Project Management

Project Management Unit IV

Financial Plan and Control Finance is the basic prerequisite for a project Without proper financial arrangement, an entrepreneur is finding it difficult to go ahead with the project Funds requirement should be optimum so as to avoid the problems of both under & over capitalization, so the cost of project should be accurately estimated

Financial Plan and Control Once the estimation is done, the next step is to find out sources of financing A finance mix should be finalised after identifying various available sources The selected finance mix should be optimum from the point of view of cost, control and flexibility

Cost of Project – Major cost elements of a project Land and site development – cost of land, premium on lease hold, cost of leveling and development, cost of laying approach roads, gates, tube wells.

Cost of Project – Major cost elements of a project Buildings and civil works – buildings for plant and equipment, building for auxiliary services like workshop, laboratory, warehouse, township. Cost estimates are based on types of structure required

Cost of Project – Major cost elements of a project Plant and Machinery – This is the most significant component of the project cost. This includes cost of imported machinery, cost of installation, spares.

Cost of Project – Major cost elements of a project Technical know-how and Engineering Fees – Often it is necessary to engage technical consultants and collaborators from abroad for advice and help in various technical matters like preparation of project report, choice of technology, selection of the plant and machinery.

Cost of Project – Major cost elements of a project Expenses on foreign technicians and training of Indian technicians abroad.

Cost of Project – Major cost elements of a project Miscellaneous fixed assets – These are not part of direct manufacturing process. They include furniture, vehicles, DG sets, boilers, lab, trade marks, licences

Cost of Project – Major cost elements of a project Preliminary and capital issue expenses – Expenses incurred for identifying the project, conducting the market survey, preparing feasibility report, company incorporation. Expenses borne in connection with underwriting commission, listing fees, stamp duty

Cost of Project – Major cost elements of a project Pre operative expenses – Some revenue expenses incurred till commencement of commercial production. These are typically rent, establishment expenses, travel expenses, insurance charges, start up expenses

Cost of Project – Major cost elements of a project Provision for contingencies – provision made for certain unforeseen expenses and price increases over and above normal inflation rate.

Cost of Project – Major cost elements of a project Margin money for working capital – The principal support for working capital is provided by commercial banks and trade creditors. However a certain part of the working capital requirement has to come from long term sources of finance.

Cost of Project – Major cost elements of a project Initial cash losses – Most of the projects incur cash losses in the initial years. Yet, promoters do not disclose the initial cash losses because they want the project to appear attractive to the financial institutions and investing public.

Means of Financing To meet the cost of project the following means of finance are available

Means of Financing Share Capital – Equity capital and preference capital. Equity capital represents the contribution made by the promoters, equity share holders who enjoy the rewards and bear the risk of ownership. Preferential capital will have dividend paid at a fixed rate

Means of Financing Term Loans – Provided by financial institutions and commercial banks

Means of Financing Debenture Capital – Instrument for raising debt capital. There are two types – convertible and non convertible. Convertible as the name implies are debentures which are convertible wholly or partly into equity shares

Means of Financing Deferred Credit – Payments to suppliers plant and machinery spread over a period of time

Means of Financing Incentive sources : The govt. may provide financial support as incentive to certain types of promoters for setting up industrial units in certain locations. These may be in the form of seed capital, tax exemption, capital subsidy

Means of Financing Miscellaneous sources : A small portion of project finance may come from miscellaneous sources like unsecured loans, FDs, leasing

Factors affecting selection of means of finance Typically proposed means of financing must be approved by regulatory agency to ensure protection for investors cost of financing, risk and control

Planning Capital Structure Two broad sources of finance available to a firm are : Shareholder’s funds and loan funds. Shareholder’s funds come mainly in the form of equity capital and retained earnings and secondarily in the form of preference capital.

Planning capital structure Equity share holders have a residual claim on the income and wealth of the firm Creditors have fixed claim in the form of interest and principal payment Dividend paid to equity share holders is not a tax deductible payment. Interest paid to creditors is tax deductible payment Equity usually has an indefinite life

Planning capital structure Equity investors enjoy the exclusive privilege to control the affairs of the firm Debt investors play a passive role, of course they impose certain restrictions on the way the firm is run to protect their interest.

Key factors in determining Debt – Equity Ratio The key factors in determining the Debt – Equity ratio are Cost – compared to equity shareholders, lenders require lower rate of return. This advantage gets magnified when the firm pays taxes, because the interest on debt is a tax deductible expense whereas the dividend on equity is not. Even though the cost of debt is low, it is accompanied by higher rate of risk

Key factors in determining Debt – Equity Ratio Nature of Assets – If the assets are primarily tangible, debt finance used is more. On the other hand, if the assets are primarily intangible debt finance is less. Usually the lenders are more willing to lend against tangible assets.

Key factors in determining Debt – Equity Ratio Business Risk : Business risk mainly comes from demand variability, price variability, cost variation. Generally the affairs of the firm should be managed in such a way that the total risk borne by equity share holders is not unduly high. This implies that if the firm is exposed to a high degree of business risk, its financial risk should be kept low.

Working Capital Working Capital is the amount of money required by an enterprise for carrying out its day to day operations. The money invested in currents assets like raw materials, finished products, debtors is known as working capital. The current assets in aggregate refer to gross working capital and the excess of current assets over current liabilities are called net working capital

Working Capital Working Capital = Current Assets – Current Liabilities

Working Capital – Current Assets Cash and equivalents short and long term investments Accounts receivable Inventories Prepaid expenses

Working Capital – Current Liabilites Bank Overdraft Creditors and payables

Factors influencing working capital Related to nature of business A service firm which has a short operating cycle and sells predominantly on cash basis has a modest working capital requirement Firms which have marked seasonality in their operations usually have high fluctuating working capital requirements

Factors influencing working capital The degree of competition prevailing in the market place has an important bearing on working capital needs. The faster a business expands the more cash it will need for working capital and investment

Activity Based Costing It is based on philosophy f estimation that ‘ it is better to be approximately right, than precisely wrong’ A powerful tool for measuring performance, ABC is used to identify, describe, assign costs to and report on agency operations. It identifies opportunities to improve business process effectiveness and efficiency by determining true cost of a product.

EVM – Earned Value Management is a project management technique for measuring project performance and progress in an objective manner. It has the unique ability to combine measurements of technical performance, schedule performance and cost performance. It provides an early warning of performance problems while there is time for corrective action

EVM – Earned Value Management What did we get for the money we spent ?

Concept of EVM All project steps ‘earn’ value as work is completed The earned value (EV) can then be compared to actual cost and planned cost to determine project performance and predict future performance trends.

EVM measures Primary Data Points Budget At Completion(BAC) – Total project cost Planned Value(PV) - The amount expressed in Rs. Or Hours of work to be performed as per the schedule plan. PV = BAC * % of planned work. Earned Value - The amount expressed in Rs. Or Hours on the actual worked performed. EV = BAC * % of Actual work Actual Cost = The sum of all costs (in Rs.) actually accrued for a task to date

EVM Example A project has a budget of 10Cr. and schedule for 10 months. It is assumed that the total budget will be spent equally each month until the 10th month is reached. After 2 months the project manager finds that only 5% of the work is finished and a total of 1Cr. spent. PV = 2 Cr. EV = 0.5 Cr. AC = 1 Cr. Cost Variance = EV-AC = 0.5-1 = -0.5Cr. Schedule Variance = EV-PV = 0.5-2 = 1.5 months Time to complete – 40 months

End of UNIT IV

Project Management