CHAPTER ONE

INTRODUCTION
TO PROJECT

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 Definition of a Project
 A project is an undertaking to accomplish a specific objective or goal,
which requires resources and effort, and which is unique (i.e. it is a non-
repetitive activity)-because it has never been attempted before or because
of unique customer satisfaction .
 A project is a well­defined adhoc activity with clear and specific objective;
and has beginning and end dates.
 It requires allocation of resources and it should be completed on schedule
and within budget with specified quality standards.
 It is an investment activity in which financial resources (the money
available to a business for spending in the form of cash) are expended to
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 Characteristics of a Project

 A project has a specific objective

 is expected to meet measures of quality and customer satisfaction

 A project requires various resources

 A project has a schedule and takes place within predefined time scales

 A project requires a budget

 A project is a unique undertaking

 A project has a customer

 A project will involve some degree of uncertainty

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 Cont’d

Project involves the investment of scarce resources in

expectation of future benefits
A project has a risk
Completed by a team of people –multiple organisations and
professions
Dynamic in nature-characterized by constant change,
activity, or progress

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 Cont’d
• Policy
 is a concept written document, whereby the government or a political party will
determine decisions, actions and other matters that will prove advantages to society in
general.
 A course or principle of action adopted or proposed by a government, party, business,
or individual.
 a statement of anticipatory decisions, a detailed proposal for doing or achieving
something
Sector policy
 Agriculture policy: technology-based intensification of smallholder agriculture, .
health policy: assurance of accessibility of health care for all segments of the
population
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 Cont’d
• Programs
Programs are planned-continuous or ongoing development
or investment activities that are not generally time bound.
a program is an ongoing development effort or plan which
may not necessarily be time bounded.
• Project
refers to an investment activity where resources are used to create
capital assets, which produce benefits over time and has a beginning
and an end with specific objectives,
National plan ⇒ Policy ⇒ Sectorial policy ⇒ Programs ⇒ Projects ⇒
Outcomes / impacts /changes

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 Cont’d
• A program is therefore a wider concept than a project.
• It may include one or several projects at various times whose specific
objectives are linked to the achievement of higher level of common
objectives.
• For instance, a health program may include a water project as well as
a construction of health centers both aimed at improving the health
of a given community.
• Projects in such context are the concrete manifestations of the
development plans in a specific place and time. One can think of
projects as subunits and bricks of programs

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 Cont’d
PROJECTS PROGRAMS

Specific Objectives General Objectives

Specific Project Area No Specific Project Area

Specific Beneficiary Group No Specific Beneficiary Group

Clearly Determined and Allotted Fund - No Clear and Detailed Financial

Resource Allocation

Specific Lifetime (Duration Period) - No Specific Lifetime (Infinite)

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 Cont’d

•Similarities
i. Having Both Objectives or Goals
ii. Requiring Financial, Personnel, Material and other resources
[Link] Outputs of Goods and/or Services
[Link] as instruments for the execution of development
v. Plans in order to be able to develop the National Economy
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 Cont’d
In general Projects need to be SMART.
S – Specific
specific in its objective/ specific activities/ benefit a specific group of people
M – Measurable
investment and production activities and benefits expected should be identified
and if possible be valued (expressed in monetary terms) in financial, economic
and if possible social terms
A – achievable/Area bounded/assignable
• As projects have specific and identifiable group of beneficiaries, so also have to
have boundaries.
• In designing a project, its area of operation must clearly be identified and
delineated
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 cont’d
R – Real
Planning of a project and its analysis must be made based on real
information
Should be achievable given real social, economic, political, technical,
etc situations
• T – Time bounded
A project has a clear starting and ending point

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 Cont’d

Project Parameters

Quality: A successfully managed project is the one that is

completed at the specified level of quality and predesigned
specification.
Cost: A successfully managed project is the one that is completed
within predetermined budget
Time: A successfully managed project is the one that is
completed within predetermined time schedule

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 Cont’d
TYPES OF PROJECTS
projects are classified as follows:
• Based on Ownership
• Private sector
• Public sector
• NGO’s
• Based on the Sources of Finance
• Project with domestic financing
• Project with foreign financing
• Project with mixed financing
• Based on the Forces Behind
• Demand driven/need driven
• Donor Driven
• Political Driven
• Based on purpose
• New projects
• Expansion projects
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 Cont’d
• Based of Sector
• Industrial project
• Agricultural project
• Educational project
• Health project
• Based on risk involved in the project
• High risks project
• Normal risks project
• Low risks project
• Based on resources required by the projects
• Project with domestic resources
• Project with foreign resources

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 Cont’d
• Based on time horizon
• Long term projects
• Medium term projects
• Short term projects
• Based on locality
• Regional
• National
• International
• Based on resource use
• Capital intensive projects
• Labor intensive projects
• Energy intensive projects

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 Project Management
• Project management is the planning, organizing, directing, and
controlling of company resources to achieve a specific goals and
objectives.
• Project management is the application of knowledge, skills, tools and
techniques to project activities to meet project
requirements/objective.
• Project managers need both “hard” and “soft” skills.

• Hard skills include product knowledge and knowing how to use

various project management tools and techniques.

• Soft skills include being able to work with various types of people.

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 CONT’D
• Communication skills: Listens, persuades/ convinces.
• Organizational skills: Plans, sets goals, analyzes.
• Team-building skills: Shows responsiveness, motivates, promotes esprit de corps.
• Leadership skills: Sets examples, provides vision (big picture), delegates, positive.
• Coping skills: Flexible, creative, patient.
• Technology skills: Experience, project knowledge.

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 ROLE OF PROJECT MANAGER
Planning: The project manager clearly defines the project objectives
and reaches agreement with the customer on this objective.
Organizing: Organizing involves securing the appropriate resources
such as capital, material and human resources to perform the work.
The project manager also assign responsibility and delegates authority
to specific individuals or subcontractors for the various tasks
• Controlling: Project team members monitor the progress of their
assigned tasks and regularly provide data on progress, schedule, and
costs
The project manager plays the leadership role in planning, organizing,
and controlling the project but does not try to do it alone

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 CONT’D
Skills of the Project Manager
Effective project managers have strong leadership ability, the ability to develop
people, excellent communication skills, good interpersonal skills, the ability to
handle stress, problem – solving skills, and time management skills.
STAKEHOLDERS OF A PROJECT
• Beneficiaries
Adversely affected people or groups
Decision making groups
Funding agencies
Implementing agencies or groups
Community leaders
Potential opponents
Supporting groups
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 Chapter Two
Project Life Cycle

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 Definition
The project life cycle refers to a serious of activities which are necessary
to fulfill project goals or objectives
A project is “a series of activities aimed at bringing about clearly specified
objectives within a defined time-period and with a defined budget”
The project life cycle serves to define the beginning and the end of a
project.
Therefore, projects life cycle is a self – renewing cycle in that new
projects may grow out of the old ones in a continuous process and self –
sustaining cycle of activity.
Project life cycles generally define:
What technical work should be done in each phase?
 Who should be involved in each phase
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 Definition Cont’d
FEATURES OF PROJECT LIFE CYLCE
Cost and staffing levels are low at the start, higher toward the
end, and drop rapidly as the project draws to a conclusion.
 The probability of successfully completing the project is
lowest, and hence risk and uncertainty are highest, at the start
of the project. The probability of successful completion
generally gets progressively higher as the project continues.
The ability of the stakeholders to influence the final
characteristics of the project’s product and the final cost of
the project is highest at the start and gets progressively lower
as the project continues
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 PROJECT LIFE CYCLE MODELS
There are various models that deal with the project life cycle.
1. Baum Project Cycle (World Bank Procedures)
• The concept of the project cycle was first popularized by a World Bank
publication by Warren Baum in 1970 with five elements:
1) Identification phase (finding the project)
2) Preparation/project formulation and analysis phase (Does it have merit?)
3) Appraisal and selection phase(critical review, independent)
4) Implementation phase (getting it started)
5) Evaluation phase (success or failure)

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 models cont’d
2. UNIDO project life cycle
UNIDO has established a project cycle comprising three distinct phases.
1) The pre – investment
2) The investment
3) The operational phases
3. Integrated Project Planning and Management Cycle – IPPMC –
(Goodman, 1988)
which is divided the project life cycle into four phases:- phase-1
consisting of planning, appraisal and design; phase-2 consisting of
selection, approval and activation; phase-3 consisting of operation,
control and handover; and phase-4 consisting of evaluation and
refinement
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 models cont’d
4. Development Project Study Authority (DEPSA)
guideline to project planning in Ethiopia (1990),
indicated three distinct phases: Pre-investment,
Investment, and Operation phases, which in turn
reclassified in six phases. These are: Identification,
formulation/Preparation, Appraisal and
decision/selection, Implementation, operation and Ex-
Post Evaluation

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 1. Identification
• The first stage in the project lifecycle is to find potentially promising
projects which are worthwhile for investment.
• Project identification is the systematic process for finding or locating and
screening promising project ideas from their respective sources.
• In other words, project identification is the first stage in any project cycle which is
concerned about germinating or incubation promising project ideas using
appropriate method.
• Project identification consists of searching projects which can contribute towards
achieving specified development objectives.
• It requires imagination, sensitivity to environmental changes, &
realistic assessment of what the firm can do.

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 Identification cont’d…..
This phase may take two forms.
1. If the project is largely a private venture in a widely market economy
context the initiating entity will define the concept, expectation and
objectives of the project.
2. If the project is from government agencies, sectorial information (i.e. the
direct and indirect demands of sectors) is an important source of
identification.
Some of the sources of such projects are listed below:
Some may be “resource-based”
 Some projects may be “market-based”
 Others may be “need-based”
 Well–informed technical specialists and local leaders
 from proposals to extend existing programs.
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 Identification cont’d…..Cont’d
There are several sources of project idea. These various sources are broadly classified into two as:
Macro Level and Micro level
At Macro-level, project ideas emerge from:-
• National policies, strategies & priorities as may be
enunciated by government from time to time.
• Constraints on the development process due to shortages
of essential infrastructural facilities, etc.
• Unusual events such as droughts, flood, earthquakes
• Government decision to correct social and regional
inequality
• A possible external threat
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 Identification cont’d…..Cont’d

At Micro-level project ideas emanate

from:-

• The existence of unsatisfied demands or needs;

• The existence of unused or underutilized resources;
• The initiative of private or public enterprise in
response to incentives provided by the government;
• Analyze the performance of existing industries;
• Review imports and exports;
• Attend
04/04/2025 Trade fairs, exhibitions and conferences.
 Identification cont’d…..Cont’d
Steps in project identification
Situation Analysis
Problems/needs identification
Problem analysis
Prioritization of issues
Decision on whether a project is appropriate
Definition of the project idea
Consultation with stakeholders
Then identification of potential projects
or
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 Identification cont’d…..Cont’d
Opportunity study – a study to identify investment opportunities/project
ideas
Basis for opportunity studies
• Social
• Cultural
• Economical
• Political
• Technological
• Natural
• Policies/strategies/programs

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 [Link] preparation/formulation and analysis phase
• Generally this stage involves two studies:
 Pre-feasibility studies
 Feasibility studies: which is an assessment of the
practicality of proposed project or system
A. Pre-feasibility Study (Pre-selection/ Preliminary
Screening)
Once a project proposal is identified, it needs to be
examined to select one or more of them as potentially
promising and worth further study.

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 Pre-feasibility study Cont’d
• A prelude to the full blown feasibility study, this exercise is
meant to assess:
i.
whether the project is prima facie worthwhile to justify a
feasibility study and
ii. what aspects of the project are critical to its variability and
hence warrant an in-depth investigation
At this stage, the screening criteria are rough and vague,
becoming specific and refined as project planning advances
•At the pre-feasibility study stage the analyst obtains approximate
valuation of the major components of the projects costs and benefits

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 Pre-feasibility study Cont’d
Some kind of preliminary screening is required to eliminate ideas, which
prima facie, are not promising. For this purpose the following aspects may be
looked into
Availability of adequate market
Project growth potential
Investment costs, operational cost and distribution costs
Demand and supply factors; and
Social and environmental considerations
Compatibility with the promoter
Consistency with government priorities
 Availability of inputs
 Acceptability of risk level
If the project appear viable form this preliminary assessment the analysis will be
carried to the feasibly stage.
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 Pre-feasibility study Cont’d
During preliminary selection, the analyst should
eliminate project proposals that are
 technically unsound and risky,
have no market for their output,
have inadequate supply of inputs,
are very costly in relation to benefits,
 assume over ambitious sales and profitability,
etc.

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 Feasibility study
B. Feasibility studies
The major difference between the pre-feasibility and feasibility studies
is the amount of work required in order to determine whether a
project is likely to be viable or not.
• Here a detailed analysis of all project aspects is undertaken.
• Feasibility study provides a comprehensive
review of all aspects of the project and lays the foundation for
implementing the project and evaluating it when completed.
• Based on the information developed in this analysis, the stream of
costs and benefits associated with the project can be defined

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 feasibility study Cont’d
• At this stage more accurate data need to be obtained and if the
project is viable it should proceed to the project design stage
The final product of this stage is a feasibility report. The feasibility
report should contain the following elements:
 Market analysis
Technical analysis
Organizational analysis
 Financial analysis
 Economic analysis
 Social analysis, and
Environmental analysis

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 3. Project Appraisal and selection
• It is a secondary look at the project report by a team of
professionals, who were not participated in the preparation of
the study but qualified and experienced to evaluate such
studies.
• Appraisal is the comprehensive and systematic assessment
or reexamination of all aspects of the project before
implementation
It is an independent assessment of the project to identify
the weaknesses and strengths of the study that have a
bearing on the decision to invest, and/or to finance the
project.

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 Project Appraisal cont’d
A widely used project appraisal ( financial) criteria classified as
1. Non-discounting criteria
 the payback period and
 the accounting rate of return
2. Discounting criteria
 The discounted payback period
 the net present value,
 the internal rate of return, and
 the benefit cost ratio.
• When the appraisal is completed, the findings and final recommendations are put
together in the form of an appraisal report.
• The recommendation may be to approve, re-formulate, postpone, or abandon the
project under review.
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 cont’d
• Appraisals should cover at least seven aspects of the project,
those seven aspects are:-
• Commercial
• Technical
• Managerial
• Organizational
• Financial
• Economic
• environmental

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 4. Implementation
• It is the stage to which the conclusions reached and decisions
made are put into action and the agreed resources are used to
carry out the planned activities and achieve objectives
Translating an investment proposal into a concrete
operational unit is a complex, time consuming and risk
fraught task
Delays in implementation, which are common, can lead to
substantial cost overrun.

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 Implementation cont’d
The investment (implementation) phase can be divided into the following
stages:
1. Establish project management office
2. Technology acquirement and transfer, including
• tender preparation
• negotiation and contracting;
• Procurement of major technology for installation and other inputs
3. Engineering design and construction work
4. Installation and erection;
5. Pre-production marketing, including the securing of supplies and setting up
the administration of the firm
6. Recruitment and training of personnel, and
7. Plant commissioning and start-up (operation phase).
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 5. Evaluation
• Performance review should be done to compare actual performance with
projected performance.
• The evaluation may be done by the project management, the sponsoring
agency, or other bodies
• serve as important lessons for future project analysis undertaking.
A feedback device, it is useful in several ways:
• it throws light on how realistic were the assumptions underlying the project;
• it provides a documented log of experience that is highly valuable in future
decision making;
• it suggests corrective action to be taken in the light of actual performance;
• it helps in uncovering judgment biases;
• it induces a desired caution among project sponsors.

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 Evaluation cont’d
• This phase regards evaluation of success or failure elements of a
project with relevance to the future
• Compare the actual progress with the plan
• Are the objectives met? If not, were the objectives realistic?
• Are the decisions or actions made/taken by the management
sound & responsible?
• usually takes place throughout the project, but sometimes only at the
end
• undertaken by management, sponsoring company/ agency, etc.
• some projects have separate internal units for this or use outsiders

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 CHAPTER THREE

PROJECT IDENTIFICATION

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 Introduction

• The identification of promising project ideas is the first step towards

establishing a successful venture

• The identification of opportunities for project (investments) requires:-

Understanding of the environment in which one operates.

sensitive to emerging investment possibilities

 imaginative analysis of tangible and intangible factors

This stage is about finding potential projects that will result in

positive net present value or that provide benefits for the society

46
 PHASES OF PROJECT IDENTIFICATION
There are four key phases of project identification. These are:-
• Generation of project idea: The generation of project ideas by formal
and informal institutions and individuals.
• Description of Project Idea: An actual written description of the project
idea or concept, summarizing the main elements of the proposed project
to use in the screening ranking and prioritization of project ideas.
• Screening project idea: An initial review of project ideas and concepts
to see if they should be advanced or abandoned at an early stage.
• Prioritization of project idea: The ranking and selection of project
idea against a set of criteria to identify the “best projects to move
actively into preparation stage and development.

47
 Generation of project idea
‘Necessity is the mother of invention’ sounds rhythmic with projects,
as they are roots of needs and wants.
That is project ideas are generated in order to satisfy the needs and
wants
Stimulating the flow of ideas
• To stimulate the flow of ideas the following are approach or
mechanism are found to be very much helpful:-
SWOT Analysis
Clear Articulation of firms Objectives
Set up of working environment

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 Generation of project idea cont’d
SWOT Analysis:
• An existing company which seeks to identify new projects
opportunities should undertake a SWOT analysis.
• SWOT Analysis is an acronym for strength, weakness,
opportunities and threats.
• SWOT analysis represents a conscious deliberate and systematic
effort by an organization to identify opportunities that can be
profitably exploited by it.
• Periodic SWOT analysis facilitates the generation of ideas.

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 Generation of project idea cont’d
Clear Articulation of Objectives of a Firm:
• Firms objectives may use one or more of the following.
Cost reduction
Productivity improvement
Increase in capacity utilization
Improvement in contribution margin
Expansion in to promising fields
 A clear articulation and prioritization of objectives are helpful in
guiding the efforts of employees and encourage them to think more
imaginatively

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 Generation of project idea cont’d
Fostering productive working environment:
• In order to tap the creativity of people and to harness their
entrepreneurial urges, productive organizational climate has to be
fostered.
Monitoring The Environment
• There are multiple sources of project idea.
• Good project idea, the key to success,
• So a wide variety of sources should be trapped to identify them
• Project idea can be identified by monitoring the macro level and micro
level environment

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 Generation of project idea cont’d
Macro Level Source of project Idea
• Macro sources otherwise called Sector Sources.
• It will require an analysis of the overall investment potential in
countries
• It refers to the source of project idea, which is reflected from national,
regional and Sectorial level sources.
• At a higher macro-level, project ideas could be obtained from various
sources as mentioned below

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 Generation of project idea cont’d
1. Project Ideas from Government Policy and Plan:
 project idea can be obtained from government development
plan documents such as:
 National policies, strategies and priorities
National, sectoral, sub–sectoral, or regional plans and strategies
supplemented by special studies
 General surveys, resource potential surveys, regional studies, master
plan and statistical publications
Government decision to correct social and regional inequalities or to
satisfy basic needs of the people through development projects.
Unusual events such as droughts, floods, earth – quakes, hostilities.
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 Cont’d
2. Project ideas from Technical Specialists:
For many industrial projects, ideas will usually tend to come from
technical specialists who by virtue of their experience and/or research
findings will give useful information.
3. Project Idea from Local Leaders:
For community or social projects, local leaders will usually have
important ideas, which they, together with the local people, have identified
as being important in improving the welfare of the people
4. Project Ideas from Entrepreneurs

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 Cont’d

B. Micro Level Source/Specific Opportunities Studies/Enterprise

Approach
The Micro Approach is mainly concerned with a review of investment
ideas of industries.
Micro – Level project ideas can be generated from various sources,
including:
1. Analysis of the Performance of Existing Industries:
a study of existing industries in terms of their profitability and capacity
utilization can indicate promising investment opportunities which are
profitable and relatively risk-free

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 Cont’d
2. Examination of the Input-outputs of Various Industries
when the suppliers location is far away from the industries
 when several firms produce the component /parts internally
 Adding value through further processing of the main outputs, by-products,
waste products.
3. Review of Imports and Exports:
potential for import substitution and export possibilities of various product.
[Link] of Local Materials and Resources:
Various ways of adding value to locally available materials may be examined.
5. Analysis of Economic and Social Changes
Changing economic conditions and consumer preferences provide new
business opportunities.

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 Description of project idea
Project Concepts and Profiles
• Once a project idea has been conceived, the next stage is to describe the
idea so that it can be prioritized and move on to the next stage in the
process.
• This may involve the preparation of a project identification report or
project concept or profile
Questions and Project Profile or Concept
Justification and Purpose
• What goal is the project contributing to?
• What is the purpose of the project, what does it intend to achieve?
• What problem is the project addressing?
• What is the justification of the project?
• What demands, needs or opportunities is the project addressing?
57
 Project Concepts and Profiles cont’d
Beneficiaries and Stakeholders Best regards,
• Who will benefit from the project?
• Who has a share or s take in the project?
• How have project beneficiaries and other stakeholders participated in the
identification of the project?
• Which institutions are the targets of the project?
Resource and Institutions
• What potential resources may be available for implementing the project?
• Which organizations are to be involved in project planning and
implementations?

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 Project Concepts and Profiles cont’d
Policies and Plans
• How does the project proposal fit into any sector or regional plans?
• Does the project fit into current policies?
• What are the likely major positive and negative social impacts of the
project?
• What are the likely positive and negative environmental impacts of the
project?
Support
• What is the level of political and administrative support for the project?
• Does the project have the support of beneficiaries and/or local
communities?
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 Project Concepts and Profiles cont’d
Risks
• What are the chances of the project achieving its
objective?
• What are the main risks associated with the project?
• What assumptions have been made, e.g., what
support is needed from others?

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 3. Preliminary Screening
• Some kind of preliminary screening is required to
eliminate ideas which are not promising.
• In the first instance, all possible project ideas are
listed (identified). Then some of them are eliminated
and few projects are screened for further analysis.

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 4. Project Rating Index (Prioritization & Ranking)
• When a firm evaluates a large number of project ideas regularly, it may be helpful to
simplify the process of preliminary screening
• For this purpose, a preliminary evaluation may be translated into a project rating index
Steps
1. Identify factors relevant for the project rating
2. Assign weights to these factors
3. Rate the project proposal on various factors
4. For each factor multiply the factor rating with the factors weight to get the factor
score
5. Add all the factor scores to get the overall project-rating index.
6. Once the project-rating index is determined, it is compared with a pre-
determined hurdle value to judge whether the project is prima facie worth while or
not.

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Example of project rating index
Assume that the following factors are identified to be relevant for project rating

Factors Factor weight

- Technical know-how 0.20

- Input availability 0.15
- Reasonableness of cost 0.20
- Adequacy of market 0.05
- Stability 0.10
- Dependence of firm’s strength 0.20
- Consistency with government priorities 0.10

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 If the firm uses five rating scale, determine the rating index for the project
Factor Factor Rating Factor
weight Score
5 4 3 2 1

Technical know-how 0.20  0.80

Input Availability 0.15  0.45

Reasonableness of costs 0.20  1.00

Adequacy of market 0.05  0.20

Stability 0.10  0.50

Dependence of firm’s strength 0.20  0.40

Consistency with gov’t priorities 0.10  0.50

Rating index 3.85

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 CHAPTER FOUR

TECHNICAL ANALYSIS
OF PROJECT

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 4.1 Market demand analysis
• Market and demand analysis aims at determining the aggregate
demand for the product/service and the market share of the
proposed project
• It increases the project’s probability for success.
Objectives of Market Analysis
• Market and demand analysis is a key activity for determining
 the scope of an investment,
the possible production program,
the technology required, and
the choice of location

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 Market demand analysis cont’d
• the objectives of demand and marketing analysis are:
I. To determine the effective demand for the envisaged (proposed) project
II. To determine the characteristics of the corresponding market in terms of
unsatisfied demand, competition, imports, exports etc.
Potential source of information
• Customers,
• Competitors
• Middlemen (wholesalers and retailers)
 The purpose of contact with the above parties is to learn about the
preferences and purchasing power of customers, actions, and
strategies of competitors, and practices of middlemen

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 Market demand analysis cont’d
COLLECTION OF INFORMATION
Sources of Secondary information
Census.
Economic survey
Annual reports on imports and exports
Industry specific sources
Primary information/Market survey
• The market survey may be a census, or a sample survey.
• In a census survey, the entire population is covered.
• When census survey is impractical sample survey is more useful

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 Market demand analysis cont’d

The following types of information may be collected through market

survey:
• Total demand and rate of growth of demand
• Motives for buying
• Demand in different segments of the market
• Income and price elasticity of demand
• Purchasing plans and intentions,
• Satisfaction with existing products, Unsatisfied needs ,
• Attitudes towards various products
• Distribution and price practices and preferences
• Socio-economic characteristics of buyers
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 Market demand analysis cont’d
Breakdown of Demand/Market Segmentation
• Market segmentation is defined as the dividing of the target market into
subgroups of consumer population with identifiable, distinct and
homogeneous characteristics
Market is segmented on varies bases. Some of the most common bases are:
• Geographic segmentation
• Demographic segmentation
• Buyer behavior segmentation
• Psychographics segmentation
• Socio-economic segmentation

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 Market demand analysis cont’d
Price
Price represents the value of a good or service for both the buyer and the
seller
Factors which affect the pricing decisions are both internal and external.
• External factors that affect pricing decisions include: Demand for the
product/service, Competition, Consumer’s quality perceptions, Middlemen
(distributors, retailers etc), Suppliers, Government, Economic conditions,
Ethical considerations & Cost of materials and labor (or cost of inputs)
• Internal factors that affect pricing decisions include: Organizational
factors, marketing mix, product differentiation (different product attributes
such as color, size, attractive package, attractive uses, style etc), Cost of
products & Objective of the firm

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 Market demand analysis cont’d
Distribution
• The methods of distributing a product/service vary with the nature of
the product.
• The methods of distribution (channels and physical distribution)
employed presently and their rationale must be specified during
market and demand analysis
Promotion
• During market and demand analysis, the project studying team should
specify the promotion methods employed presently and their
rationale.
The means of promotion are: Personal selling /Advertising/ Sales
Promotion/ Publicity/ Public relations
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 Market demand analysis cont’d
Supply and Competition
It is necessary to know the existing sources of supply. The existing sources may
be domestic or foreign.
The following information should be gathered for domestic sources of supply.
• Location
• Present production capacity
• Planned expansion
• Capacity utilization level
• Bottlenecks in production
• Cost structure
The study should also cover competition from substitutes and
near-substitute products
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 Market demand analysis cont’d
Government Policy
• Government may have significant role in influencing the product’s
demand and market
Some of the areas of influence are:
• production targets in national plans,
• trade control on imports and exports,
• import duties, export and import incentives,
• excise duties and taxes
• industrial licensing and credit controls
• financial regulations & subsidies or penalties of any kind.

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 Market demand analysis cont’d
DEMAND FORECASTING METHODS
• After gathering information about various aspects of the market and demand
from primary and secondary sources, an attempt is made to estimate future
demand
• The market analyst has several methods of forecasting the demand
• Qualitative methods include:
• Jury of executive opinion method
• Delphi method
Quantitative methods include:
• Trend projection method
• Exponential smoothing method
• Moving average method
• End use (consumption coefficient) method
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 TECHNICAL ANALYSIS
MATERIAL INPUTS AND UTILITIES
• An important aspect of technical analysis is concerned with defining the
materials and utilities required, specifying their properties in some detail, and
setting up their supply programs.
PLANT CAPACITY
Plant capacity (also referred to as production capacity) refers to the volume or
number of units that can be manufactured during a given period.
Factors that have a bearing on the capacity decision are:
• Technological requirement
• Input constraints
• Investment cost
• Market conditions
• Resources of the firm
• Governmental policy
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 TECHNICAL ANALYSIS
LOCATION AND SITE
• The choice of location and site follows an assessment of demand, size,
and input requirement
• Location refers to a fairly broad area like a city, an industrial zone, or
a coastal area; site refers to a specific piece of land where the project
would be set up.
• The choice of location is influenced by a variety of considerations
• Proximity to Raw Materials and Markets
In terms of a basic location model, the optimal location is one where
the total cost (raw material, transportation cost plus production cost
plus distribution cost for the final product) is minimized.

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 TECHNICAL ANALYSIS
Availability of Infrastructure
Availability of power, transportation, water, and communications should be
carefully assessed before a location decision is made
Labor Situation
In labor-intensive projects, the labor situation in a particular location
becomes important
The key factors to be considered in evaluating the labor situation are:
• Availability of labor, skilled semi-skilled and unskilled
• Prevailing labor rates
• Labor productivity
• State of industrial relations judged in terms of the frequency and severity of
strikes and lockouts
• Degree
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of unionization 78
 TECHNICAL ANALYSIS
• Government Policies
• Climatic conditions
• General living conditions
• Proximity to ancillary units
• Ease in coping with pollution
SITE SELECTION
Once the broad location is chosen, attention needs to be focused on the
selection of a specific site.

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 CHAPTER FIVE

FINANCIAL & ECONOMIC

EVALUATION

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 Introduction
 Financial analysis of the project is concerned with the analysis of the profitability of
the project based on monetary costs and benefits.
 On the other hand, economic analysis of the project deals with project analysis based
on social costs and benefits.

Financial analysis requires the determination of:-

 project costs

 the estimation of cost of production and other expenses

 the estimation of project net cash flows and

 the evaluation of the desirability of the project using various criteria

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 COST OF PROJECT
Conceptually, the cost of project represents the total of all items of outlay
associated with a project which are supported by long-term funds
It is the sum of the outlays on the following:-
Land and site development
Building and civil works
Plant and machinery
Technical know-how and engineering fees
Expenses on foreign technicians and training local technicians abroad
Miscellaneous fixed assets
Pre-operative expenses
Margin money for working capital and
Initial cash losses
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 MEANS OF FINANCE
To meet the cost of the project, the means of finance that are available
include
Share Capital
Term Loans
Bond capital
Deferred Credit
Incentive Sources
Miscellaneous Sources

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 Planning the Means of Finance
[Link] of Regulatory Bodies and Financial Institutions
[Link] Business Considerations
The key business considerations which are relevant for
the project financing decision are:-
cost
risk
Control and
flexibility

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 PRODUCTION COSTS
There are three major categories of manufacturing costs.
These are:-
1) Direct materials cost
2) Direct labor
3) Indirect manufacturing costs (manufacturing overhead)

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 ESTIMATES OF SALES AND PRODUCTION
Estimating Sales
The sales forecast is the starting point for the projections of profitability.
In estimating sales revenues, the following should be taken into account:-
• Economic level (activities)
• The project’s probable market share in each distribution territory
• Competitor’s and their capacities
• Pricing strategies
• The effect of inflation on prices
• Advertising campaigns, promotional discounts, and credit terms.

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 Estimating Production
Once sales projections are made, the next step is production
estimates. Production may be estimated as follows:-
Production = sales + Desired ending Inventory – Beginning
finished goods inventory
For the first year of operation, there is no beginning inventory.

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 ESTIMATION OF MATERIAL COSTS

The costs of materials include the cost of raw materials, chemicals,

components, and consumable stores required for production.
The following should be considered in estimating the cost of materials:-
1) The requirements of various material inputs per unit of output.
2) The total requirements of various inputs
Total requirements = Requirements per unit X Expected Production
3) The prices of material inputs
4) The present costs of various material inputs
5) The seasonal fluctuations in price

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ESTIMATING LABOR COSTS
Labor cost includes the cost of all the manpower
employed in the factory. Labor cost is a function of the
number of employees and the rate of payment.
ESTIMATING OVERHEAD COSTS
Overhead costs are costs other than direct material costs
and direct labor costs. Certain bases should be used to
estimate overhead costs. Some of the bases could be
direct labor hours, direct labor costs, material costs etc.

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 projected income statement
Sales
Less: Cost of goods sold
Gross profit
Expenses:-
Less : Administrative & General expenses
Less : Selling expenses
Less :Total expenses
Earnings before taxes
Less :Taxes
Net income

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 ESTIMATIING PROJECT CASH FLOWS FOR REVENUE EXPANSION PROJECT

The estimation of project cash flows is a key element in

investment evaluation but also the most difficult step in capital
budgeting.
Forecasting project cash flows involves numerous variables and many
parties participate in this exercise. These parties include:-
• Engineers – estimate capital outlays
• Marketing group – estimate projects revenues
• Production people –forecast operating costs

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 The Elements of Project Cash flows
Project cash flows comprises of three basic components. These are:-
• Initial investment. The initial investment, also called net investment, is the
cash outlay on capital expenditures.
In revenue expansion projects, initial investments include the purchase price,
installation costs, taxes, transportation costs, increase in networking capital
etc.
• The operating cash flows. These include the after-tax cash flows resulting
from the operations of the project during its economic life.
• Terminal cash flow. These are cash flows that occur at the end of the life of
the project. Terminal cash flows involve mainly salvage value (net of tax) and
recovery in networking capital.

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 Opportunity Costs
Opportunity cost is the highest return that will not be earned
if the funds are invested in a particular project type. In
other words, opportunity cost is the income generated by
the alternative use of an asset that is forgone when a new
project is adopted. The relevant opportunity costs
associated with an investment proposal should be included
in the initial investment.

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 PROJECT EVALUATION TECHNIQUES/CRITERIA
• There are several project evaluation criteria that have been suggested
by economists, accountants, and others to judge the worthwhileness of
capital projects.
• They are classified into two categories. These are:-
1. Non-discounting (traditional) criteria
a) Payback Period (PBP)
b) Accounting Rate of Return (ARR)
2. Discounted Cash Flows (DCF) criteria
c) Net Present Value (NPV)
d) Internal Rate of Return (IRR)
e) Profitability Index (Benefit-cost ratio)
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 Payback Period (PBP)
• Payback period refers to the length of time it takes to recover initial
investment of the project. Depending on the nature of net cash flows,
payback period may be computed in two ways.
a) When cash flow is in annuity form. Annuity refers to equal amount
of cash flows that occur every period over the life of the project
PBP = initial investment
Annual net cash flows

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 cont’d
b) When cash flows are not in annuity form
• When net cash flows are not annuity, payback period is
obtained by adding net cash flows for successful years until
the total is equal to initial investment.
• Decision Rule for Payback Period
• Accept the project if it’s payback period is less than or equal to
the required payback period (standard)
• Reject the project if it’s payback period exceeds the required
payback period. The shorter the payback period, the more
desirable the project.

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 Contd….
Advantages of Payback Period
• It is simple both in concept and application
• It is a rough and ready made method for dealing with risk
• It may be a sensible criterion when the firm is pressed with problems of
liquidity
Disadvantages of Payback Period
• It fails to consider time value of money
• It ignores cash flows beyond the payback period
• It is a measure of the project’s capital recovery, not profitability.
• It does not indicate the liquidity position of the firm as a whole.

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 Accounting Rate of Return (ARR)
• Also called the average rate of return on investment, the accounting rate of
return is a measure of profitability which relates net income to investment.
Both net income and investment are measured in accounting terms.
ARR = average net income/average investment
Average Investment = original costs + salvage value/2
• Decision Rule for Accounting Rate of Return
• Accept the project if ARR exceeds the required rate of return.
• Reject the project if ARR is less than the required rate of return.

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 Contd…

Advantages of ARR
• It is simple to calculate
• It is based on accounting information, which is readily available and familiar to
businessmen.
• It considers benefits over the entire life of the project.
• It facilitates post-auditing of capital expenditures.
Limitations of ARR
• It is based upon accounting profit, not cash flow.
• It does not take into account the time value of money.
• Since there are numerous measures of accounting rate of return, this may create
controversy, confusion, and problems in interpretation.
• Accounting income is not uniquely defined because it is influenced by various
methods, such as depreciation methods, inventory costing method etc.
 Net Present Value Method
• The net present value of project is the difference between the
present value of net cash inflows and present value of initial
investment.
• What does NPV represent? NPV represents the amount by
which the value of (wealth of) the firm will increase if the
project is accepted.
• Decision Rule for NPV
• If NPV is greater than zero (NPV > 0), the project is considered
desirable.
• If NPV is less than 0, the project is considered undesirable.

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 Internal Rate of Return (IRR)

Internal Rate of Return is the discount rate which equates the project
NPV equal to zero. It is the discount rate at which the present value of
Net cash flows is equal to the present value of initial investment. In
other words, IRR is the rate of return on investments in the project.
The determination of IRR is purely based on project cash flows.
IRR is determined using trial and error: the complexity of
determining IRR is greater if net cash flows are not in annuity form.
Decision Rule for IRR
• Accept: If the IRR is greater than the discount rate
• Reject: If the IRR is less than the discount rate

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 Profitability Index (PI)
• The profitability index, also called benefit - cost ratio, is the ratio of
the present value of net cash flows and initial investment.
PI = present value of NCF/Initial investment
• Decision rule for profitability Index
• Accept if the project's profitability index is greater than 1
• Reject if the project's profitability index is less than 1

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Economic Analysis
• This aspect is primarily concerned with the determination of the likelihood of the
proposed project, and hence, the committing of scares resources, by justifying the
significance of the project from the whole economy point of view (the society as a
whole).
• In such evaluation, the focus is on the social costs and benefits of a project, which
may often be different from its monetary or financial costs, and benefits.

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 Cont’d
• While financial analysis views the project from the participants (or
owners) point of view, the economic analysis is made from the
society’s point of view and is basically concerned with issues such as:
How to identify effects of a project on the society;
Qualifications of effects of the proposed projects and
Pricing of costs and benefits to reflect their values to
society.

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 Cont’d
• impacts on income distribution;
• assured prices to farmers and supplier of inputs;
• saving in foreign exchange; and
• increased production

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