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Course- GP CBM
Course Title- Financial Manageme
Packaging of Project
Course No. - NCP 29
Assignment no. - 14
Financial Management &
Packaging of Projects
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CONTENTS- Page No.
1. INTRODUCTION 032. SCOPE OF WORKS 043. TECHNICAL STUDIES 054. COST OF CONSTRUCTION 065. THE WORK SCHEDULE 096. FINANCIAL AND ECONOMIC EVALUATION 167. PROPOSED PROJECT FINANCING 198. PROFIT MEASURES 209. REFERENCES 23
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INTRODUCTION-
A Construction Contract is a contract specifically negotiated for the construction of an asset or a
combination of Assets that are closely interrelated or interdependent in terms of their design,
technology and function or their ultimate purpose or use (Construction Contract: IAS 11 1995)
Managing the activities of Construction contract in a productive way produces the concept of
Constructability. Constructability has been defined as the optimum use of construction
knowledge and experience in planning, design, procurement, and field operations to achieve
overall project objectives ("Constructability: A Primer" 1986). As a result of constructability, the
quality of a constructed facility can be improved by better communication among major project
participants such as design engineers and construction professionals. Communication among
these participants reduces the chance of project failure and other related performance problems.
Cost shifting is an accidental or deliberate misstatement in a contractors job cost system that
can have a substantial impact on the contractors balance sheet and income statement. Both
contractors and their auditors should be aware of the potential impact of shifts in job costs from
one contract to another. The contractor should have a reliable job cost system in place to record
contract costs accurately. The auditor should always test contract costs and look for unusual
contract costing trends.
Construction ContractsFinancial Management
When a contract covers a number of assets, the construction of each asset shall be treated as a
separate construction contract when:
a. Separate proposals have been submitted for each asset.
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b. Each asset has been subject to separate negotiation and the contractor and customer have been
able to accept or reject that part of the contract relating to each asset.
c. The cost and revenue of each asset can be identified.
A group of contracts whether with a single customer or with several customers, shall be treated
as a single contract when:
The group of projects are negotiated as a single package
The contracts are so closely interrelated that they are, in effect, part of a single project with
an overall profit margin
The contracts are performed concurrently or in a continuous sequence.
SCOPE OF WORK-
An offer has been given by a Charitable Trust to develop and build a facility on a 10,000 sq.m of
plot in a prime locality of Pune where 5,000 sq.m of area will be used by the trust for housing,
health facilities for senior citizens. 5,000 sq.m. will be given free to the developers as a cost of
development
Cost of Land is Rs. 10,000/- sq.m
Flooring specifications for flooring:
- 10% Granite
- 40% Kota stone
- 50% Mosaic cement tiles
Developers would like to have minimum 18% net profit on their investment. Developer can
invest only Rs. 10 lakhs as his own funds and can raise not more than Rs. 50 lakhs as bank loan
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As in the given project the total area of the plot is 10000 Sq.m. In which we have to developed
5000 sq.m. area for a trust for hosing & health facilities for senior citizens, which will be
occupied by owner. For this development 5000 sq.m. area will be given to the developers (i.e.to
us) as a cost of development.
In this we have to construct a R.C.C. framed structure in which we have to provide aluminium
sliding windows & for flooring we have to use granite, kota stone & cement tiles.
TECHNICAL STUDIES-
The technical study is to determine the needs for material and human means necessary to
achieve the objectives. These take account of the market (availability of raw material, there is a
demand, customer requirement), regulatory and standards-related product and also the financial
(amount to invest and returns expected).
The study focuses on two general areas: study of supply and the study of transformation. To carry
out critical analysis of technical feasibility, there must be enough knowledge of technical,
economic and regulatory environment.
1. TECHNOLOGY-For the construction of above project we are going to use following technology-
1.1. R.C.C. Framed Structure
1.2. Granite- 10%
1.3. Kota stone- 40%
1.4. Mosaic cement Tiles- 50%
1.5. Aluminium sliding Window
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1.6. P.C.C
1.7. B.B.M
1.8. Internal plaster
1.9. External Plaster
1.10. Waterproofing1.11. Carpentary1.12. Fittings1.13. Flooring1.14. Toilet floor & dado1.15. Flat skirting1.16. Plumbing1.17. Sanitary fixing1.18. PVC duct water line1.19. PVC duct drainage line1.20. Cleaning work
COST OF CONSTRUCTION-
The cost of construction includes both the initial capital cost and the subsequent operation and
maintenance costs. Each of these major cost categories consists of a number of cost components.
The capital cost for a construction project includes the expenses related to the initial
establishment of the facility
Land acquisition, including assembly, holding and improvement
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Planning and feasibility studies Architectural and engineering design Construction, including materials, equipment and labor Field supervision of construction Construction financing Insurance and taxes during construction Equipment and furnishings not included in construction Inspection and testing
The operation and maintenance cost in subsequent years over the project life cycle includes the
following expenses:
Land rent, if applicable Operating staff Labor and material for maintenance and repairs Periodic renovations Insurance and taxes Financing costs Utilities
The magnitude of each of these cost components depends on the nature, size and location of
the project as well as the management organization, among many considerations. The owner is
interested in achieving the lowest possible overall project cost that is consistent with its
investment objectives.
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It is important for design professionals and construction managers to realize that while
the construction cost may be the single largest component of the capital cost, othe r cost
components are not insignificant. For example, land acquisition costs are a major expenditure
for building construction in high-density urban areas, and construction financing costs
can reach the same order of magnitude as the construction cost in large projects such as
the construction of nuclear power plants.
Particulars Rs./sq.ft Amount
R.C.C. Framed Structure 4501,12,50,000/-
Granite 952,37,500/-
Kota stone 404,00,000/-
Mosaic cement Tiles 15
1,87,500/-
Cost of Brick work, plaster etc 9022,50,000/-
Cost of Electric work 6500/flat1,56,000/-
Cost of Plumbing 6000/flat1,44,000/-
Cost of Finishing 5413,50,000/-
Labour Cost 3001,50,00,000/-
Total3,09,75,000/-
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Total Cost of Construction- Rs. 3,09,75,000/-
THE WORK SCHEDULE -
Work Schedule represents the necessary framework to permit scheduling of construction
activities, along with estimating the resources required by the individual work tasks, and
any necessary precedences or required sequence among the tasks. The terms work "tasks"
or "activities" are often used interchangeably in construction plans to refer to specific,
defined items of work. The scheduling problem is to determine an appropriate set of activity start
time, resource allocations and completion times that will result in completion of the
project in a timely and efficient fashion. Construction planning is the necessary fore-
runner to scheduling.
In this planning, defining work tasks, technology and construction method is typically
done either simultaneously or in a series of iterations.
The definition of appropriate work scheduling can be a laborious and tedious process,
yet it represents the necessary information for application of formal scheduling procedures.
Since construction projects can involve thousands of individual work tasks, this definition
phase can also be expensive and time consuming. Fortunately, many tasks may be repeated
in different parts of the facility or past facility construction plans can be used as general
models for new projects. For example, the tasks involved in the construction of a
building floor may be repeated with only minor differences for each of the floors in the
building.
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The work schedule on quarterly basis for the project is given below:
IDOutline
Number NameDuratio
n Start Finish
1 1 Contracts
2 1.1 - Supply Lot Sale Agreement 0.00d 01/05/2011 01/05/2011
3 1.2 - Supply Construction Agreement 0.00d 01/05/2011 01/05/2011
4 1.3 - Supply Contract Plans 0.00d 01/05/2011 01/05/2011
5 1.4 - Supply Contract Specifications 0.00d 01/05/2011 01/05/2011
6 1.5 - Supply Contract Site Plan 0.00d 01/05/2011 01/05/2011
7 1.6 - Secure Financing 0.00d 01/05/2011 01/05/2011
8 1.7 - Construction Loan Settlement 0.00d 01/05/2011 01/05/20119 2 Document Review & Revision
10 2.1 - Review & Finalize Plans 15.00d 02/05/2011 25/06/2011
11 2.2 - Review & Finalize Specifications 20.00d 01/05/2011 25/06/2011
12 2.3 - Review & Finalize Site Plan 1.00d
Thu
6/26/2011 26/06/2011
13 2.4 - Print Construction Drawings 5.00d
Thu
7/3/2011 07/09/2011
14 2.5 - Approve Revised Plans 0.00d
Wed
7/9/2011 07/09/2011
15 2.6 - Approve Revised Specifications 0.00d
Wed
7/9/2011 07/09/2011
16 2.7 - Approve Revised Site Plan 0.00d
Wed
7/9/2011 07/0920/11
17 3 Site Work
18 3.1 - Clear Lot 3.00d
Mon
7/28/2011 30/07/2011
19 3.2 - Strip Topsoil & Stockpile 1.00d
Thu
7/31/2011 31/07/2011
20 3.3 - Stake Lot for Excavation 1.00d
Thu
7/31/2011 31/07/2011
21 3.4 - Rough grade lot 1.00d Fri 8/1/2011 08/01/2011
22 3.5 - Excavate for foundation 2.00dMon8/4/2011
Tue8/5/2011
23 4 Foundation
24 4.1 - Layout footings 1.00d
Wed
8/6/2011
Wed
8/6/2011
25 4.2 - Dig Footings & Install Reinforcing 1.00d
Thu
8/7/2011
Thu
8/7/2011
26 4.3 - Footing Inspection 0.00d Thu Thu
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8/7/2011 8/7/2011
27 4.4 - Pour footings 1.00d Fri 8/8/2011 Fri 8/8/2011
28 4.5 - Pin Footings 1.00d
Mon
8/11/2011
Mon
8/11/2011
29 4.6 - Stock Block, Mortar, Sand 1.00d
Tue
8/12/2011
Tue
8/12/2011
30 4.7 - Build Block Foundation 15.00d
Wed
8/13/2011
Tue
9/2/2011
31 4.8 - Foundation Certification 0.00d
Tue
9/2/2011
Tue
9/2/2011
32 4.9 - Draw #1 (Location Survey) 0.00d
Tue
9/2/2011
Tue
9/2/2011
33 4.1 - Fill Block Cores w/ Concrete 1.00dWed9/3/2011
Wed9/3/2011
34 4.1 - Steel Delivery 1.00d
Thu
9/4/2011
Thu
9/4/2011
35 4.1 - Set Lintels, Bolts, Cap Block 2.00d Fri 9/5/2011
Mon
9/8/2011
36 4.1 - Waterproofing and Drain Tile 1.00d Fri 9/5/2011 Fri 9/5/2011
37 5 Rough Carpentry 44.00d
Tue
9/9/2011
Fri
11/7/2011
38 5.1 - Set Steel 1.00d
Tue
9/9/2011
Tue
9/9/2011
39 5.2 - 1st Floor Deck Framing 4.00dWed9/10/2011
Mon9/15/2011
40 5.3 - 1st Floor Wall Framing 4.00d
Tue
9/16/2011
Fri
9/19/2011
41 5.4 - Draw #2 (First Floor Deck) 0.00d
Fri
9/19/2011
Fri
9/19/2011
42 5.5 - 2nd Floor Deck Framing 2.00d
Mon
9/22/2011
Tue
9/23/2011
43 5.6 - Draw #3 (Second Floor Deck) 0.00d
Tue
9/23/2011
Tue
9/23/2011
44 5.7 - 2nd Floor Wall Framing 3.00d
Wed
9/24/2011
Fri
9/26/2011
45 5.8 - Set Roof Trusses 2.00d
Mon
9/29/2011
Tue
9/30/2011
46 5.9 - Frame Roof 7.00d
Wed
10/1/2011
Thu
10/9/2011
47 5.1 - Install Roof Plywood 5.00d
Fri
10/10/2011
Thu
10/16/2011
48 5.1 - Install Windows & Doors 2.00d Wed Thu
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10/22/2011 10/23/2011
49 5.1 - Frame Basement 3.00dFri10/10/2011
Tue10/14/2011
50 5.1 - Frame Basement Bulkheads 2.00d
Thu
11/6/2011
Fri
11/7/2011
51 6 Concrete Slabs 8.00d
Thu
9/18/2011
Mon
9/29/2011
52 6.1 - Basement Slab Preparation 2.00dThu
9/18/2011Fri
9/19/2011
53 6.2 - Termite Treatment Basment Slab 1.00d
Mon
9/22/2011
Mon
9/22/2011
54 6.3 - Slab Inspection 1.00d
Tue
9/23/2011
Tue
9/23/2011
55 6.4 - Pour Basement Slab 1.00d
Wed
9/24/2011
Wed
9/24/2011
56 6.5 - Prep Garage Slab 1.00d
Thu
9/25/2011
Thu
9/25/2011
57 6.6 - Termite Treatment Garage Slab 1.00d
Fri
9/26/2011
Fri
9/26/2011
58 6.7 - Pour Garage Slab 1.00d
Mon
9/29/2011
Mon
9/29/2011
59 7 Plumbing Rough-in 37.00d
Tue
9/16/2011
Wed
11/5/2011
60 7.1 - Plumbing Sub-slab 2.00d Tue9/16/2011 Wed9/17/2011
61 7.2 - Plumbing Layout 1.00dWed
10/29/2011Wed
10/29/2011
62 7.3 - Plumbing rough-in 5.00d
Thu
10/30/2011
Wed
11/5/2011
63 8 Electric Rough-in 19.00d
Fri
10/24/2011
Wed
11/19/2011
64 8.1 - Set Electric Boxes 2.00d
Fri
10/24/2011
Mon
10/27/2011
65 8.2 - Install Electric Service Panel 2.00d
Tue
10/28/2011
Wed
10/29/2011
66 8.3 - Electrical Walk-through 1.00d
Thu
10/30/2011
Thu
10/30/2011
67 8.4 - Electrical Rough-wire 14.00d
Fri
10/31/2011
Wed
11/19/2011
68 9 Specialty Rough-ins 5.00dThu
11/20/2011Wed
11/26/2011
69 9.1 - Central Vacuum Rough-in 5.00d Thu Wed
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11/20/2011 11/26/2011
70 9.2 - Alarm System Rough-in 5.00dThu11/20/2011
Wed11/26/2011
71 9.3 - Telephone System Rough-in 5.00d
Thu
11/20/2011
Wed
11/26/2011
72 9.4 - Television System Rough-in 5.00d
Thu
11/20/2011
Wed
11/26/2011
73 10 County Electrical inspection 0.00dWed
11/26/2011Wed
11/26/2011
74 11 Draw #5 (Rough-ins complete) 0.00d
Wed
11/26/2011
Wed
11/26/2011
75 12 County Framing Inspection 0.00d
Thu
11/27/2011
Thu
11/27/2011
76 13 Roofing 68.00d
Fri
10/17/2011
Tue
1/20/2012
77 13.1 - Roofing Paper Installed 3.00d
Fri
10/17/2011
Tue
10/21/2011
78 13.2 - Draw #4 (Roof, windows, doors) 0.00d
Thu
10/23/2011
Thu
10/23/2011
79 13.3 - Stock Roof Shingles 1.00d
Fri
10/24/2011
Fri
10/24/2011
80 13.4 - Install Roof Shingles 7.00d
Mon
1/12/2012
Tue
1/20/2012
81 14 Exterior Finishes 56.00d Fri10/24/2011 Fri 1/9/2012
82 14.1 - Siding 3.00dFri
10/24/2011Tue
10/28/2011
83 14.2 - Exterior Trim 7.00d
Wed
10/29/2011
Thu
11/6/2011
84 14.3 - Brick Arch Forms 1.00d
Fri
11/7/2011
Fri
11/7/2011
85 14.4 - Brick Veneer 45.00d
Mon
11/10/2011 Fri 1/9/2012
86 15 Insulation 5.00d
Fri
11/28/2011
Thu
12/4/2011
87 15.1 - Caulk & Air Seal 1.00d
Fri
11/28/2011
Fri
11/28/2011
88 15.2 - Draft & Fire Stop 1.00d
Mon
12/1/2011
Mon
12/1/2011
89 15.3 - Batt Insulation 3.00dTue
12/2/2011Thu
12/4/2011
90 16 Floor Finishes 76.00d Tue Tue
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1/13/2012 4/28/2012
91 16.1 - Ceramic Tile 15.00dTue1/13/2012
Mon2/2/2012
92 16.2 - Install Hardwood Floor 4.00d
Fri
3/27/2012
Wed
4/1/2012
93 16.3 - Sand, Stain, Seal Hardwood 5.00d
Thu
4/16/2012
Wed
4/22/2012
94 16.4 - Install Carpet 4.00dThu
4/23/2012Tue
4/28/2012
95 16.5 - Final Coat Hardwood 2.00d
Thu
4/16/2012
Fri
4/17/2012
96 17 Paint 59.00d
Wed
1/7/2012
Mon
3/30/2012
97 17.1 - Prep Drywall for Prime Coat 2.00d
Wed
1/7/2012
Thu
1/8/2012
98 17.2 - Prime Paint Drywall 2.00d Fri 1/9/2012
Mon
1/12/2012
99 17.3 - Prep Trim for Prime Coat 2.00d
Wed
1/21/2012
Thu
1/22/2012
100 17.4 - Prime Trim 2.00d
Fri
1/23/2012
Mon
1/26/2012
101 17.5 - Finish Coat Trim 10.00d
Mon
2/23/2012 Fri 3/6/2012
102 17.6 - Finish Coat Drywall 14.00d Mon3/9/2012 Thu3/26/2012
103 17.7 - Caulk Exterior Windows & Doors 1.00dFri
3/27/2012Fri
3/27/2012
104 17.8 - Finish Coat Exterior Trim & Siding 1.00d
Mon
3/30/2012
Mon
3/30/2012
105 18 Interior Trim 29.00d
Tue
1/13/2012
Fri
2/20/2012
106 18.1 - Interior Trim Delivery 1.00d
Tue
1/13/2012
Tue
1/13/2012
107 18.2 - Install Interior Doors 5.00d
Wed
1/14/2012
Tue
1/20/2012
108 18.3 - Install Interior Trim 15.00d
Wed
1/21/2012
Tue
2/10/2012
109 18.4 - Install Cabinetry 5.00d
Wed
2/11/2012
Tue
2/17/2012
110 18.5 - Install Appliances 1.00dWed
2/18/2012Wed
2/18/2012
111 19 Exterior Landscaping 32.00d Mon Tue
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1/12/2012 2/24/2012
112 19.1 - Rough Final Grade 1.00dMon1/12/2012
Mon1/12/2012
113 19.3 - Porches 5.00d
Thu
1/22/2012
Wed
1/28/2012
114 19.4 - Sidewalks 7.00d
Thu
1/29/2012 Fri 2/6/2012
115 19.5 - Decks 7.00dMon
2/9/2012Tue
2/17/2012
116 19.6 - Driveways 2.00d
Wed
2/18/2012
Thu
2/19/2012
117 19.7 - Final Grade and Seed 3.00d
Fri
2/20/2012
Tue
2/24/2012
118 20 Electrical Final Trim 160.00d
Thu
6/5/2011
Wed
1/14/2012
119 20.1 - Switch & Plug 2.00d
Tue
1/13/2012
Wed
1/14/2012
120 20.2 - Install Fixtures 1.00d
Thu
6/5/2011
Thu
6/5/2011
121 20.3 - Connect Appliances 1.00d
Thu
6/5/2011
Thu
6/5/2011
122 21 Hardware 12.00d
Fri
3/27/2012
Mon
4/13/2012
123 21.1 - Door Hardware 2.00d Fri3/27/2012 Mon3/30/2012
124 21.2 - Bath Hardware 2.00dFri
3/27/2012Mon
3/30/2012
125 21.3 - Mirrors 5.00d
Tue
3/31/2012
Mon
4/6/2012
126 21.4 - Shower Doors 10.00d
Tue
3/31/2012
Mon
4/13/2012
127 22 Cleaning 14.00d
Fri
3/27/2012
Wed
4/15/2012
128 22.1 - Windows 3.00d
Fri
3/27/2012
Tue
3/31/2012
129 22.2 - Rough Clean 3.00d
Wed
4/1/2012 Fri 4/3/2012
130 22.3 - Final Clean 2.00d
Tue
4/14/2012
Wed
4/15/2012
131 23 Final Walk-through 0.00dWed
4/15/2012Wed
4/15/2012
132 24 Move-in 0.00d Thu Thu
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FINANCIAL AND ECONOMIC EVALUATION-
Capital
- Business requires capital. The term capital is used differently in different contexts. It is
used in the sense of means of production, usually the assets held by the firm. It is also used
in the sense of finance obtained by a firm. In accounting, capital is used in the second
sense. A part of the finance obtained by a firm is in the form of interest free credit,
such as credit allowed by suppliers of materials or services and advance payment received by
customers. The interest free credit is settled in the normal operating cycle of the business and is
not included in the capital.
Revenue
Revenue is the income that arises from exchange transactions with customers in the
course of ordinary activities of an enterprise. An entity s revenue earning activities
include selling of goods, rende ring of services, and allowing others to use entity s
resources yielding interest, royalties and dividends. Revenue increases the equity of the
enterprise. As a general principle, an enterprise recognizes revenue when it receives cash,
receivables or other consideration in its own account. For example, in an agency relationship,
the agent recognizes the commission as revenue.
Finance Resource mobilization
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Resource mobilization can facilitate the flow of resources from various sources and
catalyze the flow of additional resources from official and private institutions. For projects
and programs that are too large to be handled by one funding agency, mobilizing co financing
from various funding sources can help meet these large resource requirements. Resources
can be in any form such as finances, technology, manpower both skilled and labor,
knowledge, information, etc
Financial accounting
- Financial accounting consists of recording, classifying and analyzing the business
transactions so as to facilitate the preparation of Profit and loss account for a period and also
the position statement (i.e. Balance Sheet) as on a particular day. Thus, the emphasis of
financial accounting is on the ascertainment of profit and loss of the concern and not on the
more important aspects of the business i.e. planning, control and decision-making.
Cost accounting
- Cost accounting analyses the transactions in an objective manner for the purposes of
planning, control and decision making. Cost accountancy is the application of costing and
Cost accounting principle, methods and techniques to the science, art and practice of cost
control and the ascertainment of profitability. It includes the presentation of information
derived there from for the purpose of managerial decision making. Cost accounting is also
defined as the process of accounting for cost from the point at which expenditure is
incurred or committed to the establishment of its ultimate relationship with cost centers
and cost units.
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Management accounting
- Management accounting is another aspect of accounting which has developed in recent
years and is being employed in many concerns as an informative mechanism to aid the
management in decision making by providing various information they need for the
purpose. Both cost and management accounting working together can keep the management
well informed about what is going on in the business and what changes, if any, is required to
be given effect to.
Capital budgeting or investment appraisal is the planning process used to determine whether a
firm's long term investments such as new machinery, replacement machinery, new plants, new
products, and research development projects are worth pursuing. It is budget for major capital,
or investment, expenditures. Many formal methods are used in capital budgeting, including
the techniques such as Accounting rate of return, Net present value, Profitability index,
Internal rate of return, Modified internal rate of return, Equivalent annuity etc. These
methods use the incremental cash flows from each potential investment, or project Techniques
based on accounting earnings and accounting rules are sometimes used - though economists
consider this to be improper - such as the accounting rate of return, and "return on
investment." Simplified and hybrid methods are used as well, such as payback period and
discounted payback period.
Cash flow forecasting is in a corporate finance sense, the modeling of a company or
assets future financial liquidity over a specific time frame. Cash usually refers to the
company s total bank balances, but often what is forecast is treasury position which is
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cash plus short-term investments minus short-term debt. Cash flow is the change in cash or
treasury position from one period to the next; in the context of the entrepreneur or manager,
forecasting what cash will come into the business or business unit in order to e nsure that
outgoing can be managed to as to avoid them exceeding cash flow coming in. If there is one
thing entrepreneurs learn fast, it is to become very good at cash flow forecasting.
PROPOSED PROJECT FINANCING-
Capital structure refers to the way a corporation finances its assets through some combination
of equity, debt, or hybrid securities. A firm's capital structure is then the composition or
'structure' of its liabilities. The proposed capital structure for the project is as below:
Capital Structure
Asset 50,00,000.00
Equity 1,00,000.00
Debt 40,00,000.00
The debt raised by the promoter is Rs 40 lacs. The total debt would not be taken all at
once rather it would be disbursed in 4 equal quarterly installments. This debt will carry a
fixed interest expense as follows:
Month Amount Int. Payable Int. Payable Closing Loan bal.
MonthAmount Int.Payble Int.Payble Closing Loan
(Rs.) Monthly Quarterly Balance
Apr-11 1100000 11000 1100000
May-11 11000 1100000
Jun-11 11000 30000 1100000
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Jul-11 1100000 20000 2000000
Aug-11 20000 2000000
Sep-11 20000 60000 2000000
Oct-11 1100000 30000 3000000
Nov-11 30000 3000000
Dec-11 30000 90000 3000000
Jan-12 1100000 40000 4000000
Feb-12 40000 4000000
Mar-12 40000 120000 4000000
* Loan disbursed in 4 equal quarterly installments
**Assuming interest @ 12% p.a.
PROFIT MEASURES-
A profit measure is defined as an indicator of the desirability of a project from the standpoint of
a decision maker. A profit measure may or may not be used as the basis for project
selection. Since various profit measures are used by decision makers for different
purposes, the advantages and restrictions for using these profit measures should be fully
understood..There are several profit measures that are commonly used by decision makers in
both private corporations and public construction projects. Each of these measures is
intended to be an indicator of profit or net benefit for a project under consideration.
Some of these measures indicate the size of the profit at a specific point in time; others give the
rate of return per period when the capital is in use or when reinvestments of the early profits are
also include d. Some of the most frequently used profit measures are as follows:
1. Net Future Value and Net Present Value
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When an organization makes an investment, the decision maker looks forward to the gain
over a planning horizon, against what might be gained if the money were invested elsewhere. A
minimum attractive rate of return (MARR) is adopted to reflect this opportunity cost of
capital. The MARR is used for compounding the estimated cash flows to the end of the
planning horizon, or for discounting the cash flow to the present.
The profitability is measured by the net future value (NFV) which is the net return at the end of
the planning horizon above what might have been gained by investing elsewhere at the MARR.
The net present value (NPV) of the estimated cash flows over the planning horizon is
the discounted value of the NFV to the present. A positive NPV for a project indicates the
present value of the net gain corresponding to the project cash flows.
2. Internal Rate of Return
The internal rate of return (IRR) is defined as the discount rate which sets the net present value
of a series of cash flows over the planning horizon equal to zero. It is used as a profit measure
since it has been identified as the "marginal efficiency of capital" or the "rate of return
over cost". The IRR gives the return of an investment when the capital is in use as if the
investment consists of a single outlay at the beginning and generates a stream of net benefits
afterwards. However, the IRR does not take into consideration the reinvestment
opportunities related to the timing and intensity of the outlays and returns at the intermediate
points over the planning horizon. For cash flows with two or more sign reversals of the
cash flows in any period, there may exist multiple values of IRR; in such cases, the
multiple values are subject to various interpretations.
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3.If the financing and reinvestment policies are incorporated into the evaluation of a project,
an adjusted internal rate of return (AIRR) which reflects such policies may be a useful
indicator of profitability under restricted circumstances. Because of the
complexity of financing and reinvestment policies used by an organization over the life
of a project, the AIRR seldom can reflect the reality of actual cash flows. However, it
offers an approximate value of the yield on an investment for which two or more sign
reversals in the cash flows would result in multiple values of IRR. The adjusted internal rate of
return is usually calculated as the internal rate of return on the project cash flow modified so
that all costs are discounted to the present and all benefits are compounded to the end of the
planning horizon.
4. Return on Investment
When an accountant reports income in each year of a multi-year project, the stream of cash
flows must be broken up into annual rates of return for those years.
The return on investment (ROI) as used by accountants usually means the accountant's rate
of return for each year of the project duration based on the ratio of the income (revenue
less depreciation) for each year and the un-depreciated asset value (investment) for that same
year. Hence, the ROI is different from year to year, with a very low value at the early years and a
high value in the later years of the project.
5. Payback Period
The payback period (PBP) re fers to the length of time within which the benefits received
from an investment can repay the costs incurred during the time in question while ignoring the
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remaining time periods in the planning horizon. Even the discounted payback period indicating
the "capital recovery period" does not reflect the magnitude or direction of the cash flows
in the remaining pe riods. However, if a project is found to be profitable by other measures, the
payback period can be used as a secondary measure of the financing requirements for a
project.
REFERANCES-
Text book of NICMAR on Financial management.