project is selected
whose NPV is the highest is selected.

Merits:
1. It recognizes the time value of money.
2. It is based on the entire cash flows generated during the life of the asset.
3. It is consistent with the objective of maximization of wealth of the owners.
4. The ranking of projects is independent of the discount rate used for determining the
present value.

Demerits:
1. It is different to understand and use.
2. The concept of cost of capital is difficult to understood and determine.
3. It does not give solutions when the comparable projects are involved in different
amounts of investment.

INTERNAL RATE OF RETURN METHOD (IRR)


The IRR for an investment proposal is that discount rate which equates the present
value of cash inflows with the present value of cash out flows of an investment. The IRR is
also known as cut-off or handle rate and Trial or Error method. It is usually the concern’s cost
of capital.
According to Weston and Brigham “The internal rate is the interest rate that equates
the present value of the expected future receipts to the cost of the investment outlay.

Steps to calculate IRR:


1. Estimation of cash inflows and outflows during the life of the project.
2. Identifying the discounting factor (IRR), through trial and error method that can
equate cash flows.
3. It implies that one has to start with a discounting rate to calculate the present value of
cash inflows. If the obtained present value is higher than the initial cost of the project
one has to try with a higher rate. Likewise if it is lower than the present value of cash
flow, lower rate is to be taken up. The process is continued till the net present value
becomes Zero.
4. Comparing IRR with ‘K’ (Cost of capital) and determining the acceptability of the
project.

Formula:
IRR = Present value of cash inflows = Investment

CF1 CF2 CFn


IRR = [ + + ……. + ] = IO
(1+k)1 (1+k)2 (1+k)n
where,
IO = Investment
CF1, CF2, …CFn = cash inflows in different years
K= Cost of the Capital (or) Discounting rate
t = No. of Years

Management Science
Unit-5: Financial Management 5.22

If the present value of the project lies between two discount rates:

PL – I
IRR = L + X H - L (or)
PL – PH
NPVL
IRR = L + XD
PL - PH
where, L = Lower discount rate
H = Higher discount rate
PL = Present value of cash inflows at lower rate
PH - Present value of cash inflows at higher rate
I = Investment or cash outflows

Accept or Reject Criteria:


When compared the IRR with the Required Rate of Return (RRR), if the IRR is more
than RRR then the project is accepted else rejected (IRR>=k). In case of more than one
project with IRR more than RRR, the one which gives the highest IRR is selected.

Merits:
1. It considers the time value of money.
2. It takes into account the cash flows over the entire useful life of the asset.
3. It gives uniform ranking of project.
4. It is the actual rate of return generated by the project.
5. It enables to evaluate true profitability.

Demerits:
1. It is very difficult to understand and use.
2. It involves a very complicated computational work.
3. It may not give unique answer in all situations.

PROBABILITY INDEX METHOD (PI)


The method is also called Benefit Cost Ration. It is calculated by establishing the
relationship between present value of cash inflows and out flows i.e., present value of cash
inflows are divided by the present value of cash out flows.

Formula:
Present value of cash inflows Present value of cash inflows
PI = (or)
Present value of cash outflows Investment

CF1 CF2 CFn


PI = [ + + ……. + ] / IO
(1+k)1 (1+k)2 (1+k)n

where,
IO = Investment
CF1, CF2, …CFn = cash inflows in different years
K= Cost of the Capital (or) Discounting rate
t = No. of Years

Management Science
Unit-5: Financial Management 5.23

Accept or Reject Criteria:


It the PI is more than one (>1), the proposal is accepted else rejected. If there are more
than one proposal with the more than one PI the one with the highest PI will be selected. This
method is more useful in case of projects with different cash outlays cash outlays and hence
is superior to the NPV method.

Merits:
1. It requires less computational work then IRR method
2. It helps to accept / reject a proposal on the basis of value of the index.
3. It takes into consideration the entire stream of cash flows generated during the useful
life of the asset.

Demerits:
1. It is somewhat difficult to understand.
2. Some people may feel no limitation for index number due to several limitation
involved in their competitions.
3. It is very difficult to understand the analytical part of the decision on the basis of
probability index.

ILLUSTRATIONS
1. Consider the case of the company with the following two investment alternatives each
costing Rs. 9, 00,000/-. The details of the cash flows are as follows.
Cash flows (in Rs.)
Year
Project-I Project-II
1 3,00,000 6,00,000
2 5,00,000 4,00,000
3 6,00,000 3,00,000
The cost of capital is 12 percent per year. Which one will you choose under NPV method ?
Solution:
DCF Method
Project - I Project - II
Year PV@10%
Cash Flows PVCF Cash Flows PVCF
1 0.909 3,00,000 2,72,700 6,00,000 5,45,400
2 0.826 5,00,000 4,13,000 4,00,000 3,30,400
3 0.751 6,00,000 4,50,600 3,00,000 2,25,300
Total PVCF 11,36,300 11,01,100

NPV Method
NPV = PVCF – Investment
Project – I = 11,36,300 – 9,00,000 = 2,36,300
Project – II= 11,01,100 – 9,00,000 = 2,01,100
Project – I is chosen as its NPV is higher than Project – II

2. ABC Co. ltd. is proposing to mechanize their operations. Two proposals A and B in the
form of quotations have been received from two different vendors. The proposal in each
case cost Rs. 5, 00,000/-. A discount factor of 14% is used to compare the proposals.
Cash flows after taxes are likely to be as under.

Management Science
Unit-5: Financial Management 5.24

Cash flows after taxes (in Rs.)


Year Proposal ‘A’ Proposal ‘B’
1 1,50,000 50,000
2 2,00,000 1,50,000
3 2,50,000 2,00,000
4 1,50,000 3,00,000
5 1,00,000 2,00,000
Which one do you recommend under Payback period and Net Present Value methods?
Solution:
Proposal - A Proposal - B
Year PV@12%
Cash Flows PVCF Cash Flows PVCF
1 0.893 1,50,000 1,33,950 50,000 44,650
2 0.797 2,00,000 1,59,400 1,50,000 1,19,550
3 0.712 2,50,000 1,78,000 2,00,000 1,42,400
4 0.635 1,50,000 95,250 3,00,000 1,90,500
5 0.567 1,00,000 56,700 2,00,000 1,13,400
Total PVCF 6,23,300 6,10,500
( - ) Investment 5,00,000 5,00,000
NPV 1,23,300 1,10,500
Proposal – A is recommended as its NPV is higher than that of Proposal - B

3. A business firm is thinking of choosing the right machines for their purpose after
financial evaluation of the proposals. The initial cost and the net cash flow over five years
to the business firm have been calculated for each machine is as follows and assuming the
cost of capital to be 12%.
Machine X Machine Y
Initial cost (Rs.) 20,000 28,000
Net cash flows (Rs.)
1st year 8,000 10,000
nd
2 year 12,000 12,000
3rd year 9,000 12,000
th
4 year 7,000 9,000
5th year 6,000 9,000
Choose the machine based on (a) payback period and (b) NPVI method
Solution:
(a) Pay Back period:
Machine - X Machine - Y
Year Cumulative Cumulative Cash
Cash Flows Cash Flows
Cash Flows Flows
1 8,000 8,000 10,000 10,000
2 12,000 20,000 12,000 22,000
3 9,000 29,000 12,000 34,000
4 7,000 36,000 9,000 43,000
5 6,000 42,000 9,000 52,000

Machine – X = 2 years
Machine – Y = 2 years + (6000 / 12000) = 2.5 years

Management Science
Unit-5: Financial Management 5.25

Decision: Machine – X is accepted as it has shorter payback period than Machine – Y

(b) NPVI method:


Machine - X Machine - Y
Year PV@12%
Cash Flows PVCF Cash Flows PVCF
1 0.893 8,000 7,144 10,000 8,930
2 0.797 12,000 9,564 12,000 9,564
3 0.712 9,000 6,408 12,000 8,544
4 0.635 7,000 4,452 9,000 5,724
5 0.567 6,000 3,402 9,000 5,103
Total PVCF 30,970 37,865
( - ) Investment 20,000 28,000
NPV 10,970 9,865

Decision: Machine – X is accepted as it has higher NPV than Machine – Y

SELF ASSESSMENT QUESTIONS

1. What is Financial Management? Explain the objectives of financial management?


2. Explain the nature and scope of financial management?
3. What is Capital Budgeting? Explain its importance in decision making.
4. What are the merits and limitations of Pay Back Period? How does Discounting
approach overcome the limitations of Pay back method?
5. What is capital budgeting? Explain the basic steps involved in evaluating capital
budgeting proposals.
6. What are the methods of capital budgeting? Explain them in detail.
7. What is working capital management? Explain the different types of working capital
management.
8. Define funds flow statement? Explain the significance of Funds Flow Statement.
9. Discuss about the various source and uses of funds.

3.16. EXERCISES

1. Examine the following three proposals and evaluate them based on


a) PBP Method
b) ARR Method. (ARR on original Investment)
Initial Investment is Rs.10, 00,000/- each for all the three projects.
Cash inflows (Rs.)
Year Project-A Project-B Project-B
1. 5,00,000 6,00,000 2,00,000
2. 5,00,000 2,00,000 2,00,000
3. 2,00,000 2,00,000 6,00,000
4. ------- 3,00,000 4,00,000

2. Determine the Pay Back Period for the information given below
a) The project cost is Rs. 20,000
b) The life of the project is 5 years

Management Science
Unit-5: Financial Management 5.26

c) The cash flows for the 5 years are Rs.10,000, Rs.12,000; Rs.13,000;
Rs.11,000; and Rs. 10,000 respectively and
d) Tax rate is 20%

3. Calculate the Net present value (NPV) of the two projects X and Y. Suggest which of
the two projects should be accepted assuming a discount rate of 10%
Item Project-A Project-B
Initial Investment Rs. 80,000 Rs. 1,20,000
Life Period 5 Years 5 Years
Scrap Value Rs.4,000 Rs.8,000
(Annual Cash Inflows) (CFAT) (CFAT)
Year: 1 Rs.24,000 Rs.70,000
,, 2 Rs.36,000 Rs.50,000
,, 3 Rs.14,000 Rs.24,000
,, 4 Rs.10,000 Rs.8,000
,, 5 Rs.8,000 Rs.8,000

4. A Company has at hand two proposals for consideration. The cost of the proposals in both
the cases is Rs. 5, 00,000 each. A discount factor of 12% may be used to evaluate the
proposals. Cash inflows after taxes are as under.
Year Proposals X(Rs.) Proposals Y(Rs.)
1 1,50,000 50,000
2 2,00,000 1,50,000
3 2,50,000 2,00,000
4 1,50,000 3,00,000
5 1,00,000 2,00,000
Which one will you recommend under NPV method?

5. Consider the case of the company with the following two investment alternatives each
costing Rs.9 lakhs. The details of the cash inflows:
Rs. in Lakhs
Year Project-1 Project-2
1 3 6
2 5 4
3 6 3
The cost of capital is 10% per year. Which project will you choose under NPV method?

6. The following are the details pertaining to a company which is considering to acquire a
fixed asset:
Project A: Cost of the proposal: Rs.42, 000, Life 5 years, Average after Tax
Cash inflow Rs.14000. (constant)
Project B: Cost of the proposal Rs.45000, Life 5 years
Annual cash inflows 1st year Rs. 28,000, 2nd year Rs.12, 000, 3rd year
Rs.10, 000, 4th Rs.10, 000 and 5th year Rs. 10,000. Determine IRR. Which project do
you recommend?

7. Mahesh Enterprises is considering of purchasing a CNC Machine. The following are the
earnings after tax from the two alternative proposals under consideration each costing Rs.
8, 00,000. Select the better one, if the company wishes to operate at 10% rate of return.

Management Science
Unit-5: Financial Management 5.27

Year 1 Year 2 Year 3 Year 4 Year 5


Proposal I 80000 240000 320000 480000 320000
Proposal II 240000 320000 400000 240000 160000
Present value of Re @ 10% 0.909 0.826 0.751 0.683 0.620

8. ABC company is considering the purchase of a machine from the following:


Machine-I Machine-II
Life 3 years 3 years
Initial Investment Rs. 10,000 Rs. 10,000
Net Earnings after tax Rs. Rs.
1st Year 8,000 2,000
2nd Year 6,000 7,000
3rd Year 4,000 10,000
You are required to suggest which machine should be preferred by using the
following methods. The cost of capital is 10 per cent.
1) Payback period method 2) Discounted cash flow method

9. Rank the following investment proposals in order of their profitability according to Pay-
Back Period and Discounted Cash flow methods assuming the cost of capital to be 12%.

Management Science

Вам также может понравиться