Project Management 1

M.B.A.
PROJECT MANAGEMENT
C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
LESSON 1 CONCEPTS OF PROJECT MANAGEMENT

OBJECTIVES 1. 2. 3. To explain the nature and scope of Project management. To give an over view about system approach and Project management. To give an outline about the factors influencing effective Project management.
INTRODUCTION Projects are the building blocks to meet the enterprise objectives. Project management is essentially involved in executing the projects. It is recognized as a management philosophy in the recent past in addition to that of discipline. Project management has always been central to the existence of industries like construction, aerospace and defense, where schedule and cost goals are contract fundamentals. The new design of maruti zen, concord supersonic jet aircraft, ship vasundhara, Godrej puff refrigerator, compaque computer, L&T crane steel rolling mill of the Tatas, New oil base for the ESSAR refinery, new production line of J.K cement, highway roads of the countrys capital city, new fly over in metropolitan cites etc have one thing common; indeed they are all purposefully unique and they are project. The basis logic behind on the these projects are; a. Investment of resources for a specific objective and b. a cause of irreversible change. What is a project? Project is a scientifically evolved work plan devised to achieve a specific objective within a specific period of time. It can be considered as proposal involving capital investment for the purpose of developing facilities to provide goods a and services. A project is a blue for print action oriented activities of an organization. A project reflected the plan for action in its totality. Like a movie film it is projection oriented process. The project has beginning middle and an end.
For example, cement project, manufacturing Power project, refinery projects Health project, Educational projects Social project, construction projects etc.
DEEINITION OF PROJECT A Project is a one-shot, time limited, goal directed, major undertaking, requiring the commitment of varied skills and resources. It has also been described a s a combination of human and non human resources pooled together in a temporary organization to achieve a specific purpose. The purpose and the set of activities which can achieve that purpose distinguish one project form another. -Project Management Institute, U.S,A We mean by a project any scheme, or part of sachem, for investing resources which can reasonably be analyzed and evaluated as an independent unit. The definition is thus arbitrary. Almost any project could be broken down into parts for separate consideration; each of these parts would then by definition a project. - I.M.D. Little and J.A. Mirrless. A specific activity with a specific starting point and a specific ending point intended to accomplish a specific objective. It is something you draw a boundary around at least a conceptual boundary and say this is the Project. -J. Price Gettinger. Compilation of data which will enable an appraisal to be made of the economic advantages and disadvantages attendant upon the allocation of countrys resources to the production of specific goods and services. -United Nations. FEATURES OF A PROJECT A project can be identified by its features. The special features of a project that would differentiate from any other on going activity are given below: A project fixed set of objectives. Once the objectives have been achieved, the project ceases to exist. It has a specific life span. Project has for a teamwork, Project has a life cycle reflected by growth, maturity and decline similar. Change is an inherent feature in any project out its life. Project is based on successive principle and hence it is difficult to learn fully the end results at any stage.
A project works for a specific set of goals with the complex set of diversified activities. High level of sub-contraction of work can be done in a project. Every project has risk and uncertainty associated with it. Project needs feasibility any appraisal studies. So that the sponsors sweet dream becomes realizable. Types of projects Much of what the project will comprise and consequently its management will depend on the category it belongs to. The location, type, technology, size, scope and speed are normally the factors which determine the effort needed in executing a project. Though the characteristics of all projects are the same, they cannot be treated alike. Recognition of this distinction is important for management. Classification of project helps in graphically expressing and highlighting the essential features of the project. Projects are often categorized in terms of their speed of implementation as follows: NORMAL PROJECTS Adequate time is allowed for implementation. All the phases in a project are allowed to take their normal time. Minimum requirement of capital. No sacrifice in terms of quality.
CRASH PROJECTS Requires additional costs to gain time. Maximum overlapping of phases is encouraged. DISASTER PROJECTS Anything needed to gain time is allowed in these projects. Around the clock work is done at the construction site. Capital cost will go will go up very high. Project time will get drastically reduced. Besides that, projects in general are classified on several basis as give in the following illustrative list. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
United Nations Asian and Pacific Development Institute.
Categories of Projects PROJECT National International
Non Industrial Non Conventional R&D Mega Gross Root
Industrial High Technology Conventional Low Technology
Major Expansion
Medium Modification
Mini
Normal
Crash
Disaster
CLASSIFICATION OF PROJECT The project can be classified on several basis. Major classification of the projects are given below: 1. On the basis of Expansion: 1. Project expanding the capacity 2. Project expanding the supply of knowledge. 2. On the basis of Magnitude of the resources to be invested: 1. 2. 3. 4. Giant projects affecting total economy Big projects affecting at one sector of the economy Medium size projects Small size projects (depending on size, investment & impact)
3.
On the basis of Sector: 1. 2. 3. 4. 5. Industrial project Agricultural project Educational project Health project Social project
4.
On the basis of objective: 1. Social objective project 2. Economic objective project
5.
On the basis of productivity: 1. Directivity productive project 2. Interactively productive project
6.
On the basis of nature of benefits: 1. Quantifiable project 2. Non-quantifiable project
7.
On the basis of government priorities: 1. Project without specific priorities 2. Project with specific priorities
8.
On the basis of dependency 1. Independent project 2. Dependent project
9.
On the basis of ownership 1. Public sector project 2. Private sector project 3. Joint sector project
10.
On the basis of location 1. Project with determined location 2. Project with future impact
11
On the basis of social time value of the project 1. Project with present impact 2. Project with future impact
12.
On the basis of National policy 1. Project determined by inward looking policy 2. Project determined by outward looking policy
13.
On the basis of risk involved in the project 1. 2. 3. High risks project Normal risks project Low risks project
14. On the basis of economic life of the project 1. 2. 3. Long term project Medium term project Short tern project
15. On the basis of technology involved in the project 1. 2. 3. 4. High sophisticated technology project Advance technology project Foreign technology project Indigenous technology project
16. On the basis of resources required by the projects 1. 2. Project with domestic resources Project with foreign resources
17. On the basis of employment opportunities available in the project 1. 2. Capital intensive project Labour intensive project
18. On the basis of management of project 1. 2. 3. High degree of decision making attitude Normal degree of decision making attitude Low degree of decision making attitude
19. On the basis of sources of finance 1. 2. 3. 4. Project with domestic financing Project with foreign financing Project with mixed financing Project with financial institutions
20. On the basis of legal entity 1. Project with their own legal entity 2. Project without their own legal entity 21. On the basis of role played by the project 1. Pilot project 2. Demonstration project 22. On the basis of speed required for execution of the project 1. Normal project 2. Crash project 3. Disaster project
PROJECT LIFE CYCLE Every programme, project or product has certain phases of development. The different phases of development in an investment proposal or project is called life cycle. A clear understanding of these phases permits entrepreneurs, managers and executives to have better control over existing and potential resources in the achievement of the desire goals. PHASES OF PROJECT LIFE CYCLE Project life cycle is complex process consisting of different steps arranged in a sequential order. Different authors have described these steps I different sequential manner but the concept of the cycle is almost similar in each case. According to United Nations Guidelines for Rural Centre Planning, there are 7 steps in the project life cycle such as project identification and appraisal, pre-feasibility study, feasibility study detailed design project implementation, operation maintenance, monitoring and evaluation. Rondinelli, Dennis & Apsy Palia in their book Project Planning and implementation in Developing countries identified the following 12 steps in the project life cycle. Project identification and definition, project formation, C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
preparation and feasibility analysis, project design, project analysis, project selection, project activation and organization, project implementation and operation, project supervision (monitoring and control) project completion or termination, output diffusion and transition to normal administration, project evaluation follow-up and action. World Bank Guidelines reveals the following six major steps in the project life cycle. Conception (identification), Formation (preparation), Analysis (appraisal), Implementation (supervision), operation and evaluation. All the steps given in different studies can be grouped into three main phases viz., Pre-investment phase Implementation phase and Operational phase
A brief description of each of these phases in given below: PRE-INVESTMENT PHASE The first phase of the cycle describes the preliminary evaluation of an idea. It consists of identification of investment opportunities, preliminary project analysis, feasibility study and decision-making. Project idea emanates from the following problems; potential and the needs of the people of an area; plan priorities when planning is done by the government demand and supply projection of various goods and services; Pattern of imports and exports over a period of time; natural resources which can serve as the base for potential manufacturing activity; scope of extending existing lines of activity; consumption pattern in other countries at comparable stages of economic stages of economic development. On the basis of the investment opportunities, it is possible to conceive a number of projects out of which a particular project may be consistent with development objectives of the area. During this phase, the following aspects of a project must be carefully designed so as to enable implementation. Project infrastructure and enabling services System design and basic engineering packages Organization and manpower Schedule and budgets Licensing and government clearances Finance Systems and procedure Identification of project manager Design basis, general condition for purchase and contracts Constriction resources and materials
Work packaging
This phase is involved with preparation for the project to take out smoothly. Once a project opportunity is conceived, it needs to be examined. Preliminary project analysis concerns with marketing, technical, financial and economic aspects of the project. It seeks to determine whether the project is prima facie worthwhile to justify a feasibility study and what aspects of the projects are critical to its viability and hence call for an in depth investigation. More details, through and complete feasibility study results in a reasonably adequate formulation of the projects in terms of location, production capacity production technology and material inputs. The feasibility study contains fairly specific estimates of projects cost, means of financing sales revenues, production costs, financial profitability and social profitability. Based on the thorough feasibility study the project owner or sponsors or financiers can decide whether to accept or reject particular project. In other words, the decision whether investment on the project should be made or not has to made at this stage. IMPLEMENTATION PHASE The implementation phase of an industrial project involves setting up of manufacturing facilities. After judging the worthiness, project needs to be designed for implementation. Drawing, blue prints and the sequences in which the various activities concerning the project need to be carried out. The main activities under this phase are: Project and engineering design: It consists of site probing and prospecting, preparation of blue prints, plant design, plant engineering, selection of machinery, equipment. Negotiations and contractions: It covers the activities like project financing, acquisition of technology, construction of building and civil works, provision of utilities supply of machine and equipment, marketing arrangement etc. Construction: This step involves the activities like site preparation, construction of building, erection and installation of machinery and equipment. Training engineers, technicians and workers. Plant commissioning
OPERATION PHASE It is the longest phase in terms of time span. It begins when the project is commissioned and ends when the project is wound up. This is a transition phase in which the hardware built with the active involvement of various agencies is physically handed over for production. This phase is basically a clean up phase for project personnel. The main concern of this phase is on smooth and uninterrupted operation of machinery and plant, development of suitable norms of productivity, establishment of a good quality fo rhte product and securing the market acceptance of the product. It aims to realize the projection made in the project regarding sales, production, cost and profits. Project monitoring and project evaluation are two vital activities under this phase. Project monitoring is a step towards achieving properly identified objectives through a carefully laid down strategy. Each activity in the project implementation should be carefully watched so that, the progress may be measured and any deviation from the expected progress be identified in time. Project evaluation refers to post-investment analysis. It aims at finding out whether the project has achieved the objectives for which it was taken up and whether it has created the anticipated or intended impact. This helps in developing an insight for future investment and better planning. Thus the life cycle of a project narrates the methodology of developing, maintaining nd controlling an investment proposal at its various phases in the life cycle. The various steps in the project life cycle are given in the following diagram.
Diagram 1
PROJECT LIFE CYCLE

1. Information input 2. Investigation of technology, feasibility etc. 3. Competition 4. Preliminary evaluation 1. Post-mortem 2.Final de-manning 3. Final reports 4. Commissioning aftermath Conception 1. Objectives 2. Establish goals 3.TQM procedures 4. Setting up control systems Definition Planning & Designing
Evaluation Application
Development & Construction 1. Install and field test 2. Quality control 3. Advertising begins 4. De-bug and redesign 1. Prototype development 2. First units to test marked 3. Begin campaign 4. Progress report PROJECT LIFE CYCLE CURVES The project life cycle phases from an interesting pattern indicative of growth, maturity and decline almost similar to product life cycle. The following figure shows the typical project life cycle curve. 1. Establish structure 2. Engineering 3. Model building 4. Design review
Diagram 2
TIME
It can be seen from that curve that effort built up in a project is very slow but effort withdrawals is very sharp. It can also be seen that time taken in the formative and clean up stages together is more than the implementation stage. This parabolic patterns of growth, maturity and decline itself in all phases of the project life. This curve enable a project manager to ascertain the state of health of any project at any point of time. Project management Project management is an existing new profession which receives much attention in these days. It is concerned with the management of resources successfully to complete the project, the resources being time, money, materials and equipment and the most expensive resources of all- namely the human resources. Project management is concerned with achieving a specific goal in a given time using resources available for that period only. Project management can mean different thing to different people. Project management as regard ongoing project within a company refers the art of creating that illusion that any outcome is the result of a series of predetermined, deliberate acts when, in fact, it was dumb luck It is designed to make better use of existing resources by getting work to flow horizontally as will as, vertically within a company. An overview definition of project management is the planning, organizing, directing and controlling company resources for a relatively short term objective that has been established to complete specific goals and objective. Further more, project management utilizes the system approach to management by having function personnel assigned to a specific project Project Management has been evolved as a distinct discipline ever since the Second World War. Though it is special discipline it got elevated only in the recent times, it has been in practice ever since the times of construction activities in this world. Constructions such as British Aisles, the Taj Mahal, Eiffel Tower, London Bridge etc., stand testimony to the fact that the doctrine of Project Management are not new. Project management resembles functional management in all aspects for all practical purposes with a little difference. It is concerned with the management C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
of resources successfully to complete the project, the resources being time, money, materials and equipment and the most expensive resource of all namely the human resource. To understand the project management one must first understand the basic concepts and different approaches to the study of management. An overview of different management approaches with specific emphasis on System approach to management approaches with specific emphasis on System approach to management and its relevance to project management, brief mention about the steps in project management, benefits and limitation of project management, and also an outline about effective project management are discussed in this lesson. Thus, the project management is designed to manage or control company resources on a given activity, within time, within cost and within performance. This has been depicted in the following diagram. OVERVIEW OF PROJECT MANAGEMENT GOOD CUSTOMER RELATIONS
TIME COST RESOUCES PERFORMANCE
Project management involves project planning and project monitoring and includes such item as Project planning Definition of work requirements Definition of quantity of work Definition of resources needed Project monitoring Tracking progress, comparing actual to predicated Analysis impact and making adjustments.
Thus, the successful project management can be defined as the process of achieving the project objectives within the cost (budget), at the desired performance and within the allocated time. Development of a Project system The three major groups of management theorists the structuralists, the functionalists and the behavioruists differ some what on how the project C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
manager deals with problems shifting job environments but they are unanimous on the utility of the task force as a useful device in group problem solving situations. The structuralists argue that the project manager, as a unifying agent, integrates the parochial interests of autonomous organizational elements towards a common objective through the formation of some standard organization instead of functional or product departmentalization. The funtionalists argue that project management is in reality simply the application of the systems concept to organizational problems. They visualize integration into a separate organizational system of activities related to particular projects or programmes, Management science techniques, computer simulation approaches and information decision systems are just a few of the tools that will make it possible for management to visualize the firm as a total system. The behaviouralists see the task force as organized around problems (not products, programmes, projects or tasks) arranged in an organic rather than a mechanical model in which the executive becomes the link pin or coordinator but human speaking the diverse languages or research and who has skills to realay information and mediate between groups. People will be differentiated not vertically according to rank and status but flexibly and functionally according to skill and professional training and replacing bureaucracy as we know it. Components of a Project Management System The vital components of a project from the systems perspective are: Objective: The fundamental rationale of a system that must be accomplished. Requirement: A sine qua non or a fundamental and irreducible constident of a whole system that may even satisfy the objective to some extent. Alternative: A surrogate, a secondary course of action, if one fails out the other will substitute and fulfill the needs of a system Selection criteria: The matter of carrying out is focused on assessing the choice and selecting the best course of action. Constrain: A demarcation point which describes the frontiers of a system within which the alternatives must move and devote their resources.
It can be inferred that the basic theories and philosophies, governing the age-old corps and projects had a stormy attack by the systems approach to management. Owing to the fact that project management is a subset of total management cult, it would be comforting oneself to describe the principles of general systems theory. The general systems approach can be squared with a C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
management approach which attempts to integrate and unify scientific information across many fields of knowledge. Systems theory attempts to strike at problems with a holistic view rather than through and analysis of the individual components. STEPS IN PROJECT MANAGEMENT Project Management basically consist of the following steps. Grouping work into packages which acquires the properties of a project. This means that the works so grounded are related on each other, contribute to the same goals and can be bound by definite time, cost and performance targets. Entrusting the whole project to a single responsibility centre known as the project manager, for coordinating directing and controlling the project. Supporting and servicing the project internally within the organization by matrixing or through total projectisation, and Building up commitment through negotiations, coordinating and direceing towards goals through schedules, budgets and contracts. Ensuring adherence through negotiations, coordinating and directing towards goals through schedules, budgets and contracts. Defining what is to be done, maintaining its integrity and ensuring that it is done and performed as desired, within time and cost budgets fixed for it through a modular work approach, using organizational and extra-organizational resources is what is project management. PROJECT MANAGEMENT ENVIRONMENT Project management performance will largely depend on the real-world environment. The project management environment in India, is very different from any other country. There are many problems which are peculiar to our country and these are experienced by all those who are concerned in the execution of both small and big projects. One has to aware of these problems in order to be able to cope with the same for successful implementation of a project. The most important problem is lack of mutual trust and respect amongst the participating agencies: owner, financial institutions, consultants, vendors and contractors. The owner believes that the agencies/contractors would take his for a ride and, therefore, he should, as far as possible, do things himself. When consultants are not appointed, projects are likely to have congenial weakness such as wrong selection of technology, wrong site, high risk element, etc. Sometimes the owner may appoint a consultant for a nominal fee and ask him to C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
prepare a report which he can sell to the bank. These reports often do not reflect reality as they are made without any in-depths study, and if cleared, would give birth to defective projects. This, doubt, reflects on a consultants lack of professional ethics and can be avoided if the financial institutions use a proper accreditation, system for consultants. However, accreditation of consultants may not set everything right. A site may often be selected purely on personal rather than on techno-economic considerations. The same may happen with the selection of technology or even with the selection of the consultant. It is often suggested that besides technical and financial appraisal of a project the financial institutions should appraise the entrepreneur himself. It is also suggested that the financial institutions should introduce an on-going audit system to prevent diversion of funds and other forms of financial irregularities. In other words, the financial institutions may not trust the owner/promoter since an owner may disown a project and the financial institutions have more stake in the project than the owner himself. Sometimes a promoter may intentionally underestimate the project cost with the intention of reducing his contribution. This would inevitably lead to cost overrun which normally the financial institutions are expected to finance. Of course, the financial institutions can insist on proportional overrun finance by the owner, but since the promoters stake is low, the institutions take their own time to decide to finance the overrun, meanwhile the project cost undergoes further overrun. A project, thus faces a fund crisis leading to extension of project completion time. With the extension of the project schedule further fund problems occur. Financing cost and inflation overtake the revised cost estimate. Since contingency provisions are too inadequate to meet the inflationary conditions of the economy, institutions have to provide further funds. But this again is not easily sanctioned. Most vendors and contractors, do not trust the owner regarding payment. At the very first sign of delay in payment, they start slackening. They cannot also be expected to be too enthusiastic about a project where fund problems are foreseen. A vendor, in such circumstance, may not start the work at all. This not only delays the project but sours the relationship between the owner and the vendor. Over the years, a number of projects have been affected by enormous increase in prices of cement, steel and transport and energy costs. These are noncontrollable costs as far as the owner is concerned and, therefore, the owner looks towards the financial institutions for relief. But the overruns even in such cases do not get automatically sanctioned as the financial institutions do not trust the promoter and would first like to be satisfied about the reasons for overrun.
Financial institutions often hesitate to disburse their term loans unless the promoters bring their entire contribution. Sometimes they withdraw their commitments due to temporary resource constraint, or when the find a project facing serious technical problems. Thus, due to financial insecurity some projects cannot progress as desired and end up with huge time and cost overruns. The problems discussed above can broadly be grouped into four classes of environmental problems: social, economic, technical and managerial. As discussed before, if these problems are not tackled, time and cost overruns cannot be stopped. Yet management of environment is beyond the scope of project management. There is no point, therefore, in discussing these problems in any further detail as they are beyond the scope of this book. While one cannot change the environment for the duration of a project, one can definitely project oneself from its adverse influences adverse influences. This can be done by creating a strong shield which will not only resist the adverse effect of the environment but also influence the environment marginally, at least, along the boundary. This is referred to as boundary management. A project can shield itself effectively against the environment only if it engages good agencies, used good system and has adequate funds to meet the requirements of the project. Good system and good agencies will require good funds. However, the funds must be used properly otherwise a project cannot be completed at least cost which is the ultimate criteria for measuring the efficiency of project management. Unfortunately, at the moment, we are unable to provide such a shield to all our projects that must be the only reason for our poor performance in the execution of the project. Projects in India have to be executed in a highly unfavorable environment but project management must cope with the situation. It has been suggested that project must be insulated adverse environmental influences by mobilizing good agencies, good system and all adequate funds.
Benefits of project management

Project management helps to avail the following benefits: Identification of functional responsibilities to ensure that all activities are accounted for regardless of personnel turnover. Minimizing the need for continuous reporting. Identification of time limits for scheduling. Identification of a methodology for trade-off analysis. Measurement of accomplishment against plans. Early identification of problems so that corrective action may follow. Improved estimating capability for future planning. Knowing when objectives cannot be met or will be exceeded. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Obstacles in project management

To enjoy the various benefits of project management given above, the following obstacles be overcome carefully. Project complexities Execution of customers special requirements Organisation restructuring is a typical task Project risks Changes in technology Forward planning and pricing. Project Management A Profession Project management has been evolved as a distinct ever since the Second World War. It has got elevation the recent times. Novelty is the hallmark of every project, hence it should exhibit fascination and dynamism. This requires professional approach in conceiving, implementing and controlling projects. Though the functional management and project management are related, the degree of professional approach is highly essential for the efficient management of project. The project management is mainly driven by intellectual operation and skilled and mechanical operations. Project management is covered by the matrix form of organization structure where a roles are defined according to a combination rather than functional specialization. Only managers with sufficient spirit and dynamism can withstand the over whelmin dizziness in these incessant operations. Hence, the project management requires sound expertise and exposure, which may not be possessed by the project promoter. So they have to resort the assistance from projects consultants and project managers. A brief description about the role of project manager and need functions of project consultants are given below. Project Manager and his role This is to signify a person who has the overall control of the project and shoulders responsibilities for its execution and performance. Therefore, he is thoroughly involved in planning the work and monitoring, directing and leading the participants and seeks to reach the project goal in time-cost-quality conundrum. The project manager is either a specialist or having predominantly C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
technical background with sufficient experience, exposure, expertise on multifaceted, multidimensional and multi disciplinary project. It is well evident from the monumental constructions and project that have been around us since heydays, that the role of a project manager is quite distinct and demands an all round performance. A project manager is always found shard in the enternal circle of doing, learnig and changing. Only managers with sufficient spirit and dynamism can with stand the overwhelming dizziness in these incessant operations. An ideal candidate for project managership should have some prominent personal characteristics as out lined by R Archibald. Flexible and adaptable Preference for significant initiative and leadership Aggressiveness, confidence, persuasiveness, verbal fluency; Ambition, activity, forcefulness; Effectiveness as communicator and integrator; Broad scope of personal interests; Poised with enthusiasm, in agitation, spontaneity; Able or willing to devote most of his time to planning and controlling, Able to identify problems; Willing to make decisions that are acceptable; Able to maintain a proper balance in the use of time, This ideal project manager would probably have doctorates in engineering business and psychology, sustained with a handful years of experience on similar natured project officer occupying different positions, and should have physical fitness to undertake such Machiavellian tasks with feeling of positive stress. Good project managers in industry today would probably be lucky to have 60% to 80% these traits. good project managers are willing to identify their shortcoming and know heavy traffic, they have to balance between the wheels that are mutually exclusive and yet engineering to run coherently, they ensure that goal is reached by properly accelerating the vehicle the vehicle to manager the traffic avoiding.
Project Consultant
For any developing country, project management hols the key for development. Without efficient project management neither cost control nor time control is possible. The basis ingredient of successful project management is a happy integration of three factor, appropriate estimate, competent contractor and C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
effective project management. The other important ingredient of successful project management is an effective management team. Consultant provide guidance as well as direction to the projects. From the formulation stage to the completion and post project evaluation stage, consultants services are essential ant are also available. Infect, the consultant is the part of the project management team, though as a paid member on contractual terms and conditions. When a project is taken up for execution, the first task would be to assess the requirements of the service of an outside consultant or the in-house expertise available would be sufficient for the project.
Need of consultants
Need of consultant arises: i) When a project of new technology is undertaken. ii) When the in-house consultant is incapable of meeting the requirements of the project. iii) When there is no in-house facility available in the organization. iv) When the project is executed on the basis of imported technology and know how. v) To avail the advantages of expertise available with the outside consultants.
Consultants may be of: a) b) In-house consultants Outside consultants Indigenous Foreign consultants. As regards in-house consultant, it may be stated that in many organizations a separate department is maintained in the total orgainisation structure. This department looks after the work of detailed engineering , drawings and preparation of technical specifications, etc. An office order shall be issued assigning the jobs along with scope of work, time schedule and job responsibilities to carried out. When the jobs cannot be done my the in-house consultants, the appointment of outside consultants would become unavoidable. While assigning jobs to the outside consultants the following steps should carried out effectivel: C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Approval from the competent authority. Decide about Indigenous or foreign consultants. Preparation of list of consultants. Scope of services of consultants Preparation of tender documents Inviting offers from leading consultants Evaluation of offers Award if contract to the consultant
While selecting outside consultants the various factors to be considered are : job requirements, facilities available in their organizations, experience, performance, their organization structure, fees, the terms and conditions, pre and post commissioning services etc. Job of consultants The functions of a project management consultant have been identified as 1) Assisting the agency in appropriate site investigation and sourcing of materials. 2) Assisting the agency in selecting the appropriate contractor; 3) Checking the quality of work, supervision control, testing monitoring and progress reporting, checking measurements and of bills.
The project management consultant has to give periodic reports to the client on the progress, trend and completion date, likely slippage in time, adequacy of resources with the contractor and quality awareness of the contractor, and recommend measures for better control and management, including additional input to correct slippages in future. If it is necessary, they can also recommend termination of a contractor, after examining the legal implications. In India, engaging project management consultants for selection of contractors and supervision of work is somewhat new. The project management consultant concept makes available for project management the latest developments in technical, engineering, management and information fields. Main jobs of the consultants are: i) ii) iii) Preparation of feasibility report Techno-economic report Preparation of detailed project report
iv) v) vi) vii)
Detailed engineering and consultancy services Project monitoring and control Supervision of erection and commissioning of project. Provide pre and post commissioning services.
With the passage of time, there has been progress in Indianisation in the spheres f technology, know how etc. Many firms in public sector as well s in private sector have come up in have consultancy services. A few well known consultancy firms are: TATA Consultancy Services Ltd. Birla Technical Services Dastur & Co. Ltd. Engineer India Ltd. Metallurgical & Engineering Consultants (India) Ltd. Kirloskar Consultancy Ltd. Power Consultancy Services India Pvt. Ltd. Small Industries Services Institute. Technical Consultancy Organisation Science and Technology Entrepreneurship Park etc. CONCLUSION Thus, this chapter has explained the various aspects of projects and project management. This conceptual knowledge will certainly helps you to know about the features of project and project managements, which is an emerging unique discipline. And this chapter has also explained the various stages of project life cycle, which helps the project manager to ascertain the strength and weakness of any project at any point of time. SELF ASSESSMENT QUESTIONS 1. 2. 3. 4. 5. Explain the significance of project approach for the economic development of the country. Give an outline about the project opportunities available in different sectors of the economy. Describe the various resource potentials of out country. Explain the latest trend in the infra-structural project in India. Give a brief note about the various on-going social-welfare sector projects.
6. 7.
Explain the role of project manager in successfully administering a project Describe the need and functions of project consultants.
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LESSON 2 PROJECT IDENTIFICATION

OBJECTIVES To know the importance of conceiving a good of project idea To ascertain the different sources from which a project idea can be generated To identify the steps involved in project identification and selection
PROJECT IDENTIFICATION SCOUTING AND SCREENING OF PROJECT IDEAS An entrepreneur has an infinitely wide choice with respect to his project in different dimensions such as product/service, market, technology, equipment, scale of production, time phasing and location. Hence, the identification of investment opportunities (projects) calls for understanding he environment in which one operates, sensitivity to emerging investments possibilities, imaginative analysis of a variety of factors and also chance luck. This chapter is concerned with scouting and screening of project ideas, steps in the project identification process and also consideration involved in identifying the new projects by an existing company. PROJECT IDEAS It is the first and foremost task of an entrepreneur to find out suitable business which is feasible and promising and which merit further examination and appraisal. Therefore, he has to first search for a sound of workable business idea and give a practical shape to his idea. While doing so, the entrepreneur has to tackle the various problems from time to time to achiever the ultimate success. Since the good project ideas are elusive, a variety of sources should be trapped to stimulate the generation of project ideas. SOURCES OF PROJECT IDEAS Project ideas could originate fro the various sources viz., Success story of a friend/relatives Experience of others in manufacture/scale of product Examining the inputs and outputs of industries
Plan outlays and government guidelines Suggestions of financial institutions and developmental agencies Investigation of local materials and resources Economic and social trend of the economy New technological developments Project profiles and industrial potential surveys Visits to trade fairs Unfulfilled psychological needs Possibility of reviving sick units The various sources from which the project idea can be generated are explained below: Analysis the performance of existing industries A study of existing industries in terms of their profitability and capacity utilization is helpful. The analysis of profitability and break even level of various industries indicates promising investment opportunities. Opportunities which are profitable and relatively risk free. An examination of capacity utilization of various industries provides information about the potential for further investment. Such a study becomes more useful if it is regionwise, particularly for products which have high transportation costs. Examine the inputs and outputs of industries An analysis of the inputs required for various industries may throw up project ideas. Opportunities exist when (I) materials purchased parts, or supplies are presently being procured from different sources with attendant time lag and transportation costs and (ii) several firms produce internally some components/parts which can be supplied at a lower cost by a single manufactures who can enjoy economies of scale. A study of the output structure of existing industries may reveal opportunities for further processing of output or even processing of waste Examine imports and exports An analysis of import statistics for a period of fie to seven years is helpful in understanding the trend of imports of various goods and the potential for import substitution. Indigenous manufacture of goods currently imported is advantages for several reasons:
It improves the balances of payments situations It provides market for supporting industries and services It generates employment Likewise, an examination of export statistics is useful in learning about the exports possibilities of various products. Plan outlays and government guidelines The governments plays a very important role in out economy. Its proposed outlay in different sector provides useful pointers toward investment opportunities. They indicate the potential demand for goods and service required by different sectors. Suggestions of financial institutions and developmental agencies: In a bid to promote development of industries in their respective states, state financial corporations state industrial development corporations and other developmental bodies conduct studies, prepare feasibility reports and offer suggestions to potential entrepreneur. The suggestions of these bodies are helpful in identifying promising projects. Investigate local materials and resources A search for project ideas may begin with an investigation into local resources and skills, various ways of adding value to locally available materials may be examined. Similarly, the skills of local artisans may suggest products thay may be profitably produced and marketed. Analysing economic and social trends A study of economic and social trends is helpful in projecting demand for various goods and services. Changing economic conditions provide new business opportunities. A great awareness of the value of time is dawning on the public. Hence the demand for time saving products like prepared food items, ovens and powered vehicles has been increasing. Another change that we are witnessing is that the desire for leisure and recreational activities has been increasing. This has caused and growth in the market for recreational products and services Explore the possibility of reviving sick units Industrial sickness is rampant in the country. There are over 20,000 units which have been characterized as sick. These units are either closed or face the prospect of closure. A significant proportion of sick units, however, can be nursed back to health by sound management, infusion of further capital and provision of complementary inputs. Hence there is a fairly food scope for investment in this C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
area. Such investments typically have a shorter gestation period because one does not have to begin from scratch. Indeed, in many cases marginal efforts would suffice to revive such units. Identify unfulfilled psychological needs For well established, multi brand product groups like bathing soaps, detergents, cosmetics and tooth pastes, the question to be asked is not whether there is an opportunity to manufacture something to satisfy an actual physical need but whether there are certain psychological needs of consumers which are presently unfulfilled. To find whether such an opportunity exists, the technique of spectrum analysis may be followed. This analysis is done somewhat as follows. (i) Important factors influencing brand choice are identified (ii) respect of the factors identified in step (iii) gaps which exist in relation to consumer psychological needs are identified. Visit to trade fairs Attending the National and International trade fairs provides an excellent opportunity to know about new products and new development. The above said sources of project ideas may be generated by the Government agencies, credit institutions, non-governmental organizations and also by public. The Governments has largest resources and have the necessary information to generate project ideas and it plays a predominant role in this sphere. The government has the required facilities and manpower to conduct detailed studies which may lead to making investment decisions. Banks and other financial institutions are actively involved in sharing the social responsibility of achieving the national objectives of economic development. The co-operatives and non-governmental organizations as well s individual entrepreneurs are now actively participated in identification of projects. The awareness of involving the people or the beneficiaries in project identification is now increasing fast. Since the local people have the first hand knowledge of the potentials and problems of the area to which they belong, more realistic project identification has become possible with their involvement. It needs no emphasis the project ideas would be generated in better manner both in the qualitative as well as quantitative terms when the knowledge and ideas of the Gove. Functionaries, people, the financial institutions and other experts are pooled together. PURPOSE AND NEED FOR PROJECT IDENTIFICATION The entire economic management planning is based on two fundamental assumptions. i.e. a) limited means and b) unlimited ends. A planner has to select few important needs to cut it into size of his/her means. This may be treated as C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
fixing the priority is called identification of project. It helps in elimination process. Identification and selection of a project is a scientific process. This process is based on certain essential conditions. It may differ from project to project. The essential conditions which should be taken into consideration for identification and selection of production projects are as follows: Project should be in conformity with the economic needs of the area. It should take into account the depriving factors which might have adverse impact. The input-output ratio should be optimum. The purpose of the project is to increase the production and employment of the area. Thus, the above said conditions will differ due to resources availability, use pattern and other relevant conditions of the area. Besides that, project should also consider certain national priorities. STEPS IN PROJECT IDENTIFICATION Project ideas are like other ideas which dont take concrete shape immediately. There are several stages of making propositions their considerations and scrutiny for their soundness. An idea is first born, it is under incubation for sometime and subsequently is begins to take some definite shape. The project ideas to develop take almost the same course. This project identification may be broadly divided into four stages, viz., A. B. C. D. Conceptual stage where project ideas are generated Screening stages at which unviable ideas are eliminated. Identification stage at which viable projects are selected Pre-feasibility state at which pre-feasibility studies are taking up.
Conceptual stage A number of project ideas may be generated either by those officials or nonofficials and entrepreneurs individually or collectively who are conversant with the area. In this context, one has to examine the potentialities of development and the problems, needs and aspirations of the people of the concerned area.
Screening stage In the second stage project ideas generated above are screened n a preliminary exercise to weed out the bad or unviable ides. All project ideas would not pass the screening test. Some project ideas may be imaginary to warrant any serious consideration. The third & fourth stages may be called as investment opportunity study. This study is necessarily preliminary and the broad one and has a limited objective of providing planners with a choice of projects from which they can make a selection. Pre feasibility study and these can be differentiated opportunity study and a detailed feasibility study and these can be differentiated mainly on the basis of information required for respective stages.
SCREENING PROJECT IDEAS After gathering the project ides from the various sources as aforesaid, it is essential to eliminate ideas which prima facie are not promising. This process f eliminating the irrelevant and unviable ideas is called screening of project ideas. It can be done with the help of testing the following conditions of the propositions. a.) b.) c.) d.) e.) f.) Compatibility with the promoter Consistency with governmental priorities Availability of inputs Adequacy of market Reasonableness of cost Acceptability of risk level etc.
The project idea must be compatible wit interest personality and resources of the entrepreneur. It should be accessible to him and also it offers him the prospects of rapid growth and high return on invested capital. The project idea must satisfy or go along with the governmental priorities, National goals and governmental regulatory framework. e.g. No Contrary environmental effects to governmental regulations Easily accommodation foreign exchange requirements No difficulty in obtaining license.
The resources and inputs required for the project must be reasonably assured. This feature of the project can be assessed with the help of determining the following points relating to a project. Capital requirement within manageable limit Obtaining technical know-how Availability of raw materials at a reasonable cost Obtaining power supply Identifying the adequacy of market is the key factor to select, the viable project idea. To judge the adequacy of market the following factors have to be examined. Total present domestic market Competitors and their market shares Export market Quality price profile of the product. Sale and distribution system Projected increase in consumption Barriers to the entry of new units Economic social and demographic trends favourable to increased consumption Patent protection Reasonableness of cost is another factor to screen the project ideas. The cost structure of the proposed project must enable it to realize and acceptable profit with a competitive price. The following cost factors must be carefully considered to design a viable cost structure. Cost of material inputs, labour costs, factory overheads. General administration expenses, selling and distribution costs. Service costs, economics of scale etc. Acceptability of risk level is another factor which helps to screen the project ideas and hence determine the desirability of a project.
METHODOLOGY FOR PROJECT IDENTIFICATION To make a viable project it should be linked with the actual circumstances prevailing in the area. Without knowing the basic information relating to socioeconomic conditions of the area, it is difficult to draw a suitable project for the area. Development needs and potentials vary from area to area. For specific area, before drawing a project, local condition and other relevant factors must be taken into consideration. Most of the project fails because they were not based on local problems. Assumptions based on macro level information may fail to watch at micro level. Survey is a technique to unearth the hidden information which are vital to identify the basic requisites of project i.e , need, resource and priorities. It also helps in making right choice between different alternatives. Secondly it presents lot of information to be used as bench mark information which will help at the later stage for evaluation of the project. PROJECT IDENTIFICATION FOR AN EXISTING COMPANY Existing companies essentially large scale company form of organizations are continuously developing various projects for their developmental purposes. While doing so, the existing company has to make a more intensive analysis of its resources and environment and conceive of projects on the basis of its existing activities. An existing company which seeks to identify new project opportunities should undertake a SWOT analysis, It is an acronym law of strengths and weakness and opportunities and threats. This analysis evaluate all these four characteristics of existing company. A brief summary of the points required for SWOT analysis is given below: Availability of internal financial reasons for new projects after taking into account the need for replacement expenditure, increase in working capital, repayments of borrowings and dividend payments. Capability of raising external financial resources Availability of production facilities Technological capabilities of the company Availability of different sources of raw materials and its utilization Availibility of infrastructural facilities Cost structure and profit margins of the company Distribution network of the company
Market share of the company Capability of top management of the company State of industrial relations in the company Impact of corporate laws on the growth of the company especially (MRTP ACT) etc., Likely changes in the governmental policies Possibility of evolving new technology and its impact on the cost structure of the company Existence and severity of competition Changes in the customers preferences, tests etc., By considering the above said information keenly the SWOT analysis helps to provide the basis for the corporate strategy to be followed and indicate the major areas of thrust. These may include expansion of the capacity of existing product range, vertical integration, diversification in related areas and mergers. CONCLUSION Thus this lesson has explained to you the significance and mode of conceiving good project idea. It also explains to you the various sources from which the project ideas can be generated and how one should select the project ides. SELF ASSESSMENT QUESTIONS 1. 2. 3. What factors would you take into account for identifying promising investment opportunities? What is SWOT analysis and how it can be done? Explain the process of project identification
LESSON 3 PROJECT FORMULATION OBJECTIVES To impart the need for project formulation To describe the project formulation process To know the criteria to be followed in project formulation INTRODUCTION Project formulation is an investigating process which precedes investment decision. The purpose is to present relevant facts before the decision-makers to enable them to decide as to whether to go ahead signal should be given for the project or not. Formulation of projects involves scientific procedure. The task of any formidable project is too many. It has to present several information subjective and objective in nature. It explains the objectives, goals and justification for the acceptance of the project. The major task of the project is to assess the financial, technical and managerial involvement and its justification considering the resource constraint. The project formulation stage involves the identification of investment options by the enterprise. Project formulation is designed to bring the project sponsoring authority and the agencies from whom it has to gent concurrence, support etc., on one wavelength. Project formulation by providing a scientifically developed procedure for developing the contend as well as the format of the investment proportions, seek to streamline the process of appraisal of project at government and the aiding agencies level. So, the project formulation is a process involving the joint effort of a team of experts including the economists, the financial analysis and specialists in various fields. A well formulated project provides a medium which out across scientific, social and positional prejudices and provides a common meeting ground for all those who have a contribution to make successful implementation of a project.
STAGES IN PROJECT FORMULATION The different stages in the project formulation process are briefly describes as follows;
A. Feasibility analysis B. Techno-economic analysis C. Project design and network analysis D. Input analysis E. Financial analysis F. Social cost-benefit analysis G. Project appraisal FEASIBILITY ANALYSIS Feasibility analysis is the first stages in the process of project development. The purpose of the analysis is to examine the desirability of investing in pre-investment studies. For this purpose it is essential to examine project idea in the light of the available internal (inputs, resources & outputs) and external constraints (environment). When a project idea is taken up for developmental three situations can arise. The project may appear to be feasible, project may turn out to be not feasible or the available data may not e adequate for arriving at reasonable decision regarding further investment. In the last mentioned case, investment in pre-investment studies will obviously have to be adequate for arriving at reasonable decision regarding further investment. In the last mentioned case, investment in pre-investment studies will obviously have to e deferred till such time s adequate date regarding the project feasibility is available. The project sponsoring body will therefore have to invest in collection additional data and refer the investment decision for the time being. In the second situation when the project is found to e not feasible, further investment in the project idea is completely ruled out. In the third situation, when the project idea is found to be feasible, the decision-makers can proceed to invest further resources in preinvestment studies and design development.
TECHNO-ECONOMIC ANALYSIS Techno-economic analysis is primarily concerned with the identification of project demand potential and the selection of the optimal technology which can be used to achieve the project objectives. The analysis provides necessary material on which the project design can be based. It also indicates whether the economy is in position to absorb the output of the project or not. PROJECT DESIGN AND NETWORK ANALYSIS Project design is the heart of the project entity. It defines the individual activities which go into the corpus of the project and their inter-relationship with each other. It identifies the flow of events, which must take place before a project can start yielding the results for which it has been set up. The inter-relationship C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
between various constituent activities of a project in most conveniently expressed in the form of a network diagram. Project design and network analysis are concerned primarily with the development of the detailed work plans of the project and its time profile, and the presentation of this plan is form of a detailed network drawing. Project design and network analysis make available to the project formulation team a clear picture of the work elements of the project and also their sequential relationship. This presentation the way for detailed identification and quantification of the project inputs, an essential step in the development of the financial and cost-benefit profile of the project. INPUT ANALYSIS The objective is to identify and quantify the project inputs and to assess the feasibility of a sustained supply of these inputs all through the effective life span of the project. Resources are consumed in project constituent activities. The best method of identifying the project constituent activities. The best method of identifying the project inputs is therefore to identify these activities determine the resources which each activity will consume individual requirements. Input analysis uses the network plans for developing the input characteristics of the project. If thereafter proceeds to evaluated the availability of the inputs both in quantitative as well as qualitative terms. Resources require for a successful implementation of a project include not only the material inputs but also human resources which are necessary both for the setting up of the project as also its successful normalization run. Resources requirements estimates form the basis of costs estimates of the project and are, therefore, essential for developing the financial profile and cost-benefit profile of the project. FINANCIAL ANALYSIS The objectives of financial analysis is to develop the project from the financial angle and to identify these characteristics. Financial analysis concerns itself with the estimation of the project costs, estimation of project funds requirements, It also involves appraisal of the financial characteristics of the project so as to establish the relative merits and demerits of the project as compared to other investment opportunities. Financial analysis reduces investment proposition in diverse fields of human activity to one common scale, thereby simplifying the project is developing project financial forecasts. COST BENEFIT ANALYSIS In judging the overall worthiness of the project, the effect of the project on society as a whole is very essential. While financial analysis evaluates a project from the profitability point of view, social cost benefit analysis views it from the point of view of national viability. The cost-benefit analysis however takes into account not only the direct costs and benefits which will accrue to the project implementing body but also total costs which all entities connected with the C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
project will have to bear and the benefits which well be enjoyed by all such entities. The idea here is to evaluate the project in terms of absolute costs and benefits rather than in terms apparent costs and benefits. PRE-INVESTMENT APPRAISAL Pre investment appraisal is the process of consolidating the results of feasibility analysis, the techno-economic analysis, the design and network analysis, the input analysis, the financial analysis and the cost benefit analysis, so as to give the investment proposition a final and formal shape, It naturally involves selection of appraisal format, the material which should go into preinvestment report and the form of presentation of various conclusions. The sun total of the pre-investment appraisal is to present the project idea in a form in which the project sponsoring body, the project implementing body and the outside agencies can take investment decision regarding the proposals.
CRITERIA TO BE FOLLOWED The main criteria in the project formulation process are: Forecasting understanding and precisely identifying the objectives/needs/goals (regional/state/national/international) of the unit/society/economy/on a sustained basis. Setting up priorities and choosing the goals that are more urgent Searching for alternations and carrying out feasibility studies to pick up projects that appear most beneficial and desirable. Carrying out detailed studies of the project so selected Estimation the needed resources (human and physical) and finding the yearly cost and benefit of project Arranging funds both approval and allocation. The successful implementation of any project depends upon the timely availability of the required resource as per projections. Preparing of time schedule for all hobs so that the physical and financial targets of the projects are passed appropriately Distributing the works to various departments or agencies having the appropriate technical expertise
Execution and controlling the project. This requires frequent reviewing, updating and constant action to restore the operation to its planned characteristics. Evaluating the performance of each project to ensure the worth of good or service for each rupee to be spent. CONCLUSION Thus the process of project formulation involves a stage by stage development of the project idea into an investment proposition. The conclusion down at the end of each stage forms the basis of development of the ensuing stage. These conclusions also provide necessary materials for re-checking of the initial premises from which a beginning was made. There must be forward and backward look at the completion of every stage. So the project formulation team has to be ready to revise its opinions and conclusions in the light of further evidence. SELF ASSESSMENT QUESTIONS 1. What do you mean by project formulation? Explain the several aspects of project formulation. 2. What are the different phases of project formulation? 3. Explain the criterion to be adopted while formulating a project. 4. Formulation of projects involves scientific procedure elucidate.
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LESSON 4 FEASIBILITY STUDY AND PREPARATION OF FEASIBILITY REPORT OBJECTIVES 1. To explain the nature and significance of feasibility study. 2. To know the components of feasibility study in a detailed manner. 3. To import knowledge of preparing feasibility report and how it can be checked.
INTRODUCTION A feasibility report is an investment proposal base on certain information and factual data appraising the project. This type of feasibility study may be required by the financing institutions, project sponsor, project owner. The feasibility report enables the project holder to know the inputs required and if rightly prepared confirms to the convictions that he is proceeding in the right direction. In other words, a project needs to be fully defined in order to provide terms of reference for the management of the project. A project can be considered to have been fully established when the following conditions are fulfilled. The technical configuration of the project has been fully defined. The performance requirement for the various technical system and the key equipment have been specified. Cost estimate for the project is frozen. Techno-economic viability of the project has been examined, appraised and approved. An overall schedule for implementation of the project has been drawn-up. The feasibility report is prepared during the definition phase of a project. It lies in between project formulation stage and appraisal and sanction stage. It is prepared to present an in-depths techno-commercial analysis carried out on the project idea for consideration of the financial institutions and other authorities empowered to take the investment decision.
NATURE OR PROJECT FEASIBILITY ANALYSIS
In the broadest sense, every rational decision t make new investment is proceeded by an investigation of the feasibility of the project, whether or not this carried out in a formal manner. The larger the project and greater the investment, the more formalized the investigation. Assurance is needed that the market exists or can be developed, that raw materials can be obtained, that sufficient labour supply is available, that local services vital to the project are at hand, and that the overall costs for plant equipment, labour and raw material input will be of a certain order. Most importantly it must be determined that income will exceed costs by a margin sufficient to make the project financially attractive. When the project is small, the study format may be quite informal, perhaps there will be no formal study at all and little accumulation of actual data. Nevertheless, the feasibility calculations will have to be computed and evaluated, even if an informal manner before the ultimate step of actual investment is taken. NEED FOR FEASIBILITY STUDIES A company is incorporated for the purpose of setting up a project. The promoters obviously have, to start with, some broad idea about the proposed industrial activity. They make mental picture as to how the idea, when translated into reality would result in a profitable project, given the demand supply pattern, probable cost of production etc. It is quite likely that the originators get attracted by the favorable aspects of the project known to them, while they may have overlooked the dark side of the picture, which can only be revealed by a detailed objective study. Too many projects have floundered, at considerable loss to the investors and indeed to the national economy through waste of scarce resources, because the investment decisions were taken without objective and in depth techno-economic feasibility studies. The need for such careful studies is further underscored on two counts: In modern times, business operations are complex, requiring carefully prepared plans. The shareholders, creditors, term leaders etc., insist on as complete an analysis of the scheme as possible without their co-operation, it would not be possible to translate the ide into action. This feasibility study helps the promoter to make the investment decisions correctly and to obtain funds without much difficulties. It allows the promoters to anticipate the problems likely to be encountered in the execution of the project and phases them in a better position to answer the queries that may be raised by the financial institutions and others who would have to be involved in the project. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
COMPLEMENTS OF FEASIBILITY STUDY Project feasibility study comprises of market analysis, technical analysis, financial analysis, and social profitability analysis. The analysis is mainly interested only in the commercial profitability and thus examining only the market, technical and financial aspects of the project. But, generally the gamut of feasibility of a project covers the following areas: Commercial and economic feasibility Technical feasibility Financial feasibility Managerial feasibility Social feasibility or acceptability These areas are briefly described below: COMMERCIAL AND ECONOMIC FEASIBILITY The economic feasibility aspect of a project relates to the earning capacity of the project. Earnings of the project depends on the volume of sales. If taken into consideration the following important indicators. Present demand of the goods produced through the project. i.e. market facility (or) getting a feel of the market. Future demand: a projection may be made about the future demand. The period normally depend upon the scale of investment. Determining the extent of supply to meet the expected demand and arriving at the gap. Deciding in what way the project under consideration will have a reasonable chance to share the market. Anticipated rate of return on investment. If it is positive the project justifies the economic norm in the relationship between cost and demand. Future demand can be estimated after failing into consideration the potentialities of the export market the charges in the income and prices, the multiples use of the product, the probable expansion of industries and the growth of new industries. The share of the proposed project n the market could be identified by considering the factors affecting the supply position such as competitive position of the unit, existing and potential competitors, the extent of C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
capacity utilization, unit cost advantages and disadvantages, structural changes and technological innovations bringing substitute into the market. The commercial feasibility of a project involves a study of the proposed arrangements for the purchase of raw materials and sale of finished products etc. This study comprises the following two aspects. Arriving at the physical requirement of production input such as raw materials, power, labour etc., at various level of output and converting them into cost. In other words, deciding costing pattern. Matching costs with revenues with a view to estimating the profitability of the project and the break-even point. The possibility ultimately decides whether the project will be a feasible proposition. The technical analysis of a project feasibility study serves to establish whether or to the project is technically feasible ant it also provides a basis for cost estimating. TECHNICAL FEASIBILITY The examination of this aspect requires a thorough assessment of the various requirements of the actual production process and includes a detailed estimate of the goods and services needed for the project. So, the feasibility report should give a description of the project in terms of technology to be used, requirement of equipment, labour and other inputs. Location of the project should be given special attention n relevance to technical feasibility. Another important feature of technical feasibility relates the types of technology to be adopted for the project. The exercise of technical feasibility is not done in isolation. The scheme has also to be viewed from economic considerations; otherwise, it may not be a practical proportion however sound technically it may be. The promoter of the project can approach the problem of preparation of technical feasibility studies in the following order: Undertaking a preliminary study of technical requirements to have a quick evaluation. If preliminary investigation indicate favourable prospects working out further details of the project. The exercise begins with engineering and technical specifications and covers the requirements of the proposed project as to quality, quantity and specification type of components of plant & machinery, accessories, raw materials, labour fuel, power, water, effluent disposal transportation etc. Thus, the technical feasibility analysis is an attempt to study the project basically from a technicians angle. The main aspects to be considered under this C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
study are: technology of the project, size of the plant, location of the project, pollution caused by the project production capacity of the project, strength of the project. Emergency or stand-by facilities required by the project sophistication such as automation, mechanical handling etc. required collaboration agreements, production inputs and implementation of the project.
FINANCIAL FEASIBILITY The main objectives of this feasibility study is to assess the financial viability of the project. Here, the main emphasis is in the preparation of financial statement, so that the project can be evaluated in terms of various measures of commercial profitability and the magnitude of financing required can be determined. The decision about the financial feasibility of project should be arrived at based on the following consideration: For existing companies, audited financial statements such as balance sheets, income statements and cash flow statements. For projects that involve new companies, statement of total projects cost, initial capital requirements, and flow relative to the projective time table. Financial projections for future time periods, including income statements, cash flows and balance sheets. Supporting schedule for financial projections stating assumptions used as to collection period of sales, inventory levels, payment period of purchases and expenses and elements of production cost, selling administrative and financial expenses. Financial analysis showing return on investment return on equity, breakeven volume and price analysis. If necessary sensibility analysis to identify items that have a large impact on profitability or possibly a risk analysis. MANAGERIAL FEASIBILITY The success or failure of a project largely depends upon the ability of the project holder to manager the project. Project is a bundle of activities and each activity has its own role. For the success of a project, a project holder has to coordinate all the activities in such a way that the additive impact of different inputs can produce the desired result. The ability to manage and organize all such inter related activities come within the concept of management. If the person in-charge of the project, has the ability, has the ability to manage all such activities, the desired result can be anticipated. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
There are three ways to measure the managerial efficiency: a. b. c. SOCIAL FEASIBILITY A project may cross all the above barriers mentioned above an found very suitable but is will lose its entire creditability, if it has no social acceptance. Though the social customs, conventions such as caste community, regional influence etc. are creating hindrance for development of a project should avoid all such social conflicts which will stand on the successful implementation of the project, (e.g.) Considering the interests of the general public; projects which offer large employment potential, which channelise the income from less developed areas will stimulate small industries. In a nut shell, the feasibility report should highlight on these five testing stones before it can be declared as complete and only after judging through these indicators a project can be declared as viable and can be submitted for finance or any other assistance from any institutions. FORMAT OF FEASIBILITY REPORT The sketch of feasibility report of the project covers the following 1. Introduction 2. Summary and Recommendations 3. Project Capacity, Chemistry of the product, specifications, properties, application and uses. 4. Market potential 5. Process and know-how 6. Plant and machinery 7. Location of the unit 8. Plot plan and building 9. Raw materials availability 10. Utilities, requirements C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008 Hereby skill Skill acquired through training Skill acquired course of work
11. Effluents treatment 12. Personel requirement 13. Capital cost 14. Working capital 15. Mode of finance 16. Manufacturing cost 17. Financial analysis 18. Implementation schedule CHECK FOR FEASIBILITY REPORT The following key elements must be presented in the feasibility report, Examination of public policy with respect to the industry project Broad specification of outputs and alternative techniques of production Listing and description of alternative locations Preliminary estimates of sales revenue, capital costs and operating costs of different alternatives Preliminary analysis of profitability for different alternatives Marketing analysis Specification of product pattern and product prices Listing of major equipment by type, size and cost Listing of auxiliary equipment and process know-how Specification of site and completion of necessary investigation Listing of buildings, structures and yard facilities by type size and cost Specification of supply sources connection costs and other costs and other costs for transportation services, water supply and power Preparation of layout Specification of skill-wise labour requirements and labour costs. Estimation of working capital requirement Phasing of activities, and expenditure during construction Analysis of profitability Determination of measures of combating environmental problems State the preparedness to implement the project rapidly
CONCLUSION Thus, this chapter narrates the very purpose of a feasibility report in a lucid manner, covering components of feasibility reports, principal feature of project feasibility study and also checklist for feasibility study. It helps in defining and analyzing the alternative approaches to production processes and outcomes. It focuses attention on the material inputs and various other techno-economic variables. It describes the optimization process, justifies the assumptions and hypothesis set thereby selection the better alternative solutions and defines tre clear boundaries of a project viability.
SELF ASSESSMENT QUESTIONS 1. What do you mean by feasibility study? Explain its significance in project formulation? 2. Explain the different components of feasibility study 3. Suggest a suitable outline of feasibility report for setting up a small scale industry. 4. How a technical feasibility of a project can be ascertained? 5. Analyse the significance of managerial competence and commercial viability of project in the feasibility study. 6. What the elements to be covered in the feasibility report?
LESSON 6 PROJECT REPORT OBJECTIVES 1. 2. To know the need for preparing a project report To explain the content of an ideal project report
INTRODUCTION A project at the outset must bear a logical appearance, which it can get only after the feasibility test. Project report is a document, which clearly narrates the various aspects f project in a prescribed form. Project report preparation is a post investment decision exercise. It involves the preparation of detailed specifications and designs for the project premises, detailed design of the process or other equipment and time schedules for the implementation of the project. Hence, the detailed project report is the work plan for the implementation of the a project once an investment decision is arrived at. A project report is meant to provide the necessary information, which may be required for the purpose of processing and assessing the proposal for getting the financial assistance from the financial institutions. This is essentially prepared in order to provide a complete information with proximate values of the project and presented to the financial institution for appraisal. A project report prepared with utmost care care would not only give a clear idea to the banker but also it relives the entrepreneur from the normal objections and formal queries of the banker. In a developing economy like India, where the development banking is vigorous, an entrepreneur gets a lot of published materials with data relating to various feasibilities and promotional institutions engaged in entrepreneurship development produce good literature covering various aspects of producing a project or products in the country. The Director General of Technical Development (DGTD), National Small Industries Corporations (NSIC) are some of the pioneer institutions providing variety of information for small scale enterprises to manufacture. They are guidelines for industries indication those items, in which good scope exists for manufacturing. With these available information, an entrepreneur has to do the following for starting an industrial unit: To decide the types and level of industrial production. To compare the requirements of funds with his personal availability of finance. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
To prepare a nice project report containing all relevant information. Many of the institutions like SISI, State Financial Institutions also help in preparation of project report and later on recommend they to the banks. Besides these institutions, several commercial banks help the entrepreneurs to get a good project report. Components of Project Report The following are the important headings under which the complete information on relevant aspects should be included for a small scale industrys project report. General information Rationale Project description Market potential Capital expenditure and sources of finance Assessment of working capital requirements Other financial factors Government and other statutory approvals Economic and social variables 1. GENERAL INFORMATION The following aspects should be given in the stage, which are of general nature: Name and address of the entrepreneur The qualifications, experience and other capabilities of the entrepreneur. If it is a partnership firs, these information of other members should also be given. A small reference of analysis of industry to which the project belongs e.g. past performance, present status, the way of organization, the problems etc. The organizational structure of the enterprise The utility of the product and the range of products to be manufactured
2.
RATIONALE
As mentioned earlier a project may have several objectives subsidiary to the prime objective of making profit. As a first step in project evaluation, it is essential that one looks at the broad rationale of the project proposal to ensure that the project is appropriate and justified. As an example, one could say that modernization or pollution control may be fully justified on grounds of survival and environmental protection even if, in the short-term the project expenditure may adversely affect the financial criteria of project evaluation. On the other hand, a project which would improve the earnings per share or the debt service cover or the production efficiency may not necessarily be justified if all this is to be achieved at the expense of national interest or public interest. 3. PROJECT DESCRIPTION
A brief description of the project covering the following aspects should be given in the project report. SITE: Location (Town, Complete address) whether owned or leasehold land whether the site is approved industrial area? Is it suitable for the product under review. 4. INPUT FACTORS
Raw materials: What are the sources of raw materials? Are they locally available? Whether imported raw material is also required? If so, whether license has been obtained? Is it suitable to get quality raw materials continuously at reasonable prices? The availability, quality critically and quality compatibility of the raw material with the technology as well as the plant and machinery are important factors to be clearly understood while evaluating a project especially those in hitech area. This element is also intimately linked to many other elements in a project and can force necessary changes in them to ensure the viability of the project. As a simple example, one can easily surmise that a raw material with a high volume to weight ratio will indicate the plant is located near the source of raw material. e.g. Cement, power (coal based). On the other hand, if the values added in such a case is very high, then it may be possible or even necessary to locate the plant away from the source or raw materials. Textiles, power (gas based of oil based), processed foods like snack foods, ice creams are some the pertinent examples. The characteristics of the raw materials are multivariate and not just on the volume weight ratio. It is imperative therefore that this elements gets a careful C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
consideration while assessing a project. The market, the management, and the utility needs of the projects also influence the locational decisions. Labour: What is the type of labour required? Whether skilled or unskilled? Are they available in that area? If not, what arrangement have been made to recruit and train the labour in various skills? Power: Inadequate supply and high cost of electricity is a major problem now-adays. So, the project report should contain the information regarding the power requirements, the load sanctioned, stability of supply of power and the price at different consumption level. Fuel & water: Whether the fuel systems like coal, coke, oil or gas are required and if yes, then state their availability position. Similarly water is an important factor. The source and the quality of water should be clearly stated. Waste discharge: Most of the plants product waste material or emissions that may result in many health problems to the public. The emissions and discharges may be various types like (a) gaseous )smoke, fumes, dust etc.) by physical (noise, hear, vibration etc.) or (c) liquid or solid discharged through pumps and sewers. Hence, it should be clearly stated that the arrangements made from these things. COMMUNICATION AND TRANSPORT FACILITIES A vialability of communication facilities like telephone, telex and post and telegraph department, should be stated in the report. Similarly, transport is a basic necessity for industries. Raw materials as well as finished products has to reach destination only through a good transport systems available. So, the various transport facilities available in that should be clearly stated. Similarly availability of facilities like machine shops, welding shops and electrical repair shops etc., should also be stated. List of machinery & Equipments: A complete list of items of machinery and other equipments indication their type, size and cost should be stated. Source of supply of capital equipment and the construction services should also be given. The source of plant and machinery as also the specification for the same can often make or break a project. It is, therefore, equally important to evaluate the plant and machinery which is to be installed at the project. The reputation of the supplier and references to place where such/similar plant and machinery are installed is a good starting point while assessing this element. Capacity & Technology: The installed and licensed should be stated and the number of shifts likely to follow should be stated. Similarly, is the technology
upto date and appropriate? Which other units are using the same technology and with what results? How the required know-how is proposed to be arranged.? The level of technology in terms of its state of art or obsolescence, adaptability to the local conditions, maintenance and repairability, sophistication in management and control are elements which have a significant impact on the quality and quantity of production that is envisaged in the project. It is thus necessary to have a clear understanding about the technology which is to be utilized in the project. It is pertinent to note that there are no hard and fast rules but appropriateness and relevance are the two key operative words while assessing a technology proposed for the project. It is ridiculous to propose a highly sophisticated, push button control technology in a place where electricity supply follows its own rules or where a simpler technology is better understood and more manageable. Equally, it would be disastrous to recommend an obsolete technology on account of its durability or time tested proof of performance when everyone else is fast discarding it. This technology elements is linked to ever other element in the project proposal and these linkages also need to be looked into as an essential step in assessing the technology. One of the technologies available may necessitate creation of large capacity not necessarily advisable given the current raw material supply or the market size for the product. For example, a capacity of 100 tps. But if raw material proposed is agricltral waste a whole lot of new considerations starting from collection and storage or raw materials come into play necessitation appropriate changes in the plant size and even perhaps the technology. Similar situations can arise in linkages of technology to management, availability of utilities, and cost of the project. Quality control: What is the system arranged for to check the quality of products on continuous basis? The quality marks like ISI, Agmark will enhance the values of the product as well as confidence among the consumers. If it is desired to get quality markings, the fact should be included in the project report. 5. Market Potential
Estimation of demand & supply Facts regarding the anticipated demand for product and the level of supply, should be clearly stated. An estimate of manufacturing and administrative expenses together with the price expected along with the margin of profit should be stated.
Marketing strategy: What is the strategy adopted for marketing the product should be stated. Whether the products are to be supplied to the reputed sellers directly or distributors? Is there any possibility of getting a contract from the reputed concerns should also be stated in this project report. Similarly whether after sales service has been arranged and how to fill the gap of demand if there is fluctuations in the sales seasonal demand arrangements made for warehousing the products. 6. Capital expenditure and sources of finance
Cost of the project : Since each project is profit motivate it is important that cost of the project is carefully assessed and evaluated. One of the most important factors in this assessment is the level of accuracy in the cost estimates, which in addition to proper data collections also depends upon the approach and the attitude of the evaluator himself. Some evaluators tend to see all cost estimates as too high leading to unnecessary under estimation of the project cost and consequent problems in project implementation and even project viability. On the other hand some evaluators tend to provide cushions at all levels of cost estimates which may erode the viability of the project on paper leading to wrong decision on the issue of project selection and implementation. As estimate regarding this various capital inputs required by the industry should be given. Those capital items include the following: 1. 2. 3. 4. 5. 6. Land & Building Plant and machinery Preliminary expense Miscellaneous assets Price escalation Working capital limit
Means of financing: Having established the cost of a project as justified and reasonable, it is necessary to evolve the means of financing the project. It should be acceptable within the framework of the financial system and sufficiently attractive/or safe enough for the investor lender to come forward and extend the necessary assistance. During the last decade, financial scenario in India has undergone substantive, qualitative as well as quantitative change almost amounting to a metamorphosis. As a result the project prosperity has a fairly wide range of means of finance available to him to choose from. Instead of a standard debt-equity ratio of 2:1, the promoter taking up 50% to 75% of the equity, the balance being offered to the public and the financial institutions and banks C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
picking up the tap for the debt component. The promoter can now think of a variety of instruments like equity cumulative convertible preference shares fully or partly or non-convertible debenture, as means of financing and also many other sources of funds like mutual funds, venture financing and also many other sources of funds like mutual finds, venture finance and lease finance. A clear understanding of the various elements and the various institutions operating in the financial system would help to assess the appropriateness of the means of finance. The cost of raising and servicing funds, and other terms and conditions accompanying funds, as all these have a direct impact on the viability of the project. At this juncture, it is worthwhile nothing that the project evaluation should also pay due attention to the ethics of fund raising especially if the means of finance involves premium carrying instruments. 7. ASSESSMENT OF WORKING CAPITAL REQUIREMENTS
Many industries fail due to improper estimate of working capital requirements. It is very crucial to an entrepreneur. The unit could function only if the working capital limit is maintained properly. So, the working capital requirements should be very carefully calculated and stated in the project report. 8. OTHER FINANCIAL ASPECTS
It should be found out that the product taken up for production is profitable. For this, profit & Loss an estimated on should be prepared, which shows sales revenue, cost of production and other costs and profit. Similarly a projected balance sheet and cash flow statement should be prepared to indicate financial position and financial requirements. There should be always availability of funds for the smooth functioning of the unit. Next the break-even analysis must be given break-even point is that level of production sales where the industrial enterprise shall make no profit no loss. This break even analysis facilitates knowing the gestation period and the likely moratorium required for repayment of loan. The return from a project is a very essence of evaluation an project especially as the prime motive for setting up a project is its profitability. The project return is to be assessed in terms of cost of production realizable selling price, financial charges, depreciation taxes and host of other financial and nonfinancial variables. 9. GOVERNMENT AND OTHER STATUTORY APPROVALS
The project is not put up in a vacuum but in the real world which is subject not only to procedural requirements but also to policy guidelines and stipulations. These requirements, guidelines and stipulation could begin with the very permission to establish a project and go across various economic statutes of a country governing several aspects, not merely as an element of feasibility or C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
otherwise of setting up the project but as part of the plan extending over the economic life of the project. 10. ECONOMIC AND SOCIAL VARIABLES
Among other things, what will be the abatement costs to control pollution and treating for the effluents and emissions, should be stated. Added to this, whether the project derives home some social benefits like the following: It promotes an increases the potential in that area It promotes and encourages smaller units (tiny sector) to grow It effects overall development of that area ECONOMIC AND NATIONAL SIGNIFICANCE OF THE PROJECT Many projects have an economic and/or national significance especially if they are in the area of hi-tech, import substitution, export orientation, defence and/or involve substantive outflow of foreign currency either for technology know-how or for raw materials. It is necessary to evaluate the economic and the national significance of a project is to be made acceptable in the prevalent economic scenario. SOCIAL AND ENVIRONMENTAL CONSIDERATION While setting up a project, issues not necessarily connected with the financial profitability of the project but to the environment and society as a whole have become important in mire than one case. These issue relate to environmental pollution and safety as also different segments of the society coming in contact with the activities of the project. Two models of project report are given at the end of this lesson. Project Report Vs. Feasibility Report The detailed project report differs from feasibility report in the following manner: Objective: Feasibility reports aim is to serve the top management in arriving at feasible and viable project alternatives. Detailed Project Reports focus is to communicate formally about the project sponsors decision on a specific project to the government departments and financial institution for seeking their approvals and funding. Scope of information Management: The interests of the management can be met by collecting relevant information in vital areas of technical, economic C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
commercial and environmental areas at the onset. However, about 70-80% information may be collected and analysed in feasibility studies based on which certain reliable forecasts are made and decisions are taken by the management. Time span: These studies are subjected to an exploratory type of research and hence consume a span of 6 to 15 months. A lot of care and diligence is inevitable on the part of the estimator while preparing the official document and hence may consume time within the range of 1 year to 2 years after the decision is take by the top management. Costs involved: The cost of feasibility studies varies on the type of project. As an average for any project the costs may range approximaterly between 1.5-3% of the project costs. The cost of preparing a detailed projet report is little higher than that of feasibility studies. The total costs may range between 5-7.5% of the expected investment. Reliability: These studies are reliable for a short period of time (till the decisions are made about a project). In the long run they serve only as a data bank as the information stinks. The detailed reports help in guiding the entire project and even if any variation is there in the project data it can be compared and observe. However, this acts as a major signpost for all practical purposes in the project development and for future reference. Depth of analysis: The depths and magnitude of the feasibility studies are obviously reflected through costs and time consumed in conducting studies. The level of information furnished in these reports is clear, yet some secondary issues are perfunctorily managed. The depth and magnitude is perfectly maintained by furnishing intricate details of the project. The report is prepared with diligence taking all precautions to avoid ambiguity and mystery concerning issues of the project. CONCLUSION Thus, Project report is a precise formal document of commitment prepared and presented by sponsors of a project. On the basis of this report, the Project Investment Board and Cabined Committee on economic affairs of the concerned Ministry Proffer their exoneration of the project proposals. The preparation of detailed project report is preliminary phase of the project life cycle. The preparation of project report starts only after the investment decision is made on the basis of the technical, economic and financial feasibility studies, so that expensive efforts involved in the preparation of report are not wasted. To prepare the project report from a techno-economic feasibility study, we have to Break-down all project components, time phase and schedule them minutely and prepare accurate cost estimates, furnishing with necessary and relevant assumptions and calculations. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Develop baselines for controlling time and costs that help the implementation of the project. Resources to implement the project. SELF ASSESSMENT QUESTION 1. 2. 3. 4. State the significance of Project report. Describe the contents of an ideal project report. Prepare a project report for setting up a small scale unit of your own choice. How does detailed project report differ from feasibility report? Give an outline of a detailed project report.
PROJECT REPORT MODELS

1. PROJECT PROFILE FOR MANUFACTURE OF STEEL TABLE (ALL TYPES)
1.
Product and its uses:
The steel tables are commonly used in offices, commercial establishments, hospitals, commercial establishments, offices etc. The steel tables are widely used. This is creating good market for steel tables in urban and semi-urban areas. Due to certain specific advantages, as mentioned above steel tables re fast replacing wooden tables in rural areas also, as people are preferring steel table. Beside this there is good scope for export of steel tables. Therefore there is good market potential for steel tables. 2. Production target
The different type of size of tables costing to Rs. 7.80.000/- is out annual target. 3. Basis and assumptions
The calculation is based on single shift of 8 hours per day and 300 working days in a year. The rates of machines and raw materials have been taken as prevailing in the market at the time of preparation of project. 4. Production details and process of manufacture
The sheets, tubular steel etc., are cut to required size and pressed to shape, bent in a press brake for table top, sides and drawers. Holes are made by drilling wherever necessary for cutting screws. Fixing of doors, hinges assembly, cleaning, pickling and drying are to be done before painting. The spray painted articles are to be store-enamelled for better quality and bright and lasting finish.
5.
Quality control and standards
The following Indian Standard Specification will provide guidance in purchase of materials and toasting of products:IS-3998-1996, IS-3663-1966, IS-4994-1968, IS-4933-1967 6. Land and building
Covered area 40 x 25 ( 1000 sq. ft.) with 3000 sq. ft. open area 2,000/- PM 7. Machinery and Equipment Treadle Guillotine Shearing machine 48 width Hand operated press break machine capacity 14 SWG x 1800m (Sheet bending) Spot Welding machine 10 SWG with accessories Hand operated hydraulic tube bending machine 25mm x 36mm capacity with all days. Pillar drilling machine 1 Cap Oxy-acetylene gas welding set Air compressor with electric motor (1 HP) and spray gun. Power press 5 ton capacity inclinable ungeared, adjustable stroke for cutting, embossing with 1 HP electric motor, hacksaw 6 jaw capacity. 71,325 Add: 10% C.S.T. etc. 10% Erection chareges and contingency charges Office furniture Hand tools, dyes Total SAY
1 No. 1 No. 1 No. 1 No. 1 No. 1 No. 1 No. 1 No.
12,200/15,700/6,100/2,125/9,500/3,000/6,550/16,200/-
7,137/7,137/4,000/4,000/93,645/94,000/-
8. STAFF AND LABOUR i) Supervisor ii) Skilled labour iii) Semi-skilled labour iv) Clerk-cum-Accountant v) Peon-cum-watchman
1 No. 3 Nos. 5 Nos. 1 No. 1 No. Total Say
800/1,500/2,000/700/400/7,400/7,400/-
9. TOTAL SALES (PER ANNUM) As per production target: i) 1220 x 61 x 750mm 200 Nos. 1,100/- each ii) 1525 x 760 x 750mm 200 Nos. 1,400/- each iii) 500 x 610 x 750mm 400 Nos. 700/Total
2,20,000 2,80,000 2,80,000 7,80,000
10. PROFITABILITY Profit = Total sales Cost of production = 7,80,000 6,42,000 1,37 ,400 100 % Profit on Sale = 7,80 ,000 1,37 ,400 100 % Profit on Total capital investment = 2,45,200 1,37,400 17.60% 56.00%
11. B.E.P (Break Even Point) FIXED COST i) Rent 12 x 2000 ii) Interest iii) Depreciation
40 12 5400 100 40 12 6500 v) 40% other expenses = 100 TOTAL SAY
iv) 40% salaries =
24,000 30,650 7,137 25,920 31,200 1,18,970 1,18,900
B.E.P. =
Fixed Cost 100 Fixed Pr ofit 1,18,900 100 = 1,18,900 1,37 ,400
46 .38 %
12.
NAMES AND ADDRESSES OF MACHINERY AND EQUIPMENT SUPPLIERS: M/s. Ashok Brothers, 37, Panchkuion Road, New Delhi 110 001 M/s. Machine Tools Traders, P.B.No. 1260, 57A, Ligichetti St., Chennai 600 001 M/s. Perfect Machine Tools Co., (P) Ltd., Bell Building, Sir Phirozshah Mehta Road, Mumbai 400 001
i) ii) iii)
******************* C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
LESSON 6 PROJECT APPRAISAL OBJECTIVES To study the nature and significance of project appraisal. To know the general information required for project appraisal To discuss the process of project appraisal followed by the financial institutions INTRODUCTION The exercise of project appraisal simply means the assessment of a project in terms of its economic, social and financial viability. This exercise basically aimed at determining the viability of a project and sometimes also in reshaping the project so as to upgrade its viability i.e. it aims at sizing up the quality of projects and their long-term profitability. Appraisal of term loan proposals (projects) is an important exercise for the financial institutions and investing companies in credit decisions. The art of project appraisal puts more emphasis on the economic and technical soundness of the project and its earning potential than on the adequacy and liquidity of the security offered. Hence, the process of appraisal should require more dynamic approach as it is linked with a sense of uncertainty. APPRAISAL PROCESS Project appraisal is a scientific tool. It follows specific pattern. This process usually involves six areas of appraisal such as market appraisal, technical appraisal, financial appraisal, profitability appraisal, managerial, and social appraisal. A) MARKET AND DEMAND APPRAISAL Appraisal of commercial viability means assessment of marketability of the endproduct. Therefore, at the time of assessment of commercial viability, the following points require consideration. Size and prospective growth of the market which the unit is required to cater like nature of population, their purchasing power, their educational background, fashion etc. Demand and supply position of the product in the national and international market. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Nature of competition Pricing policy including prospective prices vis--vis the quality of the product. Marketing strategy and selling arrangements made by the unit adequacy of sales fore: Export Potential It the product is n important-substitute, the regarding existing imports in the country along with the C.I.F. value of the imported goods, vis--vis cost of product of the unit. B) TECHNICAL APPRAISAL A project is considered to be technically feasible, if it is found to be sound from technical and engineering point can be met which location would be most suitable and what the size of plant and machinery should be. Objectives of technological appraisal The fundamental objective of appraising a project from the technology point of view is to justify the present choice and provide an insight into future technological developments. Other objective are: To justify the goal compatibility of a project with the preferred technology; To seek a better available alternative technology which is both cost effective and efficiently manageable; To seek such a technology that can go with existing skill levels of team members or requires little orientation and training programmers; To seek a better technology that is not detrimental to the overall environment. The technology that is used in projects can be classifies on the basis of: Purpose for which it is applied; Level at which it is used; Nature of skills applied while using the technology. On the basis of purpose, the technology can be: Manufacturing technology which is generally used in manufacturing industries like textiles industries like textile industries, steel industries, etc., C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Extraction technology which is used in extraction of basic raw materials such as oils, petroleum products, coal and pig iron, etc., Conversion technology which is used in process industries like cement sugar, etc. Pre-fabricated technology which is used in construction industries like roads, bridges, and buildings, sheds etc., On the basis of the level at which technology is used the classification is as follows: Core technology, which is a base for any industrial activity like basic plant and machinery that is erected. For example, Lakshmi Machine works textile machine installed in the textile firm. Engineerign and design technology which supports the core technology by providing basic layouts and helps in erecting the plant at the required site. Considering the above example, the machine has to be linked with essential spindles and spools through which the yarn is supplied to the machine on which the yarn will be warped and weft. Intermediate technology, which supports both core technology and engineering and design program with sufficient intermediaries such as heavy machine tools and devices to mobilize input and output and output of firm and continue to operate the machinery. Component technology, which is labeled as supplied or consumable for the core, engineering and even intermediate technology. For example, spare parts of a machine, screws lubricating oil, belts, electrical connections and other engineering fittings etc. Essential of technological appraisal While performing a technological appraisal some of the vital ingredients that need attention are: The state of existing the available technology Training needs of personnel for the present technology and for the new technology Availability of technical know-how; Input base for the technology or its compatibility with the input substitutes; Future progressive integration of the technology for modifications or refinements; Wider product-mix and its by-products; Minimization of waste, loss or scrap in the process or its development; Factor intensity C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Stability to changes and its relative obsolescence rate; Other techno-economic considerations (side effects of technology transfers on the labour lay-off etc.) Generally, while appraising technical feasibility of any project, the following points are carefully considered
1.
Availability of critical inputs
The critical inputs mean all the basic location and operational requirements which make the project viable. These include: Raw materials. For instance, sugar factories are situated near sugarcane producing areas. Availability of land. Nearness to market for finished product. The units producing heavy bulk finished goods are always situated near the regional market. Availability of essential utilities like water, power and fuel. Availability of skilled/unskilled labour in the proximity. Facility for disposal of effluents Availability of suitable technical and administrative personnel. Adequacy of arrangements for pollution control and for environment protection. 2. The capacity of the plant and manufacturing process and suitability of the technology employed
These call for carefull consideration regarding choosing right size of the plant, proper layout and correct technical design. The capacity of the plant should be neither too low rendering it uneconomic nor too high to keep it idle. This has assumed tremendous importance especially in view of the fact that Indian industry has a tendency to have cost and high capital output ratio. 3. Plant the Machinery
In this regard careful consideration should be given to the following aspects. Suitability of plant and machinery for the manufacturing process to be adopted:
Name and reputation of the supplier of plant and machinery: Their availability in time so as to avoid any time and cost overrun: Reasonableness of their cost: Provision for performance guarantee the after sale service y the suppliers. 4. Project planning and scheduling
Planning should be pragmatic and proper so that the construction and gestation period are estimated properly and there are not time and cost over-run. Of late, many f the projects have failed because of faulty planning at the initial stage and subsequent delay in sanction/release of more funds by banks/financial institutions. Generally, the CPM techniques are used for net-work scheduling. The various points one has to take into consideration while estimating time are: Industrial License Permission for collaboration arrangement and the present position regarding signing of the same Consent of the appropriate authority for disposal of effluents SEBIs consent for issue of capital, if applicable Import licensed for plant and machinery and raw materials Typing up of credit facilities from financial institutions/banks Possible timing of issue of capital including underwriting arrangement for the same Acquisition of land Soil testing Construction ( Civil and architectural) Supply of plant and machinery including installation thereof Recruitment of manpower Supply of raw materials Start up and trial run Normal production
C) APPRAISAL OF MANAGERIAL COMPETENCE This is most difficult job to evaluate the MAN or MEN behind the project. It has been the practical experience of the bank/financial institutions the even the most technically feasible and financially/commercially viable project has been a total failure because of lack of management experience. The problem may become all the more serios if the managemnte is dishonest/delinquent rather than inefficient and ineffective. Unfortunately, there is no scientific yardstick by which managerial competence can be judged objectively. For an established group of industrialists floating a new company unit, the banker can have at least, an idea of C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
the background of the promoters. Much also depends whether the existing promoters belong to the Blue Chip group or not. But, in case of a new promoters floating a new project, the problem of judging managerial competence induces some kind of subjectivity in the decision of the banks/financial institutions. In appraisal parlance, such evaluation is known as Principle of three Cs i.e. Character, Capacity and Credit worthiness. The following table will show some principles of credit evaluation in terms of Cs of credit. Cs Character Attribute Will the borrower repay the loan according to the schedule? Does the borrower have the ability the loan Is the borrower creditworthy for the amount of loan applied? How much liquid assets the borrower has for investment in the business. Is the loan backed by sufficient collateral security? Do the current economic conditions indicate any problems in the borrowers ability to repay the loan? How measured Previous experience, Credit reference, Market integrity Viability of the project, Generation of surplus Educational and family background: credit reference Networth of the borrower: capacity to raise loans from friends and relatives. Marketability: Market value of the collateral General economic condition of the country: stability of the borrowers income relative to these conditions.
Capacity Credit worthiness
Capital
Collateral
Conditions
Some of the other points that observe careful consideration in this regard can be enumerated as under: Composition of board and the management set-up In case the unit is proposed to be set up with foreign collaboration, the standard and status of the collaborators in the international market. In case of existing undertaking, the existing state of industrial relations, i.e. rate of employee-turnover, parks and benefits available to the employees, workers participation n management etc., D) FINANCIAL APPRAISAL
The basic purpose of financial appraisal is to assess whether the unit will generate sufficient surplus so as to meet the outside obligations. Financial appraisal usually examines two aspects of finance: The cost of the project: i.e., the amount required to complete the project and bring it to normal operation The means of financing the cost i.e. the sources from which the required funds are to be raised. After computing the cost of the project and means of finance, the various factors required for assessment of financial viability which a banker should carefully examine, are as under: Reasonableness of cost of project The project cost should be reasonable: However, assessing reasonableness of the project cost is a very difficult and delicate task. Here, generally, the technique of inter-firm comparison is used which compares the project cost estimates with the cost of comparable units in the same industry. Debt-Equity ratio: This is a very important consideration as there should not be mismatch between the external debt (Long-term) and the equity of the enterprise.
Debt-equity ratio =
Long term debt Own equity
Equity consists of Equity share capital Preference share capital redeemable after 12 years Free reserves Subsidy Note: In case of assisted projects (26% SIDC & 25% promoter) The shares subscribed by both of them are taken as equity. Long term debt consists of: 1) Long term loans raised or proposed to be raised. 2) Debentures 3) Preference shares redeemable before 12 years. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Maximum Permissible ratio 3:1 for small scale industries 2:1 for medium scale industries (upto cost of project of 20 cr.) However, for heavy capital intensive industries like cement plant fertilizer plant of ship breaking unit, this can be further relaxed. Promoters contribution: It is very important to know about the promoters stake in his own enterprise. As such a minimum amount of promoters contributin is insisted for consideration of any proposal. From the point of view of all India financial institutions, generally, the minimum contribution of the promoter should be as under. For units situated in A category districts For units situated in B category districts For units situated in C category districts For any other industrial unit = = = = 12.5% 17.5% 20.0% 22.5%
Sensitivity Study: This carried out to see that the unit would be able to serve its debts & give reasonable return under less optimistic conditions. For determining, profitability of the project generally projections are obtained over the entire repayment period (say 7 to 10 years) in the following areas: Cost of Production Profitability Cash flow Debt service coverage ratio Break even point
The appraiser should satisfy himself about the reasonableness of the bsic assumption on which the above projections are made. The important assumptions generally looked into are: Capacity build up Cost of raw materials Estimates of salaries & wages Estimates of administrative expenses Expected selling price Provisions made for depreciation Provisions for various taxation liabilities
The assumptions should be reasonable and realistic. In case, the assumption are not pragmatic, the same can be got changed by the bank and fresh figures can be compiled. But the basic consideration the banker should have it that the cash generation position of the unit should be quite comfortable throughout the repayment period. An ideal debt service coverage aimed at is 2:1. A model problem for ascertaining cash flow projection and the financial viability of the project are given below: Illustration: The project appraisal division of a leading car manufacturing company is considering to take up a new project unrelated to its existing range of products. It has prepared the market and technical feasibility report. The project has a life of 5 years. The financial estimates relating to project cost, financing plan, revenue and operating costs and other information are given as under: The estimated project cost Rs. 160 crores. It consists of Rs. 96 crores of fixed assets and Rs.64 crores of working capital margin. The financing plan is as under: Equity investment Term Loans Bank finance for working capital Trade credit Rs. 32 crores Rs. 64 crores Rs. 32 crores Rs. 32 crores
The estimated sales and operating costs (excluding depreciation) are Rs. 192 crores and RS. 144 crores per annum respectively. The description on fixed asset would be @ 20% p.a. based on the written down method. The salvage of fixed assets and current assets will be equal to their book values. The principal of the term loan will be repaid in four equal annual instalments of Rs. 16 crores each. The first installment wil fall due t the end of the second year and the last instalment at the end of the 5th year. The outstanding term loan would carry interest @ 12% p.a. The levels of short term bank finance and trade credit will remain at Rs. 32 crore level each, on account of the roll-over phenomenon, till they are paid back at the end of the 5th year. The short term bank finance will carry interest rate of 20% p.a. The company falls in the 50% tax bracket) C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
You are required to: (a) asses the financial viability of the project from equity, long-term funds and total funds points of view. (b) Prepare a financial feasibility report to be submitted to the management for final consideration. Answer (a) The financial viability of the above project can be checked by preparing the cash flow projections for a period of five years from equity, long-term and total funds perspectives. Statement of Cash flow Projections for the New Project (a comprehensive view) Years Total funds Equity Fixed assets Working capital margin Revenue Operating costs Depreciation Interest on long term funds Interest on short term borrowings Profit before tax Tax Profit after tax and interest Net salvage value of fixed assets Net recovery of working capital margin Repayment of term-loans Retirement of trade creditors Repayment of short- term borrowings (i) Initial investment - equity point of view - long term funds - total funds (ii) Operating cash inflows - equity vies C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
- long terms funds - total funds (iii) Terminal cash flows - equity view - long term funds - total funds Net cash flows from -equity view - the long term funds - the total funds view
(b) Profitability Projections for the Final Considerations of the Management Estimates of working results Years Cost of project Expected revenue Operating expenses Depreciation Interest on long term funds Interest on short term borrowings Profit before tax Tax Profit after tax and interest Net cash accrual Illustration 2 Sai enterprises is interested in assessing the cash flows associated with replacement of an old machine by a new machine. The old machine has a book values of RS. 90,000 and it can be sold for Rs. 90,000. It has a remaining life of 5 years after which the salvage value is expected to be nil. It is beign depreciated annaualy at the rate of 10% using written down value method. The new machine costs RS. 4 lakhs. It is expected to fetch Rs. 2.5 lakhs after 5 years when it will no longer be required. It will also be depreciated annually @ 10% using W.d.v. method. The new machine is expected to save Rs. 1 lakh in manufacturing costs. Investment in working capital would remain unaffected. The tax rate applicable to the firm is 50%. You as a project analyst are required to work out the incremental cash flows associated with the replacement of old machine and prepare a statement ot be presented to the management for consideration. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Answer The above case refer to replacement project. In such cases, one must take the following pints into consideration: Comparison of new machine with the old machine from the overall cash flows points of view; Comparison of new impact of the replacement or relating the old machine over the cash flows; Financing mix used for the replacement and its impact on the interest rates to observe the effect on the profit after interest and tax. At least two of the above factors should be applied here to analyse the position and present the analysis for managerial consideration. The following cash flow statement will help present the situation better. Cash flows for the Replacement of machinery of Sai Enterprises (Rs in crores) 1. Net Investment in the machine 2. Savings in manufacturing costs 3. Depreciation on the old machine 4. Depreciation on the new machine 5. Incremental Depreciation 6. Incremental taxable profit 7. Incremental tax 8. Incremental profit after tax 9. Net incremental salvage value (a) Initial investment (1) (b) Operating cash flows (5+8) (c) Terminal cash flows (a+b+c) Working notes: Net investment (Rs. 4 lakhs less Rs. 90,000) = Rs. 3.1 lakhs Savings of the new machine are given in the problem, i.e. 1 lakh. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Incremental depreciation is derived by considering depreciation of the new machine less depreciation of the old machine. Operating cash flows = Incremental depreciation + Incremental profit after tax. E) PROFITABILITY ANALYSIS The financial projection such as profitability estimates, cashflow estimates and projected balance sheets are the basis for assessing the viability of the project. Therefore, verification of profitability estimates is highly important for the proper appraisal of the term loan proposal. The profitability estimate should always accompany the assumptions based on which the profitability estimates have been prepared. RATIO ANALYSIS Many important parameters such as sales, operating profit, net profit, equity, debt, current assets. Current liabilities, etc. do not give much information if figure is studied in isolation. If a ratio is calculated between related items, the ratio indicates the relationship between two or more than two variable, thus giving meaningful information for taking decision. Some of the ratio useful for banks are discussed below. A. LOAN SAFETY RATIO This indicated the relationship between term liabilities and owned funds and helps in assessing the capital gearing. The debt shall include long term loans, debentures, deferred payment preference shares due for redemption between 1 to 3 years. The equity includes ordinary share capital, preference share capital due for redemption after 3 years, investment subsidy, unsecured loans subordinated to the term loan, internal accruals, non refundable deposits in the case of cooperatives.
B. CURRENT RATIO (Current assets to current liabilities) The ratio indicates the liquidity posing of the company. Current assets should be more than current liabilities. The acceptable ratio should be between 1.5 to 2.1. The ratio beyond 2.1 will indicate that either the inventories are stocked unnecessarily or the products produced are not sold. The current ratio will indicate the necessity for proper inventory control. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
C. DEBT SERVICE COVERAGE RATIO (DSCR) The ratio indicates the capacity of the unit to repay the term loan liabilities and interest thereon. It is important ratio for lending institution as the repayment period has to be suitably fixed based on this ratio. This ratio indicates the cash generation the term liabilities to be paid out of this and balance left for the companys use. Repayment of term loan without generating sufficient cash will lead to reduction in working in the working capital, tight liquidity positon and further deterioration in the working of the unit. The acceptable ratio should not be less than 1.5: 1 which indicates that 1.5 times cash is generated to pay the terms, loan liabilities of one time. The formula calculation of the DSCR is given below: Net profit + Depreciation + Interest on term Loan liabilities ------------------------------------------------------------------------Payment of term loans + interest on loans
DSCR =
The DSCR should be calculated for each year of operation and also for the entire repayment period as an advance. D. MARGIN OF SECURITY The term loans are generally sanctioned against the security of fused assets. The excess of fixed assets over the term loans provides margin for the term loans. Value of fixed assets term loans Margin of security = --------------------------------------------- x 100 Value of fixed assets 5. Productivity Ratio are: Capital employed to value of output sales Capital employed to Net Value added Investment per worker Productivity per worker 6. Profitability ratio are: Percentage of raw material to value of output Percentage of wages and salaries to value of output Percentage in interest to value of output Percentage of operating profit of output Percentage of operating profit to sales C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Percentage of profit after tax equity
A list showing the method of calculation of above ratios and their usefulness is given separately. BREAK EVEN POINT (BEP) The manufacturing cost consists of two costs viz. fixed costs and variable costs. Certain type costs viz. depreciation, interest on term loan, repair and maintenance, rent and insurance, wages and salaries, administrative expenses etc. has to be incurred by the unit irrespective of the level of operative of the level of operation. This cost will not change with the level of operation and they are called fixed costs. All the other costs viz. cost of raw material consumables, power, water, stores, packing charges, selling expenses etc. which vary with eth level of operation is called variable cost. The BEP is the level at which the unit should operate to meet the fixed costs. It is level of operation, where there is no profit or loss for the unit. The BEP is calculated using the following formula.
BEP
Fixed cost Fixed cost ----------------------- x ---------------Sales-variable cost Contribution
% BEP in terms Fixed cost Max. capacity utilisation of installed capacity = ---------------- x -------------------------------- x 100 Contribution 100
The appraising officer should follow uniform policy to divide the total cost into fixed cost and variable cost as certain cost neither remain fixed nor changed in the same proportion in which the level of production changes. DISCOUNTED CASH FLOW TECHNIQUES A project should earn sufficient return which should be at les equal to the cost of capital invested in it. The following evaluation techniques helps to identify the best investment proposal amongst the available. Pay back method Average rate of return method Net present value method Internal rate of return C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
a) Pay back method The period required for recovering the entire investment made the project is calculated. The shorter is the period better return. The cash flow (operating profit + depreciation + other non cash write off-tax) is accumulated year by year until it equals the original investment. However, this method ignores the cash inflow received after crossing the pay back period. This method is best suited where the emphasis is on avoidance of long term risk. b) Average rate of return Unlike the pay back period method, the entire life of the project is taken into account. The average annual net operating profit (after depreciation) for the entire life of the project is calculated and the rate of return of original investment in an year is calculated by taking the average of opening and closing boo values of the investment in the year. The grand average of such average investment of all years is obtained to know the average investment of the project gives the average rate of return. This method does not give any importance to the time value of the money and also the life differential of the projects. c) Net present value method (NPV) Pay back method and average rate of return method does not give importance to the time value of money. The money invested today will not be equal to the money received in the future. Therefore, the time value of the money also should be taken into account while determining the return for the present investment. Under this method, the future cashflow of all the years during the expected life of the project are discounted at a predetermined cut-off rate and the net present value id obtained. The cut-off rate should be either equal to or more than the cost of the funds. The present investment is an outflow of funds and hence treated as having minus value. If the difference between the present investment and the new present value of cash inflow is positive than it indicates that the profit is greater than the cost of the capital. d) Internal rate of return (IRR) NPV method indicates, the net present value of the future cash flows at a predetermined discount rate and the project is accepted for investment if the return of a project, the net cashflow in each year are discounted at various discounting rates till the sum of net presten values of cashflow equal the cash outflow. Such a rate of discount which would equate the present value of investments to the present value of future benefits over the life of the projects.
Problem 1 NMH Industries is considering proposal involving procurement of a special machine to produce a new product. The technical term furnished two alternative machines whose investment costs are Rs. 50,000 each and life span is 4 years. After the expire of its useful life, the vendors guaranteed to buy back at Rs. 5,000 each. The management of the company uses certainly equivalent approach to evaluate risky investments. The companys risk adjusted discount rate is 16% and the risk-free rate is 10%. The expected values of net cash flows (CFAT) with their respective certainly equivalents are as follows: Year Machine A CFAT CE Rs. Machine B CFAT CE Rs.
1 2 3 4 Which machine should be purchased, out of the above, by the company? Answer NPV Under Certainly Equivalent Approach:
Year PV Factor at 10% ECFAT CE ACFAT PV ECFAT CE Amount ACFAT PV Amount
0 1 2 3 4(i) (ii)
The above analysis clears the fog surrounding investment ossibilities. Machine A is resulting in higher NPV compared to Machine B. Therefore, machine A should be purchased having the highest NPV at risk free rate. Problem 2 Sastha Ltd. is considering a project with the following cash flows. Year 0 1 2
Purchase of Plant Running Costs Savings The cost of capital is 8%. Measure the sensitivity of the project to changes in the levels of plant value, running costs and savings (considering each factor at a time) so that the NPV becomes zero. Which factor is most sensitive to affect the acceptability of the project. The PV factors at 8% discount rate are: 0 1 2 Answer The Net present value of Cash flow PV factor Plant cost Running Savings (8%) Cost 1.000 0.926 0.857
Year 0 1 2
NCF
The project a may be accepted as it is having a positive NPV of Rs. 560.5. The sensitivity of project towards various costs can be performed as under
Sensitivity Analysis (1) Plant costs may needs to be increased by a PV of 560. i.e 60.5 7,000 x 5 = 8.007% or by 8%
(2) Running Costs may need to increased by i.e 60.5 3,994.5 x 100 = 14.03% or by 14%
(3) Savings may be reduced y i.e. 560.5 11,555 x 100 = 4.85%
According to this analysis, it is clear that savings having a lowest sensitivity ratio gets affected most while accepting the project. Problem 3 Ganesh Industries Ltd. is considering to acquire a new plant for its existing industry in order to expend the output the output whose investment will be Rs. 2,00,000. The expected life of this new plant is 8 years having no salvage value at the end of 8th year. The future cash flows and their probabilities for couple of year are as under. 1 year Cash Probability flow (Rs.) Presuming 2nd Year Cash Probability that cashflow flow of previous year follows
Required Plot the project proposal in a decision tree indication clearly the variations at each level of cash flows and suggest the company whether to proceed with the plant or not if the cost of capital is 10% [P/V Factor at 10% 1st = 0.909; 2nd 0.826] Answer NPV of cash flows at 10% discount rate
Year (Cash flows in Rs) PV at 10% Total NPV
With the help of the above table of contents, decision-tree can be constructed as follows: Year Prob. Cash Prob. Cash JP flow flow NPV ENPV
The project is exhibiting a positive expected net present value indicating its success. The project can therefore be accepted. F) SOCIAL COST BENEFIT ANALYSIS (SCBA) It is a methodology for evaluating investment projects from social point of view. SCBA seeks to assess the utility of a project to society as a whole. It attempts ot separate all the expected changes viz. economic, social and environmental likely to arise as a result of implementing the project. These can be represented as inputs and outputs of a project and a price can be put to each of these input an output. Since both inputs and outputs are spread over a number of years, it is necessary to combine the costs and benefits stream that arise over the economic life of the project. ORIGIN: Methodological guidelines of SCBA have been developed by international agencies like OECD and UNIDO, Planning commission issued in 1975 guidelines for the preparation of feasibility reports for industrial reports. In the preceding section, we have examined different aspects of commercial evaluation of the project. An individual may tend to evaluate only the commercial profitability of a project. However, in case of public projects like irrigation projects, power projects, transport projects or other infrastructural projects or social overhead projects, national profitability (i.e. the net socio economic benefits) considerations are as important as, and sometimes more important than commercial profitability consideration. Even in respect of projects sponsored by private entrepreneurs, national profitability analysis is important, particularly in developing countries, because of the need to optimize the utilization of scarce resource from the societal point of view. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
The national profitability of a project is measured by assessing the extent to which it makes a net contribution to meeting the socioeconomic objectives of development. National profitability analysis essentially involves a socio economic cost-benefit analysis. Every project entails some cost to the nation and produces certain benefits. There are both direct and indirect costs and benefits, although the distinction between direct and indirect is not sometimes clear out. Calculation of national profitability of a project is based on its net contribution to the socio-economic objectives of the development policy of the nation. Therefore, in the Indian context, the social and economic viability of a project will be judged on the basis of its net contribution to: Aggregate consumption and economic growth Generation of employment Income distribution Foreign exchange earnings/savings Self-reliance Development of backward regions Development of small-scale and ancillary industries Backward and forward linkages and development industries/sectors Developments of infrastructure Development/Improvement and transfer to technology Improvement of quality and productivity Improvement in the quality of life and national well-being.
of
other
Assessment of national profitability is very complicated. It is not possible to identify all the indirect costs and benefits of some projects. Further, even in cases of many identifiable variables, it is not possible to accurately estimate the indirect costs and the value of the indirect benefits. It is also difficult to estimate the real cost of direct inputs and the real value of the output. Another important problems is the determination of the social rate of discounting. Opportunity cost In the social cost-benefit analysis the relevant cost is the opportunity cost. The opportunity cost is the (i.e. the benefit) of the cost alternative foregone due to a particular course of action. It is implied from the above definition of opportunity cost that there is no opportunity cost when there is no alternative. For example, the opportunity cost of C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
self-employment is the salary for the best job he could have obtained. But if he does not have any job opportunity other than the self-employment, there is no opportunity cost for the self-employment. Resources have opportunity costs when they have alternative uses. When there scarcity of resources, decisions about resources allocation should be base on a careful assessment of the opportunity costs of the alternatives. To illustrate, assume that financial resources are scarce and the total resources available with the financial institution for lending is Rs. 10 lakhs and there are three applications for finance viz., project A requiring assistance of Rs. 10 lakhs and project B requiring Rs. Lakhs. And project C requiring Rs. 4 lakhs. The opportunity cost of project A is project B and C. Even if all the projects are profitable and feasible, if the net benefits from A s higher than the aggregate net benefits from B and C, project A should be preferred according to the opportunity cost principle. In the opportunity cost analysis pertaining to the national profitability analysis it is not the commercial profitability but the net contribution to the national objective that is considered. Consider, for example, the situation of a commercial bank having to consider applications for loan by two projects a textile retail shop in an existing commercial areas in a city and an agricultural development scheme and that the loanable funds with the bank is sufficient only finance any one of these two competing projects. Assume, further, that the commercial profitability of the textile shop is relatively high and that of the agricultural project is low but it will increase the output of some important agriculturl commodity. In this situation the lending institution should prefer the agricultural project because though it is commercially less viable than the textile shop, it will make a higher contribution to the national output. Even if the proposed textile shop is not opened, the total textile output or sale will not be affected but if the agricultural project is not assisted, it will adversely affect the total output. It clearly shows that in the national profitability analysis, application of the opportunity cost principle is very essential. The opportunity cost principle assumes more importance in economics characterized by scarcity of resources. When cement and steel are in short supply, the opportunity cost of posh cinema theater may be a hospital or school building and the opportunity cost of a number of post buildings may be can irrigation project, power project, or a transport infrastructure project. Shadow prices We have stated earlier that in the social cost benefit analysis or in the national profitability analysis, the prices of inputs and outputs of the project should be suitability corrected to reflect the real cost if the market prices are characterized by distortions of any type. Shadow price, also known as accounting price, refers to such adjusted price of the input/output so as to reflect its real cost of value. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
For example, if the price charged for electricity supplied to an industrial unit in 50 paise per unit when the cost of production of electricity is one rupee, the price of electricity is to considered in the commercial profitability analysis is 50 paise per unit but in the national profitability analysis the relevant cost of electricity is one rupee per unit which is the real cost of production. Thus, the market price of electricity is 50 paise but its shadow price (accounting price) used for the national profitability analysis is one rupee. To take another example, suppose that the cost of imported patrol is Rs. 3 per liter but the selling price in the domestic market is Rs. 7 per litre because of a tax or Rs. 4 per litre. The shadow price of imported petrol would, therefore, be Rs. 3 per litre because the remaining Rs. 4 of the market price or Rs. 7 represents a mere transfer of income from one sector to another sector within the economic and it does not represent a resource cost or sacrifice to the nation. In short, the accounting price of an input, such as capital, labour or foreign exchange represents its opportunity cost or the loss to the economy that would result from a reduction in its supply by one unit. A factor that is expected to be in short supply should have an accounting price higher than its market price, while one that is surplus should have a valuation that is lower than its market price. Eg. SCBA Balance Sheet of Nuclear Power Project (Pearce & Nash 81) Benefits Gain in Gross domestic provident Costs Social cost of extra GDP to be generated by the project Routine Radiation (loss of human life) in value Waste management Proliferation Civil Liberties
xx
xx xx xx xx xx xx
xx
Depending on the value judgement of decision making authority, the final decision could be taken. Socio-Economic Appraisal Social cost benefit analysis (SCBA) is a perfect necropsy where the identification and determination of the best among project alternatives is made with reference to a countrys economic and social prerogatives. It is a systematic procedure for comprehensive review of all the costs, benefits, and effects of a project. Such appraisal is preformed for development and infrastructure projects usually by emphasizing the economic, technical, operational, institutional, and financial
factors to ensure that the selected project meets all necessary requirement and is implementable.
SCBA focuses on the following objectives: To contribute effectively to GDP of an economy; To aid in economic development; To justify the utilization of economys scare of growth; To maintain and protect environment from pollution; To educate new lines of functioning that are simple and cost effective; To benefit the rural poor and reduce regional imbalances; To justify the risks undertaken to implement and the sacrifices made in the process. Therefore, it is important to identify the major economic, environmental, social ant other factors a project may influence directly or indirectly. For instance, introducting a coal-fired power plant in a location previously supplied with power over long transmission lines at great cost would introduce economic benefits in terms of lower power costs, higher supply reliability and local employment at the power plant and support activities. Similarly, economic costs might include the use of local land for use of the power plant and coal handling or storage activities, air pollution from both the plant and coal handling, ground water and soil pollution from both the plant and coal handling, ground or storage activities, air pollution from coal washing and run-off, temperature (heat) pollution from heat rejection of cooling water, congestion of roads and or rail corridors, reduction of investment capital for other projects, commitment of local consumption, and various other indirect costs. Some of the local costs are usually hidden under various concessions given to public development projects, such as capital generation by use of tax-free bonds, use of public land subsidizing local development constructions, etc. The net benefits equation can be written as: NB = Where
( X M d)
= = = =
weighing factor for exchange rate stability; weighing factor for impact of protective practices; weighting factor for labour availability weighting factor for adequacy of support services
Few notable contributions towards social-cost-benefit approach are: C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
UNIDO - Guidelines for Project Evaluations released during early 70s M.D. Little, J.A. Mirrlees Appraisal and Planning for Developing Countries UNIDO-FOCUS Fundamental focus of these guidelines is net increase in the aggregate consumption of an economy due to the project output. Other subsidiary objectives are noted as: Changes in the distribution of domestic income; Changes in the savings and investment levels of a community; Change in the labour market due to project implementation, etc. Therefore, to survey the above objectives, the guidelines advocate the followi steps for the appraiser. Identification of direct and indirect costs and benefits that affect the aggregate consumption of an economy; The consumption of the shadow prices of labour, foreign exchange, and investment; The estimation of the social rate of discount, and also of relative weights to be attached to the net benefits accruing to various groups in the economy if redistribution of income is considered as a separate objectives. In a nutshell, the UNIDO guidelines bases its arguments on: The financial profitability of a project; The net effect of costs and benefits on the economic situation of a country; The opportunity cost of the investment; The financial profitability which is similar to that used in normal commercial ventures based on Discounted Cash Flow techniques and other standard financial management tools; The concept of shadow prices that are associated with various types of goods and services dealt in the project. Diamond Mirrleess Approach Little and Mirrlees, through their pioneering efforts, interpret the problem of LDCs as follows:
In an LDC, the foreign trade sector is considered as the public sector program. The public sector projects are to be efficient by setting their prices equal to marginal costs. (P = MC leaving to room for loss) Under such a threshold pricing level only world prices should be used as shadow prices. Distribution and efficiency be the twin important objectives of a government policy that affects project performance. Therefore, shadow prices give risk to effect on social welfare of a small change in quantity of an input or output. Its value depends on the welfare function being used and the constraints imposed. Rationale for Using World Prices as Shadow Prices While consideration shadow pricing philosophy, commodities are classified into four: Traded goods for which the elasticities of demand and supply in the market are infinite; Traded goods which are having definite elasticities of demand and supply in the global markets; Non-traded goods that are not being traded and will never be traded provided optimal trade policies are employed by the economy; Potentially traded goods that are not presently traded but can be traded if the trade policies are optimal. In all the above cases, world prices are recommended to be used as shadow prices since domestic pricing policies keep changing. The crux of the Diamond and Mirrlees approach is that, application of world prices as shadow prices helps offset the fluctuations in domestic prices and justifies the project from the economys point of view. They emphasis productive efficiency, trade efficiency, and optimal operations. This depends on the existence of optimal commodity taxes without which the exceptions to the rule of using world prices would disappear. Project Appraisal-an Indian scenario The project appraisal division (PAD) of the planning commission follows a qualified version of Litle-Mirrlees approach of projects appraisal to sit through the social-cost benefit analysis. Therefore, the assumptions that are considered in the L M approach stands valid even for the Indian conditions. In addition to the above, the PAD grouped the projects of national importance into three m order to safeguard from the ever-changing tariff policies and eliminate trade-offs between growth and equity. These groups are: C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Capital intensive industrial projects; Infrastructural investments; Agricultural and rural development projects. The capital intensive industrial projects are appraised and evaluated on the basis of efficiency criteria. The efficiency criteria bases its arguments on Economic Rate of Return (ERR) of a project. This approach is generally followed by all leading development financial institutions of the country such as ICICI, IFCI, IDBI and other SFIs. The infrastructural investments are appraised based on the net benefits accured to a country through the project. The appraisal division will visualize the economic situation in the presence or absence of the project and judge the balance of payments of the country. Therefore, here the shadow prices will be of great concern. Agricultural and rural development projects bases it arguments on the criteria of shadow wage rate and social protection rate. The wage rate is determined by considering the world prices of labour and the opportunity costs will be considered to analysis the situation f the economic costs and benefits of such developmental undertakings. Let us briefly bivouac on these three important measures which are widely applicable to projects of national importance. Economic Rate of Return (ERR) In order to compute the ERR, the world prices are considered instead of domestic market prices will be considered with C.I.F. prices for inputs and F.O.B. prices for output and for tradable goods where the international prices are not available and for non-tradable goods, social conversion factor (SCF) is essential to convert actual rupee value into the social cost or benefit derived. Relationship between SCF and SER X+M SCF = --------------------------------X ( 1-tx ) + ( 1 + tm ) Where X = exports, M = imports, tx = average export tax,
tm = average import tax
SCF is engineered to be shipshape in twin ways: For any minor non-tradable goods whose contribution to the project is so insignificant that a more precise estimation would not affect the overall outcome to an appreciable extent, for example postage stamps; Non-tradable that remains constant after one or two founds of using the decomposition procedure. This can be defined as the ratio which translates the domestic price for any nontradable into its price value so that the good can be expressed in terms of its real domestic price equivalent. SER defined The shadow exchange rate can be defined as that rate of exchange which accurately reflects the consumption worth of an extra unit of foreign exchange in terms of the domestic currency. Say an extra US$ is earned by the public project, what domestic consumption value would it buy? If it is useful to divide SER by official exchange rate (OER), therefore, if one dollar is convertible into Rs. 35 then; SER -----OER 35 ----35
Effective Rate of Protection (ERP) ERP is a simple measurement that attempt to determine the true or effective magnitude of the tariff on inputs of a public project. Practically the normal rate of tariff may be 25% and if majority of output from public project is contributed with the help of imports, the domestic resources are being protected at a rate much higher than 25%. According to Bhagawati and Desai, the ERP can be defined as the incremental value added is the difference between value added at domestic prices and at import prices. Therefore, this can be expressed as: Value added at market prices Value added at world prices -----------------------------------------------------------------------Value added at world prices
ERP
This can also be represented as Value added at market prices ------------------------------------Value added at world prices
ERP
-1
i.e. ERP = DRC 1 DRC
Valueadded at market prices Value added at world prices
Therefore, ERP helps in project appraisal in similar lines with DRC provided a slight change is followed in the form of reducing SER. ERP + 1 < SER for any socially acceptable projects. Fundamental of DRC The DRC (Domestic Resource Cost) version of Lal (1974) presents the criterion as: D SER> ---------(X M) Where
DRC Value added at market prices Value added at world prices
Where, value added is the difference between the value of what a project produces and the value of nay inputs purchased from elsewhere. The measurement of value added depends on many characteristics such as technology, labour, etc. Value added at domestic price is simply the value of payments made to domestic capital and labour. For example, we assume that there are two goods Q1 and Q2 which are traded along with a good Q3 which is domestically produced to export through the public project. Two domestic inputs K and L are used for this purpose. The world prices of these goods can be assumed as P1, P2, P3 respectively. The traded by applying the equation we can compute DRC as,
DRC w l3 r k3 3 1 p ( p f1 )
Where w = wage rate, l3 = labour used in manufacture of product Q3 i.e. L/Q3 C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
r = rate of interest k3 = capital used for product Q3 i.e. K/Q3 f1 = share of Q1 and Q2 A DRC focuses on the size of domestic resources given up per unit of foreign exchange earned. It is only in these terms that the ratio makes sense.
Illustration : The following details are available in respect of a project: (Rs. Crores) 700 180 560 1,000 800
Value of tradeable inputs at domestic prices Value of non-tradeable inputs at domestic prices Value of tradeable inputs at world prices Sales realization at domestic prices Sales realization at world prices
Calculate (a) Effective Rate of Protection (ERP) of the project. Comment on the ERP (b) If the exchange rate of rupee per US dollar is 35, what is the Domestic recourses cost of the project?
Solution:
Sales realization (SP) Inputs costs: Traded Non-Traded Net-value added
At domestic prices (Rs At world crores) crores) 1,0001800
prices
(Rs
700 180 120
560 180 60
ERP
Value added at domestic prices - Value added at world prices 100 Value added at world prices
120 60 100 100% 60

If value added at domestic prices is same as the value added at world prices, ERP = 0 which means project does not enjoy any protection. Here the project enjoys 100% protection against international competition.
DRC
Value added at domestic prices Exchange rate (120 Value added at world prices Rs. 70 crore
60)
Rs. 35
LIMITATIONS OF SCBA No standard method or technical applicable to all types of investment project. Quantification and measurement of social and benefits are formidable. However these limitation can be rectified by removing subjectivity in it. CONCLUSION Thus the project has to be appraised that the project will generate sufficient return on the resources invested in it. The viability of the project depend on technical feasibility, marketability of the products at a profitable price, availability of financial resources in time and proper management of the unit. It should be also within the framework of national priorities bases on social cost benefits analysis. In brief a project should satisfy the tests of technical, commercial, financial and managerial feasibilities as given above. SELF ASSESSMENT QUESTION 1. What are the required information for the proper project appraisal? 2. Describe the different stages in the project appraisal process. 3. Write Significance of appraising the managerial competence from an industrial project and how it can be made? 4. Explain the different methods of profitability appraisal of a project. 5. What do you mean by SCBA? How it can be made. 6. What are Economic Rate of Return and Effective Rate of Protection and how it could be computed? 7. Explain the UNIDO guidelines for SCB Analysis.
LESSON 7 PROJECT PLANNING OBJECTIVES 1. 2. 3. To know the nature and significance of project planning, To explain the steps involved in the project planning, To give an idea about project designing and time estimation.
INTRODUCTION Project Planning is foreseeing with blue print towards some predicated goals or ends. Project plan is a skeleton which consists of bundle of activities with its future prospects; it is a guided activity. It is a plan for which resour4ces are allocated and efforts are being made to commence the project with great amount of preplanning, project is a way of defining what we are hoping to do about certain issue. The project alone is not responsible for what happens during the course of a planning. Project is a final form of written documents that guides us as to what steps need to be taken next. NATURE OF PROJECT PLANNING One cannot conceive a project in a linear manner. It involves for activities, resources, constraints and interrelationships which can be visualized easily by the human mind and planned informally. However, when a project crosses a certain threshold level of size and complexities, informal planning has to be substituted by formal planning. Besides that it is an open system oriented planned change attempt which has certain parameters and dimension. So that, the need for formal planning is indeed much greater for project work than for normal operations. The pre-defined and outlined in detail plan of action helps than manners to perform their task more effectively and efficiently. There are always competing demands on the resources available in a region or a country because of the limited availability and ever expanding human needs. Planning for the optimum utilization of available resources becomes a pre requisite for rapid economic development of a country or a region. Project planning makes a possible to list out the priorities and promising projects with a view to exercising national choice among various alternatives available. It is a tool by which a planner can identify a good project and to make sound investments decisions. NEED FOR PROJECT PLANNING One of the objectives of project planning is to completely define all work requested so that it will be readily identifiable to each project participant. Besides that there are four basic reasons for project planning. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
To eliminate or reduce uncertainty To improve efficiency of the operation To obtain a better understanding of the objectives To provide a basis for monitoring and controlling work FUNCTIONS OF PROJECT PLANNING The following functions are to be performed carefully in the Project Planning process. It should provide a basis for organizing the work on the project and allocating responsibilities to individuals. It is a means of communication and co-ordination between all those involved in the project. It induces the people to look ahead. It instills a sense of urgency and time consciousness It establishes the basis for monitoring and control. It planning a project, the project manner must structure the work into small elements that are: Manageable, independent, Integratable and also measurable in terms of progress. Project planning must be systematic and flexible enough to handle unique activities, disciplined through reviews and control and capable of accepting multifunctional inputs. STEPS IN PROJECT PLANNING Planning decisions involves a conscious choice or selection of one behavious alternative from among a group of two or more behaviour alternatives. The three main steps involving project planning decisions are: 1. An individual becomes aware that there are alternative ways of action which are relevant to the decision to be made. 2. He must define each of the alternatives. Hence, the definition involving a determination of consequences or impact of each of the pro-posed alternatives. 3. The individual must exercise a choice between the alternative i.e., he has to make a decision with maximu input, feed back and participation of superiors as well as subordinates.
Planning is a systematic attempt to achieve a set of goals within the specified time limit under the constraints of available resource restrictions involving the least sacrifice. Broadly speaking speaking planning involves two differences methodologies: a) Planning by incentive and b) Planning by direction Planning by incentive mainly depends on the controlling of economic tools to push economic resources towards the attainment of set goals within the specified period. Planning by direction gives more emphasis on the direct participation of the central planning authority in ht economic activities to attain the set goal within the estimated time limit. Planning is decision making based upon futurity. It is a continuous process of making entrepreneurial decisions with an eye to the future, and methodically organizing the effort needed to carry out these decisions. The following figure vividly explains the key elements involved in the planning structure. This type of well structured project plan helps to establish an effective monitoring and control system. Project Planning Structure The various activities involved in Project planning is given in the following chart as Project Planning Structure. Work Description and Instruction Project Objectives Management Decision making Reports Planning and decentralizing The different way of allocating the activities of a project are important means of delineating various degrees of decentralization. These are three main ways in which project planning can be decentralized into manageable divisions viz., C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008 Time/Cost Performance Net work Scheduling
Master Schedules Budgets
Project planning by subject Project planning by type of plan and Planning in phases Planning by subject is a simplest way of dividing the powers of planning. The planner takes decision on related operation and planning by subject. He plans, decides and directs the part of plan. He is the sale incharge of the plan from beginning to final completion. Planning to type of plan broadly define premises and assumptions leaving the detailing to be done by persons at the grass root level of planning. Generally such cases involve decisions which are rather routine and involve a lower degree of professional and financial risk. Planning in phases are designed to several individuals who participate at the formulation stage. The level of people involved is directly related to the phase and the degree of risk involved. AREAS OF PROJECT PLANNING Comprehensive project planning covers the following; planning the project work: the activities relating to the project must be spelt out in detail. They should be properly scheduled and sequenced. Planning the manpower and organizations: The manpower required for the project must be estimated and the responsibility for carrying out the project work must be allocated. Planning the manpower and organizations: The manpower required for the project must be estimated and the responsibility for carrying out the project work must be allocated Planning the money: the expenditure of money in a time-phased manner must be budgeted Planning the information system: The information required for monitoring the project must be defined TYPES OF PROJECT PLAN The routinisation of planning is done by types of planning decisions, They are as follows: a) One shot or single use plans and C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
b) Standing or Standard use plans Single use plans: It includes programmes schedule and special ways of operating under particular circumstances. Single plans are meant as objectives which centre on focused and desired results. In can also be known as short term plans to deal with the specific problem for specific place with prescribed time limit. Standing plans: Standing plans are those plans which include policies, standard methods and standard operation, procedures. They are designed to deal with recurring problems. It may be treated as standard document to be used in different plans to deal with a set of problems. The design procedure and steps are already described. It may require adjustment considering the unit of operation. PROJECT OBJECTIVES AND POLICIES Project planning begins with the end result, the goal and works backward. Often the focus of project planning is on questions like who does what and when before such operational planning is done, the objectives and policies guiding the project planning exercising must be articulated. If the project team lacks a clear goal, even excellent skills and the best equipment will not enable the team to do a good job. Well defined objectives and policies serve as the framework for the decisions to be made by the project manager. Throughout the life of the project, he has to seek a compromise between the conflicting goals of technical performance, cost standard and time target. A clean articulation of the priorities of management will enable the project manager to take expeditious actions. An effective project goal has the following characteristics. These characteristics are captured in the term SMART, an acronym for the aspects of a goal commitment. These characteristics of a project goal are specific, measurable, agreed upon, realistic and time framed. The objectives of a project may be technical objectives. Performance objectives Time and cost goals Policies are the general guide for decision making on individual actions. Some of the policies of a project are: Extent of work given to outside contractors Number of contracts to be employed C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Terms of the contract etc, Project policies must be formulated on the basis of following principles: It must be used upon the known principles in the operating areas; It should be complementary for co-ordination It should be definite, understandable and preferably in writing, It should be flexible and stable, It should be reasonably comprehensive in scope. TOOLS OF PROJECT PLANNING There are different tools available for drawing the project plan in a formal way. They may be grouped into two categories. Traditional tools and network analysis. They are: The Gantt Chart, Gantt Chart: It is the oldest formal planning tool designed by Henry Gantt in 1903. Under this, the activities of project are broken down into a series of welldefined jobs of short duration whose cost and time can be estimated. It is a pictorial device in which the activities jobs are represented by horizontal bars on the time axis. The length of the bar indicates the estimated time for the job. The left hand end of the bar shows the beginning time, the right hand and the ending time. The manpower required for the activity is shown by a number on the bar. An illustrative bar chart is shown as follows. Time in weeks from project start Jobs 1 2 3 4 5 10 4 2 8 5 4 20 30 40
The project review dates are indicated by a vertical dotted line and at this time a horizontal line is drawn beneath each bar to indicate the progress actually made upto that date. The length of the progress line is then drawn to represent the percentage of the job that has been completed at the review date. The merits and demerits of Gantt are below: MERITS: 1. It is simple to understand 2. Is can be used to show progress 3. It can be used for manpower planning
DEMERITS: 1. It cannot show inter-relationship among activities on large complete projects 2. There may be physical limit to the size of the bar chart 3. It cannot easily cope with frequent changes or updating
Network techniques These are more sophisticated than the traditional bar chart. In these techniques, the activities, events and their inter relationships are represented by net work diagram which is also called an arrow diagram. The following diagram shows an illustrative network diagram.
D E
B C A
4 G H I
A network diagram is drawn in which the lines between the nodes represent the 6 7 2 8 1 jobs, the nodes being numbered to identify the jobs. The advantages of network techniques are: 1. They can effectively handle inter relationships among project activities.
2.
They identify the activities which are critical to them. Completion of the project on time indicate the float (spare time) for other activities. They can handle very large complex projects and They can be easily computerized and updated, while the network techniques are a superior tool for project planning they suffer from several drawbacks.
3. 4.
1. 2.
They are not easily understood by the project personnel They do not define an operational schedule which tells who does what and when.
Thus, a comprehensive project planning must have SMART goals, sound policies and designed scientifically. PROJECT DESIGN A project is a blue print for actions oriented activities of organization/individuals projects reflects the plans for action in it totality.
So, project design is the heart of the project entity. It defines the individual activities which go into the corpus of the project and their inter relationship with each other. It identifies the flow of events which must take place before a project can start yielding the results for which it has been set up. Project designing is primarily convened with the development of the detailed work plan of the project with time schedule. The design can most conveniently express the interrelationship between various constituent activities of a project in the form of a net work diagram. This design gives a clear picture of the work elements of the project and paves the way for detailed identification and quantification of the project inputs. TIME ESTIMATE While designing a project it is essential to fix/set time target for each and every activities of the project. It helps to complete the projects as per time schedule through which it can enjoy optimum benefits. Time estimate can be made by making a work break down of the project, estimating the time schedules for each work, putting them in proper sequence as per technical or any other logical
manner and finally matching their build-up on a time scale with the available resources. The time estimation for completing a project depends not only the work content/sequence but also be influences by resources and constraints. So, the basic factors involving in the time estimation are work, constraints, resources and also the data available. Besides that, three time values can be obtained for each activity of a project viz., Optimistic time (to) Most likely time (tm) Pessimistic time (tp) The optimistic time is the time required if no hurdles or complications arise. The most likely time, tm, is the time in which the activity is most likely to be completed. This estimates takes into consideration normal circumstances, making allowances for some unforeseen delays. The pessimistic time, tp, is the time required if unusual complications and / or unforeseen difficulties arise. Conditions of time estimate 1. Time estimate should be obtained by skipping around the network rather than by following a specific path. If estimates are obtained by following one path, there is tendency for the person providing estimates to add them mentally and compare them with a previously conceived notion of the time of the total path. The estimates of to, tm and tp should be defined independently of each other. The time available for completing the project should not influence the estimates of to, tm and tp. It should be made known that to, tm and tp are estimates and not schedule commitments. The estimates of to, tm and tp should include allowances for occurrences which are generally considered as random variables (weather conditions, administrative delays) but not for occurrences that are normally not considered as random variables (flood, war etc.)
2. 3. 4. 5.
Average time Once the three time estimates for each activity are obtained, the expected value of activity duration is calculated. The expected value, te, is usually obtained by the formula: C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
te
to 4 tm tp 6
where : te tm tp = = = optimistic time most likely time pessimistic time
The time estimates for various activities of a project is given in the following Activity Numerical Description a 1-2 b 1-3 c 2-4 d 3-4 e 2-5 f 4-5 Time tm 12 12 1.5 8.5 14 2
te to 4 tm tp 6 13 12 2 8 15 2
to 9 6 1 4 10 1
tp 21 18 5 10 24 3
The network diagram with average time estimates is shown in the following figure:
a2 13
13
15
a1 0
2 12 C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008 2
A5 8
A3
A4
Difference approaches of time estimation 1. Time study approach: In this approach the time T for completing a work is T = a/P x n where a = total quantity of work, P = productivity factor, n = normal size of view. But it is very, difficult to realize the above data. 2. Previous project data: In this approach data from recently competed projects are used without consideration of a , p and n. Often these data are used for estimating broad work package duration. Their values are also used for estimating the overall project duration. 3. Estimating approach: In this approach experienced project personnel are asked to guess project duration. This approach is widely used for estimating time duration for a project. Three estimates optimistic, most likely pessimistic are made in this approach to make up for error in the estimates. A single time, known as expected time the is then worked out as
te
to 4 tm tp 6
This approach has been used for calculating the average time as given above. 4. Range Estimates: These estimate may also be a estimate or even past data. No two do time data from past projects for any work will be the same; they can be better expressed by a range. e.g. vendors quite often guest deliveries like 6-8 months or 10-12 months.
5. Estimates from vendors and contractors: C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Vendors and contractors are asked to indicate time estimates as they are often asked to quote budgetroy cost estimates. These estimates in a competitive situation are supposed to provide a realistic estimate. 6. Allocated an committed time Certain activities requires a fixed duration likes an incubation period. The duration could be changed, within a limit, to meet the requirements of the project. In practice, therefore, instead of trying to accurately estimate the duration, a reasonable duration is allocated and commitment obtained from the people who will be held responsible for implementation. When the duration is not acceptable to any one, it may change. CONCLUSION Thus, Project plan is a skeleton which consists of bundle of activities with its future prospects. It helps to allocate the resources, efforts and time in a project way which increases the efficiency of project performance. Moreover, it helps exercise control and monitor the project work thereby facilitate the time completion of project.
SELF ASSESSMENT QUESTIONS 1. 2. 3. 4. 5. 6. 7. 8. Explain the nature and significance of project planning? What are the functions of project planning? What are the different types of project plan? How project objectives and policies guide the planning process? Describe the different goals of project planning? Project designing and time estimation are the two important components project planning how? How the time estimation must be done? Write the different approaches of time estimation.
LESSON 8 PROJECT SCHEDULING AND TIME MONITORING OBJECTIVES 1. 2. 3. 4. 5. To know the nature and significance of project scheduling To study how time monitoring can be done effectively through project scheduling. To identify the applicability of Schedule in vies of resource constraints. To emphasize the need for and process of project cost monitoring. To explain the process of value engineering in cost monitoring
PROJECT SCHEDULING It is one of the key components in the project control system. It refers to when it is to be done and how much is to be done. The purpose of scheduling is to obtain commitment, communicate the commitments to concerned and ensure coordination through self regulating first efforts. The scheduling is helpful to link the summarial activities appearing in the network. PURPOSE: The ongoing scheduling and monitoring process enables one to: 1. 2. Successively detail out the schedule to provide equivalence with reality. Adopt the schedule to the changed realities
3. Provide intervention when stability of the work system is being threatened and revitalize the system. Monitoring is an action inducing efforts meaning thereby that it would ensure that commitments made by various agencies are followed by action. TIME MONITORING EFFORTS For monitoring the time aspect of the projects, the efforts should be taken. 1. 2. 3. 4. 5. 6. Conduct appreciation programme for the owner. Development of project execution plan and overall project implementation schedule. Preparation of special condition of contract for scheduling and monitoring by work package contradictions. Evaluation of bids in relation to scheduling and monitoring. Appearance or review the detailed schedules and progress reports submitted by vendors and contractors. Review with owner, consultants, contractors and vendors.
7. 8. 9. 10.
Project audit and corporate review Monthly progress report to the owners Installation and operation of an on-line information system. On the job training for on-going scheduling and monitoring to the monitoring agency.
So schedule control is to ensure adherence to the agreed time schedule for the project. Monitoring and control of project and time, therefore becomes essential to ensure adherence to project schedule. BOUNDING SCHEDULES Scheduling of non critical activities can be done by two schedules: Early start schedule Late start schedule Early start schedule refers to the schedule in which al activities start as early as possible. In this schedule a) are events rear at their earliest because all activities start at their earliest starting time and finish at their earliest finishing time. there may be time legs between the completion of certain activities and the occurrence of events which these activities lead to, and all activities emanating form an event at the same time.
b)
c)
The early start schedule: It suggests a cautious attitude towards the project and a desire to minimize the possibility of delay. It provides a greater measure of protection against uncertainties and adverse circumstances. Such a schedule however, calls for an earlier application of resources. A model for early start schedule is given below: The early start schedule
35 40 5 10 15 20 25 30 C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008 0
The late start schedule: It refers to the schedule arrived at when all activities are started as late as possible. In this schedule, i.) all events occur at their latest because all activities start at their latest starting time and finish at their latest finishing time. some activities may start after a time lag subsequent to the occurrence of the proceeding events. all activities to an event are completed at the same time:
ii)
iii)
The late start schedule reflects a desire to commit resources late as late as possible. However, such a schedule provides no elbow room in the wake of adverse developments. Any unanticipated delay results in increased project duration. A model for late start schedule is given below: The late start schedule
3 0 5 10 15 20 25
4 30 35 40
Example 1: SCHEDULING TO MATCH AVAILABILITY OF MANPOWER Let us consider a small project for which the network diagram is shown in fig. 2 1 day 2days 1 6 3 1day 3days 4 2days 8 In fig. activity duration is shown above the activity arrow and manpower requirements are shown below the activity arrow. Only 12 men are available for the project (a manpower resources constraint). The early start schedule of this project is shown as a graph on the horizontal time scale in fig. 5 2days
Looking at the manpower requirements for the early start schedule we find that it is as follows: 20 for the first day, 14 for the second day, and 5 for the fifth day. Obviously this schedule is unacceptable in view of the manpower constraint. So, we explore the possibility of shifting activities. Our efforts at shifting activities, keeping the project duration at five days soon reveals that nmo schedule is feasible with only 212 men. So we extend the duration of the project by one day try various schedule to see whether we can find a feasible schedule. A little juggling of activities shows that a schedule like the one shown in fig. is feasible this is the best we can do. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
SCHEDULING TO MATCH REALIZE OF FUNDS The cost estimates for various activities of our illustrative project is given in the table. For out discussion here weeks have been changed to months. Cost estimates Activity (1-2) (1-3) (2-4) (3-4) (2-5) (4-5) Duration 13 12 2 8 15 2 Cost per months 2,00,000 5,00,000 10,00,000 2,50,000 1,00,000 7,50,000 Total Cost in months 26,00,000 60,00,000 20,00,000 20,00,000 15,00,000 15,00,000 1,56,00,000
The government has decided to release Rs. 1,56,00,000 required for the project in the following manner. Rs. 69,00,000 in the first year Rs. 68,00,000 in the second year, and Rs. 19,00,000 in the third year. It has also stipulated that the unspent amount would lapse and hence cannot be carried forward. Before we develop the project schedule a preliminary question may be asked: is it possible prima facie to schedule this project without extending its duration beyond 28 months, which is the minimum time required given the network logic and activity duration? To answer this question let us look at the funds requirement for the early start schedule and late schedule. This is shown in Fig. From Fig. we find that:
1.
The rate of expenditure is relatively higher for the earlier stages in the early start schedule and is relatively higher for the later stages in the late start schedule. A rate of spending greater than that of the early start schedule is not possible (This is because in the early start schedule all activities start as early as possible). Any release of funds above the early start schedule requirement curve is beyond the capacity of the project to spend. The rate of spending corresponding to the late start schedule is the absolute minimum necessary to complete the project on time. If the rate of spending is less, than that corresponding to the late start schedule the project duration will have to be necessary extended. A pattern of funds release lying between the two bounds, early states schedule requirement and late start schedule requirements, prima facie suggests that a schedule can be worked out without extending project duration.
2.
3.
4.
Let us not look at the cumulative funds release pattern for our illustrative project. This lies between the early start schedule requirements as late start schedule requirement. So prima facie it suggests that a feasible schedule without extending the project duration can be developed. Let proceed further and consider scheduling year by year. The activities thus begin in year 1 according to the early start schedule are (1-2) and (1-3). If both these activities are commenced as early as possible, the fund requirement for year 1 would be Rs. 84 lakhs. Since this amount exceeds Rs. 69 lakhs, the amount to be released in year 1, the expenditure in year 1 has to be reduced by Rs. 15 lakhs. For this we consider the possibility of shifting activities to subsequent periods. Looking at activities (1-2) and (1-3) we find that (1-2) is on the critical path, so there is no flexibility available with respect to it. Activity (1-3), however, can be shifted as it is not on the critical path. Since activity (1-3) requires Rs. 5 Lakhs per month it has to be shifted by three months so that the amount spent in year 1 in equal to the amount released in year 1. Since there is free float of six months for activity (1-3), we shift it by three months. We not go to years 2. The effects of shifting activity (1-3) by three months are as follows: (i) the funds requirement for year 2 on account of activity (1-3) increases by Rs. 15 Lakh over and above what it is for the early start schedule, (ii) The earliest finishing time moves to 23 months from 20 months. Since this shift occurs within year 2, there is no change in funds requirement on account of activity (34), (iii) The earliest starting time for activity (4-5) moves to 23 months from 20 months and the earliest finishing time for activity (4-5) moves to 25 months from 23 months. This decreases the funds requirement for year 2 by Rs. 7.5 lakhs = Rs. 75.5 lakhs. However, the funds budgeted for year 2 are only Rs. 68 lakhs. So we consider the possibility of shifting some activities to year 3. We find that by shifting activity (4-5) to year 3 the expenditure in year 2 can be reduced to Rs. 68 lakhs, the budget of the year. As a result of this shifting the expenditure for year 3 C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
(first four months of it) equals the budgeted funds release for year 3. The schedule arrived at finally is shown in Fig.
PROBLEMS IN SCHEDULING REAL LIFE PROJECTS In the above discussion we have considered simple examples comprising few activities and one constraint, to indicate the broad approach. In real life projects the activities run into hundreds and there may be several constraints. The problem of scheduling in such cases tends to become very complex. For solving such problems the technique of linear programming can be used. However, when a problem has numerous activities, say more than 100, the technique of linear programming becomes computationally unwisely and inordinately expensive, even with the aid of fastest computers available. In view of the practical difficulties in using linear programmer for solving largescale scheduling problems, heuristic programs have been developed. A detailed discussion about these aspects are given in paper 4. PROJECT COST MONITORING COST CONTROL Cost control is important to al companies, regardless of size. Small companies generally have tighter monetary controls, mainly because of the risk with the failure of us little as one project, but with less sophisticated control techniques. Large companies may have the luxury to spread project losses over several projects, whereas the small co., may have ten projects. Cost control is not only monitoring of cost and regarding perhaps massie quantities of data, but also analyzing the data and to take corrective action before it is too late. Cost control should be performed by all personnel whoever may be the cost centre projects office. Cost control is actually a such system of the management cost and control system. The purpose of any management cost and control system is to establish policies, procedures and techniques that can be used in the day-to-day management and control of projects and programs. The planning and control system must, therefore, provide information. The appropriate system must consider a cost/benefit analysis, and include such items which are: Planning & control techniques facilities Derivation of output specifications (project objections) Delineation of required activities (work) C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Co-ordination and communication between organizational units Determination of type, amount and timing of necessary resources Recognition of high risk elements and assessment of uncertainties Suggestions of alternative courses of action Realization of effect of response level charges on schedule and output performance Measurement and reporting of genuine progress Identification of potential problems Basis for problem solving decision marking and corrective action Assurance of complying between planning and control PROJECT COST Planning & control techniques require: a) New terms (new systems) of information form additional sources and incremental processing (managerial time computer experts etc.,) Additional personnel or smaller spurn of control to free managerial time for planning and control task (increased overhead) Training is use of Techniques (time and material)
b)
c)
A well disciplined Management Cost Control System (MCCS) will produce the following results: 1. 2. 3. 4. 5. Policies and procedures that will minimize the ability to distort reporting Strong management emphasis on meeting commitments Weekly term meetings with a formalized agenda, action items and minutes Top management periodic review of the technical and financial status Simplified internal audit for checking compliance with procedures
COST CONTROL SYSTEMS Effective management of a progress during the operative cycle requires that a well-organized cost and control system be designed, developed and implemented so that immediate feed back can be obtained, whereby the up-to-date usage of resources can be compared to target objectives established during the planning cycle. REQUISITES OF EFFECTIVE CONTROL SYSTEM The requirements of an effective control system (for both cost & schedule/performance) should include: a) b) c) d) e) f) Through planning of the work to be performed to complete the project Good estimating of time, labour and costs Clear communication of the scope of required tasks A disciplined budget and authorization of expenditures Periodic re-estimation of time and cost to complete remaining work Frequent, periodic comparison of actual progress and expenditure to schedules and budgets, both at the time of comparison and at project completion.
Management must compare the time, cost and performance of the progress to the budgeted time, cost and performance, into independently but in an integrated manner. The first purpose of control therefore becomes a verification process accomplished by the comparison of actual performance to date with the predetermined plans and standards set forth in the planning phase. The comparison serves to verify that: The objectives have been successfully translated into performance standards. Performance standards are, in fact, a reliable representation of progress, activities and events. Meaningful budgets have been established such that actual Vs planned comparisons can be made. In another words, the comparison verifies that he correct standards were selected and that they are properly used.
The second purpose of control is that of decision making. Three useful reports are required by management in order to make effective and timely decision: The project plan schedules & budget prepared during the planning phase A detailed comparison between the resources expanded to date and those predetermined. This includes an estimate of work remaining and the impact on activity completion. A projection of resources to be expanded through progress completion These reports are then supplied to both the managers and the doers. Three useful results arise through the use of these reports, generated during a thorough decision making stage of control. Feed back to management, the planners and the doers. Identification of any major deviation from the current program, plan, schedule and budget The opportunity to initiate contingency planning early enough that cost, performance and time requirements can undergo corrective action without loss of resources. These report, if properly prepared, provide management with the opportunity to minimize downstream changes by making proper corrections here and now. The management cost and control (MCCS) takes on paramount importance during the operating cycle of the project. The operating cycle is composed of four phases: Work authorization and release (Phase II) Cost data collection and reporting (Phase III) Cost analysis (Phase IV) Reporting: Customer and management (Phase V) These four phase, when combined with the planning cycle phase I constitute and closed system, network that forms the basis for the management cost and control system. COST CONTROL METHODS
The methods that can be used at different stages of the project for cost control are given below: 1. At zero date: On the banks of the finalized basic package an itemized control estimate is prepared. Using the net work plan, the control estimated is converted into cash flow plan and annual/quarterly budgets. The control estimate and the budget provide onward control of commitment and expenditure. Further, when time aspect of fund flow and commitments are kept under control with the help of budgetary restrictions, the interest burden for the projects gets reduced. During detailed Engineering: The control estimate prepared before the zero date will be very soon overrun unless design and engineering procedures are constantly reviewed. For which value engineering review should be carried out during the following stages of engineering development. Overall plot plan Specifications of plant and machinery Utility systems design Building design Standard specifications an drawings 3. During procurement and sub-contracting: After engineering the next important phase for cost reduction is procurement. Normally, competitive acceptable item at the lowest cost. But competitive bidding alone will not ensure procurement at lowest cost unless the following steps are taken in addition to competitive bidding. Vendor association in specification Detailed scope and specification General conditions of contract Purchase procedure Delivery is erectable sequence
Competitive bidding 4. During construction: There is not much scope for cost reduction during construction. However, there are certain as listed below on which close control must be exercised for keeping cost down. Extra items, Idle chares, Inventory cost, Cash flow planning Cost of operating staff and administrative expenses CASH FLOW PROJECTION Cash is required when construction is in progress as equipments start arriving during this period. The executors/contractors will also raise monthly running bills. Cash requirements must correctly assessed and arranged adequately. Fund shortage will not only slow down work but also attach additional costs. Over provision of fund will unnecessarily keep fund idling, this resulting in excessive interest burden. To make cash flow projection, a probable cash flow statement may be prepared at different point of time periods.
Cash flow projection/forecast showing the sources and uses of cash (money) for a given period is an important as balance-sheet in that period. The inflows would typically be revenues from sales of products, sale of fixed assets, issue of shares and loans, out flows would be costs incurred requiring payments to creditors, purchase of fined assets or investments etc. Budgeted, cash flow must be made along with the control flow. The difference between budget and actual for each period is known as variance. Analysis of the period and cumulative variance provide a control mechanism helping to ensure that each expenditure and commitments are not allowed to rise above the projects ability to provide the funds from its operations. VALUE ENGINEERING/VALUE ANALYSIS Value Engineering is a systematic analysis and evaluation of the techniques and functions in the various spheres of an organization with a view to exploring channels of performance improvement so that the value in a particular product can be bettered. Value Engineering aims at cost reduction. Value engineering probe into economic attributes of value and increases the productivity, thereby achieve cost reduction.
Generally the concept value engineering is applied to direct costs is direct materials direct labour etc., value engineering is mainly used be for a product is born and is in the design and development stage itself. The efforts being directed at the stage of design review from all angles is termed as value engineering. A value engineering review uses costs as the basis of review and ensures that value is included in the design. Value of an item, in this context, would mean the minimum cost at which the function provided by the item under review from an other item. In this process, the cost of the item can be brought down without compromising the essential performance the value goes up. STAGES OF VALUE ENGINEERING REVIEW The various stages at which value-engineering review could be carried out have been show in the following fig. EFFORTS VALUE ENGINEERING REVIEW BENEFIT
BASIC PACKAGE REVIEW
TENDER WORK PACKAGE REVIEW
POST CONTRACT ENGINEERING REVIEW
In can be seen from the figure that much benefit can be obtained with vary little effort when value engineering is applied at the early stage of the project. Through systematic value engineering, it is claimed that 10-20% of the project cost can be easily reduced. The major part of this saving can come from value engineering review of the basic engineering review. Whatever may be the stage, value engineering has to deal with function and cost. For this cost function visibility is essential. The cost of each function will be worked out by estimation the cost of each work package. When the cost of each function is expressed as percentage of the total project cost and also compared wherever possible with the industry C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
average the cost worth gap in each package and therefore, opportunity of value improvements gets established. This helps me to find out design alternatives by suing various study and other creative techniques. Thus the essence of value engineering is to identify unnecessary cost and then eliminates it. The methodology of value engineering requires a cost function visibility. The range and depth of visibility will vary depending on the state of project development. But what ultimately will ensure an improved value are the ideas unfortunately be produced mechanically like the function cost work analysis. A heuristic is a rule of thumb like schedule critical activities first or schedule the activity which has the largest independent float in the end. A heuristic program consists of a collection of such heuristics. In recent years may heuristic programs have been developed. They are formulated usually as computer programs. These programs may be broadly divided into two types resources leveling programs and resources allocation programs. A resources leveling program seeks to level resource requirements given a constraint on project duration. A resources allocation program tries to find the shortest project schedule, given fixed resources availability. Ten Commandments of Cost Control: Effective cost control depends on the following factors
1. Realistic estimates 3. Cost Forecasting 5. Pricing the project 7. Effective Designing 9. Monitoring and Control of costs
2. Maintain Contingencies 4. Considering Variances 6. Manage Inventory 8. Working Capital management 10. Information management
SELF ASSESSMENT QUESTIONS 1. 2. 3. Discuss the importance of management cost and control system How cost control can be done at different stages? What do you mean by value engineering? And how it will be helpful to exercise cost control What is early start schedule and late start schedule? Explain the significance of project scheduling? How the time monitoring can be done effectively? How would you calculate the variability of project duration? Illustrate how scheduling can be matched with the availability of manpower. Illustrate how scheduling can be matched to release of funds Explain the process of project cost monitoring.
4. 5. 6. 7. 8.
9. 10.
LESSON 9 PROJECT EXECUTION AND ADMINISTRATION OBJECTIVES 1. 2. To know the basic requirement of systematic execution To analyze the nature and significance of different functions of project administration To identify the suitable organizational structure for effective project execution.
3.
Project execution is the process by which goals and promises of a project or programme are carried out. Once a project has been established and the goals are set, the project manner has to act to achieve these goals. Due to multi-disciplinary character for a project the manager has to look around for help and get the things down through others. This help can be expected on from internal and external. ESSENTIAL OF PROJECT ADMINISTRATION For a company executing projects either regularly or for the first time it would be necessary for the chief executive to issue what may be called project charter. It must define the project scope, the project goals, name and authority delegated project manager, project reviewing authority and request co-operation of all concerned in the execution of the project. An elaborate effort in this direction may produce what is known as a project manual. To demonstrate the project managers authority in a simplest and quickest way it is essential to develop a proper organization chart. The different forms of organization charts that suit to particulars circumstances and nature of job have been discussed in the earlier lesson. There are two system for the management of project and they are: Project work system Project control system Project work system can be designed by developing and preparing the following tools. Work breakdown structure
Project execution plan Project procedure manual etc. Similarly for effective project control system it is essential to design the tools such as project planning, project scheduling and project monitoring. FACTORY DESIGN AND LAYOUT In creating a factory, an entrepreneur creates something which is attractive, useful and ingenious from material resources which lack the dimension of targeted benefits. For this, the entrepreneur uses his skills, abilities and strategies to combine a variety of material and human resources. These potential resources manifest themselves in the selection of the factory location, in planning and constructing the factory building, in procuring and installing machinery and equipment, in putting up other production facilities and auxiliary services, and in recruiting and selecting men of competence to use the physical resources for the purpose of producing goods. The term factory design refers to the plan for a particular type of building, arrangement of machinery and equipment, and provision of service facilities, lighting, heating, ventilation, etc. in the building. IMPORTANCE OF FACTORY DESIGN Factory design and layout of the factory are significant aspects of the factory organizations. They have direct relationship with the process of manufacturing, productively and value of the product. It also influences the operational costs of the enterprise. It also boosts the morale of workers and ensure maximum supervision. FACTORS AFFECTING FACTORY DESIGN The following factors influences the design of a factory: 1. 2. 3. 4. 5. 6. Location Nature of the manufacturing process Plan Layout Functional Smoothness Material Handling and movement Cost of Building
7. 8. 9. 10.
Lighting, Ventilation and Service Facilities Nature of Product Future expansion, modernization etc. Projecting the image of a factory.
The factory design and layout should be flexible so that it may be adapted easily to technological change, modernization, diversification and expansion with minimum cost and time. Any planning exercise requires of the planner a good knowledge of what is involved in the activity concerned, such as the nature of the materials to be handled, their quality and the quantity, the processes they have to be subjected to, inspection and quality control at various stages, assemble procedures, packing etc. He could also know the sequence of operations. He should look ahead beyond the immediate future and anticipate changes, modifications, additions, deletions etc., which may be forced upon his organization as a result of expansion, obsolescence, diversification or any other reasons. Having anticipated these, provision should be made to accommodate such changes.
While working on factory layout plan, a very important aspect to be kept in mind is the fact that the movement of materials from one stage of manufacture to the next should be minimal. For this, this movement has to be streamlined. If this is not initiated, it will result in the wastage of human effort and time, both of which have a telling effect on the efficiency of an organization and the cost of production. In industrial life, the economic and efficient usage of all the factors of production is the key to profitability and the ability to compete in the market. PLAN LAYOUT A plant layout is a floor plan for determining and arranging the desired machinery and equipment of a plant, whether established or contemplated, in the one best place to permit the quickest flow of material at the lowest cost and with the least amount of handling in processing the product from the receipt of the raw materials to the shipment of the finished products. During the course of appraisal, considerable emphasis is laid on a proper and scientific plant layout as once the plant and equipment are erected, it becomes difficult and costly to change at a later stage. The following aspect are kept in view while evaluating the plant layout:
Production technology and product mix Efficient, economic and uninterrupted flow if human and materials resources Proper space for maintenance Future expansion/diversification of the project Safety precautions particularly when explosive or bulky material is required to be handled Proper lighting and ventilation Proper layout of utilities and services and provisions for effluent disposal, where necessary Effective supervision of work, and Proper storage and stacking space, where required The success of an enterprise to a greater extent depends upon the factory design and layout. The location, layout, amenities will influence productivity and facilitate better management. More importantly, the efficiency of the production flow depends largely on how well the various machines, production facilities and employee amenities are located in a plant. PROJECT DESIGN Project design in the first stage in the execution of the project. Project design is concerned with developing project scheduling techniques and also drawing the schedule for implementation fo the project. This is more or less a time frame for each phase in the project development. It includes major items of project implementation such as finding of location, construction of building, procuring plant and machinery and finally executing the production prgroamme. Project design along with network analysis helps to develop work plan of the project and present it in the form of diagrams representing duration of time for each work and adjustment of the time schedule framed with reference to the problems that usually arise in the project execution. Project design is useful to the entrepreneurs in the following ways: 1. It gives a comprehensive idea about the entire project described in every phase along with the time schedule within which it has to be completed.
2. It is a diagrammatic representation of work plan devised to execute the project, after adjusting the usual delays that may arise4 in the implementation fo the project. 3. The various constituent continent activities of the project are narrated in sequence to highlight the various phases of the project. 4. It defines the individual activities which go into the corpus of the project and their interrelationship with each other. 5. It enables to identify the know of events which must take place for the successful completion. 6. 7. 8. It helps entrepreneurs in coordinating project activities. It serves as an effective tool of planning and implementation of a project It helps managers to plan the project economically.
With the advent of the computer and large-scale introduction of computer based planning and control in Indian public castor units, network analysis cn considerably enhance managerial effectiveness in the context of any time bound action programmes. Petty defaults have caused big diseconomies in the public sector enterprises in this country. Computer-based network analysis can handle these problems economically and efficiently. The binding condition is, however, that management is serious in effecting economies in different areas of activities; and activities and events are closely watched for initiating corrective action in proper time. The main task of a project manager is to design systems and manage through them. A business system refers to the total picture of men, machine, materials and paperwork involved in the implementation of any phase of a project. System has a planned sequence of operations for carrying out a recurring work involved in a system with family and consistently which is called a procedure. The first step in system design for project management is to conceive the total physical system and its natural modules. In the next step, the connection between these modules has to be identified. Finally, a control system using information as the media has to be developed for self control as well as forced control of the total project. Project management system is mainly constituted by project work system and project control system. If the project is organized on the lines of process units or technological systems, coordination will be extremely simplified and cooperation would be almost assured. Therefore, better result can be obtained if the design of work is
systematized. The process of systematization starts with the development of a work breakdown structure.
Work breakdown structure (wbs) Work breakdown structure, WBS is short, is a technique which breaks down a work into its components and at the same time establishes the connections between the components on the lines of a family tree. The work breakdown structure represents a systematic and logical breakdown of the project into its components parts. It is constructed by dividing the project into its major parts, with each or these being further divided into sub-parts. This is continued till a breakdown is done in terms of manageable units of work for which responsibility can be defined. Thus the work breakdown structure helps in: Effective planning by dividing the work into manageable elements which can be planned, budgeted, and controlled. Assignment of responsibility for work elements to project personnel and outside agencies. Development of control and information system.
Work breakdown structure and Project organization The project organization represents formally how the project personnel and outside agencies are going to work. The work breakdown structure defines what work is to be done in a detailed manner. To assign responsibility for the tasks to be done, the work breakdown structure has to be integrated with the project organization structure. Work can also be broken down using a function-oriented approach. This is normally the approach used by contractors for distribution work in-house which is normally organized on functional lines. Here again, the breakdown upto a certain level is natural, thereafter it assumes a certain pattern of grouping which can change with the designer of the WBS. Work breakdown through the hardware approach is, therefore, the only natural and permanent way of breaking work. Added to this, using a rational codification number it is possible to establish the linkage of the hardware element with software and agencies. Performance target, schedule, budget and accountability can similarly be fixed for any hardware element. Thus, hardware-oriented work breakdown structure provides the basic framework for project work system design. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Project Execution Plan (PEP Project execution plan (PEP) refers to that exercise of matching the project hardware and software with the executing agencies to that a viable work system emerges. Project execution plan, in fact, includes four sub-plans. There are: 1. 2. 3. 4. Contracting plan Work packaging plan Organization plan Systems and procedure plan
Project execution plan is a strategic plan it does not deal with the operational details of building a project. The operational details are covered in a network plan which is developed later after the project execution plan is approved by the owners plan for project execution and, therefore, it must from the basis for development of all operational plans including network plans. Contracting plan This is the first step in the preparation of a project execution plan. Owners invariably need some agencies with whom they can share responsibilities. In the interest of developing self-regulation systems it would be necessary to contract out those areas where the owners company does not have inherent competence. Which type of contract to choose, which type of reimbursement to make, what conditions of contracts to stipulate, and what payment terms to offer, are all issues that must be examined during this phase of the project. Contract planning would involve examination of a number of alternatives since there are so many possible arrangements in terms of sharing of responsibilities, types of reimbursements and general conditions of contract. Work Packaging Plan Work packing plan will be the next important step in the preparation of the project execution plan. A work package in a project is the smallest division of work where it stil retains the characteristics of a project. This when a project is progressively divided into systems and the system into subsystems, a stage is ultimately reached where further division into components will strip it of its multi-disciplinary character the work at that stage can be consideration these
packages, grouping them or keeping them as they are, in order to from viable contracts. Work packaging enables better organization and management of projects. A work package or several work packages may be assigned to one individual who could serve as a mini project manager. This enables projectization of the entire project execution effort which, in turn, ensures the closest possible adherence to time, cost and technical performance targets. Work packaging can also ensure that all agencies in a project think and channelise their effort in one direction, i.e. towards the completion of the packages only. Thus, design engineers, procurement engineers and construction engineers will then give priority to their work in relation to a work package and not according to functional convenience. Fulfillment of the requirements of a work package will alone be considered and achievement and not the mere volume of work completed. This will lead to a well-coordinated completion of the project. Thus, the contracting plan and work packaging plan together produce a list of contracts with the scope of work defined in terms of self-contained work packages. Organization plan Having decided the number of contracts and their scope, the owner is now in a position to set his own house in order. The owner can deliberate on the form of organization to be adopted so that the interest of the project is best served. Several standard organizational arrangements are possible, ranging from pure functional organization to pure project zed organization and an owner has to choose his own arrangement depending on the project size, location, complexity, work packages, type and number of contacts. It should be however, noted that an organization can become more self-regulation if it is on taskforce or project zed. The participants in such cases fully identify themselves with the project objectives and would regulate their behaviors on their own, as the situation may demand. System and procedure plan The last section of the project execution plan deals with system and procedure. A heavy emphasis has to be placed on routine system and procedure so that no intervention is required in the day to-day operation of a system. There are at least eight routine sub-system of project management for which appropriate procedures can be conceived right at the start of the project implementation. These eight sub-systems are: 1. Contract management
2. 3. 4. 5. 6. 7.
Configuration management Time management Cost management Fund management Materials management Communications management
While the routine system and procedure for each company will be different, in most of the cases the difference may not be very significant. it is quite possible to examine the system and procedure of one project and adapt it after making minor modifications. PROJECT PROCEDURE MANUAL A project procedure manual is to be prepared in such a way that the interacting agencies are able to see their roles and manual relationship in pursuance of the common goal. Preparation of a project procedure manual should start with each project management sub system. A system decomposition has to be carried out on each sub system to identify the need for procedure write-ups. While carrying out decomposition the question to be asked is what the system must achieve and what contributes to the effective functioning of each of the element. By asking this question at successive levels it is possible to develop a company picture about the system. The procedure to be developed for making the system self-regulative would not, however, come out automatically from this analysis. The decision has to be empirical, and in some cases intuitive. PROJECT DIARY In order to ensure effectiveness, project manager or executives have to maintain a record date wise the point discussed and decision taken which are required to be followed for implementation. This is known as project diary. A project manager would be holding a number of meeting in a say-some with vendors, some with contractors. Some with his own staff and others may be with various outsiders. many decision are taken in these meeting and many commitments are made. Also, a lot of brain-work is during these meetings. Information derived on these occasions, decision arrived have to be properly recorded in the project diary. This will go on record to enable their C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
communication and implementation. Information noted in the diary help to justify the decisions at later date this record may also be used to defend against non- admissible claims and litigation this diary help to prepare a follow-up register also. The follow-up register will contain all pending work with dates committed against each. Maintaining diary help the person to get relief from, the burden of carrying everything in their head. It could boost up ones memory theryby helps to avoid the problems of unattended work due to lack of memory. PROJECT EXECUTION SYSTEM Once these systems and procedures have been developed for the project, it is the duty of the project administrator to set for smooth take off. It requires proper project execution systems which should be more concerned about external intervention for survival than on its internal self regulating capability. The external intervention will be of the following forms:
Project direction Project co-ordination Project communication Project organization Project control
These terms are often construed as actions for getting results. Too often the terms are used interchangeably to mean management. Therefore, for the successful execution and administration of project requires direction, organization, coordination, communication and control all at the same time but in varying proportion. We shall discuss the nature of significance of project direction, communication, co-ordination in this lesson. PROJECT DIRECTION Project direction refers to the use of authority to channelise the activities of the project on desired lines. During the initiation of start-up period of the project this direction shall be provides by the project manager. But once the project inters the production period direction will be exercised by other members of the project organization of else the project will stall.
Project initiation/start-up The need for project direction as mentioned before, is maximum at the time of start-up of implementation. The project manager during this period needs to provide directions relating to: 1. 2. 3. 4. Scope of work Specification of results of completed work Basis of work Division of work imported Vs. indigenous, departmental Vs. contract etc. Schedule of work Budget of work Systems and procedure for work Co-ordination of work Authority and accountability for work Control of work
5. 6. 7. 8. 9. 10.
The success of a project is heavily dependent on team work. All the items from 1 to 10 are finalized with the involvement of project participants or else the directives will appear authoritarian, and will unnecessarily invite opposition. If the directions can be formulated through a participative approach, the some can be issued formally in the name of a project manual with instructions for strict adherence to the same. Direction, during the project initiation period, means not simply giving a push to the project; the direction issued at this stage will, in fact, shape the destiny of the project. Direction during production stage Direction after the initiation period can be considered to be of the administrative variety. Invariably, after the start-up period, direction is provided of a case-to-case basis through formal documents or personal contacts. A group meeting may also be used for this purpose. On-going directions may refer to approval of work schedules, detailed budgets, specification, purchase orders, work orders, construction drawings, travels, miscellaneous expenses, changes in baseline etc.
Ongoing direction Project start-up, design review, purchase order and work orders are on-time directions. But a project will require only when unforeseen events occur, directors otherwise will require to be provided when problems occur during project execution. In either case, a decision has to be made as to what should be done and the same should be authorizing for implementation. Thus, decision making and direction are part of every-day function of any manager. Routine directions involve five steps: 1. 2. 3. 4. Understanding the decision environment Establishing the decision alternatives Evaluation of the alternatives and selection of course of action Communication the decision to the individual or agency who is to implement the decision Checking up if the decision is working so that the decision could e steered by the consequences. This refers to the feed back system discussed by us earlier.
5.
Communication in a project For on going direction a two-way communications system is essential. For that matter, the entire process of direction, co-ordination and control in a project revolves around communication. It is often concluded that projects are run by communications. In fact, according to Peter Drucken, 63% of management problems are caused in whole or in part by faulty management communications Communication has two dimensions physical and mental, passing a memo, drawing, data, instruction, information, etc. are the physical aspects of communication; understanding the same in the light of role expectation, empathy, preconceived notion, language barriers, listening skills etc., are the mental aspects of communication. While physical aspects of communication can be easily achieved, the mental aspects often present barriers to communication. Prefer communication requires a conscious and determined effort. Affective communication in a project would require a communication oriented action plan. The actions that may be taken in this regard are as below:
1.
Organization or work, people and work place with communication orientation. Selection and installation of appropriate communication devices Project review and co-ordination meeting at predetermined frequency Predetermined document distribution matrix. Establishing healthy attitude towards communication by appropriate directions. Installing structured reporting systems Implementing routing communication systems and procedures Establishing a control room Using desk-top computers for communication.
2. 3. 4. 5.
6. 7. 8. 9.
Hence, in any action plan, organization of work and people is a basic project management requirement. It is suggested that this must receive a communication orientation. PROJECT CO-ORDINATION Co-ordination can be defined as the effort to bring parts into super relation for harmonious functioning. A well co-ordinated project is as pleasing as a price of music. Co-ordination in a project gains its importance because of the need for simultaneous working of number of activities. Therefore, one cannot proceed simply with the execution of a project without proper co-ordination. Home, it is the important task in the effective project execution and administration. PROJECT CO-ORDINATION PROCEDURE Co-ordination basically addresses itself to two aspects of work physical matching and timing. The physical aspect would refer to what is to be done, how much is to be done and who to do it; the timing aspect would refer to when these will be done. A schedule document which deals with all these aspect of work should be prepared to enable proper co-ordination. The word breakdown structures provide the basic frame work for both physical ant time co-ordination preparation of work breakdown structure, structuring the
organization, establishing a project procedure manual, housing people under one roof wherever possible. sets the stage for effective physical co-ordination. Similarly development of project schedules coordinated with break down structure and organization chart sets the stage for the time co-ordination. Once the stages are so set, the day to day co-ordination in a project is ensured through. a) b) c) squad check co-ordination meeting and communication
A project is a group effort and in group there will always be differences of option. But coordination is not merely smoothing out differences; it is re-integration of the parts into a whole facing into account the subdivided functions and their interest. PRE-REQUISITES FOR SUCCESSFUL PROJECT IMPLEMENTATION Time and cost over-runs of projects are very common in India, particularly in the public sector. Due to such time and cost over-runs, projects tend to become uneconomical, resources are not available to support other projects, and economic development is adversely affected. To minimize time and cost over-runs and thereby improve the prospects of successful completion of projects. A lot of things can be done to achieve this goal, the more important ones appear to be as follows: Adequate formulation Sound project organization Proper implementation planning Advance action Timely availability of funds Judicious equipment tendering and procurement Better contract management Effective monitoring
Adequate formulation Often project formulation is deficient because of one or more of the following shortcomings. Superficial field investigation Cursory assessment of input requirements Slip-shod methods used for estimation costs and benefits Omission of project linkages Flawed judgments because of lack of experience and expertise Undue hurry to get started Deliberate over-estimation of benefits and under-estimation of costs
Care must be taken to avoid the above deficiencies so that the appraisal and formulation of the project is through, adequate and meaningful. Sound project organization A sound organization for implementing the project is critical to its success. The characteristics of such an organization are: It is led by a competent leader who is accountable for the project performance. The authority of the project leader and his team is commensurate with their responsibility. Adequate attention is paid to the human side of the project. Systems and methods are clearly defined Rewards and penalties to individuals are related to performance. Proper implementation planning Once the investment decision is taken and often even while the formulation and appraisal are being done it is necessary to do detailed implementation planning before commencing the actual implementation. Such planning should inter alia, seek to: C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Develop a comprehensive time plan for various activities like land acquisition, tender evaluation, recruitment of personnel, construction of building, erection of plant, arrangement for utilities, trial production run, etc. Estimate meticulously the resource requirements (manpower, material, money, etc ) for each period to realize the time plan. Define properly the inter-linkages between various activities of the project. Specify cost standards Advance action When the project appears prima facie to be viable and desirable, advance action on the following activities may be initiated: (i) acquisition of land, (ii) securing essential clearances, (iii) identifying technical collaborators / consultants, (iv) arranging for infrastructure facilities, (v) preliminary design and engineering, and (vi) calling of tenders Timely availability of funds Once a project is approved, adequate funds must be made available to meet its requirements as per the plan of implementation it would be highly desirable if funds are provided even before the final approval to initiate advance action. Piecemeal, ad-hoc, and niggardly allocation, with undue rigidities, can impair the maneuverability of the project team. It is a common observation that firms which have a comfortable liquidity position are, in general, able to implement projects expeditiously and economically. Such firms can initiate advance actins vigorously, negotiate with suppliers and contractors aggressively, organize input supplies quickly, take advantages of opportunities to effect economies, support suppliers in resolving their problems so that they can in turn redound to the successful completion of projects, and sustain the morale of project-related personnel at a high level. Judicious equipment tendering and procurement To minimize time over-runs, it may appear that a turnkey contract has obvious advantages. Since these contracts are likely to be gagged be foreign suppliers, when global tenders are floated, a very important question arises. How much should we rely on foreign suppliers and how much should we depend on indigenous suppliers? Over-dependence on foreign suppliers, even though seemingly advantageous from the point of view of time and cost, may mean considerable outflow of foreign exchange and inadequate incentive for the C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
development of indigenous technology and capability. Over-reliance on indigenous suppliers may mean delays and higher uncertainty about the technical performance of the project. A judicious balance must be sought which moderates the outflow of foreign exchange and provides reasonable fillip to the development of indigenous technology.
Better contract management Since a substantial portion of a project is typically executed through contracts, the proper management of contracts should be done: The competence and capability of all the contractors must be ensured one weak link can jeopardize the timely performance of the contract. Proper discipline must be inculcated among contractors and suppliers by insisting that they should develop realistic and detailed resource and time plans which are congruent with the project plan. Penalties which may be graduated must be imposed for failure to meet contractual obligations. Likewise, incentive nay be offered for good performance. Help should be extended to contractors and suppliers when they have genuine problems they should be regarded as partners in a common pursuit. Project authorities must retain latitude to off-load contracts (partially or wholly) to other parties well in time where delays are anticipated. Effective monitoring In order to keep a tab on the progress of the project, a system of monitoring must by established. This help in: Anticipating deviations from the implementation plan Analyzing emerging problems Taking corrective action In developing a system of monitoring, the following points must be borne in mind: It should focus sharply on the critical aspects of projects implementation.
It must lay more emphasis on physical milestones and not on financial targets. It must be kept relatively simple. If made over-complicated, it may lead to redundant paper work and diversion of resources. Even worse, monitoring may be viewed as an end in itself rather than as a means to implement the project successfully. EFFECTIVE PROJECT MANAGEMENT IN INDIA The effective management of project is essential for the development of economy in as much as the development itself is the off-shoot of a series of successfully managed projects. This reveals that the project management is an extremely important problem area for a developing country such as ours. Unfortunately many projects experience schedule slippage and cost overruns due to a number of reasons. To remedy the situation, projects ought to be meticulously planned, scrupulously implemented and professionally managed to achieve the objective of time, cost and performance. Modern technique of project management can play a major role in streamlining the management of projects. Projects management is a complex process bristling with a number of variables contributing to success in a project. It is not a facile task to ensure overall effectiveness of the project. Several factors contribute to its success. The project determinants are plenty and many success of the projects interalia include factors which little or no management control is possible. Discretionary factors can be controlled either within the project itself or in the larger system, and the end products serve as the basis for the determination of degree of success. FACTOR DETERMINANTS The study of factors for effective projects management comprising both internal and external determinant factors are taken into account. The internal factors are project managers, project team, project management techniques, project organization structure, project monitor and evaluation system, use of computers, detailed project engineering know how, management reporting system, etc. The internal factors are vital to project management systems. The external factors are supporting factors for effective project management which includes supports from Government departments, construction management and project management consultants, etc. Both the internal and external factors are equally responsible for effective successful project management which is briefly delineated hereunder:
INTERNAL FACTORS Project Managers: The project manager is the crux of the coordinating authority with various functional heads. He is the seminal coordinating authority forging a lasting rapport with the financial institutions, government and statutory bodies, etc. He is the main plank and fulcrum of the project and he is a person who has been associated with the project right from the scratch to the completion of the project. He play role like a lynch-pin. He encompasses into his fold the whole gaumt of the project team and also entire spectrum of clientele contractors and turnkey consultants. The foremost ami and motto of the project manager is to accomplish the project cost within the stipulated amount. Hence, it can be observed that the project manager plays a vital role in the firmament of industrial project. Project Team: The project team comprises of section heads of production, electrical and mechanical who are looking after the activities of their respective wings. The project team is a la cricket team where we could find players adept in bowling, batting and fielding with the result al the players would put their unstinted and indefatigable effort to translate their action of accomplishing the objective of the team. For any project, success could be attributed to the able support of all the players and the project manager would don the role of a captain of the cricket team or of a captain of ship. It is germane to mention that if he project team is juvenile in its attempts, the project will end up in a flash in the pen. Project Managerial Techniques: The project organization structure should be in consonance with the nature of the project, its complexity, and type of process technologies developed. Centralized policy formulation with decentralized implementation appears best suited for project management. The organizational structure should provide for scheduling and monitoring, contract management, materials and equipment procurement, on site co-ordination and control and information processing, etc. Adequate powers should be delegated to enable on the spot decisions and thereby minimize avoidable delays. The well designed and established project organization structure will effective project implementation and improve project management performance tremendously.
Project Monitor and Evaluation System: A well designed and in built project monitoring and evaluation system will minimize project slippage. A project management information system with the help of computer net works and methods would enable project monitoring and C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
control at various levels and that would naturally enhance the project management performance. Use of Computers: Project management software package are used to meet deadlines, to reduce costs and ultimately to optimal utilization of resources. They offer services like planning, coordinate and monitor product launches, plant commissioning, and erection, maintenance, and construction activities. They also identify crucial problematic areas and sound warnings on possible delays and contingencies and also to take instant and remedial measures to arrest the lapses before assuming hiatus in the project management. They generate instant reports in project status, keep track of project progress and trends to achieve targets and also allocate the resources in order to achieve realistic goals. Undoubtedly, the usage of computers save precious time and money. The application of computers will enhance and uplift the overall project management effectiveness.
Management Reporting System: The management information and reporting systems ensures monitoring or the project progress and also identifies the specific information requirement of the project. To achieve this objective every project should develop requisite reporting formats for input and output of data, proper information flow and communication systems and setting up adequate date processing and storage systems necessary for the purpose. The well knit management reporting system will go a long way I assisting speedy implementation of projects performance. EXTERNAL FACTORS Support from financial institutions: The financial institutions support is an important determinant of project management performance though achieving the project objectives of time, cost and quality. This study has grasped the fact that there is average time delay of 6 to 7 months in obtaining finance. The financial institutions has a role to play in project identification, appraisal, implementation and monitoring and provision of adequate funds to projects as and when it is required will avoid delay in implementing the projects. Early Clearance from Government Department: The simplification of bureaucratic rigmarole and redtapism of the government departments in project approval and sanctioning for public sector projects and liberalization of industrial licensing, foreign exchange regulation provision, MRTP clearance, environmental clearance etc. for private and joint sector projects C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
would minimize and reduce the time delay in clearing such approvals thus ensuring early implementation of industrial projects so as to trigger fillip to the project management success. Detailed Project Engineering Know-how: Detailed and scientific projects engineering know-how is sine-quinine to have optimum utilization of the project cost. The latest development in design and engineering technology could be applied for cost effectiveness. All these goes to ensure effective project implementation for improving the performance of the project management. Construction Management: Construction management plays a unique part in the matter of industrial project management. The construction management includes under its fold the construction of factory and office buildings and erection and construction of factory sheds and plant commissioning etc. These ought to be constructed according to the project schedule so as to minimize project delays. Project Consultants: Project management consultants are professionally qualified who are fully equipped to perform services to the project management organization in the entire gamut of erection, commissioning and implementing the industrial projects. A delay in project consultants performance of his hob would mean procrastination of the project, for which ultimately client suffers more than the consultants pay a vital role in the various stages of the project right from the stage of commissioning of the project. He is also abundantly responsible for closely monitoring the progress of the project. He is also abundantly responsible for closely monitoring the progress of the project at every phase of the project. The unstinted and unflappable support of the project consultants would naturally brighten the projects success.
SELF ASSESSMENT QUESTIONS 1. 2. 3. 4. 5. 6. 7. 8. Explain the significance of Project design. What is work breakdown structure? Explain its importance Explain the factors influencing the factory design and layout. What do you mean by project execution plan? Explain the importance of project procedure manual? What is project diary? Why it is essential, Describe the prerequisites for successful project implementation? What are the essential of project administration system and explain its significance.
9.
Describe the determinants of effective Project management.
LESSON 10 PROJECT ORGANIZATION OBJECTIVE 1. 2. To explain the significance of Project organization. To give an outline about relative applications of different forms of project organization.
INTRODUCTION Once a project has been established and the goals are set, the project manager/sponsor has to act to achieve these goals, since a manager/sponsor gets things done through others and also since most of the projects are multi disciplinary, a project manager has necessarily to look around for help. This help can be experted both from internal and external and sources; internally, from within the institution which employs the project manager and externally from various institutions and individual so having competence and skill relevant to the establish systematic arrangement of works, activities (or) talks between individuals and group with the necessary allocation of duties and responsibilities among them to achieve project objectives. This process in nothing but a project organization. DEFINITION An English author Harrison (1981) defines a project organization as the arrangement and relationships between Client Company, contractor, and subcontractor organizations and their respective project managers who are all involved in undertaking a project in a particular environment. Project organization must have specific objectives a formal structure of authority with some persons in leadership roles and others in sub-ordinate roles, division of work which entails specialization by members in various activities or functions, a formal system of communications and generally a set of formal procedures and customs that distinguish them from the social entities. The prime objective of a project organization it to accomplish the specific project in the most economical, efficient and effective manner within the constraints of time, budget and performance or quality standards. FORMS OF PROJECT ORGANIZATIONS The traditional/classical form of organization is not suitable to the projects. This is due to the following inherent features of projects. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Project is a non-routine, non repetitive Work often plagued with uncertainties. It involves co-ordination of efforts of persons. The relationships in the project setting are dynamic, temporary and flexible. Beside that, the traditional form of organization has no means of integrating different departments at levels below top management and it does not facilitate effective communication, co-ordination and control. Hence, there is a need for entrusting an individual or group with the responsibility for integrating the activities and functions or various departments and outside organization involved in the project work. Depending on the authority that is given to the person responsible for the project, the projects organization may take one of the following forms: A. B. C. D. E. A. Line and staff organization Divisional organization Matrix organization Task force organization Totally projectized organization LINE AND STAFF ORGANIZATION
In this form of project organization, a person is appointed with the primary responsibility of coordinating the work of the people in the functional departments. Such a person is commonly called as project coordinator/project manager who acts essentially in a staff position to facilitate the co-ordination of line management in functional departments. He serves only as the focal point for activity control, that is, a center for information. The project manager does not have authority and direct responsibility of line management. He may gently coax line executive to strive for the fulfillment of project goals. The project manager in this position, does not make any decision for the project, nor does he provide any staff service top the functional departments who make all the decisions relating to the project. The project manager merely collects information. Collects and communicates the same to the chief executive. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
This arrangement may be chosen by a chief executive who wants to directly control the project but cannot devote much time to keep track of details. The chief executive may expect the project manager to co-ordinate and expedite the project which the latter will find a very trying proposition in view of his not having any authority. He may influence some decisions taken by the chief executive or by the functional departments, but he cannot himself make any decision which can become binding for others. In other words, he has to rely on personal authority for getting things done and not on positional authority. Chief Executive
Project Manager
Personal
Technical
Finance
Commercial
Engineering
Construction
Administration Contract
Purchase
Demerits 1. The project manager may find it difficult to exert leadership and feel unsure of his role due to deprival of formal organization authority. He has to influence others only through his professional competence closeness to top management and persuasive abilities. This arrangement may work for every small projects. It cannot works for large projects even if the project manager is provided with supporting staff since the real person, who in this arrangement wields authority and can therefore co-ordinate and expedite the project, is the chief executive who, as stated earlier, may not have much time for the project.
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B. DIVISIONAL ORGANIZATIONS
Under this form of project organization, a separate division is set up to implement the project. Headed by the project manager, this division has its complement personnel over whom the project manager has full like authority. In effect, this form of organization implies the creation of a separate goal oriented division of the company with its own functional departments. This form of organization facilitates the process of planning and control, brings about better integration of efforts and strengthens the commitment of projectrelated personnel to the objectives of the project, the project manager in this role provide departments who will executive the project. The project manager, in this case, will be a specialist in project management toosl and techniques, and in view of his superior knowledge relating to scheduling, budgeting and information systems, he is in the best position to advise other functions. A project manager in this role can also carry out service activities like collection and transmission of data, follow-up one functional group to service another group to service another group, maintain records, measure progress, analyze progress and prepare progress reports. He may also act as a single focal point regarding communication between various participating functions and between his company and other interacting companies. It is to be noted that in each case, while he performs a ser4vice for the participating functions, he does not take any decision for them. Nor does he direct he various functions such as new schedules, budgets or technical coordination are to be achieved. He may advice the functional groups but a final decision would rest with the functional groups. He does not, therefore, have any authority which can shape the destiny of a project. Figure shows such an arrangement. Most companies tend to use this arrangement when project management is used for the first time in the company as this does not require much change in the working of the organization.
DIVISIONAL ORGANIZATION Chief Executive
Project Management Division
Engineering Division
Commercial Division
Civil
Mechanical
Electrical
Project Manager
X -Project
Project Manager
Y -Project
It is also interesting to note that a project manager in such an arrangement fully identifies himself with the project and considers himself responsible for its successful completion, However, the fact remains that at times of adversely the project manager, in such an arrangement, is liable to throw up his arms and declare that he could be held least accountable for fulfillment of the project goals as he hardly had any voice in its execution. Demerits 1. The drawback in this arrangement is that while a great deal could be expected, not much may be delivered. The project manager would expect to be heard, but he might not. The functional managers would expect him to take all the responsibilities without any authority, but he cannot. Yes as has been mentioned before, it will be for the first time that someone other than the chief executive will claim a project as his own and work as best as possible for its success. It is possible in this arrangement to encourage direct communication with the work force, or the source where work is being done, without going through the times of authority. This arrangement, however, would not entitle the project manager to issue instructions to the work force however senior he may be in the organizational hierarchy. Any
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instruction has strictly to come from the functional base irrespective of whether it relates to schedule, budget, information system or coordination with other functional groups or outside agencies. The direct approach, though devoid of any authority, may not get automatically accepted unless this has the backing of the chief executive and in course of time becomes an organizational practice. Yet if lines of communication are not made direct, there would be inordinate delay and much of the advantage that could be expected from the arrangement would not be there. C. MATRIX ORGANIZATION The like and functional forms of organization si conducive to an efficient use of resources but is not suitable for an effective realization of project objectives. The divisional form of organization si suitable for an effective realization of project objectives but not conducive to an efficient use of resources. The matrix form of organization seeks to achieve the twin objectives of efficient use of resources and effective realization of project objectives the cost of greater organizational complexity, of course. A competent project manager will succeed in acquiring some authority because of his sheer identification with the projet and its cause to the extent a project manager is able to acquire the authority, the functional manager will be forced to dispense with the same. When this arrangement of sharing authority between a project manager and other functional manager it formalized, we have an organizational form, which is known as matrix organization. Functional Manager Project Project Manager X Project Manager Y Project Manager A3 B3 C3 A2 B2 C2 Functional Manager A A1 Functional Manager B B1 Functional Manager C C1 Flow of Project activity
Flow of Project Authority A matrix, as shown in Figure, is a concept borrowed from algebra where an individual will abide by the decisions made by two superiors one belonging to the project and the other to the specialized function. One will be this direct like boss and the other his project boss. Both are responsible for the successful C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
completion of the project boss. Both are responsible for the successful completion of the project and therefore, both ought to have authority over the working force through whom the project is being executed. The following figure shows the matrix organization. A mutually supportive relationship should exist between the partners in a matrix set up for the successful execution of a project. Matrix organization is, thus, a deliberate attempt to provide authority, i.e., a chair to those who are asked to assume responsibility, and as long as one does not put ones chair before one in dealing with work, there should not be any problems. MATRIX ORGANIZATION Chief Executive
Project Manager Division
Engineering Division
Commercial Division
Civil
Mechanical
Project Manager X-Project Staff X-Project
Project Manager Y-Project Staff Y-Project
The main feature in the matrix operation is that, the parties involved in the matrix will have a common concern as well as a specialist concern. As long as the parties respect the specialty of the others and look to one another for help and support for the common cause, a matrix will work extremely well. But is one assumes that what should have even a common cause is not common, and also believes that
help would not be forthcoming unless the other party is forced, matrix is unlikely to succeed. Ideally one would like to see both the parties are understanding mutually supportive and not trying to overtake each other. If the matrix ever operated at that level, the arrangement can be called a balanced matrix. Much as one would like to see a matrix remain balanced, it may not remain so not early because of the personally factors of the partners but because the company may not want it to remain balanced. Thus, a matrix may be filled either to the project side or to the functional side depending on circumstances. If the project influence is more in decision-making for the project, then the arrangement is considered a strong matrix. On the other hand, if the functional departments are seen to be influencing the decision-making more, the arrangement is considered a weak matrix. While a company may operate on matrix, one may see it operating with different strengths in different projects.
But such problems are very real in the operation of a matrix. It may be weaker than the weakest acceptable or stronger than the strongest desired. A balanced matrix where there is a balance of power between the project manager and functional manager is an ideal but non-exist out situation. Therefore, many people consider a matrix a complex organizational arrangement and would like to avoid it if possible. D. TASK FORCE ORGANIZATION An alternative arrangement which clearly accords authority to the project manager and avoids disillusionment of either the project manager or the functional manager due to maloperation of the matrix is a task force. In this arrangement the project manager is delegated the fall authority to make decisions for the project, but that would be required to operate within the functional organizations policies and procedures. There is clearly o intervention from the various functional departments, no duel decision making and no dual reporting relationship for the working force, the project manager makes all the decisions but within the policies and procedures laid down for him. A task force is created by drawing personnel form various functional departments and putting them under the project manager. The staff so assigned will continue to receive administrative support from their home departments but whey will respond only to the project manager. While they will receive all directions. Referring to the domestic matrix, the mother is supposed to concentrate on the home and the faterh on the career. It works in a similar manner in a project too. The functional departments provide the individuals with expertise for projects to C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
use, and a home to return to when the expertise is not longer needed by the project. The project merely requisitions the expertise and directs its use in the best interest of the project. So the project should decide what is to be done, when it is to be done and at what budget, it should be for the functional departments to decide who should do it, what back-up he should be given, what norms and standards he should follow so that the work is completed as per specifications and within the time the budget. Trouble normally starts when the functional departments would not take-up the work that is needed first or would not deploy resources to do it within the time and budget. The work may happen when resources to do it within the time and budget. The work may happen when resources are withdrawn without the project managers prior knowledge. When things, occur as above, the arrangement not doubt is weak matrix. On the other hand, if the project manager starts deciding who should work for them? On the other hand, if the project manager starts deciding who should work for them, encourages violation of functional standards and norms gives technical decisions without consulting functional departments, does not allow withdrawal of staff for training or optimum utilization of the potential of the concerned staff, then the arrangement is stronger than a strong matrix. In either case the company executing the project is not going to get the best from its people. Form the project manager; they will be required to follow the home organizations policies and procedures. If there are direction from the project manager asking violation of functional policies and procedures, the task force will notify both the functional head and the project manager. The functional manager may either accord approval or take it up in case, the functional manger and the project manager cannot settle it between there selves. On the other hand, there may not be any reference at all to the functional manger or corporate management, if the project manager sorts it out at his level by taking the functional staff into confidence whenever decisions are made. TASK FORCE ORGANIZATION Chief Executive
Project
Engineering
Procurement
Construction
Task force Engineering
Task force Construction
Central Procurement
Central Construction
Task force Central Procurement Engineering C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Figure shows the task force arrangement. The project mangers authority is indicate by the lines and dotted lines show the relationship between the functional staff and the functional manager. The relationship shows by the dotted like enables communication of the functions staff with their respective functional departments for obtaining technical support of additional staff support but no decisions relating to the project. It is also necessary that communications to functional departments to its staff loaned to the task force has to direct linkage between to its staff loaned to the task force has to direct linkage between the functional staff and their home organization.
Unlike the matrix the loyalty of the functional staff in this arrangement is clearly with the project. The functional departments influence is virtually non-existent. Therefore unless the functional representative have strong functional commitment, functional excellence is likely to e compromised for expediency. The functions will require strong corporate management support to ensure adherence or policies and procedures laid down by them. This arrangement, as can be seen in just the opposite of the arrangement shown in the Figure, Functions in this arrangement have been relegated to the staff position and the position and the project has assumed the dominant like role. Naturally, the time and cost objective of the project will receive the best attention in this arrangement, but one cannot be too sure about the quality objective. The project with this arrangement moves very fast, and that is the single dominant reason why many people would prefer a task force arrangement. There may not be any real risk in going for a task force arrangement if the technology for the project is simple, and the project is also small. The functional staff in this case need not be top specialists; one specialist may cater for multiple disciplines. This ensures maximum utilization of specialist time which is normally not expected to happen in a task force arrangement.
E. TOTALLY PROJECTIZED ORGANIZATION A totally projectized organization is an arrangement in which the project manager has total authority even regarding functional policies and procedures. There is no constraint whatsoever with respect to any function. The functional specialists have not one to notify. They will be carrying out what the project demands and the project manager instructs.
Many people compare this arrangement to a mini company a totally autonomous organization in which the project manager is the chief executive. It will, necessarily have decisions and departments headed by very senior functional specialists who can function independently without any support whatsoever. They would act on behalf of the project manager for taking decisions in their area of competence. Such an arrangement is obviously possible when the project is too large and complex or geographically so located that there is no way of managing it without granting autonomy to the term handling the project. The project manager for such a project will obviously be a very senior person to justify delegation of so much authority by the company. The project manager, in such an arrangement, will be required to carry out lot of administrative functions besides his core project business. It would not be surprising to find the project manager spending more time in the administrative matters than on the business of the project in this types of arrangement. Totally Projectized organization Chief Executive
XYZ
Engineering Accounts
Finance & Administration
Commercial
Personal Project
Engineering
Commercial
Finance
Personnel & Adminsitration
Figures shows a totally projectized organization. The difference between this arrangement and the one shown in the figure is not the mere elimination of dotted line relationships but also the inclusion of personnel accounts and many such functions which are not the project managers immediate concern. Yet this arrangement may be justifies for a project because of its size, complexity, location, importance to the company and also need for special treatment, particularly in case of a jolt or collaborative project or if the financial institutions so desire that it be organized that way. The totally projectized arrangement may also be desirable if the company is executing only one gigantic project.
A matrix is also expected to work for very large and complex projects, but it practice, it adds its own complexing. A matrix is also effective for small but complex projects where many multi disciplinary specialists are required for short durations. However, unless the number of such projects is many, a matrix arrangement would not be justified. So either total projectization or fast force arrangement would appear to be the best arrangement for execution most projects. And in both these arrangements the project manager is delegated authority commensurate with the responsibility he is expected to undertake. Project objectives get primary attention in both these arrangement.
The traditional form of organization is not suitable for project work because it has not means of integrating different departments at levels below the top management and it doesnt facilitate effective communication, coordination and control. Hence, project organization may take one of the following forms line and staff organization, Divisional organization, Matrix organization, Task force organization and Totally projected organization.
Features of Good Project Management Organization There should be an effective project head Good and experienced Project group Separate Project department in case of continuous project activities Involving agencies like project, operation, consultant, finance and commercial departments effectively. Good System of selection, training, promotion and remuneration of project personnel Well equipped computerized information system and impossible with project management softwares. Capable to execute the projects along with the operation activities. In large project organization own construction facilities may be created.
CONCLUSION Thus this chapter discusses different forms of organization of human resources for the effective execution and management of project.
SELF ASSESSMENT QUESTIONS 1. Define Project organization and explain its importance 2. Briefly describe different forms of project organizations. 3. What is matrix organization? Explain its significance. 4. Explain the merits and demerits of Divisional form of project organization. 5. What is Line and staff from organization? Explain its merits. 6. Under which situation projectised organization will hold good?
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LESSON 11 PROJECT CONTRACTING OBJECTIVES To know the principles of Project contracting 1. 2. 3. 4. To explain the contracting process. To describe bidding and bid evaluation To impart the significance of Project negotiation. To outline the pricing and delivery terms of Project contracts.
CONTRACTS The project charter and the organizational arrangement accords the project manager appropriate authority over the in-house resources But not all projects can be executed with in-house resources for the execution of the project. When a project manager has to get things done with resources over which he has no direct authority, it becomes necessary to acquire the required authority in lieu of some considerations. Such an arrangement can be termed as a contract and the authority so acquired as contractual authority. If this authority is acquired in house through a contract, then the process can be termed as internal contracting. All other contracts for the acquisition of authority can be termed as internal contracting. All other contracts for the acquisition of authority can be termed as business contracts. BUSINESS CONTRACTS A contract as such is an agreement between two or more parties in writing to do or not to do certain things. Business contracts are those agreements which are enforceable at law. They are entered between two or more competent parties for a legal consideration which is usually payment in the form of money. For an internal contract the consideration is normally absent. Legally, of course, a contract can be valid even though there may not be any consideration, but then it is not a business contract. In order in enter into a contract, there must first be an offer or proposal signifying the willingness of one arty ot do ro abstain from doing something at the desire of the other party. The desire of the other party is expressed in the enquiry often known as Notice Inviting Tender (NIT) and the offer to carry out the services t certain terms is known as Tender.
The sequence of events resulting in a business contract are as shown below: Enquiry Issue of NIT to selected parties or to the newspapers by the project authority sand sale of tender document. Offer Submission of the tender document by the bidder. Acceptance Considerations as accepted given a legal form and content duly signed by competent authorities of both parties. Contract The contract consists of an agreement on stamped paper, a detailed letter of intent with agreed variations and the original tender document. RS OF CONTRACTING Contracting, whether it is for a consideration or otherwise, is an essential arrangement for getting work done in an environment where authority relationships and responsibility delineations are unclear or non-existent. It is said that contracting is practiced even in a domestic environment where parents obtain desired behaviours from a child for a certain consideration. The same continues without our being aware of it in all our social relationships. Knowledged of contracting is, therefore, as much a basic requirement for day-to-day living as that of the three Rs.
If one choose not to over-play the legal aspects, contracting itself can be found to constitute the 3 Rs in the case of contracting are: Responsibility, Reimbursement and Risk. 1. Responsibility The first R in a typical contract covers issues such as: 1. 2. What to parcel out to the contractors and what to retain How to define the work parcels so that the contractors now their scope precisely and there is not overlapping, undefined, unallocated or ambiguous work areas. What are the relevant performance parameters for fulfillment of which contractors must assume responsibility?
3.
Collectively, the above are often referred to as scope of work. Schedule of work, technical specifications, scope drawings, special conditions of contract,
responsibility of matrix and special write-ups in appropriate combinations are used to ensure clarity. Contact planning The factors listed below may be considered while taking a decision on the number of contracts. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. Specialty of the works Location of the work sites Value of the contract Availability of contractors Need to accommodate local contractors Need to obtain performance guarantee for a system from a single party Concern for early completion Concern for completion at minimum cost Concern for top quality Current work load of the contractor and capability of the contractors Time schedule of the work Political pressure.
II. REIMBURSEMENT The second R of a contract refers to the type of reimbursement and it is as important as the first R. Perhaps this R is more important for the contractor than the owner. While the owner may refer to he responsibility to describe the contract arrangement, the contractor may choose to refer to it by the types of reimbursement such as lumpsum contract, item rate contract, etc. We shall, however, prefer to use, responsibility as the basis for assigning any name to a contractual arrangement. III. RISK FACTOR
The last R of a contract refers to the risk factors. Both the owner and the contractors are so much concerned about this R, that most of the pages of a contract deal with only this matter. In fact, a contract is considered to be an instrument for transfer of risk from the owner to the contractor, and necessarily this should evoke some resistance from the contractors. The least that a contractor would do is to seek protection in one form or other. But while the contractor would do is to seek protection in one form or other. But while the contractor risks only his fee, the owner runs the risk of not having his plant at all. Naturally, the owner would seek more protection and would not like to take any risk against which the does not have adequate insurance. The insurance, however, cannot be always in the form of a financial insurance policy. Only small risks can be covered by insurance and a little more protection may be provided in the contracts are awarded through a proven contracting process. METHODS OF CONTRACTING Execution of projects is being made mainly thorough contracting. The different methods of contracting and its relative merits and demerits are given below: (A) TURNKEY PROJECTS Engineers & Contractors take a single commitment for the design, engineering, procurement, delivery, construction, erection and commissioning of the project and training of operating and maintenance of personnel. Two type of turnkeys are 1. Lumpsum 2. Fee plus reimbursement Turnkeys contracts are used for complete plants. Usual turnkeys contracts have some sort of advanced technical know-how, which limits the number of competitors that can bid-know-how for construction and operation of the plant. In turnkey projects, the owner is not involved until the project/plant is ready for operation/commission. But, companies require some involvement during the execution. As a result, the turnkey contract now carefully detail the companys rights and responsibility. Turnkey Contracting A turnkey contract may be defined as: a single contractor acquires and sets al necessary remises, equipment, and supplies operating personal to bring project ot state of operational readiness. All that the customer needs to do is to turn the key to begin full effective usage of the new facility. Some time the contractor continues to assume operational control. Turnkey facilities are appropriate for customers who are unable to perform or wish to avoid their own subcontracting C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
for ordering and testing components acquired from several vendors. Recruiting, screening and training is a highly specialized task. A turnkey contractors is compensated either through surcharges on each item or thorough services procured for the facility of by a commitment in advance to a fixed price. Therefore, turnkey contract may help in cutting down the number of responsibility centres to the extent of one. In a turnkey project a single contractor has complete responsibility to supply the owner a plant which is complete and ready for he owner to operate by simply turning the key. Turnkey thus is an expression for the extent of responsibility that a contractor undertakes; it is not to be mixed up with he commercial and payments terms. Turn-key would not necessarily mean a fixed price contract; it is quite possible for engineering consultancy organizations to undertake turnkey responsibilities for projects ever without having capabilities of supplying and financing. On the other hand, in a lumpsum turnkey contract a contractor offers the owner a complete plant for a single price. Even when a turnkey contract is entered into the process of dividing the work does not totally stop with the decision to go turnkey. It only reduces the number of agencies the owner is required to coordinate. The turnkey contractor in turn will be required to subdivide the work further as it is not possible to have all the capabilities required for a complex project under one single roof. Advantages of Turnkey Contract In projects that are undertaken by government or state-owned enterprises. Ownership and control after the completion of contract is retained with the owner. This is especially true in the case of traditional turnkey contracts, when the involvement of the turnkey contractor could be eliminated once the contract is completed, as he has no share in capital ownership, and hence there would be no conflict as regards policies and management of the operations of the enterprise. In the turnkey contract a major advantages to the promoter stems from the fact that the responsibility for the contract lies with a single source and the promoter is relived from responsibilities for the equipment or plant and performance. In the turnkey contract a major advantage to the promoter stems from the fact that the responsibility for the contract lies with a single source, and the promoter is relieved from responsibilities for the equipment or plant and performance. The turnkey contract generally ensures that the projects is put into operation more rapidly than other contracts since both design and construction are the responsibility of one entity. When a turnkey contract extends beyond the commissioning stage the teething problems of a multidisciplinary project can be resolved by the contractors inhouse trained personnel.
Disadvantages of Turnkey Contract The cost of a turnkey contract may be significantly higher than that of a traditional form of contract because cost estimates are often expressed in overall terms without a detailed breakdown of costs. The turnkey contract do not allow the promoter to participate or become familiarize with the facility that the promoter will operate after the handling over of project contract to engineering company. The turnkey contract do not permit the normal checking procedure by the sponsor, as is sought to be developed by the promoter as it leads to internal conflicts. Lampsum Vs, Cost-plus In order to make a lupus offer a contractor would like to have all the details. If the details are not known he would like to build contingencies in his price to take care of the unknowns. It is this aspect of pricing that can make a lumpsum contract more expensive than a cost-plus contract. On the other hand, if the work can be framed out by the owner at a fixed price, the owner would know at a very early stage of the project his total liability and also if he is going to be within the approved budget or not. His anxieties to that extent will be less. With cost-plus contract, the owner would not have the advantage of knowing what the total cost is going to be till a very late stage. The owner will therefore, be anxious all he time due to this uncertainty. Naturally, whenever possible the owner would like to go for a lumpsum contract. The specially of the cost-plus contract is the opportunity it provides to start work immediately, thus eliminating the need for detailed scope definition and preliminary engineering by the contractor in submission of his proposal. It allows flexibility to the owner to change his mind at any stage without being forced to pay exorbitantly. The owner can also upgrade his design, specification and quality of construction without any objection from the contractor. (R) EPC (Engineering, Procurement and Construction) The method of contracting is a step behind turn-key approach where the contractor is responsible for complete engineering, procurement and construction of the entire project complex. The contractor is also responsible for process design and basic engineering of open art process units, although process design and basic engineering of licensed units is obtained from process licensers through approach where multi-split contracts are in practice. In the MSC (Multi-split contracts), the project implementation was performed in different phases by different contractors. The traditional projects were either based on cost reimbursable basis or handled on a multi-split contract basis. It was cumbersome C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
for the project team to have a perfect coordination between many outside parties with that of the internal structure. To overcome this difficulty specially in managing mega projects where time, cost and performance play equally important roles project management is its breed, in a turnkey contract execution mode, the individual contractor is responsible for complete execution of the project including process design, basic engineering, detailed engineering, procurement, construction, commissioning and the performance guarantees. Advantages of EPC Projects 1. Single project responsibility helps manage the total project without any impediments 2. As the company is authorized to execute the project at agreed terms without project sponsors intervention may smoothen the implementation process and remain and less susceptible to time overrun. 3. Decision making to procurement, engineering, and construction aspects can be processed quickly. 4. Little or no competition from small contractors since only by contractors undertake this type of total project execution. Disadvantages 1. 2. This may create power crisis in the project organization leading to non-coordination with EPC contractor. Non involvement or sleek participation of project authorities may create a communication gap which may be determental to the total performance. Non coordination from project authorities may hinder smooth flow of information that is essential for critical decisions on implementation. The rigidity of contractual obligations may also affect changes in design, and construction methods and dissatisfy the client on completion.
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(C) DESIGN/BUILD CONTRACTS The pit owner selects a consulting engineer to develop a preliminary design packages, which may represent 25-30% of overall design and is sufficient to allow the pit to put for tender-so that the contractor completes the design and construct the plant. Advantage over turnkey is that it allows the owner, a better chance of defining exactly what he wants, rather than what the contractor thinks he needs. (D) SEMI-TURNKEY or COMPONENT CONTRACTS
Contactor gives subcontracts for the supply, delivery, construction and installation of selected elements of a pit facility on a lumpsum turnkey basis. In LDCs, this is adopted to reduce the overall lumpsum price substantially. This can also be done by the owner. (E) TRADITIONAL DESIGN/BID/BUILD CONTRACT This is the traditional contract in LDCs, especially for infrastructure. The project is divided into two types, design and build. Owner hires independent consulting engineer to design the pit fully and puts it for tender. Then the consulting engineer is retained to be the owners representative during the construction phase. In complex pits, a fast-track approach is adopted whereby the pit is divided into separate overlapping design/bid/build packages. (F) MODERN METHODS BOOT BOOT is an outgrowth of the latest hue the cry over the boosting private sector involvement in the development of major projects. There has been a growing trend in the recent past both in the developing and developed countries, of encouraging private sector to participate in various projects through concessions labeled as BOOT project strategies. The term BOOT was introduced in the early 80s by the Turkish Prime Minister Turgat Ozal to designate a build, own and transfer or build, operate and transfer project; this term is often referred to as the Ozal formula. Smith and Merna defines BOOT as: a project based on the granting of a concession by the principal, usually a government, to a promoter, sometimes known as the concessionaire, who is responsible for the construction, financing, operating and maintaining he facility over the period of concession before finally transferring the facility, at no cost to the principal, as a fully operational facility. During the concession period the promoter owns and operates the facilities and tries to recover the costs of investment, maintenance while operating the facility to result a margin of profit
The related acronyms used to describe concession contracts include: FBOOT BOO BOL DBOM DBOT BOD BOOST BRT BTO BOT : : : : : : : : : : Finance Build Own Operate Transfer Build Own Operate Build Operate - Lease Design Build Operate Maintain Design Build Operate Transfer Build Operate Deliver Build Own Operate Subsides Transfer Build Rent Transfer Build Transfer Operate Build Operate Transfer
Features of BOT model The salient features of BOOT model can e identifies as: A joint venture (JV) company would be formed to implement the project. Members of the JV would include foreign contractors and eventual operators of the project each having global recognition. Possibilities may exist for local electricity authorities or any other acceptable local entries to opt for an equity stake in the JV. The JV then raises 100% finance as required. It also arranges for construction of the project through commencement to completion. During the operating phase, the JV assumes commercial responsibility for managing the project. A supply consortium could be formed with the major project suppliers and contractors. The JV then entries into a turnkey power plant supply contract with the supply consortium. At the end of the project operation period (say ten years after commencement of operation) it is intended that the host government would purchase the shares from the investors in the JV based on a predetermined formula.
Classification of BOOT Contracts BOOT projects may be classified on the basis of the method of procurement type of facility, the location of the facility and the method of revenue generation. They range from: Speculative to invited Infrastructure to industrial/process Domestic to international Market-led to contract-led Projects suitable for BOOT contracts Country highways, bridges and tunnels, water, gas or oil pipelines and hydroelectric facilities are considered suitable projects, as a private economic equilibrium is obtainable. However, subsides are often necessary for high-speed train networks and light rail trains, as prices paid by users are often low and governments generally prefer to control prices. The characteristics of BOOT projects are particularly mass transit railways and power generation, and as such they have a political dimension of public welfare that is not the features of other privately financed projects. The major components of a BOOT project include: Build-design, procure, manage construct and finance the project implementation. Own-own the asset during concession period and the license for the equipment used. Operate- manage and operate plant, carry out maintenance, deliver product or service and receive offstage payment. Transfer hand over the plant in operating condition at the end of the concession period. BOOT Packages BOOT contracts may be determined by four major packages: Construction Packages Comprises all the components associated with building a facility, normally undertaken in the pre-completion phase and includes: feasibility studies, site investigation, design, construction, supervision, land purchase, commissioning, procurement, insurance and legal contracts.
Operational Packages Comprises all the components associated with debt finance, equity finance, standby loan agreements, shareholders agreements, currency contracts and debt service arrangement for financing the building. Resume Package Comprises all the components associated with revenue generation and includes: demand analysis, duty and tariff levels, and assignment of revenues, tariff structures and revenues from associated development. Advantages of BOOT Project The BOOT project offers both direct and indirect advantages exclusively for developing countries like India as follows: Promoting private investment Completing projects on time without cost overruns Good management and efficient operation Transfer of new and advanced technology Utilizing foreign companies resources Injecting new foreign capital into the economy Providing additional financial source for priority sector projects Allowing no inroads on public debt Releasing the burden on public budget for infrastructure development Creating positive effect on the credibility of the host country
The general advantages of BOOT projects are: 1. This would offer the possibility of realizing a project that would otherwise not be build by either the host government or its entrepreneurs The willingness of equity investors and lenders to accept the risks would indicates that the project are commercially viable. The promoters control and continuing economic interest in design, construction and operation of a project will result in significant cost effectiveness, which will benefit the host country in many respects. This may also reduce the overall cost involved in undertaking any mega-projects for public welfare. Efficiency and effectives and effectiveness are inevitable in developing highways, mass transport systems, tele-networks etc., of public utilities which demand huge funds. The usefulness to the host government to use a BOOT project as a benchmark to measure the efficiency of a similar public sector project.
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In general public sector projects exhibit cost and time overruns which can be reduced to a great extent by using the benchmarking effect. The continued direct involvement of the project company would promote a continuous transfer of technology, which ultimately be passed on to the host country. A strong training program would leave a fully trained local staff at the end of the concession period. A BOOT project has an obvious appeal to a government seeking to move its domestic economy into the private sector and especially for the Third World countries where public sectors have become whiteelephants.
Disadvantages 1. Commercial lenders and export credit guarantee agencies will be constrained by he same host country risks whether or not the BOOT approach is adopted. This benefit may be lost if the host government provides too much support to a BOOT project, resulting in the promoter bearing no real risk. A BOOT project is a highly complicated cost structure, which requires time, money, patience and sophistication to negotiate and bring it to fruition. The overall cost to a host government is greater than that of traditional public sector, projects, although proponents of the BOOT approach argue that over4all costs are less when design and operating efficiencies are taken into account and compared with public sector alternatives. Efficiency landmarks that are generally set under BOOT project are quite high. These benchmarks might create crisis on the part of executives who may not perform upto the required standards under such projects. The projects may be a futile boondoggle under such prescribed environment. Change in the form of technology may be strongly resisted by the existing staff members of any government organization. This is because it is perceived that such transfer of technology may bring in new problems that cal for updating their knowledge and removing fear of inability to cope with such changes. Political influences may permeate this smooth process of encouraging privatization and become an obstacle while executing important sectoral projects.
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BOT BOT, which stands for Built-Operate-Transfer, encapsulates the process whereby a government turns over to the private sector what would normally be an public sector project (example, transportation or infrastructure projects) for building an initial operatin and after a limited period (say a 25 years concession) C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
transfer back to the government. The expression built-operate-own transfer (BOOT) is also used. The structure of BOT financing normally takes the form of limited recourse lending to specially incorporated project vehicle which holds the concession from the host government to carry out the construction and operation of the project. A concession agreement will usually form the basis of BOT project financing. It is essentially a license or permission to implement a project, and is rather a hybrid document. Not only must it be satisfactory to the parties to the concession agreement, but it must ultimately meet the requirements of project investors and lenders. Thus it contains commercial terms (for example, concession period, project infrastructure specification, construction timetable and concession fee, etc.) and financial terms (for example, ability of lenders to create security over the concession agreement and project assets, recourse of lenders to the host government and the effect of premature termination on project indebtedness). The other variations to the BOT structure are DBFO (design-buildfinance and operate), DCMF (designed-constructed-managed-financed) and BOO (build-own-operate) schemes. TENDERING AND SELECTION OF CONTRACTOR A contract presumes that the parties entering into a contract are competent and normal. But if, for instance, the contractor selected for a specific work is not competent technically, financially or managerially, then the risks will multiply several times. This uncertainty must, therefore, be resolved at the first instance. A well laid out procedure for prequalification of contactors and tendering can resolve this uncertainty. Such a procedure is known as tendering procedure. A tender may be defined as an offer to carry out certain work or supply certain material or services in accordance with clearly detailed description and conditions. The tendering procedure deals with prequalification of contractors, preparation of tender documents, mode of floatation of enquiry, receipt of tender guidelines for evaluation of tenders and selection of contractor. We will discuss this in some details in the context of reducing risk and uncertainty in the execution of a project. The need for contractors originally arose because plant sizes grew to such an extent that it became almost impossible for the traditional equipment suppliers to perform their own function efficiently as well as to deal with the organization, administration and overall design problems connected with complete plant projects. Bearing in mind that a contracting firm will usually tender only for plants worth several million dollars, it will be appreciated that the preparation of a tender is a major operation in itself and may cost (in the case of a substantial project) up to US $ 250,000. The cost of preparing turnkey tenders may be reestimated between 1 and 2 per cent of the value of the project, unless it is a repeat project (such as a complete plant of a similar size).
In the case of large projects, there are likely to be only two or three competitors tendering, and they are often pre-selected once they have an established reputation in the same or similar fields with projects of the same order of magnitude. In fact, some firm now prefer to by-pass the procedure of competitive tendering altogether on some projects because of the cost involved and instead to negotiate direct with a single favoured contractor. Nevertheless, a contractor must have the facilities available to tender for complete plants on a lump sum turnkey basis, if necessary. Prequalification of contractors For prequalification of tenders, notifications are issued in the press, at embassies etc. as appropriate giving details such as name of the purchaser/engineer, outline of the project, enquiry issue and tender submission dates, instructions for applying for prequalification and submission date for the contractors prequalification data. Normally, a prequalification document, issued on request to a contractor seeks information on the organization, experience in the intended type of work, availability of resources like managerial, technical labour and plant, and also asks for financial statements. The contractors desirous of prequalification responds to the questionnaire and such details as may enable his qualification. 1. 2. 3. He has had similar experience earlier and is performance reports for previous contracts are satisfactory. His past turnover and present financial commitments indicate no constraints on fund availability for execution of the proposed contract. He has the necessary infrastructure, adequate technical manpower, construction equipment and his present commitments would not prevent him from executing the proposed assignment satisfactorily. His credibility in terms of his associates and associations with other agencies including foreign agencies, job performance and relationship with customers are sound.
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After evaluation, the short-listed contractors are informed about their selection and their confirmation obtained as to whether they will submit the tender. Preparation of tender documents A tender document is prepared by the purchaser/engineer in as detailed and clear manner as possible to define the technical requirements of the work involved as also the responsibilities which the purchaser and contractor will have to share between themselves. A good tender document will include the following: 1. 2. 3. Letter of invitation to tender Instruction to tenders General condition of contract
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Technical specifications Special conditions of contract Scope drawings Bill of quantities General information about site Form of tender
Professional institutions like Institute of Mechanical Engineers have also standardized the tender form. A tender form for supply and erection of plant and machinery may cover the following items it the order listed below: 1. 2. 3. 4. 5. 6. Prices Programme Terms of payment Conditions of contract Contract prices adjustment Validity
The document is then issued to the short-listed contractors for submission of their theder. Receipt of tenders The tenderers may make a request to visit the site. Normally, the purchaser/engineer accompanies the tenderes to the site and provides further information. There may be a pre-bid conference to clarify the various issues to the tenderers. Supplementary queries can be clarified through correspondence till the due date for the bidding. On the due date bids may be opened in front of the tenderers present. The purchaser/engineer will announce and record the names of tenderers and prices including prices of alternative tenders. They would also announce and record the names to tenderers, if any, who are disqualified due to late submission. Evaluation of tenders The tenders are evaluated from technical, commercial, contractual and managerial angles. Contractors confirmation or classifications are sought on various matters which either do not conform the tender requirements or those that have nto been offered by the contractor. The correspondence may reduce the points of disagreement but a post-bid meeting often cannot be avoided. Normally, separate meetings are held with each contractor to obtain clarification and also to bring all the offers in line with the tender requirement. The actual evaluation process includes checking the acceptability of the offer against technical specifications, management specification and various commercial and contractual terms and conditions. An adjusted contract price will C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
be arrived at in each case. Normally, the lowest bidder who is also technically and managerially acceptable is awarded the contract. Agreement An agreement is now to be signed on a stamped paper. The form of agreement is probably the most standardized document. The form of agreement refers to the various documents which will together form the contract. The accompanying documents normally are: 1. 2. Original tender papers comprising the conditions of contract, specifications, dates, drawings and other relevant information. Schedule of rates/prices including those for engaging workmen, equipment, etc., for contingent works required during execution not envisaged at the tendering stage. A list of deviations from original tender stipulations as mutually agreed upon between the purchaser and the contractor after discussions. Other relevant attachments
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Form of guarantee Finally, whenever required, a guarantee from sureties in the following standard form of IMechE may be asked from the contractor as an insurance against uncertainties in dealings with the contractor. By an agreement dated and made between the purchaser and the contractor the parties enter4 into a contract as stated below: Now we hereby jointly and individually guarantee to the purchaser punctual, true and faithful performance and observance by the contractor of the covenant on is part contained in the said agreement and undertake to be responsible to the purchaser, his legal personal representatives, successors or assigns as sureties for the contractor for the payment by him of all sums of money losses, damages, cost charges and expenses that may become due or payable to the purchaser from the contractor in consequence of default in the performance. Nevertheless, the total amount to be demanded shall not exceed 15 per cent of the contract price. This guarantee shall not be revocable by notice and our liabilities as sureties hereunder shall not be impaired by any alterations made or agreed to in the general conditions of contract. TYPES OF TENDERING PROCESS Unfortunately for the contractor, a high proportion of inquiries are, for one reason or another, not vary serious. This tends to occur mainly in countries where the C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
infrastructure may not yet be ready for a particular type of plant. It is upto the contractor to assess the seriousness of each inquiry. The tendering policy of most contractors can be categorized into one of the following three types. Highly selective tendering This is often historical in origin and is followed by contractors with long experience with certain industry, product of process. This type of tendering has the advantage of low costs and a high proportion of successful contracts achieved by negotiation rather than competition. The danger is that the announce and record the names to tenderers, if any, who are disqualified due to late submission. Evaluation of tenders The tenders are evaluated from technical, commercial, contractual and managerial angles. Contractors confirmation or classifications are sought on various matters which either do not conform the tender requirements or those that have not been offered by the contractor. The correspondence may reduce the points of disagreement but a post-bid meeting often cannot be avoided. Normally, separate meetings are held with each contractor to obtain clarification and also to bring al the offers in line with the tender requirement. The actual evaluation process includes checking the acceptability of the offer against technical specifications, management specification and various commercial and contractual terms and conditions. An adjusted contract price will be arrived at in each case. Normally, the lowest bidder who is also technically and managerially acceptable is awarded the contract. Agreement An agreement is not to be signed on a stamped paper. The form of agreement if probably the most standardized document. The form of agreement refers to the various documents which will together form the contract. The accompanying documents normally are: 1. 2. Original tender papers comprising the conditions of contract, specifications, dates, drawings and other relevant information Schedule of rates/prices including those for engaging workmen, equipment, etc., for contingent works required during execution not envisaged at the tendering stage. A list of deviations from original tender stipulations as mutually agreed upon between the purchaser and the contractor after discussins. Other relevant attachments.
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Form of guarantee Finally, whenever required, a guarantee from sureties in the following standard form of IMechE may be asked from the contractor as an insurance against uncertainties in dealings with the contractors. By an agreement dated and made between the purchaser and the contractor the parties enter into a contract as stated below: Now we hereby jointly and individually guarantee to the purchaser punctual, true and faitful performance and observance gy the contracgor of the convenant on his part contained in the said agreement and undertake to be responsible to the purchaser, his legal personal representatives, successors or assigns as sureties for the contractor for the payment by him of all sums of money losses, damages, cost charges and expenses that may become due to payable to the purchaser from the contractor in consequence of default in the performance. Nevertheless, the total amount to be demanded shall not exceed 15 per cent of the contract price. This guarantee shall not be revocable by notice and our liabilities as sureties hereunder shall not be impaired by any alterations made or agreed to in the general conditions of contract. TYPES OF TENDERING PROCESS Unfortunately for the contractor, a high proportion of inquiries are, for one reason or another, not very serious. This tends to occur mainly in countries where the infrastructure may not yet be ready for a particular type of plant. It is upto the contractor to assess the seriousness of each inquiry. The tendering policy of most contractors can be categorized into one of the following three types. Highly selective tendering This if often historical in origin and is followed by contractors with long experience with certain industry, product of process. This type of tendering has the advantages of low costs and a high proportion of successful contracts achieved by negotiation rather than competition. The danger is that the contractor is susceptible to changes in the industry concerned and to technological innovations. Moderately selective tendering This is the most common type, particularly among European contractors whose favoured field of operation are discernible. The danger is that firms can become too complacent or, on the contrary, that they are unable to restrict their activities.
Indiscriminate tendering This is tendering for all projects without regard to the type and/or value. While a broad front is offered, a large number of small contracts must often be undertaken with a disproportionate amount of supervision and design cot, giving rise to high tendering costs. The acceptance rate is generally lower than for more selective tendering. Moderately selective tendering is thus to be preferred by the majority of contractors, although all may we4ll claim to follow this type of procedure. The tendering period also varies considerably. If this is too short, an inaccurate tender with a large number of qualifications and exclusion clauses can result. On the other hand, a tendering period is rarely considered by the contractor to be too long. A point worth noting is that many contractors are reluctant to request an extension of tendering time for fear that this gives the potential client an impression of inefficiency. Yet it is usually better to seek such an extension rather than to submit an inaccurate tender. Prior to a client asking for bids for a plant, a feasibility study is necessary. This may be conducted by the client itself, by an independent consultancy organization or in some cases b y the contractor. Such a feasibility study may be preceded by an advisability study that initially defines the project and assesses its possible attractiveness; this is usually carried bout by the client. The feasibility study itself examines the markets for the products to be manufactured (with due regard for supplies, technological restraints, plant location, financial constraints and time schedule) in order to determine the overall economic feasibility. Based on the results of the feasibility study, a summary initial schedule is devised, usually comprising three parts namely; advantages and disadvantages of various solutions and reasons for choice of the recommended solution; full information on the recommended proposition; a summary estimate of costs. This schedule can be enlarges and refined to form the basis for decisions concerning the technical, financial and managerial aspects of the project. Additional inputs might include; descriptive and memoranda indicating construction and operating methods, breakdown of supplies and equipment leading to particular specifications, time schedules, the margins of risk; technical files comprising overall plants and drawings of the main components of the plant; an evaluation (to within + 10 percent) of the costs and expenses entailed. From this detailed initial schedule, the final schedule will be drawn up. This will contain detailed technical specifications and work plans, definitions of the work to be carried out by different specialists, the timing and an estimate of expenses broken down as accurately as possible. The calls for tenders are then based on the description given in this final schedule. They contain the specifications fo the C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
plant and its components, including civil and other works, as well as appropriate administrative and commercial clauses. If the client does not already have a list of approved contractors, interested contractors may be invited to submit prequalification documents. The purpose of these is to ensure that firms making bids are technically and financially sound. There is a wide variation in the amount of information that is provided to the contractor under different types of tender. The man types of tender comprise those involving the detailed design, procurement, erection and commissioning of a plant or unit employing a specific process. The design content can vary considerably within an agreed definition. The other major type concerns the overall design and procurement of a plant to meet a stated performance. The contractor in this case is able to utilize its choice of available process. Many contractors will classify the type of bid in order to define the amount of work to be performed by their staff into three different categories. An approximate estimate bid contains no original detail but is based on previous projects of similar scope and capacity. An order of magnitude bid is usually required for a plant feasibility evaluation by the client. No original engineering details are given and the bid us constructed from cost-capital cures and an approximation based on past estimates and scaling factors. The definitive estimate is based on defined engineering data with complete plot plans and elevations, piping and instrumentation diagrams, equipment data sheets and quotations, structural sketches, soil data and complete specification. For the compilation of such an estimate, the contractor may, in turn obtain bids on 50 to 90 per cent of all the process equipment required. The contents of a typical tender of this type are shown in the figure 5, the proposal being divided in three sections; technical data, commercial data and cost data. Contend of a Tender 1. Technical proposal Project schedule Process description Operating requirements Plot-plans and elevations Process flow diagrams Engineering flow diagrams Utilities flow diagrams Heat balance Materials balance Equipment list and data sheets Facilities -piping Schedule of professional staff Resume of key personnel Project management policy Engineering department descriptions Construction department descriptions Procurement department descriptions Financial control descriptions Lists of reference plants Cost proposal Total price for services offered Total breakdown by materials
-instrumentation -electrical -civil engineering -construction -clients -contractors Services provided -by clients -by contractors Model of proposed plant
Price breakdown by materials Lobour and overheads Amount of subcontract work Amount for offsite facilities Tax provisions Specification Royalty provisions Alternative systems Optional equipment Prices adjustments Escalation and penalty clauses Schedule of payments
Commercial proposal
Introduction and background Origin of the company For large-scale tenders, the contractor usually appoints a proposal manager to coordinate the whole proposal preparation and to liaise with the client. This applies especially to the larger contracting companies. For major contracts, biding contractors may be required to deposit bid-bonds when making their tenders in order to ensure the seriousness of their tender to ensure the seriousness of their tender and to guarantee the customer against the waiving of the bid if the company is selected. These bid-bonds usually amount to between 1 and 2 per cent of the contract table. Tenders are all opened at the same time, and examined and compared with the aid of a table showing the main data. In some developing countries, a preferential coefficient (X) may be given to local firms, and foreign contractors are selected only if their prices are at least X per cent below the lowest local bid. This coefficie may vary widely but it can be as high as per 30 per cent. Comparison of tenders does not necessarily lead automatically to the choice of a contractor. If the bids are very close, each company may be asked to submit a revised second bid, in which case it is to be expected that differences will be widened to such an extent that the lowest bid can be accepted. Once the contractor has been chosen, negotiations with the client can start. These usually take several months in the case of large contracts and it is not unknown for the negotiation period to run into years. GLOBAL TENDERING AND BID EVALUATION
These are very significant to the project managers engaged in design, construction, execution, installation, operation and maintenance of large-scale assets in order to derive optimum benefits from the capital intensive projects. Global tenders are issued for high tech requirements particularly associated with international credits like World Bank loans. Since the source of supply may be outside the country, a detailed plan must be done and global tender must involve simplicity in language and clarity, specifying tendering and accepting authority. It is necessary to ensure that the accepting and tendering parties must be specific to commit. Tendering is nothing but visualization of various events that have to take place in the execution of contract spread over two to three years, and legislating for the buyers stand a respect of al these, which should be practical, consistent with canons of financial propriety and allow for proper legal actions. The chief merit of global tendering is that it gives equal opportunity to every supplier/contractor to make an offer within the terms and conditions of tender and thus it promotes competition. Global tendering is particularly recommended to ensure safeguard against public procurement. Bids must be procured from really interested parties by proper prequalification and applying the bid bond clause. The tender is awarded to the responsible bidder whose price is the lowest, provided it is deemed reasonable and most advantageous. The bidder has to satisfy himself that full information has been furnished as required in the specifications, as lack of information will be at the risk of rejection of bid. The bids received will be scrutinized by the project team according to the bid evaluation criteria to ascertain the most suitable evaluation of bid for the total project. Formal advertising of tender is resorted to in the bidders interest; there must be time for formal solicitation and for the delays that may frequently develop. While submitting application for pre-qualification, the bidders must furnish package number, description of work intended for pre-qualification and name and address of the bidder, address of registered office of the firm. The bidder must also furnish the lists of technical personnel with then experience, names of sub contractors and the nature of job handled by them. The details of similar works executed in last ten years indication name, address of clients, nature of job, contract value, completion times, etc., need to be furnished by the bidder. Information on current orders in hand, expected time of completion have also to be furnished by the bidder. The bid application, completed in all respect in seven copies must be submitted to the project authorities so as to reach them within a specified date. One set of sealed copy of application must be sent under registered post to the Directorate General of Technical Development, Coordination Section, New Delhi. The following should be subscribed on the envelop; Package number Description Application for pre-bid qualification for plant modernization phase. The project C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
authorities have the right to verify the credentials of the applicants and their facilities, etc., and call for additional information, if required, to ascertain the bidders capabilities. The project authorities also reserve the absolute right to reject, at their discretion, the application of any or all bidders without assigning any reason. Initial evaluation Once the bids are received, the project authorities evaluate them on a preliminary basis, with a checklist, as to whether all key points, including commercial terms, costs, delivery schedules and other contractual aspects, have been fully covered. In order to shortlist the vendors, the acceptable bidders are arranged in ascending price order, after eliminating bidders with unacceptable quotations, or with incomplete bids. The preliminary evaluation enable to focus greater attention on a few vendors with competitive bidding, the need (if any) solicit additional information. Technical evaluation After initial scrutiny of the promising bidders information a complete technical evaluation of the bids of the potential suppliers is performed by tabulating the data in a suitable way. It is desirable to specify for the shortlisted vendors the following checklists in program. Vendors, quotation reference, quotation date, validity expire date, vendors complete address, local representative, complete delivery material delivery point, basic price of material escalation terms, payment details, recommended spares, mandatory spares, shop assembly, shop painting, shop testing, packing, graphs, catalysts, lubricants, drawings, engineer services, warrantees, import duties, agents fees, currency exchange etc., inspection fees, adjusted base cost, freight cost, operating cost, feed stockiest, utility cost, field service estimate, allowance for estimated extras, total estimated present cost also form a part of the checklist. It is necessary to scrutinize additional costs/savings and availability of vendor support at this phase. Commercial evaluation The detailed commercial scrutiny is usually conducted after evaluating the bid technically. The commercial scrutiny consists of checking whether everything I the specification is covered in the price. These aspects include the following : drawings, documents, maintenance, operating manuals, test facilities, test certificates, painting and insulation, shop assembly, packing, creating, field service, freight to deliver payment, warranties, guarantees delivery crating, field services, freight to delivery payment, warranties, guarantees delivery date, unit rates, bases of escalation, discounted value of money, currency exchanges, imports costs and costs of values applies to down payment, progress payment,
final payment, operating costs, variable annual costs, escalation costs, field service costs and other cost components. Pre-award meetings It helps the project authorities to meet the short listed vendors in apreaward conference prior to selection for reviewing any questions which have arisen during the technical and commercial evaluations and to confirm all aspects of the bid. It is desirable that a team of senior officers connected with the project meets, the shortlisted vendors so that negotiations, if necessary, can take smoothly and also to have discussions on ethical consideration. Bid conditioning The conditioning process helps the project authorities, to consider intangible and other factors which might influence vendor selection. A low bid may not necessarily be the cheapest bid when the following aspects are considered: additional expenditing, follow-up, additional engineering review, delayed receipt of drawings, interchangeability of spares with existing equipments, local vendors, local pressures/support, future service availability, initial maintenance, compatibility with existing infrastructure, additional support facilities application of learning-curve for cost-reduction, transporting over dimensional consignments, etc. Vendor selection The vendor selection process is accomplished by the project committee. The technical aspects are reviewed by technical personnel, while the commercial aspects are evaluated by finance/commercial officers. A detailed presentation of the pros and cons of all aspects of the individual vendor a made, and a vendor is finally chosen. Pre-commitment meeting The pre-commitment meeting with the vendor enables the suppliers to know that he is likely to get the contract. A formal agenda is made to cover a comprehensive review of specification, contracts, and commercial terms in order to reduce misunderstanding between the two parties. A broad identity of views on all aspect is reached between the two parties. If the vendor has some lingering doubts, these are recorded in written statements. Formal award The last step in the whole exercise is to formally award the contract to the vendor. A telex or telephone order is initially placed. A formal written purchased order, together with necessary documents, data sheets, specifications, contractual terms, C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
etc., is handed over to the vendor. After choosing the vendor, the next stage of follow up of the contracts implementation on manufacture, transport, installation is planned, so that efforts are made to commission the project in time. Steps required for bid preparation are given below: A. Pre-bid invitation stage 1. 2. 3. 4. Define as precisely as possible the need that is to be met. Identify the product that will meet this need. Specify operating and other relevant parameters. Lay down specifications, as required, by reference to: a. Standards: i) national ii) international iii) other countrys; iv) industrial associations 5. 6. 7. 8. 9. 10. b) Brand names c) Catalogues of sellers d) Drawings, engineering designs e) Samples
11.
Specify test methods and procedures Research supply market to know the structural characteristics of the international market for the project. Decide on procurement method and strategy. Identify potential suppliers, through desk research. Shortlist the more reliable ones through a pre-qualification systems Prepare bid documentation and the invitation to tender. Define contract terms and conditions and scope and nature of guarantees required. Check for precision and completeness. Establish evaluation criteria.
B. On receipt or opening of bids 1. 2. 3. 4. Design a suitable format for bid tabulation. Reduce all variables in different bids to a comparable basis, e.g. either all FOB or CER terms Express all prices/costs in a single currency and use an appropriate exchange rate for the purpose. As the ultimate cost to the buyer is more important than the price, compare the relative cost of supplies from different bidders and not only their price quotations. For equipment, be assured by the supplies of the later availability of spares/replacements and their supply price. As operating costs are as important an element of evaluation as the initial cost of the equipment, adopt a total-costing/life-cycle costing technique when evaluating bids for equipment.
5. 6.
7.
8.
As the time profiles of the costs and possible output (and hence, revenues) of different bids for equipment are likely to differ, use the net present value technique and take into account the serviceable life, salvate value at the end, and operating costs. Follow these two objectives for the technical evaluation: a) Assess deviations from prescribed specifications and, if these are acceptable, make appropriate adjustments to the price for positive and negative deviations to compare offers. b) For commercial evaluation, reduce the payment terms of different offers for productivity differentials (use of material and/or human inputs per unit of output).
9.
For commercial evaluation, reduce the payment terms of different offers to a comparable basis. In the case of deferred payments, make use of the net present value analysis technique.
DELIVERY TERMS OF CONTRACTS There are five main types of contracts that are currently used by process plant contractors. In order of decreasing degrees of the fixed price element, these are as follows: Lump sum (fixed price) contracts Guaranteed maximum contracts Target price contracts Cost-plus-fixed fee contracts Cost-plus-percentage fee contracts The less experienced clients tend to prefer the sum type of contract as this results in the greatest competition between contractors and the evaluation of bids is easy. Contractors bidding costs for this type of contract are at their highest and there are disadvantages. Not only is the bid time quite ling, but such bids are highly inflexible, with any changes being difficult and expensive. Costs may be high to cover any contingencies and risks, and the client-contractor relationship tends to be more divergent than with other types of contract. Finally, the emphasis on the low bid may give an unsatisfactory end product. Fixed price contracts are used mainly where the client is in a position to specify exactly what is to be built and where much of the engineering work must be carried out prior to signing of the contract. Other types of contracts may be converted to a fixed price contract when the work is sufficiently advanced to permit an accurate, maximum cost estimate to be made. Typical payment terms for engineering work are an initial down payment made on contract signature, several instalments paid at intervals during plant construction, C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
and a final payment due after satisfactory completion and the expiry of any performance guarantee period. In some cases, periodic installment payments may continue over several years after plant completion. Installments may fall due upon contract signature, during deliveries of equipment and plant construction, after completion of acceptance costs, or at set time intervals. Great care must be taken over the wording of payment terms since loosely worded provisions can result in substantial financial losses to the contractor, particularly if installment payments are determined by the dates of tests and the commissioning of units. Whenever possible, fixed dates should be written into the agreement of individual installment payments to avoid excuses for postponement being made by the client, some of which may be trifling in nature. To minimize such risks, the contract should also clearly specify the exact documents and certificates required before a payment can be authorized. NEGOTIATION Investments in projects involve huge capital outlay. Hence the project manager, in collaboration with the finance and purchase departments, deliberates with the equipment suppliers on quality, delivery schedule, price, payment schedule, service and other relevant legal contractual aspects. This process of deliberation is known as negotiations. The term negotiation, is derived from Latin civil laws and refers to trading and deliberations, leading to the purchase of equipments and services. Negotiation is essentially a communication process between the parties incidental to the making of a contract, or a business transaction. The Oxford dictionary defines negotiation as a conference with another with a view to compromising in an agreement. Negotiation is the art of arriving at a common understanding with a manufacturer on the essentials of a contract in the area of project management. Thus, negotiation attempts to find a formula which will give each party the most profitable value in a specific situation, and is not only a science but an art as well. Many organizations consider that the man objectives of negotiations in project management are to establish a fair and reasonable price and to develop a sound relationship with the suppliers. Besides dealing with the immediate transaction, the buyer must consider his future relations with the supplier. The buyer in addition to being fair, should always conduct himself so that in future negotiations, the supplier will submit his lowest price and perform the contract on schedule. Negotiation is not to be confused with haggling over price. It is reasonable discussion as regards price, cost, specification, justification for conditions and delivery, control, price-revision, discounts, escalation, provision etc. The purpose C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
of negotiation is to find a common ground on which, both buyer and seller agree, and arrive at a compromise acceptable to both. Parameters of Negotiation There are a large number of aspects that my crop up in the negotiation process. Some of the important areas in which the buyer and the seller may concentrate are mentioned below. These are price, cost, terms and conditions of the original contract; variations in quantity; specifications and deviation from specified tolerances; basis for price revision or escalation; facilities to be provided by the project authorities; quality of subcontracted items; unforeseen amount of construction maintenance repairs; continued supply of spares; buyback arrangements of initially dumped unwanted spares; supply of critical buyback arrangement of initially dumped unwanted spares; supply of critical drawings; performance guarantee after initial warrantee is over; after sales service; technology upgradation after initial supply of equipments on a continuous basis; interrelation of legal terms; basis for penalty/bonus; payment schedule; moral/ethical aspects; dispatch terms; instructions on insurance; removal of rejected items; and risk purchase clause in the event of changes in delivery schedule. Tools of Negotiation The SWOT approach strength, weakness, opportunity, and threats relevant to the project team, suppliers corporate profile, the industry scenario, national perspectives, international consideration, etc., will enable identification of the bargaining position of the supplier in the context of social / political / technological / financial / regulatory / economical / natural environment factors. Negotiations must be conducted in peaceful in peaceful and comfortable surroundings without disturbance of any sort. It is essential that the negotiating team must be familiar with the market situation, and possess thorough knowledge about the suppliers expertise on technical, financial and manpower capabilities. It is not necessary to negotiate on each and every item/supplier. It is desirable to negotiate only with the lowest two or three tenders. The process of negotiation must be confined to high cost critical items. Techniques like ABC/VED/MUSIC-3D analysis may be helpful. Quantity discount analysis is used for simple comparisons while detailed analysis of cost breakdown into labour, material, overhead etc., are used for complex comparisons. The break-even analysis is also used for estimating the internal price structure and to obtain greater insight into the suppliers proposals. The concept of learning curve of the labour cost going down with repetitive jobs may be used for repetitive labor intensive projects. Other techniques include
persuasion, questioning, discussions, vertical thinking, and prolonged silence, walk out etc., depending on the situation. The important personal abilities and qualification for negotiation are: (1) knowledge, (2) attitude, (3) skill in identifying the issues under negotiation and (4) planning strategies and techniques to revolve these issues effectively by argument, persuasion and skills in communication, Contractors obligations Clauses headed Contractors obligations cover general provisions such as: Obligation to construct the facility in accordance with the project specifications; Applicable standards and codes; Order of precedence of contract documents; Obligation of the contractor to request for additional information; Obligation of the contractor to check and verify company information; Occasionally, contractors may be required to assume liability for correctness and completeness of the information furnished by the client. As a principle this is not acceptable because it implies that a contractor is responsible for any mistakes made by the client; Obligation of the contractor to assume responsibility for scheduling progress reporting, forecasting, etc.; Obligation of contractors to work out detailed work package; Statement that the contractor is fully knowledgeable fot he site conditions and other local conditions (weather, access to site, etc.). Liability for subsoil conditions and other things that cannot be detected by simple visual check should be excluded. Obligation of the contractor to keep and to maintain the site clean; Obligation to inform the client of problems and other important matters affecting the Project in general; Anything not included in the clients information but that logically should have been included shall be deemed to be included. Clients obligations The list of the clients obligations tends to be far shorter. Contractors should try to add an umbrella provision to the effect that anything not specifically included in the lump sum shall be deemed to be excluded (and thereby becomes reimbursable). When the client wants to review or approve certain drawings and information, an approval time of say 10 working days should be added, following which the drawings, etc., shall be deemed to be approves. Any client changes after those 10 days shall constitute a change in the order with price and time repercussions. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Clients are usually responsible for obtaining permits and other official authorizations, the supply of utilities (including construction utilities) and feedstock, telephone and other communications facilities, canteen, toilets, fencing, guards, roads, lighting, storage facilities, warehouse, etc. CONCLUSION This chapter narrates the significance of contracting, and its dimensions in implementing a project. The project manager cannot get everything done through an in-house staff. He has to make necessary arrangements for acquiring authority over external organizations which will be required to participate in the execution of a project against some consideration. Thus this chapter has emphasized the contractual arrangement is a basic requirement in project management and hence the basics of contracting, contracting principles, tendering and bid evaluation, and also the delivery terms of contracting must be learnt by all concerned.
SELF ASSESSMENT QUESTIONS 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. What do you mean by the term project contracting? Explain its significance. Explain the basic principles of project contracting. Briefly describe the 3 Rs of contracting. What is global tendering? Explain how it can be processed. What is bidding and explain the bid evaluation process. What is project negotiation? Explain its objectives. Explain the parameters of effective negotiation. Briefly narrate the tools of negotiation. Explain the different types of pricing contracts. What are the contents of tender documents?
LESSON 12 PROJECT FINANCING & PROJECT OVER RUNS
OBJECTIVES To give an overview about various sources of project financing To point out causes for project overruns in project execution To explain the remedial measures to overcome the overrun problems PROJECT FINANCING To be successful in developing new business, it is essential that firms have knowledge of project finance and are aware of how the potential projects they which to develop are to be financed. This is because many projects are cofinanced. With some sections receiving bilateral funding (which may be tied to the use of consultants from the country providing the finance) and others receiving multilateral funding and thus being open to all international firms that can prequalify. In many projects being developed in developing countries or countries in transition the financial engineering of the project is becoming more important than the design of the project itself.
Over the past two decades there have been considerable changes in the techniques used to meet the financing needs of projects particularly in view of the increasing scarcity of funds, high interest rates and the high level of debt in the beneficiary countries. The most common sources of project finance in developing countries or countries in transition are: Multilateral funding agencies Export credit agencies Direct foreign investment Bilateral funding agencies Commercial banks Institutional lenders Leasing companies Contactors Counter trade. MULTILATERAL FUNDING AGENCIES The World Bank (which in the fiscal year 1991 approved some US$21.7 billion of loans for 222 projects) and the various regional development banks (which in C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
1992 had a total lending in excess of US$10 billion) make up the largest group of multilateral funding agencies providing finance for projects. Other multilateral agencies offering regional project finance include the European Development Funds (EDF), various Arab funds and the United Nations Development Program (UNDP). Loans from al these agencies have some advantages over commercial loans in that they may be for a longer period that those from the commercial sector. The interest rates may be lower and fixed interest rates may be negotiated, participation by these agencies will endorse credit for potentially interested parties, and co-financing may be possible with participation from the commercial banking sector and with cross-default clauses. There are however several disadvantages in using project finance from multilateral agencies. In principle, loans are available only for the public sector and the project/loan approval process is vary lengthy, which often holds up the project for years. Furthermore, it may be ties to some very expensive additions such as environmental impact assessments and training. Another disadvantage is that the funds may be provided in currencies that are default to hedge, thus giving rise to currency risks. Export Credit Agencies Project financing from export credit agencies is generally available in two froms and often in a combination of both: either from the national export-import bank and / or as foreign aid. When tied together they are called mixed credits, and if the country is a member of the Group on Export Credits and Credit Guarantees (ECCG) of the OECD Trade Committee, these credits are regulated by OECD arrangements. Most foreign aid of this type is used to purchase goods and services from the private sector in the country that provides the financing. These agencies provide a number of project finance services. Loans and Guarantees These consist of concessional loans or guarantees for a concessional loan or a combination of both. In some countries, the agency provides a guarantee for financing, which is then used to secure loans commercial banks. Suppliers credit This is credit guaranteed by the export credit agency, which is made available, often at a concessional rate of interest, for a fixed period. Repayment is over a period of 5-10 years from the compoletion date of the project, and the repayments of the capital plus interest is secured by negotiable paper such as promissory notes or bills of exchange. Bank charges, bonds, insurance costs, etc., are usually included in the project offer if this type of financing is foreseen. The main disadvantage for the contractor is that no progress payments are made ant that
project finance is not available until the project is completed. The supplier is usually required to assume some of the risk of financing. Buyers credit This is essentially an arrangement between banks whereby a bank in the country of the contractor enters into a loan agreement with a bank in the country of the client or in the country in which the work is to be undertaken. Lending banks are authorized to make progress payments in cash, to the contractor on submission of invoices together with appropriate paper such as bills of lading. The loan agreement specifies the conditions under which the loan is to be repaid and bank charges are paid direct by the lending bank to the borrowing bank. With this type of credit, only insurance costs can be included by the contractor in the overall project price. The credit periods can often be extended for large projects. Hardware or equipment, or even sub-contracts, are often purchased from subsuppliers or subcontractors and then resold to the client. This type of credit is probably the most commonly used in the Asian and Pacific region. Banks usually require export credit insurance guarantees before they grant the credits. Project lines of credit These are special arrangements between selected banks in certain countries. Under such arrangement, buyers in the borrowing country may place cash orders for a variety of different contracts. Domestic contractors have been included as potential borrowers. Since special arrangements are often made for a variety of political or economic reasons or in response to governments initiative, the government in the borrowing country usually guarantees the loans. The advantages of financing through export credit agencies are that a fixed rate of interest is often available and the concessional rates of interest are lower than those4 charged by strictly commercial sources. Furthermore, the loans extended are often for longer terms than commercial sources. Furthermore the loans extended are often for longer terms than commercial loans and the official nature of the loan may offer some protection against government expropriation. However, there are also advantages, first in that the process of approval of loans is often very bureaucratic and lengthy. Where loans are tied, the goods and services available from the countries providing the credits may not be the best suited to the project and may by far more expensive than those available from other sources. Furthermore, additional equipment and spares, which may be found to be needed later are not covered by the credits. Finally, serious problems arise if the project is unable to generate sufficient foreign exchange to repay the loan. The World Bank and some of the regional development banks, such a IDB and ADB have made special provisions to provide project finance through national export credit agencies in their respective regions of operation. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
One major problem facing export credit agencies is the very conservative attitude of development finance corporations in general, as many of them have had negative experience in assessing credit risks in the construction industry.
Direct foreign investment Direct foreign investment in developing countries has been a major source of project finance for many industrial plants developed by industrialized counties in developing countries in developing countries in transaction. Many international manufacturers in such areas as electronics, textiles and automobile spare parts have been forced to manufacture products in countries that have low labour costs in order to be competitive. Both Latin American and Asian countries have made major efforts to attract this direct foreign investment, which provides employment, technology and skills transfer, project finance and access to international markets. In many cases, the development of these industrial facilities has been handled in part by both national and regional firms, often on a lump sum turnkey basis. In order to encourage the flow of direct foreign investment into developing countries, the World Bank created the Multilateral Investment Guarantee Agency (MIGA) in 1988. This offers investment insurance to mitigate political risk through its guarantee program and provides promotional and advisory services to assist its member countries to attract and retain direct foreign investment. MIGAs guarantee program products investors from non-commercial risks of currency transfer, expropriation, war and civil disturbance. It insures only new investments, including expansion of existing investments, privatizations and financial restructuring. Projects must be registered with MIGA before the investments are made or irrevocably committed. MIGA can insure up to 90 per cent of the investment amount, subject to a limit of US $ 50 million of coverage per project.
Bilateral funding agencies A considerable amount of project finance made available in developing countries and countries in transition in provided direct by agencies from industrial countries. In 1992, such bilateral official development assistance reached US $ 68 billion, of which US$34 billion was for developing countries. National governments
Many governments will often fund small and medium sized projects out of their own funds, either directly or indirectly by means of equity investments, investment gratis, subsidized loans, tax concessions or subsidies on utilities, manpower, energy or raw materials. Commercial banks Commercial banks are a major source of project finance, offering loans for five to ten years with floating rates of interest based on the LIBOR or the United States prime rate. Commercial bank loans for large projects are typical arranged as syndicated bank loans. There are two basic options open to project developers: either the project developer assumes full responsibility for obtaining project finance or it used the services of a bank specializing in project finance. Alternatively, the client may use a local or regional bank to arrange or engineer a financial package. The bank been determines the maximum foreign exchange requirements and the possibilities of obtaining export credits and aid funds and prepares a project finance package.
Industrial lenders Institutional lenders, such as insurance companies, pension funds and charitable organizations are becoming significant sources of project funding, particularly for industrial buildings and shopping centre developments as well as in the developments of build-own-operate projects, which are particularly prevalent in ASEAN countries. Leasing companies In the Asia and Pacific region, a number of Japanese leasing companies have access to low-cost Japanese Government funding, and they are thus able to offer attractive term financing for equipment and facilities. Several industrial facilities and industrial parks have been developed on a lease-back basis. Project financing of this type will be particularly pertinent to ASEAN countries trying to develop industrial estates, shopping centre complexes, etc. Contractors Contractors often initiate project finance but they are rarely able to participate in the long-term financing of projects. They may participate in the form of fixed-price contracts, with guarantees, and sometimes may take part of their fees in the form of equity in the project. Contractors can also provide assistance to their clients in developing the financial planning, as they are often experienced in dealing with multilateral and bilateral lending agencies, export credit agencies, banks, etc.
Some countries have taken equity positions in companies that own buildown-operate projects. A typical project finance request form used by engineers and contractors to define the financing requirements of a particular project to be developed may be found at the end of this chapter. Counter trade Counter trade is considered by most technical consultants and contractors as the least desirable form of project finance and it is usually considered only when there is not other form of finance available. In certain least developed countries and several of the former socialist countries of Eastern Europe, there may indeed be no alternative. There are however, several major engineers and contractors that have long adhered to a policy of using counter trade as a means of developing markets and have formulated well-defined policies, which have produced a profit. These companies have set up international trade departments within their company to manage these transactions. There are different forms of counter trade, the most simple of which is barter. This consists of a simple contract to swap one set of goods for another set, with the contract being valid for a limited time period. The value of the goods traded is agreed on at the time of negotiation of the contract. Barter is used to repay debts or to pay for goods and services over a short period of time. Another form of counter trade is known as direct compensation or buyback. Here, two contracts, one of sale of one of purchase, are linked and partially or totally counterbalanced, with separate cash settlements being made for each part of the transaction. In exchange for developing technology, goods and engineering services in a turnkey plant, a contractor will receive payment in the form of goods or material produced by the plant. Concessionary structures include build-operate-transfer (BOT), buildown-operate-manage (BOOM), build-own-operate (BOO) and build-ownoperate-transfer (BOOT). While there is nothing new about this method of project financing as such, what is new is the growing enthusiasm of governments for this form of financing (particularly in ASEAN countries) mainly because it does not increase public-sector debt. It has also been noted that, when the public sector is not directly responsible for the project finance, greater emphasis is placed on project viability and the financial engineering of the project, and when implemented, such projects are often operated more cost-effectively. Many industrial face financial problems at the project implementation stage. The timely availability of funds on short and long-term basis is a prerequisite for the success of any business. Project managers are not wrong in comparing the function of finance in business with that of blood in human organism. The project appraisal takes into account the future cash flow requirements of the project and it is not uncommon with the development finance C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
institutions to stipulate conditions regarding the availability of term finance for project implementation and short term funds in the form of market and bank borrowing for meeting the operating expenses once the project has been implemented. We can presume that if the project is able to generate surplus at the operational stage, the financial requirements would be met from short term borrowings (including bank borrowings) though such assumptions suffer from many inherent limitations.
PROJECT OVERRUN There are project having reasonably successful operations yet they fact constraints of adequate funds in view of policies like credit squeeze and the prevailing inflationary conditions. In such cases, the development finance institutions in their follow-up operations have to offer desired assistance to the units to enable them to overcome these difficulties. An area of serious concern to the institutions is when the project suffers on account of insufficient availability of finance at the project implementation stage. The difficulties are accentuated especially when there is time and cost overrun.
Meaning of overrun It is appropriate for us at this stage to define as to what exactly we wish to convey by overrun. We can define overrun as the inability of the project administration to complete the venture within the stipulated framework of cost and time. Whether the said inability is attributable to internal or external factors is another matter. Time overrun simply refers to spending more time on a project than scheduled for it. Cost overrun is the excess of actual cost incurred on a project over the budgeted or planned cost. The best example for the time overrun is Srisailam Dam whose stone way layed by the First Prime minister Pt. Jawaharlal Nehru and was scheduled to the completed by the mid 1970s was simply overrun by a decade only when Mrs. Indira Gandhi during 1983, the then Prime Minister of India, inaugurated the tunnel of Dam which was partially complete. Some of the International projects that were susceptible to cost and time overrun were : BART project of San Fransisco, Opera House of Sydney, Channel Tunnel, Oosterscheld Aircraft project etc.
The tie and cost overrun has been depicted in the diagram
Ca c Cs o s t
o Time Ts Ta o Time Ts
Ca Ts
= actual cost = Scheduled time
Cs Ta
= scheduled cost = Actual time
CAUSES FOR OVERRUN The reasons for overrun require a close scrutiny and in many cases the institutions may have to take certain decisions depending upon the merits of the case which may be considered unpleasant by the management. As indicated above the reasons for time and cost overrun may be broadly classified into: 1) internal 2) external INTERNAL REASONS
We may first examine the internal reasons which are basically controllable, i.e. given a competent management the project can be implemented within the stipulated time limit and to cost estimates. We also assume that the time overrun itself is an important reason for the cost overrun. The rationale for this is too obvious to require and further explanation. Time has value and all cost estimates are valid within a given time framework.
Firstly, the cost overrun is the natural outcome of the cost underestimation at the project preparation and evaluation stages. The principal motivation for this willful cost underestimation is to keep the promoters contribution, about which the institutions have somewhat inflexible norms, to the minimum possible. Once the project financing is tied up, the promoters find themselves in a more favourable position to express there inability to contribute substantially to the overrun. The overrun undertaking is an instrument in the hands of institutions which is of little practical significance. Another strong argument is to attribute the cost overrun to uncontrollable external factors with their genesis in governmental policies or inflationary pressures in the economy for which obviously responsibility cannot be fixed at the promoters. Secondly, there may be change in the project concept as such during the implementation stage, viz., unsuitability of the location, changes in the designs of civil structure, additions/changes in the various items of plant and equipment following certain alternations in process technology, size of operation, product mix etc. Most of these points would be further elaborated when we discuss the technical problems at the project implementation and operation stages. Thirdly, effective project implementation requires competent management with ability to forecast problems and take corrective steps. The business environment is always in a flux. Prices are changing: the availability of inputs at the constructional stages poses problems. Human resources are to be organized and assigned specific duties for timely action in various areas of implementation. Any management which is incapable of performing these tasks efficiently would be saddled with a cost overrun. This incompetence whether it systems out of fictional fights of genuine incompetence gives rise to a number of problems. Fourthly, the tendency of the management to overspend in travel, entertainments, non-productive activities, etc. can distort the initial cost estimates. Some control over expenditure, internal or institutional, is desirable to keep the overrun within manageable proportions. Fifthly, incompetent and dishonest management can add to the overrun through underhand dealings in the purchases of construction materials and equipment. Lastly, there are number of other reason such a delay in he recruitment of essential project implementation staff, excessive expenditure on foreign technicians, failure to comply with institutional conditions, inadequate contingency provisions for non-firm items, involvement with a new/complex technology, siphoning of funds, lack of experience on the part of promoters in project implementation, etc.
EXTERNAL REASONS As far as uncontrollable external factors are concerned, they generally fall in the following broad categories: 1 Delays in the availability of utilities, more particularly power. 2. General short supply of materials and the consequent escalation in prices 3. Delays in the sanction and disbursement of assistance by the financial institutions. 4. Delays in the development of an industrial area and provision of necessary infrastructure. 5. Changes in government policies, especially with regard to industrial and import licensing, foreign collaboration approvals and the actual time taken in obtaining these approvals. 6. Foreign currency fluctuations to the detriment of the importer 7. Unforeseen political developments and the consequent delays in the receipt of imported equipment. 8. Inability of the domestic machinery suppliers to adhere to the delivery schedule due to overbooking, strikes, non-availability of components/raw materials etc. 9. Delay in the arrival of foreign technicians. 10 Sudden changes in the market conditions thereby dampening the enthusiasm of the promoters to go ahead with the project implementation as scheduled originally. Stage-wise Overrun in Project Life Cycle: These reasons may be classified through stages of life cycle of the project. At conceptual stage overrun problems may be due to failure to understand basic requirements of a project, Unrealistic appraisal of in-house capabilities and Underestimating time requirements. At the planning stage the reasons may be of Omissions, inaccuracy of the work break down structure, Misinterpretation of information, Use of wrong estimating techniques, Failure to identify and concentrate on major cost elements and also due to Failure to assess and provide for risks. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Under negotiations stage, overrun may arise due to Forcing a speedy compromise of agreements, Procurement ceiling costs, Negotiation team that must win this one. Under contractual stage contractual discrepancies, Sow different from REP requirements, Proposal team different from project team may cases overrun problem. In designing stage, Accepting customer request without management approval, Problems in customer communication channels and data issues and also due to problems in design review meetings. Similarly under construction stage overrun ay arises due to excessive material costs, Overboard specifications, Manufacturing and engineering disagreements. IMPACT OF COST AND TIME OVERRUN After the time and or the cost overrun has occurred the following consequences are inevitable: 1. Increase in pre-operative expenses, mainly interest during construction.
2. The enterprises inability to repay principal and interest as per the amortization schedule. 3. 4. Adverse impact on the viability of the project Loss on account of lost market opportunities
5. Sickness at birth and a host of other unsavory consequences associated with industrial sickness.
CONTROLLING PROJECT OVERRUNS The financial institution has to normally depend upon the information monitoring system to find out the quantum of overrun and its reasons. It is also a common practice with the institutions to carry out some kind of re-evaluation of the project through visits and personal discussions to assess the impact of the overrun on the long term project viability and to determine the quantum of additional assistance needed to implement the project. Efforts are also made to motivate the promoters to bring additional funds to meet a part of the overrun. In view of the generally complex nature of the project overrun which may be due to a combination of controllable and uncontrollable factors, it is not possible to prescribe effective remedies to avoid its occurrence in absolute terms. However, C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
certain institutional safeguards may prove useful in limiting its magnitude. There are: a) Proper project appraisal covering managerial, financial, economic technical and market aspects b) Effective co-ordination between project and follow-up wings of the institution so that persons entrusted with responsibility of looking after the project at disbursement and implementation stage get fully conversant with the project concept, strong as well as weak points of the management, critical areas in implementation etc., c) Introduction of a well-designed information system fairly early in the project implementation stage d) Appointment of a nominee immediately after sanction of assistance and the association of the nominee director in all important matters such as finalization of contracts, purchase, appointment of key personnel etc. e) Use of project scheduling techniques like PERT/CPM and their constant updating. f) Closer coordination between term lending institutions and the commercial banks on the one hand and financing institutions themselves where more that one institution is involved in project financing on the other. g) Closer co-ordination of the financing institution with the local authorities for timely allotment of land/shed, sanction of electricity connection, approval of buildings plants, and the provision necessary infra-structural support. h) Streaming of operations of financial institutions so that the time taken is sanction of assistance and disbursement is kept to the minimum. The institution would also be well-advised to decentralize its operations and to have a second look at some of the stipulations which the promoters find difficult to comply. CONCLUSION Thus, cost can be reduce in all reduced in all areas, but one cannot and must not be stingy while managing projects involving crores of rupees cost must be controlled but it must be done with grace. Hence this chapter suggest that cost is the final measure of project management effectiveness and discusses various measures for keeping the same under control.
SELF ASSESSMENT QUESTIONS 1. 2. 3. 4. What is Project overrun? Explain its significance. Describe the nature and causes of cost and time over runs. How does the cost and time overrun be controlled? Explain the causes for overrun at the different stages of project life cycle.
LESSON 13 PROJECT CONTROL OBJECTIVES: 1. 2. To control the need and functions of project control, To explain the various of project control.
3. To discuss the significance of different techniques of projects control structure. INTRODUCTION: Once the project has been launched, it is essential to control the projects to achieve the desired results. In this process the control becomes closely interwined in an integrated managerial process. Project control involves a regular comparison of performance against targets, a search for the causes of deviation and a commitment to check adverse variances. Project control serves two major functions: a. It ensures regular monitoring of performance
b. It motives project Personnel to strike for achieving projects objectives steps in Projects Control.
There are two important steps in the project control viz; 1. 2. Establishment of controls. On-going controlling activities using above controls.
It is nothing but controlling a project when it enters the production perio-using the controls established during the initiation period. Control during the production period involves four steps, There are 1. Setting targets for what should be achieved,
2. Measuring of what is happening including anticipation of what may happen.
3. Comparison between what should happen and what is happening or likely to happen. 4. Taking corrective actions to make things happen, as they should these four steps should fellow each other till the work is completed. Projected Control Purposes: The Projects Control can be exercised on different aspects. Such as 1. 2. 3. 4. On the progress of the activiteis On the performance of project activities On project Schedule On Projects Cost
The subsequent chapters discuss about significance and mode of schedule control and cost control of project. Problems of project Control: Effective control is critical for the realization of project objectives. Control of projects in practice tends to be ineffective. There are three main reasons for poor control of projects viz., 1. Characteristics of the project Largeness and complexities Maintenance of non-routine activities Co-ordination and communication problem. 2. People Problems
Managers do not have required experience & training Lack of competence and inclination to control projects. 3. Poor control and information system: Delay in reporting performance inappropriate level of detail Unreliable information. GANIT CHARTS In dealing with complex projects is pictorial representation showing the various jobs to be done, and the time and money they involve is generally helpful. One such pictorial charges, also known is the bar chart, was developed by Henery Gantt around 1900. It consists of two coordinate axes, one representing the time elapsed and the other, jobs or activities performed. The jobs are represented in the form of bars as shown in Fig. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
The length of a bar indicates the duration the job or activity take for completion. Generally, in any project some jobs can be take up concurrently and some will have to be completed before others can begin. Hence, in a bar chart representing a projects, some of the bars run parallel or overlap each other times-wise (these correspond to concurrent jobs) and some run serially with one bar beginning after another bar ends (corresponding to an activity that succeeds a preceding activity). In fig. for example activities A, B and C can start at the some time and proceed concurrently or in parallel, though they take different time intervals for their completion. Activity D, however, cannot begin until activity A is over. The bars representing A and D therefore run serially. Let us consider a specific example. A piece of equipment is made of two parts A and B which are to be assembled together before they are dispatched. Part A is of cast steel, which requires a pattern and a mould. Part B is a machined item made on special machine M which needs to be purchased and installed. Parts A requires special hear-treatment before assembly. The assembly needs to be tested with a specially constructed rig before dispatch. The time scale for each activity is as follows: Preparing a pattern for casting Preparing a mould Costing the cleaning operation of A Heat-treatment of A Obtaining and installing machine M Machine part B Assembling part A and B Preparing the test rig Testing the assembly Packing for dispatch 4 Weeks 2 Weeks 1 Weeks 2 Weeks 7 Weeks 5 Weeks 3 Weeks 4 Weeks 2 Weeks 1 Weeks
The bar chart for this project is shown in Fig. The various activities are shown along the ordinate or the vertical axis and the time elapsed along the horizontal axis. The chart is self-explanatory. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
WEAKNESSES IN BAR CHARTS The example in Section 1.2 was deliberately chosen to shown that the bar chart may appear to be a excellent pictorial representation of a project. However, in practice, bar charts have serious limitations. A few of these are: Interdependent of activities: In a programme where there are a large number of activities that can be started with a certain degree of concurrency, the bar chart cannot show clearly the interdependent among the various efforts or activities. This is a serious deficiency. The mere fact to or more activities are scheduled for simultaneous or overlapping times does not necessarily make them related or interdependent, or completely independent. Consider, for example, the project represented in Fig. Such activities as preparing a pattern, preparing a mould, costing and cleaning, and heat-treating have to run sequentially, i.e., one activity must be completed before the other can begin. The bars representing these activities are not allowed to overlap. On the other hand, installing machine M and preparing the test rig can proceed simultaneously because they are completely independent activities and hence the bars representing them can run parallel to each other. However, this is exactly the weakness of the bar chart, because two parallel bars need not necessarily stand for independent activities, as the following example will show. Suppose a project involves digging foundation, erecting side boards or shuttering, and pouring concrete. The time consumed is shown against each activity: Digging foundation Erecting side boards Pouring concrete 20 Weeks 14 Weeks 16 Weeks
If the activities are not allowed to run in parallel but in strict sequence, the total time taken for the completion of the project is 50 weeks. As we can easily see, erection of the sideboards can start after the completion of, say, one-half of foundation digging. Similarly, poring of concrete can start, say, 5 Weeks after the erection of side boards. The bar charts for these activities will as shown in Fig. According to this plan, the side board erectors still have 4 weeks of work after the excavation job is over. However, if due to certain unexpected difficulties the excavation is delayed by 1 or 2 weeks, how will reflect on the sideboard erection or the concrete pouring job? This is not revealed by the bar chart.
Project progress: A bar chart cannot be used as a control device since it does not show the progress of work. A knowledge of the amount of work in progress or jobs completed is absolutely necessary in a dynamic programme. Changes in plans are a necessary part of a large project and a bar does not offer much assistance under such circumstances. However, a conventional bar chart can be modified to give this additional information as shown in Fib. 10.d. Suppose 16 weeks have elapsed after he project started: be the progress made in the project can be depicted by partially filling in the blank bars. Foundation digging, according to Fig. 10.d is weeks behind schedule. Uncertainties One of the most important deficiencies of the bar chart is its inability to reflect the uncertainty or tolerances in the duration times estimated for various activities. The modern day space system programmes or other complex projects are largely characterized by extensive research, development and technological progress. The traditional knowledge or practices play a very insignificant role. In such situations, the completion of various stages or jobs cannot be forecast with exactness. Uncertainty about a test becoming successful or a sudden break though in technology to know-how will always provide situations which will make rescheduling of various events a necessary part of the project and give it a dynamic character which is not reflected in a bar chart.
MILESTONE CHARTS Because of the shortcomings or the inadequacies of the chart in meeting the requirements of the modern day management, efforts have been made to modify it by adding new elements. One such modification was discussed in Section 1.3. Under Project Progress with reference to Fig. Another important modification, relatively successful, has formed a link in the evolution of the Gantt chart into the PERT or CPM network. This modification is called the milestone system. Milestones are key events or point time, which can be identified when, completed as the project progresses. In the Gantt chart a bar which represents a long-term job is broken down to several pieces, each of which stands for an identifiable major event. Each event is numbered and an explanatory table given identifying the number with the event. These are specific event (points in time) which management has identifies as important reference points during the completion of the project. This work breakdown increases the awareness of the interdependent between tasks.
Figure A show a Gantt chart and Fig. B the corresponding milestone charts. Two important points to be notices are that: (a) the long time jobs are identified in terms of specific events or milestone; and (b) these milestones or key events are plotted against the time scale indicating their achievements by specified dates. While the milestone chart was definitely an improvement on the bar chart, it still had one great deficiency, i.e., it did not clearly show the interdependent between events. In a milestone chart the events are in chronological, but not logical, sequence. A natural extension of the milestone chart was the network where the events are connected by arrows in a logical sequence. CRITICAL PATH METHOD (CPM) The critical path analysis is an important tool in production planning and scheduling. Gantt charts are also one of the tools of scheduling but they have one disadvantage for which they are found to be unsuitable. The problem with Gantt chart is that the sequence of operation of a project or the earliest possible date for the completion of the project as a whole cannot be ascertained. This problem is overcome by this method of Critical Path Analysis. CPM is used for scheduling special projects where the relationship between the different parts of project is more complicated than of a simple chain of task to be completed on after the other. This method (CPM) can be used at one extreme for the very simple job and at other extreme for the most complicated tasks. A CPM is a route between two or more operations which minimizes (or maximizes) some measures of performance. This can also be defined as the sequence of activities, which will require greatest normal time to accomplish. It means that the sequences of activities, which require longest duration, are singled out. It is called at critical path because longest duration is singled out. It is called as critical path because any delay in performing the activities should be taken should be taken up first. ACCORDING TO JOHN L. BURBIDGE, One of the purpose of critical path analysis to find the sequence of activities with the largest sum of duration times, and thus find the minimum time necessary to complete the project. This critical series of activities is known as the CRITICAL PATH. Under COM, the project is analyzed into different operation or activities and their relationship are determined and shown on the network diagram. So, first of all a network diagram is drawn. After this the required time or some other measure of then combined to develop a schedule which minimizes or maximizes the measure of performance for each operation. Thus CPM marks critical activities in a project and concentrates on them. It is based on the assumption that the expected time is actually the time taken to complete the object.
MAIN OBJECTS OF CPM The main objects of CPM are: (i) (ii) (iii) (iv) To find difficulties and obstacles in the course of production process To assign time for each operation, To ascertain the starting and finishing times of the work To find the critical path and the minimum duration time for the project as a whole.
SITUATION WHERE CPM CAN BE EFFECTIVELY USED: CPM techniques can be used effectively in the following situation: (a) (b) (c) (d) In production planning Location of and deliveries from a warehouse Road systems and traffic schedules Communication network
ADVANTAGES OF CPM The application of CPM leads to the following advantages: (i) It provides an analytical approach to the achievement of project objective which are defined clearly. (ii) It identifies most critical elements and pays more attention to these activities. (iii) It assists avoiding waste of time, energy and money on unimportant activities. (iv) It provides a standard method for communicating project plains, schedules and cost. Thus CPM technique is a very useful analysis in production planning of very large project.
PERT (PROGRAMME EVALUATION AND REVIEW TECHNIQUE) There are so many modern techniques that have developed recently for the planning and control of large projects in various industries especially in defence, Chemical and construction industries. Perhaps, the PERT is the best known of such techniques. PERT is a time-event network analysis technique designed to watch how the parts of a programme fit together during passage of time and events. The special project office of the U.S. Navy developed the technique in 1958. It involves the expected of any operation can never by determined expected time of any operation can never by determined exactly. Major feature of PERT or Procedure or Requirement for PERT The following are the main feature of PERT:
(i)
(ii) (iii)
All individual tasks should be shown in a network. Events are shown by circles. Each circle representation event a subsidiary plans whose completion can be measured at a given time. Each arrow represents and activity the time consuming element of a programme, the effort that must be made between events. Activity time is the elapsed time required to accomplish element an event. In the original PERT, three-time values are used as follows: Is (a) t1 (Optimistic time) : It is the best estimate of time if everything goes exceptionally well (b) t2 (Most likely time): It is an estimated time what the project engineer believes necessary to do the job or it is the time which most often is required if the activity is repeated a number of times. (c) t3 (Pessimistic time) : It is also an activity of under adverse conditions. It is the longest time and rather is more difficult to ascertain.
The experiences have shown that the best estimate of time out of several estimates made by the projects engineer is:
t1 4t2 t3 6
and the variance of t is given by-
V (t)
t3 t1 6
Here it is assumed that the time estimate follows the Beta distribution.
(iv)
The next step is the compute the critical path and the slack time. A critical path or critical sequence of activities is one, which takes the longest time to accomplish the work and the least slack time
ADVANTAGE OF PERT PERT is a very important of managerial planning and control at the top level concerned with overall responsibility of a project. PERT has the following merits. Pert forces nabagers and subordinate mangers to make a plan for production because time event analysis is quite impossible without planning and seeing how the pieces fit together. PERT encourage management control by exception. It concentrates attentions on critical element that may need correction. It enables forwards-working control, as a delay will affect the succeeding events and possibly the whole project. The production manager can somehow make up the time by shortening that of some other time. The network system with its sub-systems creates a pressure for action at the right spot and level and at the right event. PERT can be effectively used for re-scheduling the activities.
(i)
(ii) (iii)
(iv) (v)
LIMITATIONS IN USING PERT The uses of PERT techniques are subject to the following limitations: (i) (ii) (iii) (iv) It is a time-consuming and expensive technique. It is based on Beta Distribution and the assumption of Beta Distribution may not always be true. PERT is not suitable when programme is nebulous and a reasonable estimate of time schedule is not possible. It is not useful for routine planning of recurring events such as mass production because once a repetitive sequence is clearly worked out; elaborate and continuing control is not required. The expected time and the corresponding variance are only estimated values.
(v)
DIFFERENCE IN PERT AND CPM Although these techniques (PERT and CPM) use the same principles and are based on network analysis yet they in the following respects from each other: (i) PERT is appropriate where time estimate arte uncertain in the duration of activities as measured by optimistic time, most likely time, and pessimistic time, where as CPM (Critical Path Method) is good when time estimates are found with certainty. CPM assumes that he duration of every is constant and therefore every activity is critical or not. PERT is concerned with events, which are the beginning or ending points of operation while CPM is concerned with activities. PERT is suitable for non-repetitive projects while CPM is designed for repetitive projects. PERT can be analyzed statistically whereas CPM not. PERT is not concerned with the relationship between time and cost, whereas CPM established a relationship between time and cost is proportionate to time.
(ii) (iii) (iv) (v)
CONSTRUCTION OF A NETWORK We may take up a project involving manufacture of a new model car. The activities involved are in table-1 with their sequential order indicated. The duration and labour needs are also presented. Table 1 : New Model car Network Activities
Activity Letter Activity Description Preceding activities Duration (days) No. of employees needed --3 5 2 3 7 2 5
A B C D E F G H
Start Design Build frame Build doors Fix axles, wheels & fuel tank Build body shell Fit doors to body shell Build & test engine
Nil A B B C B D,F B
0 8 2 1 1 3 1 6
I J K L M N
Assemble and test chassis Paint body Interior Mount body to chassis Road test the car Finishing touch
E,H G J I,K L M
3 2 1 1 1 1
3 4 3 3 2 2
For the above project we can construct a network. Before we do it a descriptive of how to construct a network is presented. A network contains connected events and activities. Event refers to the starting or completion of specific jobs. The circles in the network indicate the events. Otherwise, the circles are known as nodes. Activity refers to progress to work leading from one event to other event. This is indicated by the arrows in the network. When drawing a network physical neatness, avoiding criss-cross, loops must be avoided. A loop results when two activities have the same start and end nodes or events. In such a case, a dummy activity, with time zero as well as resource needs zero, is introduced to avoid a loop. Now, the network for the car project is attempted.
NETWORK DIAGRAM CAR PROJECT Fig 1 Network diagram Car Project
D G F J A B K
H I E C L M N
A brief description is presented on the network in Fig. 1. Node or event A is the starting point. Node B indicates the completion of design work, A B, therefore indicates the progress of design activity, which needs 8 days for completion. The numbers above the arrows thus indicate the time required for completion of respective activities. Until design, B, is completed activities C, D, F and H cannot be taken up. Hence, all these activities have common start node, viz B. Activity G cannot be taken up, until activities D and F are over. So activities D & F coverage at G, and so on. No dummy activity is needed for the project. In the network, only one time estimate is given for each activity. As against this, pessimistic (longer), optimistic (shorter) and most likely (via media) time estimates may be given for each activity. These time estimates are notated as tp, to tm. From these estimates, expected time (te) is worked out as follows: (tp + 4 tm to) / 6 = te The te is taken as the activity duration and written above the activity arrow in the network. The te computation given above is based on beta distribution which underline very low probability for tp and to and very large probability for tm. Now, the different routes of the network can be deduced. A route simply means the course of project from the starting point to the ending point of the project accordingly, the routes of the project are: Route I Route II Route III Route IV :ABDG-JKLMN :ABFGJKLMN :ABHILMN :ABCEILMN
The time duration of the different routes can be worked out by adding together the time duration of individual activities falling in the respective routes, Accordingly. Route I involves Route II involves Route III involves Route IV involves : : : : 8+1+1+2+1+1+1+1 = 8 days 8+3+1+2+1+1+1+1 = 18 days 8+6+3+1+1+1+ = 20 days 8+2+1+3+1+1+1 = 17 days
The longest route is : A B H I L M N, which takes 20 days. This route is called the critical path. The network diagram represents the critical path by thick arrows or double line arrows, just to indicate the critical path prominently. The time required for completion of the project is given by the time duration of the critical path. If everything goes well, by end of 20th day the new model car would by ready, for this to happen, each activity in the critical path has to be taken up and completed as per schedule. That is B must be over by the 8th day, H must be commenced on beginning of 9th day and completed on 14th day. I to begin on 15th day and completed by 17th day, L to begin on 18th day and completed on the same day, M to begin on 19th day and completed on the same day and N to begin on 20th day and completed on the same day. Now the concepts of earliest start time (EST), earliest finish time (EFT), latest short time (LST), latest finish time (LFT), slack, total slack and free slack may be presented. EST refers to when a particular activity can be taken up at the earliest. Activity AB has to begin at day 0 day and will go till the end of day 8. Actually B-D, BF, B-H and B-C can be taken up immediately after A-B is over, i.e. from end of day 8. (i.e. the beginning of day 9). So, the EST for B-D, B-F, B-H and B-C is end of day 8. B-D will be over by end of day 9 day and that the EST for D-G is end of day 9 (i.e. the beginning of day 10). The EST for G-J is not however end of day 10, by which time D-G will be over. Because G-J cannot be commenced until F-G is also completed. F-G will be over by end of day 12. So, for G-J the EST is end of day 12 or beginning of day 13 and so on. EFT refers to when a particular activity can be completed, assuming it has been commence as per its EST. for A-B it is end of day 8, for B-D it is end of day 9, for B-F it is end of day 11 and so on. For G-J the EFT is end of day 14. LST and LFT are computed backwards from last activity, viz, M-N in this project. M-N must be over by end of day 20. So, its LFT is end of day 20. Its LST is end of day 19, so that by end of day 20. If you go backward, for activity L-M the LST is end of day 18 and LFT is end of day 19. Table-2 gives the EST, EFT, LST and LFT for the various activities. Table 2 : EST, EFT, LST and LFT
Activity
EST
EFT
LST
LFT
A-B B-D D-G B-F F-G G-J J-K K-L B-H H-I B-C C-E E-I I-L K-M M-N
1 9 10 9 12 13 15 16 9 15 9 11 12 18 9 20
8 9 10 11 12 14 15 16 14 17 10 11 14 18 19 20
1 12 14 11 14 15 17 18 9 15 12 14 15 18 19 20
8 13 14 13 14 16 17 18 14 17 13 14 17 18 19 20
Total (LFT-EFT) or (LST-EST) 0 4 4 2 2 2 2 2 0 0 3 3 3 0 0 0
Free Stack
0 0 2 0 0 0 0 2 0 0 0 0 3 0 0 0
Slack or float refers to be extent an activity can be delayed without affecting completion of the project on time. This is given by LST EST or LFT EFT, Table 2 gives this also under total slack column. You will note that activities falling on the critical path have no slack. Because, none of the activities can be delayed, lest projects duration will increase. There are two concept of slack: total slack and free slack. Total slack is simple LST EST or LFT EFT. Free slack refers to slack or spare time available for an activity when all succeeding activities in the network can be started at their respective EST. Only three activities D-G, K-L and E-I have free slack. USES OF NETWORK TECHNIQUES PERT and CPM techniques have become useful to management in many ways. These are: (i) (ii) The graphic representation of how each activity is dependent on others help in better scheduling, monitoring and control of project activities. To prepare the network itself considerable planning, analysis and in dept, evaluation of the whole project are needed, which in turn help in better execution of the project. Network techniques can serve as indicator of bottle necks and potential trouble spots and this helps in effective preventive handling of pitfalls of that the project progress will as per original plans
(iii)
(iv)
(v)
(vi)
(vii)
(viii)
(ix)
(x)
Network diagram illustrates the type and extent of coordination required amount several functionaries of the project team, viz., designers, managers, contractors and others. Network diagram helps in identifying critical tasks and thereby helps diversion of resources to them so that they are not lagging behind schedule. Network diagram helps in identifying critical path, which may be changing a number of times as time estimates prove inaccurate. So the critical path has to be identified everytime time estimates are changers and this is easily done with the help of the network. Network techniques help in resource allocation. Resources such as labour and machine can be better allocated to project activities with the help of a network analysis. Network help in resource smoothing. That is, when resources requirements are uneven over time, a sort of smoothening or leveling is required. PERT and CPM are useful in this regard. Network techniques help in ascertaining whether or not advisable to crash project time and the impact of crashing on cost of the project. What activities have to be speeded up so as to minimize cost escalation on account of crashing are known with network analysis. Network techniques help in cost control too. Starting works by their LST could help in lock up of capital for a less period than when works are started by their EST. This is a cost control exercise facilitated by network analysis.
RESOURCE ALLOCATION AND LEVELING THROUGH NETWORK
ERT and CPM techniques are not simple static involving the computation of times, EST, LST, EFT, LFT and drawing the diagram. It is a dynamic tool. It helps in resource allocation and resources leveling. Resources allocation means how much resources be diverted to the project concerned day after day as the project progresses. In table : the number of workers required for each activity is given. With that information we can compute what is the human resource requirement day after day. The resource requirement depends on when the activities are scheduled to begin, i.e., as per their EST or LST or any intermediary time. Suppose as per EST the activities are scheduled. Then the human resources needs would be as in table 3
You know in the first eight days only B will be takent up requiring every day 3 labours. On the 9th day, C, D, F and H can be taken up requiring a total of 19 labours and D is completed that day. On the 10th day C,F & H alone are in progress and C is over gby end of day 10. On the 11th day E, F and H are in progress and both E & F are over by end of the day. On 12th day G is taken up as both the preceding activities D & F are over by now. And so on as you see in table 3. Table 3 : Progress of activities and labour needs when activities are scheduled by EST. Days B C D E F G H I J K L M N Total Labour Needs 3 3 3 3 3 3 3 3 19 17 15 7 9 9 6 3 3 3 2 2 119
1 3 2 3 3 3 4 3 5 3 6 3 7 3 8 3 9 10 11 12 13 14 15 16 17 18 19 20 Total 24 Labour days per activity
5 5
2 3
7 7 7 2
5 5 5 5 5 5 3 3 3
4 4 3
3 2 10 2 3 21 2 30 9 8 3 3 2 2 2
From table-3, you know how much labour is required on day to day basis, (see last column) and how much is required activity wise (see lat row). You can now make allocations of human resources to the project.
In the same way, you can find what would be the day-to-day labour needs when the works are scheduled as per their LSt, table-4 gives the same. Between 9th and 17th days, there are differences in the daily needs under the two pattern of job scheduling. During the period 1st 8th day only one critical activity is in operation and during 18th 20th days too only critical activities are operated. So, under both scheduling patterns the labour needs are same. Table 4 : Progress of activities and labour needs when activities are scheduled by LST. Days B C D E F G H I J K L M N Total Labour Needs 3 3 3 3 3 3 3 3 5 5 12 17 19 10 7 7 6 3 2 2 119
1 3 2 3 3 3 4 3 5 3 6 3 7 3 8 3 9 10 11 12 13 14 15 16 17 18 19 20 Total 24 Labour days per activity
5 5
2 3
7 7 7 2
5 5 5 5 5 5 3 3 3 4 4 3 3 2 2 2
10
21
30
Resource leveling means evening out the daily resources needs to the extent possible. You find that under the EST scheduling the labour needs on 9th thorough 17th days are respectively 19, 17, 15, 7,9,9,6 and 3 persons and under the LST scheduling, labour needs are 5,5,12,17,19,10,7,7 and 6 persons per day respectively for the different days. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
The daily needs are highly varying. Certain leveling or smoothening or reducing the variations in daily needs can be attempted. That is what is called as resources leveling. Why is leveling needed? The reasons are: (i) Resources constraint can be one of the reasons. Say, not more than 12 persons are available on any one day, whereas we need as much as 19 persons on one day. By rescheduling non-critical activities using their slack times, the above purposes can be served. Practically speaking, too much needs on some days and too little needs on other days are not signs of good planning. Also, disruption in work is more probable when the peaks and through in resource needs are not ironed out. Optimum utilization of permanent/owned facilities, avoiding ideal time, is possible with resource leveling exercises.
(ii) (iii) (iv)
Say in our case only 12 labours are available on any one day. Is it possible to complete the project on time with only 12 persons? May be some rescheduling can be thought of. The method adopted here is called as heuristic programming. Heuristic mean rule of thumb that works and a collection of these rules is known as heuristic programming. One approach of heuristic programming is rescheduling activities that have larger slack time. A resource leveling is suggested here. Let us go by LST scheduling given in table 4 for all but activities D and F. Let us advance F utilizing the 3 days slack. That is we take the work on 9th itself and complete by 11th. In so doing the labour needs on 9th ,10th , and 11th days go up to 12 persons each day and for 12th and 13th days go down to 10 and 12. So, we satisfy the maximum labour availability condition now. Further a cosmetic improvement is possible, by advancing D by and day to 12th day and by so doing the labour needs for 12th day become 12 and 10 for 13th day. Now the labour requirements from 9th thorough 14th day become 12, 12, 12, 12, 10 and 10 persons. Definitely this is a better arrangement than the one depicate by table 4 or table 3 scheduling. This arrangement also ensures better utilization of permanent employees say 0 persons here. As per LST scheduling on days 9, 10 and 11 there is an avoidable ideal time. Now, after rearrangement, all are fully utilized on these days. Thus, there is a saving in the number of hired nonpermanent labours. The saving is to the extent of 12 days labour. Hence, the need and score for resource leveling.
NETWORK TECHNIQUE IN PROJECT SCHEDULING Network technique is predominantly used in project scheduling. When will each activity be commenced, when the same has to be completed, which activity can be delayed, when will the project be completed and related questions are answered by PERT and CPM techniques. All these require time estimates and sequential relations between jobs. Time estimates are made based on past experience, the job nature and availability of resources. In PERT, 3 estimates of time for each activity is made as was already stated and the expected time worked out using a formula already dealt with. This is needed since PERT deals with uncertain business environment, In CPM only one time estimate is made as it assume certainty condition. But estimates may be revise in both the cases as in assurance in past estimates come to light. The sequence of operations is to be known thoroughly. This is crucial to project scheduling. Again experience and through knowledge of the activities of the project help in setting up the sequence. Once time estimates and sequential relations are known activities scheduling can be prepared. You have to find out EST, EFT, LST, LFT, total slack and free slack. All these have been already explained. Then activities can be taken up as per their EST or LST or some in between times taking advantage of slack of activities. Of course, for critical activities EST and LST are same, also EFT and LFT are also same. That is, they have no slack. Under PERT we can find the probability of finishing a project by certain date. For this we need to know the standard deviation of activity times for critical activities. Std. deviation in the case of activity times is given by: This formula again is unique to beta distribution. Calculate the std. deviation for each of the critical activities. Square each of std. deviation figures. Add the squared figures. Take square root for the summated figure. This is taken as the project std. deviation of the earliest finish time. An Z value is calculated as follows:
Z std. normal variate Due date Expected date of completion Project std. deviation
Corresponding to the Z obtained, from the normal distribution table area under normal curve is found. From that figure, the probability of completion by the due date is known.
We may find the probability of completion by 22 nd day from commencement for out car project, given the expected completion by 20th day. We need to know the three time estimate for the critical activities which are as follows: Activity B H J L M N Tp 10 9 5 5 5 5 Tm 9 4.5 3 3 1.5 1.5 To 2 3 1 1 1 1 (Tp-To) / 6 (10 2) / 6 = 4/3 (9 3) / 6 = 1 (5 1) / 6 = 2/3 (5 1) / 6 = 2/3 (5 1) / 6 = 2/3 (5 1) / 6 = 2/3
Std. deviation of project =
(4/3)2 (1)2 (2/3)2 (2/3)2 (2/3)2 (2/3)2

4 9 4 9 4 9
16 4 1 9 9 41 6.4 9 3
Z Variate
Due date Expected date Project std. Deviation
22 20 6.4 / 3
2 3 6.4
60 64
0.9375
Area under normal curve corresponding to Z = 0.9375 is equal to = 0.825. That is, there is a probability of 0.825 or 82.5% that the project would be completed by 22nd day. The probability computation is helpful in project rescheduling, if need be, where the P is very small, there is need for speeding up the work through commissioning more resources or in postponing the due date. Hence the use of PERT and CPM in project scheduling. CRASHING PROJECT DURATION THROUGH NETWORK Sometimes a project has to be completed sooner than the planned time. In our case the project duration is 20 days. Say, you want o complete the project in 15 days for some pressing reason. Can you? May be you can. By commissioning extra resources you may be able to achieve this. Why extra cost arises? May be you have to work overtime incurring double the normal cost per time. May be you have to hire additional facility paying more than normal hire charges. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
Table 5 gives normal time and cost and crash time and cost for the activities of out car project. The normal cost is Rs. 1,19,000 and the crash cost is Rs. 1,55,750. But you can complete this in 15 days, the new critical path duration with a cost less than Rs. 1,55,750. How? You have to proceed methodically. Table 5 : Normal and Crash time / cost Activity Normal Time (day) B C D W F G H I J K L M N 8 2 1 1 3 1 6 3 2 1 1 1 1 Cost Rs. 24,000 10,000 2,000 3,000 21,000 2,000 30,000 9,000 8,000 2,000 3,000 2,000 2,000 Time (days) 6 1 0.5 0.5 2 1 4 2 1 0.5 0.5 0.5 1 Crash Cost Rs. 30,000 11,000 6,000 6,000 22,000 2,000 36,000 15,000 9,250 6,000 6,000 4,500 2,000 Cost to reduce per day 3,000 1,000 8,000 6,000 1,000 --3,000 6,000 1,250 6,000 6,000 5,000 ---
1,19,000
1,55,750
(i)
Find those activities in the critical path (or paths) where time cqan be cut substantially with minimum extra rupees spent. The goal is greatest reduction in project time for the least increase in project cost.
(ii)
You have to work out the cost of crash per day for each activity. This simply: (Crash cost Normal cost) / (Normal time Crash time)
Route-III is the original critical path. Activity N cannot be crashed. And only activities B, H, I, L and M can be crashed and the crash cost per day works out to Rs. 3,000, Rs. 3,000, Rs. 6,000 and Rs. 5000 for these activities respectively. We take up the least crash-cost-per-time-activity. B or H is our choice. Say you take B for crashing fully. Two days you save now and extra cost is Rs. 2 x 3,000 = Rs. 6,000. Now route III and route II are critical as both have 18 days duration. To cut project duration you have to reduce the duration of both routes. In route II the crushable activities are F(Rs. 1,000), J(Rs. 1,250) and K(Rs. 6,000) and L and M in common with route III. So, the least crash cost activity is F. In route III the least crash cost activity is H(Rs. 3,000). By crashing F & H by one day, the project duration becomes 17 days and extra cost is Rs. 1,000 + Rs.3,000 = Rs. 4,000. Now routes II, III & IV becomes critical each with a duration 17 days. To reduce project duration, crashing has to be done in all these three routes T. He crushable activities in route-IV are: C(Rs.2,000); E(Rs.6,000) and I(Rs.6,000) and I and in common with routes II and III. We choose C for crashing as its is least cost alternative. In route-III, still H is crushable by a day with extra cost Rs.3,000. In route-II, J can be crashed by a day with extra cost of Rs. 1,250. So by crashing C in route IV, H in route-I II and J in route II, project duration is cut by a day to 16 days at an extra cost of Rs. 5,250, i.e. (Rs. 1,000 + 3,000 + 1,250). Now all the four routes are critical with 16 days duration each. We want to reduce the project duration to 15 days i.e. the duration of each of the 4 routes has to be cut by a day. This easily done by crashing L and M at an extra cost of Rs. 3,000 + 2,500 = Rs.5,500. So, the extra cost of crashing is Rs. 6,000 for 2 days cut + Rs. Rs. 4,000 for 1 days cut + Rs. 5,250 for 1 days cut + Rs. 5,500 for 1 day cut = Rs. 20,750. So, the crash cost of the project is only Rs. 20,750, more than normal cost of we adopt the methodology of network techniques for project time crashing.
You note that we crashed only activities B, C, F, H, J, L and M. Others are not crashed. Still we have not exceeded the crash time project duration, viz, 15 days. NETWORK TECHNIQUE IN COST CONTROL The project time crashing is itself an exercise of control when higher penalties are expected for not being able to complete the project on time. Say a project has to be completes by 15th day, failing which a penalty of Rs. 10,000 per day is charged. As per your scheme of things the work can be completed normally by only 20th day. So a penaly of Rs. 50,000 is imminent. You can at this time try crashing and say the crashing involves only an additional cost of Rs. 22,000/- You have now saved Rs. 28,000/- is it not a cost saving and cost control. Again, crashing project time can be a cost saving device in an another way. You complete the project sooner than later. You have indirect costs i.e. over-heads or on cost which are proportional with time. Hence, the use of PERT/CPM in cost control. Quicker completion of a project might also benefit the firm in the form of incentive for early completion. It is benefit or an equivalent to cost savings. Cost and time over-runs can be strictly avoided / controlled using network. So, it is a cost control device. Idle time to permanent workers / facilities and demand for hired personnel / facilities can be reduce through schematic scheduling and resource leveling exercises. This again helps in cost control and cost reduction. Lastly, by scheduling activities according to LST, as against according to EST, capital cost, pilferage, etc. can be reduced. Take our car project. Say, a labour days work involves a total outlay, inclusive of all, Rs. 1,000. Then the daily and cumulative outlay under LST & EST scheduling would be as in table-6. You find that excess capital (funds spend on work completed) is located up in EST scheduling compared to LST scheduling, during 9th to 16th day. By scheduling work as per LST, you can reduce the capital cost. This is an important cost control area, when the project is large with long duration.
Table 6: Daily and cumulative outlay (Figs. Rs.) Days Daily Outlay (1) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. (2) 3,000 3,000 3,000 3,000 3,000 3,000 3,000 3,000 5,000 5,000 12,000 17,000 19,000 10,000 7,000 7,000 6,000 3,000 2,000 2,000 LST Cumulative Outlay (3) 3,000 6,000 9,000 12,000 15,000 18,000 21,000 24,000 29,000 34,000 46,000 63,000 82,000 92,000 99,000 1,06,000 1,12,000 1,15,000 1,17,000 1,19,000 Daily Outlay (4) 3,000 3,000 3,000 3,000 3,000 3,000 3,000 3,000 19,000 17,000 15,000 7,000 9,000 9,000 6,000 3,000 3,000 3,000 2,000 2,000 EST Cumulative Outlay (5) 3,000 6,000 9,000 12,000 15,000 18,000 21,000 24,000 43,000 60,000 75,000 82,000 91,000 1,00,000 1,06,000 1,09,000 1,12,000 1,15,000 1,17,000 1,19,000 Excess Cost Col. (5) (3) (6) 0 0 0 0 0 0 0 0 14,000 26,000 29,000 19,000 9,000 8,000 7,000 3,000 0 0 0 0
During 9th day to 16th day EST scheduling involves higher outlay out LST scheduling. Going for LST is cost saving. RESOURCE MONITORING AND CONTROL Resource aggregation, resource scheduling and resource smoothening are the three aspects involved. Resource aggregation is the acculation of resource usage based on the results of time scheduling. It may be interesting to see what resources would be used if every activity were started at its earliest start (incidentally, beware of programs which claim to be capable of resource scheduling but which, in fact, can only carry out resource aggregation without being able to perform leveling). A resource aggregation can show the amount of each resource required on each day of the project. Sometimes this will be expressed cumulatively, particularly if the resource in question is money. The results should be available either in the form of a table, a series of printed, or plotted histograms, or a plotted curve. It is sometime a good ideal, before carrying out the resource analysis of a project, to do a resource aggregation based on the earliest start of each activity, followed by author aggregation of resources used based on the latest start. If it is anticipated that lack of resources will delay the project, these latest starts should be based on an estimate of the project completion data. The comparison for these two graphs will show the two extremes of probable resource usage. If they are close, together, there is not much room for improvement by resource analysis. Once the resource aggregation have been done, the resulting resource schedule should lie somewhere in between the earliest and latest time aggregation. It should look much smoother than the time analysis based results. The improvement over the earliest/latest case should show the amount of effective work the resource analysis process has carried out. In cases where resources are effectively unlimited, and the goal is to produce a smooth utilization of resources, then one should look at the results of a resource aggregation based on earliest and latest starts to decide where to set the initial available. Most resource smoothing programs will work reasonably well if the availability of every resource is specified as being zero for the entire project, but they work better if a positive but tight availability is allocated initially. This availability can be estimated by inspection of the resource aggregation tables. Early in the history of critical path analysis methods, attempts were made to automate the resource scheduling process. The purpose of this was to enable a C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
computer to add up the usage required for each type of resource, taking into account all activities in the network, on a day by day basis. The computer would then be used to compare this estimated total requirement with the numbers of resources expected to be available each day. Should there be insufficient resources available for all the tasks on a given day, some of the tasks would be rescheduled (delayed) in order to shift the timing of resource needed. If the float available for delayed activities were sufficient, then it would be possible to give thee jobs scheduled start dates lying somewhere between their earliest and latest starts. These would be the dates at which each activity should be started from the point of view of sensible resource usage. If this were possible to achieve for all resource, then the project could be scheduled for completion within its critical path duration using the available resources. Unfortunately, this kind of happy outcome is rare. Frequently targest dates are assigned projects on the basis of customer pressure and competitive bidding, with little thought to how the date is to be achieved. The planner will have a difficult enough time to create a time analysis schedule, which will bring the critical path down to the desired length. During the process, he will probably make a number of sub-critical paths critical also, by overlapping operations where possible, shortening pessimistic duration estimates, increasing resources applied to tasks, and so on. The more the time-analyzed network is squeezed down, the less flexibility will remain for the resource scheduling algorithm to play with. More frequently one will eventual arrive at a point where an activity cannot be squeezed in, even by decaying it right to the end of its float. When this happen a decision has to be made. Should the resource be exceeded? Should be project be delayed past its planned end date? One question a planner may wish to ask is: how long will the project take if I keep within the available resource? If more resources can be acquired for the project, either by adding more men and equipment, or by working overtime, then it may be necessary to have a threshold level specified for each resource. The objective to keep within the normal availability of a resource if possible, but use the additional threshold level if it would otherwise become necessary to delay the project, this is particularly appropriate for overtime working, which one would prefer to minimize, for reasons of both cost and efficiency. Another situation which automatic resource scheduling can help to resolve is the one where an essentially unlimited workforce is available to carry out a job.
In this case, the job could be accomplished at its critical path time analysis duration, by starting every activity at its earliest start time. There would then be large peaks and troughs in the usage of manpower causing much hiring and firing of personal. It is not easy to hire manpower for new hours at a time. One would prefer to hire a fixed number of men for the entire projects, or at least only change the level of workforce occasionally. Resource scheduling can help by carrying out a resource leveling process. The purpose of this is to give a fairly lean availability of the basic resource to be project, allow activities to use their total float in order to keep within this smooth usage, and when the float is used up, to start using another layer of availability of the resource. The result is a smooth recommended resource utilization, which minimizes hiring and firing. There is some advantage in carrying out resources scheduling backwards from the end of the project. The question being asked is When must I start in order to carry out this project? The answer being given is usually Yesterday. Projects involving assembly processes are sometimes best handled in this way. One important criterion is the value of investment made in the project whilst it is in progress. If the delivery of some costly item can be delayed until near the end of the project (and the payment date), this can be valuable in terms of interest charge for the money involved. If work is delayed until near the payment date, any variable in terms of interest charges for the money involved in the work, particularly if subcontractors are involved, can show a financial gain of the same kind. The main objection to scheduling projects backwards from the end, as far as resource are concerned, is that the high priority items tend to be considered first in the process, to be sure of fitting them in. If they are considered first in a backward scheduling process, then they occur towards the end of the project. This means that there is not very many margins available if there is a delay on one of the high priority items. It may be preferable to schedule such projects forwards from the beginning, but use order. Delivery activities for high cost materials, or for any items which do not use resources and which can be put off until later in the projects.
PARALLEL AND SERIAL SCHEDULING Considerable effort has been expended in the search for mathematically ideal project scheduling nethods. Thereticians have tried to apply many ofhte C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
popular techniques to operational research to resource allocation, with sine success. Linear programming approaches exist which will find the optimum solution to networks of up to live activities. Mathematical optimization algorithms tend to over-kill the problem and use more computational resource than is practical. Parallel Scheduling This can be visualized as follows. Imagine a network with several possible start points. This network is to be schedule on a day-by-day basis through the project. First we consider day one. Take all the start activities of the network. Those are all the activities, which could start at day one. Build an eligibility list consisting of those activities. Take the activity with the highest priority from the eligibility list. Can it start yet? Is its earliest start less than or equal to the day we4 are considering? If so, compare its resource requirements for its nest day with the resource availability on day one of the project. If all relevant resources are available in sufficient quantity, Schedule the first day of that activity to occur on the first day of the project. If that completes the activity, then include all successor activities into the eligibility list. Repeat the process for the activity with the next highest priority from the eligibility list, and so on until all eligible activities have been considered for that day. Then move to the next day of the project. Any amounts remaining of pool resources are rolled over to day two. The actions described in the above paragraph are repeated for day two scheduled. Notice that this process works more naturally when the resources available to a project are limited, and the time available to complete it can be extended indefinitely. Serial Scheduling Serial scheduling considers each activity in turn, rather than each day of the project in turn. It can be visualized as follows: Consider a two-dimensional table of resource availabilities. It will have an amount available for every resource for every day of the project. Against this there is a pre-sequenced list of activities, which comprise the projects. In addition to its time analysis results, each activity will have an earliest feasible start figure, which will initially be the same a sits earliest start. Each activity is taken from the list of activities in turn. The section of the resources tables between the activity earliest feasible start and the activity late C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
finish is scanned to see if the activity ban be scheduled as a whole. If so, it is scheduled at the first available point. If not, then if the activity is split able, an attempt is made to fit the activity in between its earliest feasible start and latest finish in sections. If this is impossible, an extra layer of resource availability is called in for any resource which was in inadequate supply, and the process is repeated for the activity, until it can be fitted in. If an activity is scheduled at a point later than its early start, the earliest feasible start of all successor activities are updated to the greater than the finish of the activity that his just been scheduled. When all this has been done for every activity in the network, the project has been scheduled. Notice that this process works more naturally if there is a fixed end date to the project, but the resources can be exceeded if necessary. Serial methods are now more popular than parallel methods, for a number of reasons. Parallel scheduling tends to split activities rather more than serial. Ideally, a parallel scheduling a algorithm would like to be able to split any activity into one-day sections, particularly if activities have complex resource requirements, or resource availability changes during the project. Parallel schemes are typically heavy users of computer resources, which in the time taken to carry out a schedule, and in the amount of computer memory required per activity (which can limit the size of network that can be calculated on a given computer). Special Features in Resource Levelling The above descriptions of the parallel and serial techniques show the basic method involved in each case. There are many in finements and special features, which can be added to both processes. A threshold amount can be associated with each resource, as mentioned above. This a an additional emergency allocation of the resource which can be used if the projects about to run behind time. The threshold resource level cuts in when activities would otherwise be delayed past their latest finish. Serial leveling schemes sometimes have a feature whereby two project end dates are specified a desired project end and a project end. Resources are classified into two sections important and exceedable. If the scheduling system would have exceeded the availability of an important resource, and (its threshold level, if there was one), then the activity is allowed to delay itself pats its latest finish. It is not allowed to delay past its secondary latest finish that is, the latest finish relative to the maximum project end date. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
PROJECT MANAGEMENT SOFTWARE-GENERAL FACTORS How is software for project management selected? Practical considerations can short cut the software selection process. If computer facilities already exist, and are easily accessible, it may just be a matter of discovering whether a program has already been acquired. It not, or if that program is inadequate, the first step might be to find out what program are available for the computer equipment, which is currently installed. Computer manufactures maintain catalogues of programs, which have been made commercially available for their equipment. Organizations in the industry can advise on what may be available, or point out the major companies who supply software for project management. Even if the planner does have access to a large company computer with an appropriate program, he should consider that he will be sharing a facility with other users. He will not necessarily have the highest priority among them. Before committing himself to use the locally available facilities, he should experiment to see whether delays in computer across or in calculation time when using this equipment are acceptable in the context of the project he is controlling. It may be better acquire a small computer completely under his own control, rather than to rely upon a large shared facility. The wider range of possible machines under these circumstances will imply a wider selection of computer programs. Many programs are only available for a restricted range of computer equipment. The planner will wish to choose a combination of hardware and software appropriate to his situation. Consider in a little more detail some of the factors, which affect the choice of software package. Many of the categories already summarized will overlap a little. Capacity and speed, for example, are interrelated in that a theoretical ability to handle networks of many activities may in fact be unusable because long calculation times make the analysis of large networks undesirable. The maximum network size which a computer program can handle may vary from a few tens of activities to millions. The limitation almost always applies to a single network. The user is allowed to have many independent network but no one of them may exceed (say) 2000 activities. The limit on the number of activities per network is generally determined by the computational algorithm used in the program and by the memory capacity of the computer. The larger the memory, generally the larger the network which can be handled with a given computational method.
Sometimes, programs with a relatively low of network size will calculate network sections independently and then combine the results. Taking a very crude example, consideration network which divides itself into two distinct halves-say phase I and phase II of a project whereby the connections between one part and the next run entirely through a single activity (perhaps a decision point as to whether or not to commerce the second part at all). Then it is very easy very easy to compute part I first, and then, use the earliest finish of the end of Part I as the project start of part II. If there is a definite required end date to the project, as is so often then case, then that end data can be applied to part II of the project. The latest start of the first activity of part II can then be applied to part I as a required finish date. To express the computation of the network in critical path terms, please refer to Fig. Notice that three computational passes are required to calculate the two networks. If a program must resort to this kind of subnetting or interfacing in order to be able to calculate a network of the required size, it will probably not be operationally efficient. The number of passes of the data tends to grow rapidly as the number of independent network sections, and as the number of points of contract between them increases too. In general it is unwise to attempt to stretch the capacity of a program in this way. Better use a tool that will be adequate for the maximum network size envisaged. Allow an appropriate safety margin for the fact that networks tend to grow, particularly if there is a computer available to solve them (yet another of the countless corollaries of Parkinsons first law). The above comments should not be taken as advice to avoid subnets and interfaces in general only in those cases where they are forced upon the user by computer related limitations. It may well be convenient to divide a project into subnets, provided that the computer program being used can take them in a single mouthful for calculation purposes. Generally, subnets can be numbered independently, so that same activity number or event number can be used in two separate without fear of confusion. This is particularly helpful when the same general pattern is repeated in different parts of an overall network for example the installation of pumps occurs many times in networks describing the construction of an oil refinery. It may be possible to duplicate one network and include it in many different places. It may be convenient to assign responsibility for different network sections to different individuals, particularly if the network is large. Normally one will allocate a different range of possible activity number to each person
responsible for a network section, but such schemes have been known to go awry. When they do, the logic is sometimes difficult to disentangle. Where subnets are used, they must be able to connect at on or more points into the main network. These connection points are commonly called interfaces. The activities which are identified as interfaces do share a common numbering system with the overall network, and so provide connections with it. The fewer connection points for each subnet, the simpler will be the evaluation of parts which cross several subnets and hence perhaps more than one are of responsibility. If each planner working on a projects has activities separated into his own individual subnet of subnets, he can more easily update the tasks under his control with progress information, without needing close co-ordination with his colleagues. Many computer programs have a quoted limit of 32,000 events for activity-on-arrow network, or 32,000 activities for precedence networks. The Particular figure is a common one because it arises as a consequence of a popular type of computer design. This design tends to group the fundamental binary bits of which computer memory is constructed into sets of eight at a time. Two sets of eight makes a conveniently sized storage medium for holding a sequential activity counter. Such a counter can count up to 32,767 easily, and with some difficulty can be persuaded to count up to double that figure. This is why many programs quote a theoretical limit of 32,000 or 64,000 activities. Nevertheless, the practical maximum network size may be well below this figure, either because a very large computer memory could be needed for the program in question to attain such a maximum, or because calculation time might be unacceptably long. There may well be several capacity limitations to a given computer program. There may be different limitation on the network size which can be handled in resources analysis as opposed to time analysis. This is because different computation all methods will be used for these two functions. There may be limits to the number of resources which can be processed per projects, and limits to the number of resources which any one activity can be specified as using.
FACTORS INFLUENCING PRICE OF PROJECT SOFTWARE
The main factors affecting the price of computer programs are: 1. The maximum network size, which can be computed.
2. The kind of data which can be handle (arrow, precedence, arrow and precedence, resources, costs, materials and other associated data) 3. The calculation features (time analysis, resources aggregation, resources smoothing, probabilistic analysis, cost performance analysis, and so on) 4. Flexibility of output reports, graphical presentation of results, and the like. 5. Ease of use (screen input, menus, special updating methods) 6. Speed (calculation speed, updating speed, report production speed) 7. Level of support provided to the user (documentation, training, and hotlines). 8. Software maintenance costs and enhancement schemes.
SELF ASSESSMENT QUESTIONS: 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. Define Project Control and why it should be made? What are the functions of Project Control? How a project can be controlled significantly? Why does the control of projects in practice tend to be ineffective? Discuss the relative merits and demerits of different techniques of project control? What is Milestone Analysis and how it will be helpful to control the Project Differentiate the PERT & CPM What is project monitoring? State the information system needed therefore. What is system integration? State its importance in project monitoring and management. Explain the role of computers in project monitoring. Resource monitoring and control involve the resource aggregation, resource scheduling and resource leveling. Explain. Explain factors to be considered in choosing project management software.
LESSON 14 PROJECT REVIEW OBJECTIVES 1. 2. 3. To know the nature and significance of project review To study the modus of conducting project review To highlight the project review process adopted by World Bank
PROJECT REVIEW Project review is an important aspect in the process of planning. Every socio-economic programmes needs to be assessed for its results. One can say that the need for and importance of review of planned programmes was realized and stressed along with the initiation of the planning exercise itself. Review is an important tool to identify the shortcomings during the entire implementation period and to develop or initiate corrective actions to improve the delivery and administrative purposes. Such studies answer question like: whether the project is implemented in the ways specified; whether the methods, process, procedures etc. adopted are appropriate to achieve the set goal; whether the personnel are sufficiently motivated, trained and adequate for the success of the project. Similarly, the project evaluation studies are conducted for assessing the impact of the project and also to examine the project efficiency. Thus the role, function, objective and purpose and of Project Review is not only to help, guide, direct and aid the planners, project sponsors, policy formulators but also help the administrators, executives, scholars and academicians. In review, the most fundamental task is the formulation of criteria of review and also determination of the time for the study. On the basis of these criteria of Review and also determination of the time for the study. On the basis of these criteria the results or outcome of the projects are assessed. Review/Evaluation process essentially involves some important steps viz. Data collection, estimation of cost benefits and profitability of the project and comparing it with the required rate of return to decide acceptance or non acceptance of the project. Data collection may be made both from secondary sources or published documents viz. company balance sheets, government publications, publications of independent research bodies or industrial association as well as from primary sources like the industry and market. Once the data is collected, it is necessary to shift the same for eliminating the irrelevant and retain only the significant information. On the basis of the data collected and collated an estimate may be prepared of the cost of the project C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
starting from cost of the land and building and going through elements like cost of plant going through elements like cost of plant and machinery, duties, and taxes, working capital needs, estimated pre-operative expenses and contingencies to arrive at an estimate of total cost of the project. Once the cost of the project is estimated, it is necessary to make certain assumption as regards the schedule of implementation, capacity build-up of production, cost of raw material, other related costs, realizable selling prices etc. in order to arrive at the returns and the profitability of the project. A comparison of the estimated and required profitability will form the basis of selection or rejection of the project. What constitutes estimate/required profit ability? It really depend on the nature and focus of project evaluation. Project review is the final phase of Project Management. The various facets of project review are Initial review Performance evaluation Abandonment analysis Behavioural issues in project abandonment Administrative aspects of capital budgeting Evaluating the capital budgeting system of an organization. INITIAL REVIEW It is the first stage in the project review process. The initial review of a project is of two types. Control of project in progress Post audit
Control of Project in Progress The expenditure authorization for a project generally specifies how much can be spent by whom and when. To ensure that the actual expenditure does nto deviate significantly from the authorized expenditure, periodical control is exercised during project implementation. Post audit An audit of a project after it has been commissioned is referred to as post audit or post completion audit. Most firms do a post audit for almost every project above some threshold limit. Such an audit compares actual performance vis--vis planned performance when the operations of the project stabilize.
Performance Evaluation While the post audit is typically a one-time exercise, performance evaluation is done periodically. It seeks to measure the performance of the project on an ongoing basis. Performance evaluation may be done in terms of economic rate of return or book return on investment.
Economic rate of return for a given year Cash flow Changes in present value Present value at the beginning of the year
Book return rate of return for a given year
Cash flow Changes in book value Book value at the beginning of the year
Abandonment analysis Ordinarily a project is analyzed on ht assumption that the firm will operate it for a given period. Often, however, it may be possible to abandon the project before this period. This possibility of abandonment, when considered explicitly in project analysis, may change the decision itself. A detailed discussion about this analysis is given in the project control techniques paper. (Please refer) A basic rule of capital budgeting says that investment decisions should be guided by the net present value criterion. Applied to a project continuation versus abandonment decision, this rule says the project must be abandoned if the net present value associated with abandonment is greater than the net present value associated with continuation is greater than the net present value associated with abandonment. Administrative aspects of capital budgeting The discussion of administrative aspects of capital budgeting has been organized as follows: identification of promising investment opportunities classification of investments submission of proposals decision making preparation of capital budget and appropriation implementation performance review
The relationship between the firm and its environment should be regularly analyzed, corporate plans and perspectives must be widely shared, and the creativity and imagination of the employees must be tapped. To generate ideas, suggestion schemes are usually recommended. Classification The classification of project proposals refers to the grouping of similar proposals into separate categories. Classification helps in decision making, budgeting, and control. Submission of proposals To ensure that all relevant information for proposals is gathered systematically, a standardized proposal form may be used by all the sponsors of investment projects. The proposal form before it reaches the capital budgeting committed should normally be routed through persons who can comment on the estimates furnished by the sponsor. The routing channel, however, cannot be standardized. It will vary from one organization to another and, perhaps, from one proposal to another. Routing a proposal through several persons provides a mechanism for obtaining the views and judgments of others. This also facilitates coordination of inter-related activities. Obviously this system would yield benefits only when the persons through whom the proposal is routed give thought to it rather than merely forward it in a routine manner. Decision Making The optimal capital budget for the firm as a whole can be drawn up only when capital investment decisions are completely centralized. In most cases, decentralization is required to facilitate quick decisions, develop executives, and conserve top management time for important natters. That is why most of the companies empower executives at different levels to take investment decisions involving outlays up to certain limits. Preparation of Capital Budget and Appropriation Smaller projects which can be approved at lower levels may be covered by a blanket appropriation so that they can be undertaken expeditiously. Projects of larger magnitude may be included after approval in the tentative capital budget. The final capital budget, which serves as the basis of budgetary appropriations,
should be drawn up after the availability of funds is ensured. Often careful planning of funds is required before budgetary appropriations are made.
Implementation Delays in implementation and consequent increases in project cost are very common. In many cases over-runs have been between 30 per cent and 100 per cent. These facts emphasize the need for expeditious implementation at a reasonable cost. For this the following points are helpful: Adequate formulation of projects Use of the principle of responsibility accounting Use of network techniques Exercise of proper control Performance Review Performance review is meant for evaluating actual performance vis--vis projected performance. It is concerned with the verification of assumptions regarding both revenues and costs. REVIEW PROCESS Project can be reviewed in different dimensions. Essentially it has to be evaluated from the marking technical, financial and commercial (Profitability) dimensions. Let us discuss briefly all these dimensions of project review. Financial Review The financial reviews seek to determine the: 1) Reasonableness of the estimate of capital cost. 2) Reasonableness of the estimate of working results 3) Adequacy of the rate of return. 4) Appropriateness of the financing pattern
Reasonableness of the estimate of capital cost. While assessing the capital cost estimates efforts are made to ensure that: i) Padding or under-estimation of costs is avoided.
ii) iii) iv) v)
Specification of machinery is proper. Proper quotations are obtained fro potential suppliers Contingencies are provided and Inflation factors are considered.
Reasonableness of the Estimate of working results: the estimate of working results is sought to be based on: i) ii) iii) iv) A realistic market demand forecast Price computations for inputs and outputs that are based on current quotations and inflationary factors. An appropriate time schedule for capacity utilization and Cost projections that distinguish between fixed and variable costs.
Adequacy of Rate of Return: The general norms for financial desirability are as follows: 1. 2. 3. Internal rate of returns Return on investment Debt-service coverate ratio : : : 15 per cent 20-25 per cent 1.5 to 2.0
In applying these norms, however a certain degree of flexibility is shown on the basis of the nature of the project, the risks inherent in the project and the status of the promoter. Appropriateness of the Financing Patterns:The institution consider the following in assessing the financial pattern: A general debt, equity ratio norm of 2:1 A requirement that promoter should contribute 15% to 20% of the project cost. Stock exchange listing requirements The means of the promoter and his capacity to contribution reasonable share of the project finance. Financial review: Two aspects in our discussions of financial review, two questions need to be answered: 1. 2. How financial institutions define the cash flow stream? How financial institutions calculate the debt service coverage ratio?
Cash flow stream Among the three methods of assessing cash flow stream. The total funds point of view method from which a project may be evaluated and defined the measures of cash flow stream applicable to these points of view. Financial institutions view a project from the total funds point of view: Let us see how the cash flow stream defined by them compares with the cash flow stream applicable to the total funds points of view. Cash flow stream defined Cash flow stream (total by financial institutions funds of view method) 1. Initial flow Outlay on fixed asses Outlay on fixed assets plus current assets plus current assets depreciation Earning before interest Profit after tax + and taxes Depreciation + interest on short term borrowings (1-tax rate) + interest on term loan (1 tax rate) Residual value of assets + Net salvage value of realizable value of fixed assets + net salvage current assets value of current assets.
2. Operating flow
3. Terminal flow
Comparing the cash flow streams given above, we find that: a. b. c. The initial flow is defined identically in both the cases The operating flow is defined in pre-tax terms by the financial institutions The terminal flow is defined in both the cases as the sum of 1. the residual value of fixed assets and 2. the realizable value of current assets
However the procedures of estimation seem to be different financial institutions, typically define the residual value of fixed assets as equal to 5 percent of the initial cost for non-depreciable assets. Clearly no explicitly effort is made to estimate the likely salvage value at the end of the economic life and the tax liability thereon as part of an exercise to establish the net salvage value. Likewise, the realizable value of current assets is typically put as equal to its par value. This procedure x is simple and obviates the need to consider the effect of tax factor.
Debt Service Coverage Ratio: The debt service coverage ratio (DSCR) has been defined as The calculation done by the financial institutions is however slightly different. In their calculation the DSCR of each year is determined separately and then the arithmetic average of these yearly DSCR is taken. In symbols, the overall DSCR as calculated by the financial institutions is as follows: It may be noted that the DSCR, as calculated by the financial institutions is either to or greater than the DSCR as calculated by Eq. A given above. Refinements in Financial Evaluation: The financial evaluation that is presently done may be strengthened by a systematic analysis of risk and inflation. Risk analysis: The ten year projection and subsequent analysis based on them is done under a single set of assumptions. In view of the risks characterizing investment projects it is advisable to look at the possible variations in the key factors and examine their impact on profitability. For this purpose, the techniques of sensitivity analysis and scenario analysis should be employed routinely. In addition, the technique of montre earlo simulation may be employed for projects involving substantial commitments and considerable risks. Inflation analysis: Typically, financial projections are based are based on current prices/costs. Implicit in this procedure is the assumption to move in random. Where different inflation rates are applicable to various items of revenues and costs, the same should be explicitly incorporated in financial evaluation. Better monitoring: While Project Monitoring and control is done reasonably during the implementation stage, it is done less effectively during the operational stages. This may be because of lack of adequate personnel and should monitor the needs of a large number of projection and continuing basis. Given the importance of monitoring and control during the operational stage it may be necessary to a) b) c) d) e) augment the manpower engaged in the task computerize the monitoring routines design check lists which focus sharply on critical areas develop sound remedial measures to cope with sickness right in the incipient stage and review the monitoring procedures periodically to strengthen them
Technical Review The technical review done by the financial institution focuses mainly on the following aspects. C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
1. 2. 3. 4. 5. 6. 7. 8. 9.
Project mix Capacity Process of manufacture Engineering know-how and technical collaboration Raw materials and consumables Location and site Building Plant and equipments Break-even point
The technical review is done by qualified and experienced personnel available in the institutions and/or outside experts (particularly where large and technologically sophisticated projects are involved). Marketing Review The importance of potential market and the need to develop a suitable marketing strategy cannot be over-emphasized. Hence efforts are made to: 1. Examine the reasonableness of demand projections by utilizing the findings of available surveys, industry association projections, planning commission/DGTD projections and independent market surveys (which may sometimes be commissioned). Assess the adequacy of marketing arrangements in terms of promotional effort, distribution, network, transport, facilities, stock levels etc. Judge the knowledge, experience and competence of key marketing personnel.
2.
3.
Marketing Review: In order to judge the managerial capability of the promoters, the following questions are raised. 1. 2. 3. How resourceful are the promoters? How sound is the understanding of the project by the promoters? How committed are the promoters?
Resourcefulness: This is judged in terms of the prior experience of the promoters the progress achieved in organizing various aspects of the project and the skill with which the project is presented. Understanding: This is assessed in terms of the credibility of the project plan (this includes, inter alia, the organization structure, the estimated costs, the financing patterns, the assessment of various inputs and the marketing programme) and the details furnished to the financial institutions.
Commitment: This is gauged by the resources (financial, managerial, material and other) applied to the project and zeal with which the objectives of the project. Short-term as well as long-term and pursued. Managerial review also involves an assessment of the caliber of the key technical and managerial personnel working on the project, the schedule for training them and the remuneration structure for rewarding and motivating them. Economic Review The economic review looks at the project from the large social point of view. The methodology adopted by the financial institutions for the purpose of economic evaluation is lebelled as Partial little Mirrless approach. In addition to the calculation of economic rate of return as per this approach, they also look into two other economic indicators viz. Effective rate of protection and Domestic resource cost The economic review done by the financial institutions is not very rigorous and sophisticated. Also the emphasis place on this review is rather limited. So, it is essential to give increased emphasis and improved methodology for vital aspect of project review. Project Review by World Bank The World Bank evaluation of project includes all the above factors. Additional special features which are covered by the World Bank in evaluation of the project are given below. 1. World Bank places considerable emphasis, particularly in the world countries, about the availability of infrastructure in the supporting facilities. While evaluating the projects they generally insist on complete arrangement of infrastructure facilities and commitments in this regard from the concerned. Project management capabilities of the team in charge of the project is also one of the important considerations reviewed by the appraisal terms. They in fact go into the bio-data and the other details of the key persons and sometimes put conditions for a suitable persons to look after the aspects of the project where they feel that the management aspect is weak Besides the technical feasibility of the project, the World Bank put some emphasis of the marketing arrangement and the marketing feasibility of the project. This is a fact that normally the project which is technically feasible would come up and start function ship but the marketing arrangements are major cause of failure of the projection case either there is no demand or the project is unable to compare with
2.
3.
4.
5.
its competitors in market. The World Bank reviews the production capacities available in the marketing area. The marketing network proposed by the projects as well as marketing set-up is thoroughly reviews to ascertain the adequacy of marketing arrangements even at the stage of project appraisal. The world Bank also reviews the working capital arrangement of the project in detail to ensure that the project has adequate arrangement of working capital for operation and does not lack working capital. Other important aspects which the World Bank reviews is the economic analysis of the project. The project is not supported by the World Bank, if it does not have a proper economic rate of return, The economic analysis considers the benefits of the project not to the project corporation but to the nation as a whole. The project taken up by the World Bank for financing only in case the economic rate of return is favourable.
Requirements of Proper Review: There are varied opinions about the requirements for adequate evaluation. So, the project can be evaluated under the following conditions.: 1. 2. 3. 4. Clear statement of the goals and objectives Agreed upon criteria for assessing objectives Project targets are explicit and measurable Intervention or treatment is explicit PROJECT MANAGEMENT OF AN
EVALUATING THE ORGANIZATION
The soundness of the project management system of an organization may be evaluated in terms of the following criteria: Results Are the results of the capital budgeting system consistent with the goals of the organization? Are efficient techniques being employed for purposes of capital expenditure planning, decision making and control? Are the premises underlying capital budgeting communicated to those who participate in this process? Is there meaningful delegation and decentralization which permits decision making at appropriate levels? Are the policies, methods of analysis, and procedures
Techniques
Communication
Decentralization
Intelligibility
understood by different segments of the orginisation which are involved in capital budgeting? Flexibility Does the system have sufficient flexibility respond to the dynamic changes in the environment and to permit variations in approaches for projects with differing characteristics? Are adequate control being exercised in the simple mentation phases to ensure that slippages are mitigated? Is there a systematic review of capital investments which permits meaningful feedback for improving the system and its effectiveness?
Control
Review
PERFORMANCE AND IMPROVEMENT Ideally, a project will be considered totally successful, if it gets completed on time, within the budget and performs exactly to the designers specifications. But this is tall order and many projects would not meet thee requirements. A project is considered to be a total failure if it is abandoned half-way; if it is not producing expected qualify of product and if it becomes sick soon after going into commercial production. In real life, a project cannot be considered either a total success or a total failure it would fit somewhere in-between. Here, the project manager or investor must keenly watch how the project is being managed when it is in progress. Time and cost overruns are the most commonly used indicators of project performance. Well managed project could be completed with minimum of time and cost overruns. The ratio of output to the cost incurred is achieving project objectives is also an indicator of project performance. Productivity is also an indicator of performance which states that how resources have been utilized either for production of goods and services or for creation of facilities for the same. Consideration of value is essential for improving project management performance. Value, which can be expressed as performance, improves only when performance is achieved as at to extra cost or when cost can be reduced for the desired level performance.
Do-it-yourself Trap Cost is the prime factor relating the project management performance. Many people would feel to do everything themselves to bring down cost. This sort of thinking often results in the owner trying to do a project all on his own. Owners use to engage a team to manage his project, engage labour contractors for construction and supervise the design, procurement and construction work all by himself. This policy maximizes the time and cost overrun. It imposes a heavy land of co-ordination on a working group. The cost of having enough experience outweighs any apparent advantage in ones handling the project all on ones own. Turn-key Trap Those who dont have adequate expertise, often decide to use the turn-key approach for efficient execution of a project. The owner expects that, the turn-key contractor can take care of all the troubles of project execution and hand over the key to the owner, when the plant is ready of operation. Some people believe that, this is the surest way to complete the project not only in the shortest possible time but also at least cost. But, the lessons fro turn-key contract say that, if the owner does not select the right contractor, there will be no end of trouble for him. The CM and DM companies The owner, when he is not doing things himself, needs someone who is not working for profit. These are the CM (Construction Management) and DM (Design Management) companies. These companies work as the owners agents for a fee and have the owners interest uppermost in mind. They do not gain any profit from the sale of hardware; they earn a fee from the sale of their services and their fee represents a small precent of the project cost. As owners interest is, therefore, likely to be best sewed and the project cost is likely to be the lowest, when the project is handled by a competent CM or DM company. CONCLUSION Thus, the responsibility of the review authority lies in balancing judiciously different consideration for arriving at a proper decision. There can be readymade formulae, by using which a term loan proposal can be pronounced as acceptable or otherwise. Decision making in this area calls for full appreciation of all relevant factors and sound judgment based on experience. SELF ASSESSMENT QUESTIONS 1. 2. 3. What are the special features of Project Review by World Bank? Describe the review process of an industrial project. How the financial review can be made successfully?
4. 5. 6. 7.
Why project review should be made? Explain the process of evaluation of project management system of an organization. How will improve the performance of project management. Give an overview of project management environment in a developing country like India.
LESSON 15 PROJECT AUDIT Professional management of project needs a methodology tp carry out a regular check as to whether the project is progressing as scheduled, in scope and in time. In other words, a good system of project audit will go a long way in facilitating prompt and effective project implementation. Project audit as a formal and systematic examination of the performance of an ongoing project as compared to its requirements. It involves measurement against predefined and relevant standards. It also constitute and independent and authentic source of information and critique on the project and might often call for the auditors personal judgment. Without impinging on enterprise managements prerogative and responsibility, it supports management in diagnosis and decision-making. OBJECTIVES OF PROJECT AUDIT The objectives of project auditing can be viewed in terms of the help it renders to the enterprise management in: Creating awareness among the project staff of the types and magnitude of the problems that are likely to be encountered in completing the project and producing quality products, in planned volume and at competitive costs. Providing a clean picture, from time to time, of the actual status of the project. prompt identification of the factors that might cause product quality problems or lead to time and/or cost overruns timely spotting of a variety of generic problems that are associated with execution of projects. Enabling the creation of a good information base for a proper estimation and costing of the project. Assisting in the establishment of appropriate standards and system and recommending suitable work techniques; Identifying the specific training needs with references to the project tasks; and Formalizing the experience and expertise in project management in order to be able to provide consultancy services to other enterprises. The project auditor has to investigate the underlying records. Ascertain the tangible results of work done, look at the process and caliber of project management, examine the projecxt methodology and techniques and et a clear
picture of rthe project organization and controls. Having gone through the above aspects, he has to express his comments deliberately one the following lines: 1. 2. 3. 4. Comment on current status; forecast the future status; Highlight critical management issues; Point out exposure to risk and potential losses.
The project audit report on current status covers aspects of project cost performance, projects performance in relation to schedule, progress performance quality performance compliance with work commitments and compliance with managements expectations. Statement on progress performance compares the work done with related costs and highlights deviations from the financial assumptions made at the time of planning the project. A separate report focuses on the quality of performance of the project to enable revisions or modification of methods or work or control mechanisms. In the light of the progress to date, the forecast of the project status for future time periods or milestones has to be made and compared with contract or work commitments and management expectations. These reflect the project auditors considered conclusions assuming the observed trends persist, except to the extent that some observable trends of improvements are reckoned. Aspects of particular significance that require management attention should be identified and reported. Observed and existing weakness or deficiencies that are bound to undermine the progress and outcome of the project, unless prompt and effective managerial actions are taken, come for special mention. Some of the possible occurrences or events, that have some probability of occurrence, have to be interpreted in terms of adverse effects on the contractor or customers or other interested parties. The management can then consider possible actions to protect the interests of those likely to be affected. Mounting project costs may lead to pricing decisions that will impair the financial results of the clients. If the management has special expectations from the project audit these have to be listed out. The contractual documents and agreements have to be studies and their adequacy assessed. The commitments of the owner or management in respect of providing infrastructure or other facilities also have to be studies and the impact of inadequacy, if any, in this regard on projects success has to be assessed. The projects organization, administration, record keeping and controls also come for scrutiny.
FUNCTIONS OF PROJECT AUDITOR The project auditor is an expert in measuring, confirming, investigating and reporting the status of a project with a view to reducing the uncertainties that encompass project. He should not arrogate to himself the role of a consultant or technical expert. He should not fill his report with recommendations or suggested action plans should confine himself to interpretation of studied facts. The project auditor is required to give advice to make recommendations. Solicited action plans should be the outcome of the conviction of the enterprise management that the auditor is competent to prepare action plans and hs the requisite time and information for verification. Unsolicited action plans should come up only if the project auditor feels strongly the items covered in his recommendations are very important in the context of the findings of project unit. The auditor will have to evaluate the contract base lines and give his judgment on their adequacy or otherwise for achieving the objectives of the project. Contract baseline comprises the set of documents that establish what the project should do, when and how. It is the baseline with reference to which the auditor should measure the present and future state of the project. The current documents relating to commandments and agreements relevant to the project constitute the formal contract baseline. There can be informal baselines also in the form of verbal agreements or document not signed by authorized persons. The contract baselines also relate to contractors agreements with subcontractors, suppliers, etc., and these will also come under project auditors purview. PROJECT AUDIT PROGRAMME After getting a clear understanding of the scope as expected by the owner or audit requester, the next step is to define the project baseline in more detail, in consultation with the project team and with the help of visits to the project sites. This will involve the identification and analysis of the set of contractual documents which collectively define the extent and details of the projects obligations, determination of additional managements resource allocation, pricing and costing assumption and the development of the detailed audit programme. The phase of audit programme execution will have the following steps: Preliminary examination of the projects organization, administration record keeping, controls and planning and working methods and C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008
techniques performed in order to establish the extent to which they are an adequate basis for building up the statements of project status, current and future. Preparing the statements of project status, current and future, giving a detailed list of completed work as compared with the projects performance baseline, recording the costs expended by the project team to carry out the work to date, comparing the fulfillment of contractual obligations against commitments, establishing the quality of work done by the project team, and recording observed facts on project planning, project organization and staffing, project administration and record keeping, working methods and techniques, communications, project facilities and environment, contract administration and controls, and controls over suppliers and subcontractors etc. Then will follow the preliminary analysis and presentation of results accompanied by audit report preparation and transmittal. DIFFICULTIES IN ESTABLISHING AUDIT PURPOSE AND SCOPE The purpose of project audit is to clarify the state of the project in certain key areas for the enterprise management. It is part of a quality control effort. The auditor could often be misled by wrong information or out of date or incorrect documentation. He should have a system of cross verification and checks so as not to be led astray. It might sometimes be found that persons who are to be working on the project are not there and those who are not supposed to be in the project are there. The auditor will have to report these aberrations indicating their implications for the project. Difficulties might arise in identifying the baseline contract or work statement set. Work could be carried out on the basis of verbal agreements without proper contract documentation. Absence of deliverable specifications in the contract baseline and inadequacies in delivery procedure or acceptance criteria are often problems requiring special attention. The auditor will have to resolve such ambiguities. CONCLUSION Thus, this chapter vividly narrate the significance of Project Audit, steps involved in Project Audit Programme, Auditors role and Problems encountered in Project Audit. Having identified and analyzed a variety of problems pertaining to the formulation and implementation of the project audited by him, the project auditor can evolve guidelines that can be useful for other projects, present or future, of the enterprise.
SELF ASSESSMENT QUESTIONS 1. 2. 3. 4. 5. 6. What is Project Audit? Explain its importance. State the objectives of Project Audit. Explain the steps in Project Audit Programme. Explain the functions of Project Auditor. State the difficulties in Project Audit. How the project audit differs from financial audit?
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Model Question Paper Paper 2.5 : Project management Time: 3 Hours PART A Answer any Five questions 1. Define Project management. Explain the steps involved in project management process. 2. What are the functions of Project planning? 3. What is Matrix organization? Explain its significance. 4. Explain the basic principles of Propject controlling 5. What is Project Negotiation? Explain its objectives. 6. Explain the significance of Project Scheduling. 7. State the objectives of Project Audit. 8. Explain different types of Project contracting. (4 x 15 = 60) PART B Answer any Four questions Question No. 15 is Compulsory 9. Briefly describe the merits and demerits of different forms of project organizations. 10. Describe the process of project time monitoring and cost monitoring. 11. Explain the prerequisites for successful project implementation. 12. Describe the nature and causes of cost and time overruns. How does the overrun problem could be controlled. 13. Explain the process of evaluation of project management system of an organization. 14. Explain the different stages in Project life cycle. 15. Attend the following Case and Answer the questions. Max : 100 Marks (5 x 8) = 40

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M.B.A.

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

LESSON 1 CONCEPTS OF PROJECT MANAGEMENT

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

United Nations Asian and Pacific Development Institute.

Categories of Projects PROJECT National International

Non Industrial Non Conventional R&D Mega Gross Root

Industrial High Technology Conventional Low Technology

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

On the basis of objective: 1. Social objective project 2. Economic objective project

On the basis of productivity: 1. Directivity productive project 2. Interactively productive project

On the basis of nature of benefits: 1. Quantifiable project 2. Non-quantifiable project

On the basis of dependency 1. Independent project 2. Dependent project

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

PROJECT LIFE CYCLE

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

TIME COST RESOUCES PERFORMANCE

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

Benefits of project management

Obstacles in project management

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

iv) v) vi) vii)

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

LESSON 2 PROJECT IDENTIFICATION

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

NATURE OR PROJECT FEASIBILITY ANALYSIS

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

PROJECT REPORT MODELS

Product and its uses:

Quality control and standards

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

1 No. 1 No. 1 No. 1 No. 1 No. 1 No. 1 No. 1 No.

1 No. 3 Nos. 5 Nos. 1 No. 1 No. Total Say

2,20,000 2,80,000 2,80,000 7,80,000

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

iv) 40% salaries =

24,000 30,650 7,137 25,920 31,200 1,18,970 1,18,900

******************* C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

Availability of critical inputs

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008

Capacity Credit worthiness

C. Sathish Kumar, Senior Assistant Professor, CCET, Puduhcerry - 605008