DESIGN OF THE STUDY

INTRODUCTION

The major task of the financial manger is to plan capital expenditure and determine whether to increase his investment in or to replace existing fixed assets y y y Substantial sums of money are involved and investment is made for a considerable period of time. Poor decisions with regard to these critical investments can bring about adverse results that may burden the company for years. On the other hand, good decisions are responsible for successful performance.

CONCEPTS OF CAPITAL BUDGETING:

The capital budgeting is the decision- making process formally planning the investment of capital. A capital expenditure is a strategic investment of material magnitude and non-routine nature, whose economic life and benefits continue over a series of years. For example: Acquisition of plant and equipment.

Organizations are frequently faced with capital budgeting decisions. Any decision that requires the use of resources is a capital budgeting decision. Capital budgeting is more or less a continuous process in any growing concern. The role of a finance manager in capital budgeting is to carry out a critical and in-depth analysis and evaluation of various alternative proposals and then to select the optimal alternative proposals and then to select the optimal alternative. As the basic objective of financial management is to maximize the wealth of shareholders, the objective of capital budgeting is to select those long-term investment projects that are expected to make maximum contribution to the wealth of the shareholders in the long run.

y y y

Expenditure of a new product, product line or of a new production, distribution or service facility. Replacement or renovation of worn or obsolete production distribution or service facilities with more efficient facilities. Other including research and development improved working conditions or investments required by government regulation to improve the health and welfare of the community. For example: control of air and water pollution

Capital expenditure differ from, an operating expenditure of a current, routine and repetitive nature, whose economic benefits are forthcoming immediately upon the sale of the product. Capital expenditure is more difficult to manage and control because of the alternative available and the administrative problems of co-ordination and implementation. Despite the difficulties involved, sound procedure for capital expenditure are important to the overall success of a company. A large number of alternatives must be examined, for there may be different assumption with regard to start-up dates and capacities, selling prices, sale volume, and operating costs. In some projects there may be a scope of possible combinations. Sometimes, as assumptions changes these combination may have to be recalculated before a project can be ultimately accepted or rejected the problems of quickly processing many combinations of information is ideally suited to a computer most capital projects are of a similar type and subject to the same factors. PLANNING OF CAPITAL EXPENDITURE:

Many opportunities for a profitable investment are constantly uncovered and recommended to management. These suggestions must fit within the formulation of long range goals, and in turn there must be a suitable frame work within which relevant information ca be assembled to achieve these goals. This require asset of evaluation tools to select from among those alternatives that will meet the firms objectives.

The fundamental investment decision is how deeply the company wishes to be involved in a given line of business and whether it wishes to expand or contract that commitment. This analysis must deal with the whole system over long periods of time. If the added investment is not made, then the business may be non competitive and ultimately unprofitable.

Capital of expenditures must be integrates into the corporate financial plans. The economic justification for a capital expenditure programmer requires along term estimate of profits which in turn involves projection of sales and costs of operation over a period of years. Accordingly, long range financial planning becomes essential for accompany that wishes to grow. The company has to establish objectives and goal is the part of a master plan for its survival and /or growth. For growth to become a reality, management should initiate action on a time schedule, which will direct capital into projects for raising the overall returns on investment.

Long range planning for capital expenditures: It is essential due to the following reasons y y y y It helps in fitting yearly corporate expansion in to orderly plan of growth by adapting expenditure to anticipated sales requirements. It assists in testing the profitability of capital expenditure over a period of time as against in the next following year. It facilitates in contracting for plants sites, constructing, and water and power facilities in advance. It aids in interacting capital expenditures into the cash planning of the company view to finding out whether the necessary funds would be provided by internal or external sources. y Long range planning assists in expenses determining the impact of capital expenditures on depreciation insurance expenses and other fixed expenses in advance in order to make the necessary allowance for them in projecting the operating results.

The period covered by a programmer for capital expenditure is most more than one year because of the complexity of modern machinery and the long period required in the fruition of investment in new products lines, expansion and replacements. The programme is usually projected over a period of five years .It is based upon two parts .The period covering the next fiscal year and the period covering the succeeding four years. The program may be prepared three months prior to the next fiscal year at which time the next fiscal year can be carefully reviewed and broken down into quarters and the another year in the future can be projected.

Long-range planning, it may be noted, has to be related to the current activities and progress of a company. In fact, the company develops a series of short-term guidelines that eventually merge into long term objectives. The interaction between short-term and long-term goals is essential in order to have an orderly growth eventually profit maximization. Capital expenditures are inevitably reflected in the companys operations either in sales or in costs, depending upon the nature of the expenditure. Thus the capital budget, despite the fact that is planned over a long period, should be integrated with the operating budget.

Components of Long-range Financial plan: It consists of the following statements: y y y y Projected income statement Projected balance sheet Statement showing sources and uses of funds Capital expenditure budget

IMPORTANCE OF CAPITAL BUDGETING: Capital budgeting decisions are among the most crucial and critical business decisions. Special care should be taken in making these decisions because of the following reasons: y Involvement of heavy funds: capital budgeting decisions require large capital outlays .It

is therefore absolutely necessary that the firm should be carefully plan its investment program so that it may get the finances at the right time and they are put to most profitable use. y Long-term implications: The firm will feel the effect of capital budgeting decisions over a long period, and therefore, they have a decisive influence on the rate and direction of the growth of the firm. y Irreversible decisions: In most cases, these decisions are irreversible this is because it is very difficult to find the market for the capital assets. The only alternative will be to scrap the capital assets so purchase and sell them at substantial loss in the event of the decisions proved wrong. y Future events: The capital budgeting decisions require an assessment of future events, which are uncertain. It is really an assessment of future events, which are uncertain .It, is really a difficult task to estimate the probable future events, the, the probable benefits and costs accurately in quantitative terms because of economic, political, social and technological factors.

CAPITAL BUDEGETING PROCESS:

Capital budgeting process involves planning availability and controlling the allocation and expenditure of long-term investment funds. Three essential questions have to be answered in the capital budgeting process: 1. How much money is going to be needed for capital expenditure in the coming planning period? 2. How much money is going to be available in total for such proposed investment? 3. How are available funds going to be assigned to the projects under consideration?

If capital requirements are not calculated and each project is taken up individually as the need presents itself, it may result in selecting the project not in the order of the desirability. Moreover, when integrated for expenditure is lacking, coordination among the different units of a company becomes difficult and the different division of the company may even act at crosspurposes. Capital budgeting enables top management in a decentralized company to again familiarity and maintain closer liaison with the plans and operating targets of division and departments. It helps to eliminate duplication of projects among divisions. A capital budget is an effective way of adjusting demand for funds and selecting and assigning priorities to projects within the framework of corporate objectives and targets. This is accomplished by setting evaluation tests for projects and establishing minimum consideration for acceptance. There are two types of capital budgets:  Long- range  Short- range

The long-range budgets is planning tool while the short-range budget is an allocation and rationing device. The long-range budget normally extends from 3-5 years and covers areas of future expenditure rather than specific proposal for replacement or extension of facilities. In some companies it may even run for a period exceeding five years. The plant and division heads of the company are informed of this forecast and are asked to keep it in mind when preparing the estimate for their prospective capital requirements. The long-range capital budget is continually revised as economic condition changed or the company position shifts. And as expenditure needs become more precise, they are incorporated into the short-range capital budgeting. The longrange budget is flexible and oriented towards future corporate growth. The short-range budget is more precise and is a financial or rationing budget for coming one or at the most two years. It involves the preparation of the estimate of the total amounts of funds that is lightly to be available for capital expenditures during the period covered by this budget. The various plant and division heads submits project proposals, which they wish to get included in forthcoming budget. Financial executive and his staff considered these proposals and

relate them to the funds expected to become available with a view to making a tentative apportionment to plan, division and departments.

The capital expenditure may relate to--1. Cost reduction by----Replacing machinery and equipment. y y Plant rearrangements programmer or mechanization of process, and Providing facilities to manufacture components currently purchased.

2. Replacement of worn out equipment. 3. Additions and extension to plant and machinery for having additional volume of existing product. 4. Installation of new plant and machinery for taking up a new product or productlines. The corporate management is interested in making that capital expenditure which can helps the firm in retaining or extending its share of the market.

Planning capital expenditures: Efficiently managed companies have to attempt long-range forecasts of capital requirements. There are two approaches to these forecasts. Some of these forecasts may start that the grass roots, i.e. foreman, division manager or the research department are encouraged for making suggestions for a better product is a more efficient way of doing something or an entirely new product. These ideas and suggestions are discussed, analyzed and if found to be of certain merit formulated into proposal for capital projects. The other approach relates to the initiative taken by the top management to take a longer view than the operating executives. It involves periodic assessment of facilities, surveys of comparative position in the industries, research on the development of new products and new markets and similar investigations. A combination of both these approaches to planning of capital expenditures cannot be ruled out and one cannot say categorically that which of two approaches is more productive.

It would thus the scene that the capital budget is made up of outlays on plant and equipment to be incurred by the several divisions or departments of a firm. General Managers of each operating unit or department submit requests for authority to make such outlays, as they consider necessary or desirable. The requests for capital outlays are forwarded to the controller, budget director. According to the organizational set up of the company. The budget director or other official entrusted with the responsibility for assembling the departmental or divisional capital budgets consolidates the requests and reviews them prior to presentation to higher authority which may be the appropriation committee or managing director who in turn presents the capital budget to the board of directors for final approval. The board of directors usually approves the capital budget only.

Selection of Projects: Experience shows that many projects are recommended for inclusion in the capital budget that despite of the apparent desirability, may not be necessary for the firm or many not produce additional earnings commensurate with the capital involved. They keep capital outlays within regional limits; capital budgets control producers should be designed to ensure that more desirable project get the priority over others. The proposal submitted by the operating divisions or departments for inclusions for the capital budget can be classified under the following categories:  Urgently essential to satisfactory operations  Replacement resulting from wear and tear or obsolescence  Desirable on an earnings basis and  Desirable from the stand-point of logical expansion and development Review: The procedures for review or an approval of capital proposals vary from company to company. Minor projects may be approved at low management levels. Major projects on the other hand, must pass the scrutiny of top management. As the amount involved increases, so does the level of authority required for approval.

Some companies require merely a statement of justification giving the essential facts about the project. These forms, designed to describe the proposal and this purpose, show the estimated cost of the proposed project, reflect the projects influence on operating costs and profits, provide information on any equipment to be replaced and serve as the medium for obtaining necessary approval and sanctions. y y y y y y y y y Date of request Project identification number Description of the project Purpose of and risks for the project Estimated total cost Estimated starting and conclusion dates Estimates of the amounts and timing of expenditures Estimated cost savings or other economic or financial justifications and Estimates of the amount and timing of income from the project approvals.

It is necessary to emphasize the importance of the three major parts of the appropriation requests:1. The estimate of the amount of investments required 2. The timing estimates and 3. The estimates of the income from the project

PRINCIPALS OF CAPITAL INVESTMENT: Capital budgeting involves the generation of investment proposals; the estimate of cash flows for the proposals, the evaluation of cash flows; the selection of projects based upon an acceptance criterion; and finally, the continual revaluation of investment projects after their acceptance. Depending upon the firm involved investment proposals can emanate from a variety of sources. For purposes of analysis, projects may be classified in to one of five categories.

 New products or expansion of existing products  Replacement of equipment or buildings  Research and development  Exploration  Others.

The last category comprises miscellaneous items such as the expenditure of funds to comply with certain health standards or the acquisition of a pollution-control device. In the case of a new product, the proposal usually originates in the marketing department on the other hand, a proposal to replace a piece of equipment with a more sophisticated model usually emanates from the production area of the firm. In each case, it is important to have efficient administrative procedures for channeling investment requests. For a proposal originating in the production area, the hierarchy of authority might run from section chiefs to

1. Plant managers to 2. The vice-president for operations to 3. A capital-expenditures committee under the financial manager to 4. The president to 5. The board of directors

How high a proposal must go before it is finally approved usually depends upon its size. The greater the capital outlay, the greater the number of screens usually required. Plant managers for example, may be able to approve moderate-sized projects on their own; but final approval for larger projects is received only at higher levels of authority. Because the administrative procedures for screening investment proposals vary greatly from firm to firm, it is not possible to generalize. The best procedure will depend upon circumstance where projects are approved at multiple levels, it is very important that the same acceptance criterion be applied objectively and consistently throughout the organization.

THE EVALUATION PROCESS: One of the important steps in the capital budgeting procedure is to determine through analysis which of the various investment opportunities is most profitable. We would confine out discussion to the most widely accepted criteria. It is assumed that the goal sought is the maximization of profit, which is taken to meet maximization of the present value of profits. Present value is used to provide common yardstick, enabling us to resolve conflicts between the present and future profits.

In selecting a suitable criterion, the following two fundamental principles must be kept in view: 1. The bigger the better principle which means that, other things being equal, bigger benefits are preferable to small ones 2. The bird in hand principle which means that, other things being equal, early benefits are preferable to later benefits as other things are seldom equal. In any event, these principles themselves can hardly be used as criteria. Means have to be found for taking the both in a single yardstick. We would discuss in detail the following four methods t measure return on investment:

1. Average rate of return 2. Payback 3. Internal rate of return 4. Net-present value.

Average rate of return: The average rate of return is an accounting method and represents the ratio of the average annual profits after taxes to the average investment in the project. Annual Average Profit after Tax A.R.R. = -------------------------------------------------Annual Average Investment

Pay Back Period: The payback period of an investment project tells us the number of years required to recover our initial cash investment. It is the ratio of the initial fixed investment over the annual cash inflows for the recovery period. Initial Investment Pay Back period = ---------------------------------------Annual Cash Flows Internal Rate of Return: The two discounted cash flow methods are the internal rate of return and the present value methods; the mechanize of these methods recall that the internal rate of return for an investment proposal is the discount rate that equates the present value of the expected cash outflows with the present value of the expected cash outflows with the present value of the expected inflows. It is represented by the rate r such that PVCFAT IRR= Lr + ----------------------- * 100 ( PV

Net-Present Value: Like the internal rate of return method, the present value method is a discounted cash flow approach to capital budgeting. With the present value method, all cash flows are discounted to present value using the required rate of return. The net profit value of an investment proposal is. NPV = PVCFAT C

Profitability Index: If the present value method is used, the present value of the earnings of one project cannot be compared directly with the present value of earnings of another unless the investments are of the same size. In order to compare the proposals, the size of the cash flows to investment must be related. Dividing the present value earnings by the amount of investment, to give a ratio that is called the profitability index or desirability ration, does this

PVCFAT PI= ------------------------Initial investment

NEED FOR THE STUDY

 The project study is undertaken to analyze and understand the Capital Budgeting process in power sector, which gives mean exposure to practical implication of theory knowledge.  To know about the companys operations of using various capital budgeting techniques.  To know how the company gets funds from various resources.

OBJECTIVE OF THE STUDY

The case study CAPITAL BUDGETING & INVESTMENT APPRAISAL OF LOKESH MACHINES LIMITED undertaken with the following objectives:  To understand the various kinds of capital budgeting to the problems faced by the organization.  To outline the factors and consideration that goes in to making a capital investment decision  To understand the various methods, for determining the size of capital budget and evaluating investment proposals.  To appreciate the good points and to find out drawbacks of each methods while evaluating.  To have an insight in to the various intricacies of discounted cash flows methods  To analyze the strengths and weaknesses of existing process in capital budgeting.  To measure the profitability of the project by considering all cash flows.  To make recommendations and to improve further process of capital budgeting.

LIMITATIONS OF THE STUDY

 The time period of study has been limited to less than 45 days, this period is small to study the practical investment decision of a company like LOKESH MACHINES LIMITED..  It does not consider all the new unapproved schemes.  As it is considered only a part of the estimated budget which is a great limitation to give suggestion under the heading of capital rationing.

METHODOLOGY The data is collected from LOKESH MACHINES LIMITED, Hyderabad unit with the help of:  Primary data  Secondary data

Primary data: The primary data is:  Interaction with planning and development  Interaction with finance department

Secondary data: The secondary data is:  It is obtained from capital budget manuals of LOKESH MACHINES LIMITED  Accounting manuals of LOKESH MACHINES LIMITED  The product profile  Website of the LOKESH MACHINES LIMITED.

The lokesh machines limited is one of Indias leading manufacturers of machine tools and automotive components, has bagged an export order worth Rs.200 million from a Germanybased company. Lokesh Machines Ltd. was incorporated as a public limited company on December 17, 1983 in Hyderabad under the Companies Act, 1956 and obtained certificate for commencement of business on February 9, 1984. The company was promoted by Mr. M Lokeswara Rao, who started this company after gaining significant insights into the nuances of machine and machine tool manufacturing during his stint of over 16 years as a shop-floor executive of HMT Ltd. They operate in the machine tool industry. They have strong backing of promoters with over three decades of experience in the machine tool industry. Their professional team is richly experienced in design, development, and production, supply of machine tools, jigs, fixtures and accessories needed for precision engineering. This highly charged teams commitment has won them various clients, their satisfaction with lml service is very obvious; it had over 60 percent of business coming from repeat customers. Its well knit service setup has trained Engineers and Craftsmen, who give best of the results with the help of state-of-the-art manufacturing facilities. Its strong equity partners make its efforts possible. And that makes them financially stable LML achieved a significant breakthrough by winning a prestigious turnkey order from M/s John Deere, Pune for their green field tractor project for supply of total manufacturing line for cylinder blocks, against stiff competition. LML has also bagged a prestigious export order from M/s FPT Industries Spa of Italy, for supply of milling and boring machines and successfully supplied over 35 machines and made its presence in the European markets. This order was a stepping-stone for the company in fulfilling its strategic initiative of becoming an exporter of machine tool products from India. Recently LML has also supplied about eight machines to Honda Motor cycles and scooters, Japan for their Indian requirement. LML had developed machines and supplied to HOWA, Japan under a long term contract and to Italy and the turnover from exports during the year 2004-05 was Rs.598 lakhs.

The company also entered the auto component segment by setting up dedicated lines of machines for manufacture and supply of cylinder blocks for Mahindra & Mahindra Limited (M&M) for their tractor, jeep and Scorpio divisions. The Rs.200-crore Lokesh Machines has among its customers some of Indias automobile biggies like Ashok Leyland, Mahindra and Mahindra, and Honda Motors. Technical partners of the company:
y y y y

SCMS, Japan AVM Angelini- Italy. Wenig Wemas, Germany IMT Intermato, Italy M/s Wenig, has rich experience in designing machines, fixtures and offering tooled up solutions and has successfully installed tooled up machines in aerospace industries like Airbus and Fokker and many automotive Industries. They are also a leading machine tool distributor in Germany, is associated with machine tool distributors in the Netherlands, Portugal, Poland and other East European countries.. This association would pave way for greater inroads into the European markets for Lokesh Machines products. The company is already exporting machines to Italy and Turkey.

Product range of the company includes:

Special Purpose machine

y y y y y y y

Duplex Milling Simplex Milling Multi Spindle Drilling Multi Spindle Tapping Gun Drilling Fine Boring Broaching & more

Transfer Line
y y y y

Linear Transfer Lines Shuttle Type Transfer Lines Auto Transfer Lines Rotary Transfer Lines

Auto Component- The Company specializes in supply of machine tools and accessories

Researches and Developments

Research provides the much-needed inspiration for the birth of new ideas, which in turn breathes new life into products. World-class machine tool research and development are key factors that contribute to the leadership of the Company. LML has created in house R&D division for development of CNC Lathes, CNC Machining Centers, Special Purpose Machines and Auto components and are successful in inventing new methods / operations etc.

The recently developed machines in our in-house R&D division has been sent for display in international Exhibition EMO Hannover 2005, Germany. Main Objectives of the R & D. Programme. a) Development of High Speed CNC Horizontal Machining Centers b) Development of High Speed CNC Vertical Machining Centers c) Development of Auto Components.

Designing and Developing (CAD CENTRE): The CAD centre is equipped with 6 CAD stations and the latest software. CAD designing involves development of machine specifications for design acceptability and feasibility of manufacture Milestones:
y y

1983-84 - Incorporation of the company- Certificate of Commencement of Business 1988-89 - Entry into auto market, order received from Bajaj Auto.- company achieves landmark of Rs. 1 crore turnover.

1994-95 - Turnover exceeds Rs. 5 crores for the first time- formation of auto component division.

1995-96 - Contract signed with Mahindra & Mahindra for machining cylinder blocks(1st line)- Bagged orders from Ashok Leyland and Escorts for SPMs- Investment in the shares of the company by Gujarat Venture Finance Ltd.

y y

1996-97 - Crossed landmark of Rs. 10 crore turnover. 1997-98 - Formation of CNC Division.- Bagged orders for CNC Lathes from Bharat Forge

1998-99 - Formation of countrywide Dealer Network for CNC Division- Turnkey Contract signed with L & T John Deere Ltd. for total cylinder block semi automatic line supply

1999-2000 - Crossed the landmark of Rs. 20 crores turnover- Bagged and executed the first export order

2000-01 - Signed contract for machining 2nd and 3rd machining line for Mahindra &Mahindra Cylinder Blocks

2002-03 - Best Exporter Award from Dr Sir M Visveswaraaiah Industrial Awards in the year 2001

2003-04 - Japanese Auto major Honda Motors placed order with the company for supply of CNC machines to its Indian company.- Tie up with Howa Machine Corporation Japan for manufacture of High Speed Vertical Machining Centre for re-export.- Rs. 50 crore turnover achieved.- Certification for ISO 9001-2000 received for Machine Tool Division and QS - 9000 for Auto Components Division

2004-05 Export of 2 machines to AVM Angelini, Italy- Doubled capacity for supply of cylinder blocks to Mahindra & Mahindra.- Export orders bagged for 25 machines valued at 375,000 Euro

2005-06 - Bagged confirmed export orders for 42 machines valued at 630,000 EuroContract finalized with M/s Wenig-Wemas for export of lathes and VMCs to EuropeRecommendation obtained for TS-16949:2002 certification for quality management system for machining of automotive components.

The Machine tools industry forms the fulcrum for competitiveness of the entire manufacturing sector. This is because of the fact that machine tools produce capital goods, which in turn produce the manufactured products. Hence being an integral sector, the growth of the machine tools industry has an immense bearing on the entire manufacturing industry in general, and albeit indirectly, on strategic sectors like defence, railways, aviation and space, and atomic energy in particular. Indian manufacturing is at the crossroads today. In the last decade (1998-2008), the sector was one of the best performing manufacturing economies across the globe. Yet, its contribution to overall GDP was one of the lowest across major rapidly developing economies (RDEs), signalling strong potential for faster growth. According to the Indian Machine Tool Manufacturers' Association (IMTMA), the Indian machine tool industry now ranks 19th in world production and can manufacture the whole range of machine tools, especially the computer numerically controlled (CNC) machines. The industry has good design strength and all its current products are the result of its own design and development efforts over the last two decades. Nevertheless, the industry suffers from the lack of a strong R&D programme, which is required to propel it to develop machine tools of the latest technology to compete with the best in the world. The absence of strong R&D has resulted in the industry losing nearly 70 per cent of the domestic market for machine tools to foreign manufacturers. What should be the roadmap for India's machine tools sector? Coming after a long period of stagnation in the 1990s, the next decade's performance will be crucial to achieving India's overall growth aspirations and employment generation. The outlook for the industry is optimistic and it can expect a continued growth in demand. China and Taiwan have been the best performers in recent times. India should aspire to reach that level and target a growth of about 11 per cent per annum (versus 6.8 per cent for FY1999-

2009), which will make the country the fourth largest manufacturing economy in the world by 2025 from its current ranking of 13th, according to IMTMA and UNIDO. Despite good design and manufacturing competence, the product range and technology levels in India have a substantial gap in comparison with the developed world. Measures to bridge these gaps need to be taken urgently to remedy this situation urgently. Industry Trends It can be seen that the industry has passed through a recessionary period around the year 2000, but recorded high growth in its output after 2003.
y

This is due to the rapid growth of the automobile sector in India and the emergence of a strong auto components industry, which has been the mainstay of the sector in recent years.

The downturn of 2008 and 2009 affected the industry badly but the industry is on a recovery path in 2010-11 thanks to the upswing in the global auto industry.

The graph also brings out the steep increase in imports to meet the large demand from users in recent years, resulting in a fall in market share for the Indian machine tool industry.

It is this trend that needs to be addressed by the industry by developing new technologies and products to meet the anticipated requirements of the user industries in the future.

Imports Perhaps the most important development in the last decade is the rapid increase in the import of machine tools. This is the result of the rapid expansion of the automobile industry and the investments that have taken place in components manufacture. The Indian machine tools industry has lost domestic market share in the last decade, from around 70 per cent in the year 2000 to around 30 per cent in 2010. Imports have been strong in certain product lines such as grinding, gear cutting, metal forming and large machines where the Indian machine tools industry is weak, according to IMTMA. There has also been import in product

lines like CNC turning centres and machining centres where the domestic manufacturers have limited capacity to meet the sudden surge in demand. Exports As can be seen from the data presented, exports of machine tools from India are not significant. This is due to the large domestic market, which absorbs almost the entire production. Of late, some Indian machine tool manufacturers with niche technology/ products (EDMs, grinding machines, CNC turning centres, automats, etc), have entered the export markets by setting up subsidiaries and marketing offices in Europe, China, etc. Another encouraging trend is that Indian machine tool manufacturers have even acquired machine tool companies in France, Canada and other countries. The strategy is to complement their products and extend market reach both in India and abroad. These efforts appear to be successful, but need to be seen whether they are sustainable over the long term. Achieving these aspirations will not be easy. It will require coordinated efforts to develop necessary enabling infrastructure, capture new avenues for growth and higher labour and capital productivity and shift India's manufacturing competitiveness to the next level. Of late there has been a perceptible change in the image of the "Made in India" brand in overseas markets, which is particularly true for Indian-built machine tools. Enhanced features, competitive pricing and marketing focus has increased demand for India-made machine tools in overseas markets, particularly in Europe, United States, and the East-Asian region. This is what Indian machine tools manufacturers are hoping to leverage upon, and are optimistic of posting a much larger export turnover in the next few years. India-made machine tools are currently exported to over 50 countries; the major importers being the United States, Italy, Germany, and countries from the SAARC region and the Middle East. Lathes and automats, electric-discharge machines, drilling machines and machining centres formed the bulk of export orders for Indian manufacturers. These machines from India are

generally favoured in overseas markets primarily due to their cost competitiveness, as compared to those available elsewhere, the Indian machine tools industry manufactures almost the complete range of metal-cutting and metal-forming machine tools. Customized in nature, the products from the Indian basket comprise conventional machine tools as well as CNC machines. In keeping with the current trends, and emerging demand, the CNC segment could be the driver of growth for the machine tools industry in India. Impact on SMEs The introduction of WTO regime has necessitated extensive changes in the approach of the Indian machine tools industry to further its development. As a result, the Indian machine tools industry has been affected in some of its operations. SMEs now have to develop their own products and cannot depend on 'Reverse Engineering.' Also it is essential that they conform to international standards, especially environment protection measures. A permanent monitoring mechanism is to be created, may be within the Secretariat of IMTMA, to analyze the impact of the above-mentioned provisions of WTO on a regular basis and results circulated among all member companies. The government has also come up with a policy for the development of the machine tools industry. Quantitative Restrictions (QRs) were removed from the machine tools business well ahead of any other product group. By 1992, all remaining physical barriers to import machine tools were eliminated. The duty on machine tools has been consistently reduced from 110 per cent to 20 per cent and is expected to be reduced further. The industrial policy for investment and technology upgrading has been generally liberalised since 1991. The major components of the industrial policy include a de-licensed environment, so that the industry is completely free from any controls. Anyone (even a foreign company) can set up a plant anywhere (outside urban limits) with 100 per cent equity and managerial control without having to obtain permission for it.

Other aspects include: Export related incentives Institutional backup Introduction of VAT, and Patent Regulations - A comprehensive bill 'The Indian Patents Act' has been promulgated fully conforming with requirements under TRIPS of WTO.

Around 750-800 companies produce machine tools, parts, accessories and sub-systems in India. Of these, around 400 produce complete machine tools of all types and sizes; 25 are large industries and the rest are SMEs (IMTMA). Geographically, important machine tool producing centres are Bangalore and Chennai in south India, Pune, Rajkot, Jamnagar and Surendranagar in western India and Batala, Jalandhar, Ludhiana and Faridabad in north India. Around 50 per cent of the total machine tools industry output comes from Bangalore and surrounding areas where many large companies such as HMT, the Ace Group, BFW and several MNCs and SMEs in the sector are situated. In the global scenario, Asia accounted for 37-38 per cent of world production in 1994 and 1995, with China, Singapore, Hong Kong, Malaysia, South Korea, Taiwan and Thailand dominating. A crucial element in the high growth economies of Asia and the Pacific region is the issue of price sensitiveness. This will force a shift of machine tools production from high cost areas to the more competitively priced Asia and the Pacific region. The Indian machine tools industry is way behind the global majors in production, improving its ranking from 22nd in 2002 to 21st in 2003 and 19th currently. This is the golden chance for the Indian machine tool industry. An analysis of the sector shows that many aspects perceived as weaknesses have been successfully turned around. For instance, skilled manpower, a technical base in diverse fields, availability of basic raw materials, the wide range of products at industry level, and a rising class of technical entrepreneurs are all pushing India up the global ladder.

The bonanza for solving the sector's problems is huge. Opportunities include winning markets, creation of a low cost manufacturing base, which in turn will enable strategic alliances, better systems to compete against China and a large and growing domestic market in areas such as consumer durables, automotive components and accessories, castings/forgings, etc. A simple strategy of motivating the Indian SMEs to meet the emerging challenges of competition has been pursued. The industry associations and the government institutions have helped the industry in understanding the potential both in the domestic and overseas market. The structured approach consists of: Identification of the potential weaknesses in product, features, quality, etc Development of an action plan for addressing the weaknesses Exposure of the industry for updating the knowledge and information to correct the weaknesses through adoption of improved designs, improved manufacturing practices, etc Development of market linkages particularly in Europe for expanding the market base Training in key areas to facilitate industry in reducing production cost Identification of product range and the related target market, and Concurrent focus on domestic and export markets. Foreign Direct Investment (FDI) This is the most preferred option for development of the machine tools industry in India. However, due to limitation of production and longer gestation period associated with machine tools industry, not many cases of FDI from overseas companies into the machine tools sector in India have been seen. There is a potential for investment of US$ 100 million for production of machine tools and machine tool components, considering the existing capabilities and skills available in India. The impact of policy and programme interventions, coupled with initiatives of the industry in the globalization era, has helped the industry in achieving the following:

 A 25 per cent increase in production of machine tools A 101 per cent increase in export of target group of machine tools 142 per cent increase in turnover of CNC machine tools - 1235 to 3000 units Generation of large export orders in domestic exhibitions, (viz., NMTS, Toltec, Imtex, etc) 50 per cent increase in production of components and accessories Adoption of faster machining and higher metal removal rates, and Up gradation of 45 units for demonstrative effect in Rajkot, Ludhiana, Batala and Bangalore with enhanced visibility of the 'Made in India' brand and introduction of machines with linear motors. According to the UNIDO, the recent trends in the Indian machine tool industry indicate: y The average growth in 2004-2005 over 2003-2004 was an amazing 47 per cent, and Units have outperformed the market growth achieving 30-35 per cent from 2005-2006 to 2009-2010. y Sizeable orders received by Indian companies at machine tool exhibitions in Italy and Germany in the last couple of years have provided a much needed impetus for tapping the export potential. The machine tools industry is now making huge investments to expand its production base for meeting the growing domestic and overseas markets. A growth of over 30 per cent is expected during the next 5 years. The achievements in the past few years only need to be improved further to tap the growing market and meet the higher expectations of the users. y Thus, the future outlook for the industry is optimistic and the machine tool industry can expect a continued growth in demand. An aggregate demand of Rs 60,000 to Rs 70,000 crore is anticipated over the next five years. If the industry can overcome its constraints in technology and products to meet the high-end requirements and reach a market share of at least 50 per cent, the future of the industry can indeed be bright.

y OVERVIEW OF CAPITAL BUDGETING

y

EVALUTAION OF TECHNIQUES

OVERVIEW OF CAPITAL BUDGETING

Capital expenditure management or capital budgeting is concerned with planning and control of capital expenditure. Capital budgeting is defined as the acquisition of durable productive facilities in the expectations of future gains. It consists of physical capital like plant & machinery, building other machinery. Capital budgeting is the planning of expenditure their return will be available beyond one-year time interval. It is the commit its resources to a project or not whose benefits are spread over several time period. It involves the benefits and these benefits are spread over several time periods. It involves the current outlay of cash in return for an anticipated flow of future benefits and these benefits are available in the g run. Therefore, capital budgeting refers to a long range capital investment programmes and is translated in to annual budget outlay and may relate to National Five Year Plans. It is evident from the above that the capital budgeting is decision making of the organization to invest its current finances most efficiency in long-term productive activities with expectations of flow of future benefits of a long period. The crux of the capital budgeting is the allocation of available resources of the organization to the various investment proposals, as the demand on resources is almost always higher than the availability of resources. Given the importance of capital budgeting, the decision regarding investment, management faces the challenging task of allocating the limited available resources in a manner that would maximize the profits or the objectives of the organization.

Financial management, in the modern sense of the term can be broken down in to four decisions as function of finance, they are:1. The investment or long- term asset mix decision. 2. Financing or capital mix decision. 3. Dividend or profit allocation 4. Liquidity or short- term asset- mix decision.

INVESTMENT DECISION: It is broadly consigned with investment project of assets. The main idea is maximization of owners wealth. Decision is taken to maximize of equity shareholders. Investing the funds in a proper way helps in a additional revenues and reducing costs.

FINANCIAL DECISION:The major second decision of the firm is the financing decision. This is mainly concerned with mobilization of funds. Here, the financial manger is concerned with determining the best financing mix or capital structure for his firm. The management will decide how much funds should be raised from outside public and financial institutions. SOURCES OF FINANCE:The following are different types of financing sources. 1. Equity Share Capital 2. Preference Share Capital. 3. Debenture capital. 4. Long Term Loans from Financial Institutions. 5. Public Deposits. 6. Reserves and surplus.

DIVIDEND DECISION: Dividend refers to that portion of a firms net earnings, which are paid out to the shareholders. Dividend decision has got two alternatives, one is declaring immediately and issuing in the form of cash/bonus shares to the shareholders, or retailing them with the firm for further investment proposals. Dividend decision will have impact on value of the firm and its objective is to maximize the shareholders wealth.

LIQUIDITY DECISION

The function of financial management to review and control decision to commit funds to new or ongoing uses thus, in addition to raising funds, financial management is directly concerned with production, marketing and other functions, within an enterprise whenever decision are made about the acquisition or distribution of assets.

EVALUTAION OF TECHINQUIES

PAYBACK PERIOD METHOD: The pay back sometimes called as payout or pay off period method represents the period in which total investment in permanent assets pay back it. This method is based on the principle that every capital expenditure pays itself back within a certain period out of the additional earning generated from capital assets.

Initial cash inflows / original cost of asset Payback period = --------------------------------------------------------------Annual cash inflows

Decision Rule  A project is accepted if its payback period is less than the period specific decision rule.  A project is accepted if its payback period is less than the period specified by the management and vice-versa.

ADVANTAGE S OF PAY BACK PERIOD: 1. Simple to understand and easy to calculate. 2. It saves in cost; it requires lesser time and labor as compared to other methods capital budgeting. 3. In this method, as a project with a shorter payback period is preferred to the one having a longer pay back period, it reduces the loss through obsolescence. 4. Due to its short-term approach, this method is particularly suited to a firm which has shortage of cash or whose liquidity position is not good.

DISADVANTAGES OF PAYBACK PERIOD:

1. It does not take into account the cash inflows earned after the payback period and hence the true profitability of the project cannot be correctly assessed. 2. This method ignores the time value of the money and does not consider the magnitude and timing of cash inflows. 3. It does not take into account the cost of capital, which is very important in making sound investment decisions. 4. It is difficult to determine the minimum acceptable payback period, which is subjective decision 5. It treats each asset individually in isolation with other assets, which is not feasible in real practice

AVERAGE RATE OF RETURN: -

This method takes into account the earnings from the investment over the whole life. It is known as average rate of return method because under this method the concept of accounting profit (NP after tax and depreciation) is used rather than cash inflows. According to this method, various projects are ranked in order of the rate of earnings or rate of return. The project with the higher rate of is selected as compared to the one with lower rate of return. This method is also can be used for accepting or rejecting a proposals. Under this method average profit after tax and depreciation is calculated and then it is divided by the total capital outlay or total investment in the project. In other words establishes the relationship between average annual profits to total investment.

Annual average profit after tax A.R.R = ----------------------------------------------------Annual average investment

DECISION RULE:  The project with higher rate of return is selected and vice-versa.  The return on investment method can be used in several ways, as

ADVANTAGES OF AVERAGE RATE OF RETURN:

1. It is very simple to understand and easy to calculate. 2. It uses the entire earnings of a project in calculating rate of return and hence gives a true view of profitability. 3. As this method is based upon accounting profit, it can be readily calculated from the financial data.

DISADVANTAGES OF AVERAGE RATE OF RETURN:

1. It ignores the time value of money. 2. It does not take in to account the cash flows, which are more important than the accounting profits. 3. It ignores the period in which the profits are earned as a 20% rate of return in 2- year is considered to be better than 18% rate if return in 12 years. 4. This method cannot be applied to a situation where investment in project is to be made in parts.

NET PRESENT VALUE METHOD:

The NPV method is a modern method of evaluating investment proposals. This method takes in to consideration the time value of money and attempts to calculate the return on investment by introducing time element. The net present values of all inflows and outflows of cash during the entire life of the project is determined separately for each year by discounting these flows with firms cost of capital or predetermined rate. The steps in this method are :     Determine an appropriate rate of interest known as cut off rate. Compute the present value of cash outflows at the above-determined discount rate. Compute the present value of cash inflows at the predetermined rate. Calculate the NPV of the project by subtracting the present value of cash outflows from present value of cash inflows. If the net present value is positive or zero i.e., when present value of cash inflows either exceeds or is equal to the present values of cash outflows, the proposal should be rejected. NPV = PVCFAT - C

@ PVCFAT = Present Value of Cash Inflows After Tax @ C = Initial Investment

DECISION RULE: Accept the project if the NPV of the project is 0 or +ve that is present value of cash inflows should be equal to or greater than the present value of cash outflows.

ADVANTAGES OF NET PRESENT VALUES :  It recognizes the time of money and is suitable to apply in a situation with uniform cash outflows and uneven cash inflows.  It takes in to account the earrings over the entire life of the project and gives the true view of the profitability of the investment.  Takes in to consideration the objective of maximum profitability.

DISADVANTAGES OF NET PRESENT VALUES :  More difficult to understand and operate.  It may not give good result while comparing project with unequal investment of funds.  It is not easy to determine an appropriate discount rate.

INTERNAL RATE OF RETURN :

The internal rate of return method is also a modern technique of capital budgeting that takes in to account the time value of money. It is also known as time-adjusted rate of return or trial and error yield method. Under this method the cash flows of a project are discounted at a suitable rate by hit and trial method, which equates the net present values so calculated to the amount of the investment. The internal rate of return can be defined as that rate of discount at which the present value of cash inflows is equal to the present value of cash outflows.

DETERMINANTION OF IRR

 When annual cash flows are equal over the life of the asset.

PV @ L R C O F IRR = LR + ----------------------------------- * Rate difference PV @LR PV @HR

 When the annual cash flows are unequal over the life of the asset:

The steps are involved here are..

 Prepare the cash flow table using assumed discount rate to discount plows to the present value.  Find out the NPV, &if the NPV is positive, apply higher rate of discount.  If the higher discount rate still gives a positive NPV, increase the rate further. Until the NPV becomes zero.  If the NPV is negative at a higher rate, NPV lies between these two rates.

the net cash

discount

ADVANTAGES OF IRR: 1. It takes into account, time value of money and can be applied in situation with even and even cash flows. 2. It considers the profitability of the projects for its entire economic life. 3. The determination of cost of capital is not a pre-requisite for the use of this method. 4. It provides for uniform ranking of various proposals due to the percentages rate of return. 5. This method is also compatible with the objectives of maximum profitability.

DISADVANTAGES OF IRR: 1. It is difficult to understand and operate. 2. The result of NPV and IRR methods may differ when the projects under evaluation differ in their size, life and timing of cash flows. 3. This method is based on the assumption that the earnings are reinvested at the IRR for the remaining life of the project, which is not a justified assumption.

PROFITABLITY INDEX METHOD. It is also a time-adjusted method of evaluating the investment proposals. Profitability index also called benefit cost ratio or desirability factor is the relationship between present value of cash inflows and the present values of cash outflows. Thus

PVCFAT Profitability Index = -------------------C ADVANTAGES OF PI: 1. Unlike net present value, the profitability index method is used to rank the projects when the costs of the projects differ significantly. 2. It recognizes the time value of money and is suitable to applied in a situation with uniform cash outflows and uneven cash inflows. 3. It takes into an account the earnings over the entire life of the project and gives the true view of the profitability of the investment 4. Takes into consideration the objectives of maximum profitability. 5. Takes into consideration the objective of maximum profitability

DISADVANTAGES OF PI: 1. More difficult to understand and operate. 2. It may not give good results while comparing projects with unequal investment funds. 3. It is not easy to determine and appropriate discount rate.

Data Analysis & Interpretation

STATEMENT SHOWING CALCULATION OF PAY BACK PERIOD YEARS PAT DEP CFAT CUMMULATIVE CASH FLOW 1 2 3 4 5 TOTAL 2900 2900 2900 2900 2900 600 600 600 600 600 3000 3500 3500 3500 3500 3500 17500 3500 7000 10500 14000 17500

REQUIRED CFAT PBP = BASE YEAR + ------------------------NEXT YEAR CFAT 500 = 1+ --------3500 = 1+0.14

= 1.14 years

18000 16000 14000

1

12000
2

10000
3

8000
4

6000
5

4000
Total

2000 0 PAT Dep CFAT CCFAT

INTERPRETATION: From the point of payback period the project can be accepted because to get the initial investment of 3000lakhs, it is taking a time of 1.14 years.

STATEMEMT SHOWING CALCULATION OF ARR

YEARS

PAT

DEP

CFAT

CUMMULATIVE CFAT

1 2 3 4 5 TOTAL

2900 2900 2900 2900 2900 14500

600 600 600 600 600 3000

3500 3500 3500 3500 3500 17500

3500 7000 10500 14000 17500 52500

Total PAT Average PAT =

14500

------------------ = -------------- = 2900 No. of years 5

Investment Average investment =

3000

----------------- = ------- = 1500 2 2

Annual average profit after tax ARR = ---------------------------------------------------Annual average Investment

2900 = --------- = 2 1500

60000

50000
1

40000
2

30000

3 4

20000
5

10000

Total

0 PAT Dep CFAT CCFAT

INTERPRETATION: From the point of ARR method project should be accepted, as its ARR is higher than the required rate of return.

STATEMENT SHOWING CALCULATIONS OF NPV

YEAR

PAT

DEP

CFAT

NPV @10%

PV CFAT 3500 3181 2891 2628 2391 2173 16764

0 1 2 3 4 5 TOTAL

2900 2900 2900 2900 2900 2900 14500

600 600 600 600 600 600 3000

3500 3500 3500 3500 3500 3500 17500

1.000 0.909 0.826 0.751 0.683 0.621

NPV = PVCFAT C

@ PVCFAT = Present value of cash inflows after tax

C = Initial Investment

NPV = 16764 3000

@ NPV = 13764

18000 16000 14000 12000 10000 8000 6000 4000 2000 0 PAT CFAT PVCFAT
0 1 2 3 4 5 Total

INTERPRETATION: As NPV is positive, the project is accepted.

STATEMENT SHOWING CALCULATION OF PROFITABILITY INDEX YEAR PAT DEP CFAT NPV @10% 0 1 2 3 4 5 TOTAL 2900 2900 2900 2900 2900 2900 14500 600 600 600 600 600 600 3000 3500 3500 3500 3500 3500 3500 17500 1.000 0.909 0.826 0.751 0.683 0.621 PV CFAT 3500 3181 2891 2628 2391 2173 16764

PVCFAT Profitability index = --------------C

16764 = ----------------3000

@ PI

= 5.58

18000 16000 14000 12000 10000 8000 6000 4000 5 2000 TOTAL 0 PAT DEP CFAT NPV @10% PV CFAT 0 1 2 3 4

STATEMENT SHOWING CALCULATION OF PROFITABILITY INDEX Calculation of IRR @ of 10% & 11% YEAR PAT DEP CFAT NPV @10% 0 1 2 3 4 5 TOTAL 2900 2900 2900 2900 2900 14500 600 600 600 600 600 3000 3500 3500 3500 3500 3500 17500 1.000 0.909 0.826 0.751 0.683 0.621 3181 2891 2628 2391 2173 13264 PV CFAT NPV @11% 1.000 0.900 0.812 0.731 0.659 0.593 3150 2842 2558 2306 2076 12932 PVCFAT

PV @ LR - C IRR = LR + ----------------------------------- * Rate difference PV @ LR - PV @ HR

@ PV @ LR = Present value at lower rate

@ C = Initial Investment

@ PV @ HR = Present value at higher rate

13264 - 3000 IRR = 10 + ----------------------------------- * 1 13264 12932

10264 = 10 + ----------- * 1 332 @ IRR = 40.92

18000 16000 14000 12000 10000 8000 6000 4000 2000 0 PAT CFAT PVCFAT PVFCAT

0 1 2 3 4 5 Total

FINDINGS & CONCLUSIONS & SUGGESTIONS

FINDINGS & CONCLUSIONS  While preparing project financing Lokesh Machines Limited considers social benefits of the state  The project life is expected to be 10 years, due to this the gestation period is very high  The major portion of finance is done through secured loans.  Due to some restrictions the secured data as not presented by officials but the information is given by them is satisfactory.  The progress of LML shows that there was a increasing trend in Reserves & Surplus.  The Capital position of the company in the years 2004-2005, 2005-2006, 2006-2007 is being constant and it has been increased during the years 2007-2008, 2008-2009, 20092010.

SUGGESTIONS

The following are the suggestions made based on the project study for further course of research.

 The Administrations of lml should be decentralized with reference to HR management.  The marketing management should take the report strategy for Economic growth of the company.  The subscribed cost in future should be reduced.  The risk is associated with the project, since the generation period is high.

BIBLIOGRAPHY

BIBLIOGRAPHY BOOKS: FINANCIAL MANAGEMENT by MY Khan and PK Jain FINANCIAL MANAGEMENT and POLICY by Srivastava FINANCIAL MANAGEMENT by Berk

WEBSITES :

WWW.LOKESHMACHINESLIMITED.COM WWW.IMTMA.COM WWW.GOOGLE.COM WWW.CAPITALBUDGETING.COM WWW.MONEYCONTROL.COM