Download Project management Analysis and more Study notes International Finance and Trade in PDF only on Docsity!
Lesson 1
MEANING, NATURE AND IMPORTANCE OF PROJECT
STRUCTURE
1.0 Objective
1.1 Introduction
1.2 Concept of project and project management
1.3 Characteristics of project
1.4 Project Family tree
1.5 Classification of Project
1.6 Project selection process
1.7 Project life cycle
1.8 Project report
1.9 Project appraisal
1.10 Tools and techniques for project management
1.11 Project manager’s roles and responsibilities
1.12 Summary
1.13 Keywords
1.14 Self assessment questions
1.15 Suggested readings.
1.0 OBJECTIVE
After reading this lesson, you should be able to
a. Define the project and explain the nature and classification of project.
b. Understand the concepts of idea generation, project life cycle and project management.
1.1 INTRODUCTION
Projects have a major role to play in the economic development of a country. Since the introduction of planning in our economy, we have been investing large amount of money in projects related to industry, minerals, power, transportation, irrigation, education etc. with a view to improve the socio-economic conditions of the people. These projects are designed with the aim of efficient management, earning adequate return to provide for future development with their own resources. But
experience shows that there are several shortcomings in the ultimate success of achieving the objectives of the proposed project.
1.2 CONCEPT OF PROJECT AND PROJECT MANAGEMENT
The term project has a wider meaning. A project is accomplished by performing a set of activities. For example, construction of a house is a project. The construction of a house consists of many activities like digging of foundation pits, construction of foundation, construction of walls, construction of roof, fixing of doors and windows, fixing of sanitary fitting, wiring etc. Another aspect of project is the non-routine nature of activities. Each project is unique in the sense that the activities of a project are unique and non routine. A project consumes resources. The resources required for completing a project are men, material, money and time. Thus, we can define a project as an organized programme of pre determined group of activities that are non-routine in nature and that must be completed using the available resources within the given time limit.
Let us now consider some definitions of ‘project’. Newman et. al define that “a project typically has a distinct mission that it is designed to achieve and a clear termination point the achievement of the mission”.
Gillinger defines “project” as the whole complex of activities involved in using resources to gain benefits. Project management institute, USA defined project as “a system involving the co-ordination of a number of separate department entities throughout organization, in a way it must be completed with prescribed schedules and time constraints”.
According to the encyclopedia of management, “project is an organized unit dedicated to the
attainment of goal, the successful completion of a development project on time, within budget, in
conformance with predetermined programme specification.”
Though project management is in the process of getting evolved as a separate branch of study, projects are not new to the earth. One of the seven wonders of the world, the pyramids date back to 2650 B.C. which stand as the hall mark of Egyptian civilization. The period of construction of the Taj Mahal, another wonder of the world is reported to be during 1626-1648 A.D. It is reported that about 20, persons worked for nearly 22 years to complete this spectacular structure, which stands today as mankind’s proudest creation. One can imagine the extent of resources and expertise that would have been put forth for the completion of such magnificent projects.
Project management is an organised venture for managing projects, involves scientific application of modern tools and techniques in planning, financing, implementing, monitoring, controlling and coordinating unique activities or task produce desirable outputs in accordance with the determined objectives with in the constraints of time and cost.
1.3 CHARACTERISTICS OF PROJECT
- (^) Objectives : A project has a set of objectives or a mission. Once the objectives are achieved the project is treated as completed.
- Life cycle : A project has a life cycle. The life cycle consists of five stages i.e. conception stage, definition stage, planning & organising stage, implementation stage and commissioning stage.
- (^) Uniqueness : Every project is unique and no two projects are similar. Setting up a cement plant and construction of a highway are two different projects having unique features.
1.5 CLASSIFICATION OF PROJECTS
The location, type, technology, size, scope and speed are normally the factors which determine the effort needed in executing a project. Project can be classified under different heads, some of which are shown in figure 1.2.
TYPES OF PROJECTS
Fig. 1.2 Classification of Project 1.6 PROJECT SELECTION PROCESS
Identification of a new project is a complex problem. Project selection process starts with the generation of project ideas. In order to select the most promising project, the entrepreneur needs to generate a few ideas about the possible project one can undertake. The project ideas as a process of identification of a project begins with an analytical survey of the economy (also known as pre-investment surveys). The surveys and studies will give us ideas. The process of project selection consists of following stages :
- Idea generation
- Environment appraisal.
- Corporate appraisal F 0 B EF 0 2 0Scouting for project ideas.
- Preliminary screening.
- Project rating index
- Sources of positive Net Present Value.
- Entrepreneur qualities.
Idea Generation :- Project selection process starts with the generation of a project idea. Ideas are based on technological breakthroughs and most of the project ideas are variants of present products or services. To stimulate the flow of ideas, the following are helpful:
SWOT Analysis :- SWOT is an acronym for strengths, weaknesses, opportunities and threats. SWOT analysis represents conscious, deliberate and systematic effort by an organisation to identify opportunities that can be profitably exploited by it. Periodic SWOT analysis facilitates the generation of ideas.
Operational objectives of a firm may be one or more of the following.
- Cost reduction.
- (^) Productivity improvement.
- Increase in capacity utilisation.
- (^) Improvement in contribution margin.
Fostering a conducive climate :- To tap the creativity of people and to harness their entrepreneurial skills, a conducive organisation climate has to be fostered. Two conspicuous examples of organisation which have been exceptionally successful in tapping the creativity of employees are the Bell Telephone Laboratory and the 3M Corporation. While the former has succeeded in harnessing creativity by
NationalInternationa l
Non- Industrial
IndustrialNon- Convention al
HighConvention al Low
R&D
Technology
Technology Technology
MegaMajorMiniMediumGrassExpansionModification Replaceme nt
ersiDiv ficationNew Project
NormalCrashDisaster
providing an unconstrained environment, the latter has effectively nurtured the entrepreneurial skills of its employees as sources of idea generation. The project ideas can be generated from various internal and external sources. These are :-
- Knowledge of market, products, and services.
- Knowledge of potential customer choice.
- Emerging trends in demand for particular product.
- Scope for producing substitute product.
- Market survey & research.
- Going through Professional magazines.
- Making visits to trade and exhibitions.
- Government guidelines & policy.
- Ideas given by the experienced person.
- Ideas by own experience.
- SWOT analysis.
Environment appraisal :- An entrepreneur or a firm systematically appraise the environment and assess
its competitive abilities. For the purposes of monitoring, the business environment may be divided into
six broad sectors as shown in fig. no. 1.3. The key elements of the environment are as follow : Economic
Sector
- State of the economy
- Overall rate of growth
- Cyclical fluctuations
- Inflation rate
- Growth rate of primary, secondary and territory sector
- Growth rate of world economy
- Trade surplus and deficits
- Balance of Payment
Government Sector
- Industrial policy
- Government programmes and projects
- Tax structure
- EXIM policy
- Financing norms
- Subsidies incentives and concessions
- Monetary policy
- Marketing & distribution costs Production and Operations
- Condition and capacity of plant and machinery
- Availability of raw material and power
- Degree of vertical integration
- Locational advantage
- Cost structure Research and
Development
- Research capabilities of the firm
- Track record of new product developments
- Laboratories and testing facilities
- Coordination between research and operations Corporate
Resources and Personnel
- Corporate image
- Dynamism of top management
- Relation with government and regulatory agencies
- State of industry relations Finance and Accounting
- Financial leverage and borrowing capacity
- (^) Cost of capital
- Tax structure
- Relation with share holders and creditors
- Accounting & control system
- (^) Cash flow and liquidity
1.7 PROJECT LIFE CYCLE
A project is not a one shot activity. Even a shooting star has a time and life span. Project lifecycle is spread over a period of time. There is an unavoidable gestation period for the complex of activities involved to attain the objectives in view. This gestation period, however, varies from project to project but it is possible to describe, in general term, the time phasing of project planning activities common to most projects. The principal stages in the life of a project are :
- Identification
- Initial formulation
- Evaluation (selection or rejection)
- Final formulation (or selection)
- Implementation
- Completion and operation Development projects are expressly designed to solve the varied problems of the economics whether in the short or long run. The surveys or in depth studies would locate the problems and the project planner will have to identify the projects that would solve the problems most effectively. At this stage, we are concerned with the kind of action and type of project that would be required in rather broad term. In other words the surveys and studies will give us ideas and throw up suggestions which would be worked out in detail later and then evaluated objectively before being accepted for implementation.
What types of surveys and studies are to be undertaken? The current sociopolitical economic
situation has to be critically assessed. It will also be necessary to review it in its historical perspective
necessitating the undertaking of a survey of the behaviour and growth of the economy during the
preceding decades. On the basis of past trends, extrapolation may be made of future possible trends and
tendencies, short and long term. There are scientific techniques for doing so which can be broadly
grouped as forecasting methodology. It is however not sufficient to view the socio-economic panorama
on the historical canvas. More detailed investigations from an operational point of view would be called
for in respect of each economic sector.
Initial Formulation :- Identification is only the beginning in the lifecycle of a project. Having identified the prospective projects, the details of each project will have to be worked out and analysed in order to determine which of them could be reckoned as suitable for inclusion in the plan, allocate funds and put into execution. As a follow up to the finding of techno-economic surveys, and number of feasibility study group are set up, as the name implies to examine the possibility of formulating suitable projects and to put concrete proposals in sufficient detail to enable authorities concerned to consider the feasibility of the proposal submitted.
Evaluation or Project Appraisal :- After the socio-economic problems of an economy have been determined and developments objectives and strategies agreed, concrete steps have to be taken. The main form this takes is that of formulating appropriate development projects to achieve plan objectives and meet the development needs of the economy. Proposals relating to them are then put to the plan authorities for consideration and inclusion in the plan. These proposals as pointed out above take the following forms of feasibility studies :
- Commercial viability
- Economic feasibility
- Financial feasibility
- Technical feasibility
- Management The scope for scrutiny under each of these five heads would necessarily render their careful assessment and the examination of all possible alternative approaches.
The process almost invariably involves making decision relating to technology, scale, location, costs and benefits, time of completion (gestation period), degree of risk and uncertainty, financial viability, organisation and management, availability of inputs, know-how, labour etc. The detailed analysis is set down in what is called a feasibility report.
1.9 PROJECT APPRAISAL
Project appraisal means the assessment of a project. Project appraisal is made for both proposed and executed projects. In case of former project appraisal is called ex-ante analysis and in case of letter ‘post-ante analysis’. Here, project appraisal is related to a proposed project.
Project appraisal is a cost and benefits analysis of different aspects of proposed project with an objective to adjudge its viability. A project involves employment of scarce resources. An entrepreneur needs to appraise various alternative projects before allocating the scarce resources for the best project. Thus project appraisal helps select the best project among available alternative projects. For appraising a projects its economic, financial, technical market, managerial and social aspect are analysed. Financial institutions carry out project appraisal to assess its creditworthiness before extending finance to a project.
Method of Project Appraisal
Appraisal of a proposed project includes the following analyses :
- Economic analysis
- Financial analysis
- Market analysis
- Technical analysis
- Managerial competence
- Ecological analysis Economic Analysis :
Under economic analysis the aspects highlighted include
- Requirements for raw material
- Level of capacity utilization
- Anticipated sales
- Anticipated expenses
- (^) Proposed profits
- Estimated demand It is said that a business should have always a volume of profit clearly in view which will govern
other economic variable like sales, purchase, expenses and alike.
Financial Analysis
Finance is one of the most important prerequisites to establish an enterprise. It is finance only that facilitates an entrepreneur to bring together the labour, machines and raw materials to combine them to produce goods. In order to adjudge the financial viability of the project, the following aspects need to be carefully analysed :
- Cost of capital
- Means of finance
- Estimates of sales and production
- Cost of production
- Working capital requirement and its financing
- Estimates of working results
- Break-even point
- Projected cash flow
- Projected balance sheet. The activity level of an enterprise expressed as capacity utilization needs to be well spelled out. However the enterprise sometimes fails to achieve the targeted level of capacity due to various business vicissitudes like unforeseen shortage of raw material, unexpected disruption in power supply, instability to penetrate the market mechanism etc.
Market Analysis
Before the production actually starts, the entrepreneur needs to anticipate the possible market for the product. He has to anticipate who will be the possible customer for his product and where his product will be sold. This is because production has no value for the producer unless it is sold. In fact, the potential of the market constitutes the determinant of possible reward from entrepreneurial career.
Thus knowing the anticipated market for the product to be produced become an important element in business plan. The commonly used methods to estimate the demand for a product are as follows. :
1 Opinion polling method
In this method, the opinion of the ultimate users. This may be attempted with the help of either a
complete survey of all customers or by selecting a few consuming units out of the relevant population.
2. Life Cycle Segmentation Analysis
It is well established that like a man, every product has its own life span. In practice, a product sells slowly in the beginning. Barked by sales promotion strategies over period its sales pick up. In the due course of time the peak sale is reached. After that point the sales begins to decline. After sometime, the product loses its demand and dies. This is natural death of a product. Thus, every product passes through its life cycle. The product life cycle has been divided into the following five stage : Introduction, Growth, Maturity, Saturation and Decline.
The sales of the product varies from stage to stage as shown in figure No. 1.
There are several tools and techniques which would contribute significantly towards effective project management these can be broadly grouped under the following heads :
1. Project selection techniques
a. Cost benefit analysis and
b. Risk and sensitivity analysis
2. Project execution planning techniques
a. Work breakdown structure (WBS)
b. project execution plan (PEP)
c. Project responsibility matrix and
d. Project management manual
3. Project scheduling and coordinating techniques
a. (^) Bar charts
b. Life cycle curves
c. Line of balance (LOB) and
d. Networking techniques (PERT/CPM)
4. Project monitoring and progressing techniques
a. Progress measurement technique (PROMPT)
b. Performance monitoring technique (PERMIT) and
c. Updating, reviewing and reporting technique (URT)
5. Project cost and productivity control techniques
a. Productivity budgeting techniques
b. Value engineering (VE) and
c. COST/WBS
6. Project communication and clean-up techniques
a. Control room and
b. Computerised information systems
1.11 THE PROJECT MANAGER’S ROLES & RESPONSIBILITIES
As things stand today, non of the present generation project manager, including the very successful ones, come from any of our management schools. They were just given the job-some succeeded and others did not. Those who succeeded are not many, because only a handful of projects in India were ever completed on time, within budget and performed to expectations. While the failures of these projects had been analysed in many seminars and workshops, the role of project managers and their
development did not form the subject of any serious discussion. There could be two reasons for this: (a) Perhaps no one thinks that success or failure of a project depends on the project manager; and (b) It may also be that no one considers them as a special breed of managers. Surprisingly, even some of the practising project managers themselves subscribe to these views. The basic roles and responsibilities of a project manager that we are referring to could be grouped under twelve heads :
- Defining and maintaining the integrity of a project;
- Development of project execution plan;
- Organization for execution of the plan;
- Setting of targets and development of systems and procedures for accomplishment of project objectives and targets;
- Negotiation for commitments;
- Direction, coordination and control of project activities;
- Contract management;
- Non-human resource management including fiscal matters;
- Problem-solving;
- Man management;
- Satisfaction of customer, Government and the public; and
- Achievement of project objectives, cash surplus and higher productivity.
1.12 SUMMARY
A project is an organized programme of pre-determined group of activities
that are non-routine in nature and that must be completed using the available resources within the given time limit. Project management is an organized venture for managing projects. The location, type, technology, size, scope and speed are normally the factors which determine the effort needed in executing a project. Project can be classified under different heads. The project ideas as a process of identification of a project begins with an analytical survey of the economy. Project life cycle is spread over a period of time. Project report is a kind of course of action what the entrepreneur hopes to achieve in his business and how he is going to achieve it. Project appraisal is made for both proposed and executed projects. For appraising a project, its economic, financial, technical, market and social aspect are analysed. There are several tools and techniques which contribute significantly towards effective project management.
1.13 KEYWORDS
Project : Project is the whole complex of activities involved in using resources to gain benefits.
SWOT Analysis : SWOT analysis represents conscious, deliberate and systematic efforts by an organisation to identify opportunities that can be profitably exploited by it.
Project Report : It is a written statement of what on entrepreneur proposes to take up.
Project Appraisal : Project appraisal means the assessment of a project.
Lesson - 2
CAPITAL EXPENDITURE DECISION
STRUCTURE
2.0 Objective
2.1 Introduction
2.2 Meaning and features of capital budgeting decisions
2.3 Importance of capital budgeting decisions
2.4 Kinds of capital expenditure decisions
2.5 Capital expenditure budgeting process
2.6 Criteria of capital budgeting
2.7 Resource allocation framework
2.8 Capital budgeting difficulties
2.9 Summary
2.10 Keywords
2.11 Self assessment questions
2.12 Suggested readings
2.0 OBJECTIVE
This lesson is designed to describe
a. meaning, nature and importance of capital expenditure decisions; and
b. criteria of capital expenditure decisions.
2.1 INTRODUCTION
The efficient allocation of funds is among the main functions of financial management. Allocation of
funds means investment of funds in assets or activities. It is also called investment decision because we
have to select the assests in which investment has to be made. These assets can be classified into two
parts :i) Short-term or Current Assets. ii) Long-term or Fixed Assets.
2.2 MEANING AND FEATURES OF CAPITAL EXPENDITURE OR
BUDGETING DECISIONS
A capital budgeting decisions may be defined as the firm’s decision to invest its current funds most efficiently in the long-term assets in anticipation of an expected flow of benefits over a series of years. In other words, “capital budgeting is used to evaluate the expenditure decisions such as acquisition of fixed assets, changes in old assets and their replacement.” Activities such as change in the method of sales
distribution or undertaking an advertisement campaign or a research and development programme have long-term implication for the firm’s expenditure and benefits and therefore, they may also be evaluated as investment decisions.
Features of Capital Budgeting Decisions
Following are the features of investment decisions
Investment of fund is made in long-term assets.
The exchange of current funds for future benefits.
Future profits accrue to the firm over several years.
These decisions are more risky.
It is significant to emphasise that expenditure and benefits of an investment should be measured in cash. In the investment analysis, it is cash flow which is important, not the accounting profit. It may also be pointed out that investment decisions affect the firm’s value. The firm’s value will increase if investment are profitable. Investment should be evaluated on the basis of a criteria on which it is compatible with the objective of the shareholder’s wealth maximisation. An investment will add to the shareholder’s wealth if it yields benefits in excess of the minimum benefits as per the opportunity cost of capital.
2.3 IMPORTANCE OF CAPITAL EXPENDITURE DECISION
Investment decisions require special attention because of the following
reasons :
- Growth :- The effects of investment decisions extend into the future and have to endured for a longer period than the consequences of the current operating expenditure. A firm’s decisions to invest in long-term assets has a decisive influence on the rate direction of its growth. A wrong decisions can prove disastrous for the continued survival of the firm.
- Risk :- A long-term commitment of funds may also change the risk complexity of the firm. If the adoption of an investment increases average gain but causes frequent fluctuations in its earnings, the firm will become very risky.
- Funding :- Investment decisions generally involve large amount of funds. Funds are scarce resource in our country. Hence the capital budgeting decision is very important.
- Irreversibility :- Most investment decisions are irreversible
- Complexity :- Investment decisions are among the firm’s most difficult decisions. They are concerned with assessment of future events which are difficult to predict. It is really a complex problem to correctly estimate the future cash flow of investment.
Objectives of Capital Budgeting Decision
Capital budgeting helps in selection of profitable projects. A company should have system for estimating cash flow of projects. A multidisciplinary team of managers should be assigned the task of developing cash flow estimates. Once cash flow have been estimated, projects should be evaluated to determine their profitability. Evaluations criteria chosen should correctly rank the projects. Once the projects have been
Capital budgeting is a complex process which may be divided into five broad phases. These
are :-
F 0 2 0Planning F 0 2 0Analysis F 0 2 0Selection F 0 2 0Implementation F 0 2 0Review
Planning
The planning phase of a firm’s capital budgeting process is concerned with the articulation of its broad strategy and the generation and preliminary screening of project proposals. This provides the framework which shapes, guides and circumscribes the identification of individual project opportunities.
Analysis
The focus of this phase of capital budgeting is on gathering, preparing and summarising relevant information about various project proposals which are being considered for inclusion in the capital budget. Under this a detail analysis of the marketing, technical, economic and ecological aspects in undertaken.
Selection
Project would be selected in the order in which they are ranked and cut off point would be reached when the cumulative total cost of the projects become equal to the size of the plan funds. A wide range of appraisal criteria have been suggested for selection of a project. They are divided into two categories viz, non-discounting criteria and discounting criteria.
2.6 CRITERIA OF CAPITAL BUDGETING
There are two broad criteria of capital budgeting :
1. Non discounting criteria
The method of capital budgeting are the techniques which are used to make comparative evaluation of profitability of investment. The non-discounting methods of capital are as follows :
- Pay back period method (PBP)
- Accounting rate of return method (ARR)
2. Discounting Criteria
- Net present value method (NPV)
- Internal rate of return method (IRR)
- profitability index method (PVI)
Non-discounting criteria
Pay back period method : Under this method the pay back period of each project investment proposal is
calculated. The investment proposal which has the least pay back period is considered profitable. Actual
pay back is compared with the standard one if actual pay back period is less than the standard the project
will be accepted and in case, actual payback period is more than the standard payback period, the project
will be rejected. So, pay back period is the number of years required for the original investment to be
recouped.
For example, if the investment required for a project is Rs. 20,000 and it is likely to generate cash flow of Rs. 10,000 for 5 years. Pay back Period will be 2 years. It means that investment will be recovered in first 2 years of the project. Method of calculating payback period is
PB = Investment
Annual Cash in Flow
Accounting Rate of Return : This method is also called average rate of return method. This method is based on accounting information rather than cash flows. It can be calculated as -
ARR = Average annual profit after taxes
× 100 Average Investment
Total of after but profit it of all the years
Number of years
Average Investment = Original Investment + Salvage value
Discounted Criteria
Under these methods the projected future cash flows are discounted by a certain rate called cost of capital. The second main feature of these methods is that they take into account all the benefits and costs accruing during the life time of the project. Discounted cash flow method are briefly described as follow :-
Net Present Value Method (NPV) : In this method present value of cash flow is calculated for which
cash flows are discounted. The rate of discount is called cost of capital and is equal to the minimum rate
of return which must accrue from the project. NPV is the difference between present value of cash
inflows and present value of cash outflows. NPV can be calculated as under :-
NPV = CF(1+K)1 1 + CF(1+K) 2 2 + CF(1+K) 3 3 +.......+ CF(1+K)n n - C
n
= ` - C OR
