CASE STUDY ON OPERATING ECONOMICS

M/S XYZ FORGINGS LTD.

XYZ Forgings Ltd. is a proposed unit for the manufacture of various types of forgings.
1.Estimated Sales

Three kinds of forgings are to be manufactured viz. Rough forgings, heat treated forgings and
machined forgings. The total estimated sales of these forgings is expected to rose from a level of
1000 MT per year in the first year to 2000 MT per year in the third year.

2 The type – wise breakups of sales in (MT) is expected to be as:

I YEAR II YEAR III YEAR
Rough Forgings 300 400 500
Heat Treated Forgings 500 800 1000
Machined Forgings 200 300 500
Total 1000 1500 2000

3. Selling price:
The sales price per MT of the different types of forgings would be Rs. 30,000/- per MT
for rough forgings, Rs. 35,000/- per MT for heat- treated forgings and Rs.40,000/-per
MT for machined forgings. On the sales at this price a discount/ commission of 5% is to
be paid to dealers.

4. Physical Requirements:
A. Plant for the expected sales turn over is expected to require investment in various
assets as indicated below:
1. Land of total area of about one acre costing Rest. 3,00,000/-
2. Building for Factory and Office:
The factory building of area 100’ x 40’ is to be constructed and the cost of
construction is estimated to be Rs. 150/- per sq. ft. Office building of area 40’
x 20’ would have to be constructed @ Rs. 400/- per sq. ft. Additional
structures to be made will cost another Rs.2,50,000.
3. i) Machinery for processing costing Rs.25.50 lacs inclusive of pre- furnace
costing Rs.2.50 lacs and Heat Treatment Furnace costing Rs.10 lacs.
ii) Workshop equipment costing Rs.10 lacs.
iii) Inspection and Testing equipment etc. Rs. 5 lacs
iv) In addition to the above an investment of Rs 1 lac is to be invested for
miscellaneous assets like furniture, fittings, office equipments etc.

5. Operational Requirements:

Process : The stages in manufacturing of different types of forgings is outlined

below:
a) Rough forgings – Heating in pre-furnace, forging in forge shop, heat
treatment in the heat treatment furnace.
b) Heat treated forgings – Heating in pre-furnace, forging in forge shop,
heat treatment in the heat treatment furnace.
c) Machined forgings – Heating in pre-furnace, forging in the in the
forge shop, machining in the machine shop.
 Raw Materials:
Raw materials used are Carbon Steel and Mild Steel. Mild steel used in
Rough and machined forging costs Rs.16,000 per MT and carbon steel
used in Heat treated forgings cost Rs. 20,000 per MT. To allow for
waste, rejections etc. 1.10 MT of raw materials per MT of finished
products.

Consumables:
a) Furnace Oil – This is used in the furnaces. In pre-furnace, 1000 litres
of furnace oil are required for every 5 MT of products processed. In
the Heat treatment furnace, 1000 litres of furnace oil are required for
every 10 MT of product processed. Furnace oil is bought at a rate of
Rs.10 per litre.
b) Coal- Coal is required for boiler which provides steam for the
hammers in the forge shop. The annual consumption of coal is
expected to be 1250 MT per annum and is bought at Rs.2,000/- per
MT.
c) In addition, machinery spares and lubricating oil etc. would be
consumed , the annual cost of which are assumed as Rs.1,00,000.

Labour:
1. Most of the work is done through the employment of
contract labour.
2. Contract labour in the forge shop is to be paid Rs. 2,000/- per
MT of forged product.
3. In addition, contract labour is also hired for the heat
treatment shop and are paid Rs.1500/- per MT of heat treated
product for this part of work ( heat treatment )
4. Apart from contract labour, a fixed complement of workers
are required for the workshop. Wages to this complement
would amount Rs. 2.50 lacs per annum.

Other Expenses:

1. Other administrative expenses are estimated to be as follows:

Rs.
i) Office salaries 5,00,000
ii) Postage, stationery, printing etc. 50,000
iii) Conveyance, freight etc. 1,50,000
iv) Miscellaneous Expenses 40,000
Total 7,40,000
2. In addition, repairs and maintenance costs are estimates to be 2% of value of
plant & machinery.
3. Depreciation will have to be charged at 5% on building, 20% on furnace, 10%
on other plant & machinery ( except furnaces ) and 10% on other
miscellaneous assets.
4. Stocks and Bills
It is considered necessary to carry average stock of raw materials, furnace oil
and coal for 2 months, finished goods for 2 weeks,. Bills are expected to be
cleared on the average after a period of 2 weeks.
 5. Bank’s Finance
Bank’s finance would be available towards both fixed assets and working
capital with interest at 18 % p.a.
6.The margins to be met from own source are as below:- %
a) Land & Building 33 1/3
b) Plant & Machinery 25
c) Miscellaneous assets 20
d) Raw materials, furnace oil & coal 25
e) Finished Goods 30
f) Bills 10
g) Expenses 100

Repayment of Term Loan

In 5 yearly instalments of Rs. 8 lacs each with a moratorium period of 2 years.

Based on the information given above:

(a) Compute the total project cost and the quantum of Bank finance available towards
meeting this.
(b) Prepare the statements of profitability, working capital requirements and Break
even analysis.