Course: Project Planning and Management

Code: PADM 3133

Course Credit: 3

Introduction
Various organizations, whether private, public, or CSO, are finding that traditional project
management principles are no longer applicable in today's extremely dynamic and demanding
environment. In other words, a fixed approach to project planning and management is no longer
a good method, as it is very difficult to anticipate everything in advance and react to it. Instead,
more agile project planning and management methods are required to cope with the ever-
increasing dynamics. As a result, many organizations are choosing to define their own "specific"
approach to planning and managing projects. Hence, this course helps students to grasp the
knowledge and skills of project planning and management with current content so that they can
fit the prevailing demand. This course provides a systematic and thorough introduction to all
aspects of project planning and management. Projects are an increasingly important aspect of
modern organizations.

Therefore, the course emphasizes the importance of understanding the relationship between
projects and the strategic goals of the organization. The course also covers the technical, cultural,
environmental, and interpersonal skills necessary to successfully plan and manage projects from
planning to delivery and/or completion. It is emphasized that project planning and management
is a professional discipline with its own tools, body of knowledge, and skills. In this course,
generic concepts are reinforced through case studies covering a wide range of project types and
institutions.
Learning Objectives
At the end of this course, students will be able to:
 Understand the project, project planning and management concepts, tools, and techniques;
 Understand the project management life cycle and have knowledge of the various phases of
project planning and management from project initiation to completion;
 Develop a detailed project plan that includes: Defining project scope and tasks, estimating
resource requirements, assessing project risk and response strategies, communication plan

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 UNIT ONE

INTRODUCTION TO PROJECT

1.1. Definition of Project

A project can be defined in different ways.

A project is a complex of economic activities in which we commit scarce resources in

expectation of benefits that exceed these resources.

So, a project is a sequence of unique, complex, and connected activities having one goal or
purpose and that must be completed by a specific time, within limited budget, and according to
specification. The following constitutes each part of the definition.

1.2. Characteristics or features of project

In most cases, it is easier to describe than to define a project.

This definition tells us quite a bit about a project. To appreciate just what constitutes a project,
let’s look at each part of the definition.

I. Sequence of Activities
ii. Unique Activities
iii. Complex Activities
iv. Connected Activities
v. One Goal
vii. Specified Time
Viii. within Budget
Ix. According to Specification
Plan, Programs and Projects

Some time, people confuse a project with a program and often use interchangeably, but the terms
are not the same. Unlike a project, a program is an ongoing development effort or plan.

The plan is the written explanation of goals, objectives, targets and means to achieve it.

A project is comprised of individual tasks that aim at specified outputs or deliverable products.

Programs, on the other hand, are organization activities aimed at achieving broader organization
objectives by coordinating a group of projects.

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1.3. Classification of projects
The project undertaking may be conducted either public sector or private sector.
Here are differences between public and private organizations:

 Complexity: public organizations are confronted with a wider variety of stakeholders,

each of which places demands and constraints on managers than private projects;
 Permeability: public organizations are “open systems” easily influenced by external
events than their counter private sector;
 Instability: because of political constraints determine frequent changes in politics and the
imposition of short time horizons;
 Absence of competitive pressures: public organizations generally have few competitors.
Even when competition is present, public managers often enjoy a dominant position in
the market, such as in education and healthcare.

1.4. Project success criteria

The scope, time, and cost limitations are sometimes referred to in project management as the
triple constraint.

To create a successful project, a project manager must consider scope, time, and cost and balance
these three often-competing goals:
1. Scope: What work will be done as part of the project? What unique product, service, or
result does the customer or sponsor expect from the project?
2. Time: How long should it take to complete the project? What is the project’s schedule?
3. Cost: What should it cost to complete the project? What is the project’s budget? What
resources are needed?
Other people focus on the quadruple constraint, which adds quality as a fourth constraint.
Quality: How good does the quality of the products or services need to be? What do we need to
do to satisfy the customer? Other also suggests these four constraints plus risk.
Risk: How much uncertainty are we willing to accept on the project?
1.5. Project Management: An Overview
Project management is planning, scheduling, controlling and monitoring the complex non-
routine activities that must be completed to reach the predetermined objectives of the project

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Planning is the process of preparing for the commitment of resources in the most economical
manner. Project planning deals with specified tasks and operations of activities, which must be
performed to achieve the project goals.

One of the main reasons for the failure of many projects in the developing countries is the
inadequacy of managerial skill for project implementation and imperfect planning and control of
projects.

Controlling is the process of making events to conform to schedules by coordinating the action
of all parts of the project outlined to achieve its objectives.
1.6. Project Stakeholders
Stakeholders are the people involved in or affected by project activities. These include the
project sponsor, the project team, the support staff, customers, users, suppliers and opponents to
the project.

CHAPTER TWO
PROJECT LIFE CYCLE
2.1. Introduction
Project cycle is referred to as the various stages through which project planning proceeds from
inception to implementation. It is the project’s life span through which a project advances
from infancy to maturity. Different guidelines, manuals and foreign authors have called project
phases by different names.

2.2. United Nations Industrial Development Organization (UNIDO) Project Life Cycle
UNIDO has divided project cycles into phases and stages as follows.
1. Pre - investment phase: Identification of investment opportunity (opportunity study),
Preliminary selection stage (pre-feasibility study/Analysis of Project Alternatives), Project

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 formulation stage (feasibility study) and Evaluation and decision stage (evaluation
report/project appraisal and investment decision)
2. Investment phase: Negotiation and contracting stage; Project design stage, Construction
stage; Preproduction marketing stage; Training stage; Start up stage
3. Operational phase: Long-term views (expansion, innovation); Short-term views

2.3. The Baum Cycle (adapted by the World Bank in 1970)

The Baum Cycle has five stages. The breakdown of the phases in the project cycle is artificial. In
reality the process is continuous and interactive. The phases are:
I. Identification
II. Preparation (feasibility study)- ex-ante evaluation
III. Appraisal
IV. Implementation
V. Evaluation – added after a certain period (1978). It involves ex-post evaluation.
2.4. New Project Cycle (World Bank 1994)
 Emphasis on the issue of participation
 Particularly relevant to projects where beneficiary participation is critical.
 It has four phases
- Listening- listen the stakeholders.
- Piloting- trying it in small scale.
- Demonstrating- demonstrating the pilot
- Mainstreaming- duplicating the pilot.
 Listening - Piloting- Demonstrating – Mainstreaming

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 UNIT THREE
PROJECT IDENTIFICATION

3.1. Introduction
The search for promising project ideas is the first step towards establishing a successful venture.
As the traditional adage goes, the key to success lies in getting into the right business at the right
time. While this advice is simple, its accomplishment is difficult because good business
opportunities tend to be elusive. Identification of such opportunities requires imagination,
sensitivity to environmental changes, and a realistic assessment to what the firm can do

 Generation of ideas  Corporate appraisal

 Monitoring the environment  Profit potential of industries

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  Scouting for project ideas  Sources of positive net present value

 Preliminary screening
 On being an entrepreneur
 Project rating index

3.2. Generation of Ideas

‘Necessity is the mother of invention’ and also equates with projects, as they are rooted to human
needs and wants. These needs may be social, political, economic, commercial, technical or
environmental that drives the actions of entrepreneurs to pursue some creative actions. That is
project ideas are generated in order to satisfy the needs and wants.

Stimulating the flow of ideas

To stimulate the flow of ideas, the following are helpful:

SWOT Analysis. SWOT is an acronym for strengths, weaknesses, opportunities, and threats.
SWOT analysis represents a conscious, deliberate, and systematic effort by an organization to
identify opportunities that can be profitably exploited by it. Periodic SWOT analysis facilitates
the generation of ideas.

Clear Articulation of Objectiv: A clear articulation and prioritization of objectives helps in

channeling the efforts of employees and prods them to think more imaginatively.

Fostering a conductive climate- To tap the creativity of people and to harness their
entrepreneurial urges a conducive organizational climate has to be fostered.

3.3. Identifying Investment Opportunities

There are several useful tools or frameworks that are helpful in identifying promising investment
opportunities. The more popular one is the Porter model.

Porter Model: Profit Potential of Industries

Micheal Porter has argued that the profit potential of an industry depends on the combined
strengths of the following five basic competitive forces:

 Threat of new entrants

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  Rivalry among existing firms

 Pressure from substitute products

 Bargaining power of buyers

 Bargaining power of sellers

a. Threat of New Entrants. New entrants add capacity, inflate costs, push prices down, and
reduce profitability.

b. Rivalry between Existing Firms. Firms in an industry compete on the basis of price, quality,
promotion, service, warranties, and so on. Generally, a firm’s attempts to improve its
competitive position provoke retaliatory actions from others

c. Pressure from Substitute Products. In a way, all firms in and industry face competition
from industries producing substitute products

d. Bargaining power of Buyers. Buyers are a competitive force. They can bargain for price cut,
ask for superior quality and better service, and induce rivalry among competitors

e. Bargaining power of Suppliers. Suppliers, like buyers, can exert a competitive force in an
industry as they can raise prices, lower quality, and curtail the range of free services that they
provide.

Scouting for Project Ideas

Good project ideas key to success are elusive. So a wide variety of sources should be tapped to
identify them. Here are some suggestions in this regard:

Analyze the performance of Existing Industries. A study of existing industries in terms of

their profitability and capacity utilization can indicate promising investment opportunities-
opportunities which are profitable and relatively risk-free

Examine the Inputs and Outputs of Various Industries. An analysis of the inputs required
for various industries may throw up project ideas. Opportunities exist when (i) material and
purchased parts for supplies are presently being procured from distant sources with attendant
time lag and transportation cost, and (ii) several firms produce internally some components/parts

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which can be supplied at a lower cost by a single manufacturer who can enjoy economies of
scale.

Review Imports and Exports. An analysis of import statistics for a period of five to seven
years is helpful in understanding the trend of imports of various goods and the potential for
import substitution.

Study Plan Outlays and Governmental Guidelines. The government plays a very important
role in the economy of a country. Its proposed outlays in different sectors provide useful pointers
toward investment opportunities.

Look at the 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 entrepreneurs

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 that may
be profitably produced and marketed.

Analyze Economic and Social Trends A study of economic and social trends is helpful in
projecting demand for various goods and services. Changing economic conditions and consumer
preferences provide new business opportunities.

Study New Technological Developments. There is a large network of research laboratories in

India under the umbrella of the Council of Scientific and Industrial Research, and other bodies.

Draw Clues from Consumption Abroad. Entrepreneurs willing to take higher risks may
indentify projects for the manufacture of products or supply of services which are new to the
country but extensively used abroad.

Explore the Possibility or Reviving Sick Units. Industrial sickness is rampant in the country.
There are innumerable units which have been characterized as sick. These units are either closed
or face the prospect of closure.

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Identify Unfulfilled Psychological Needs. For well-established, multi-brand product groups like
bathing soap, detergents, cosmetics, and toothpaste, To find out whether such an opportunity
exists, the technique of spectrum analysis is useful. This analysis is done in the following
manner: (i) Important factors influencing brand choice are identified. (ii) Existing brands in the
market are positioned on a continuum in respect of the factors indentified in step (i). (iii) Gaps
which exist in relation to consumer psychological needs are identified.

Attend Trade Fairs. National and international trade fairs provide an excellent opportunity to
get to know about new products and developments.

Stimulate Creativity for Generating New product Ideas New product ideas may be generated
by thinking along the following lines: Modification, Rearrangement, Reversal, Magnification,
Reduction, Substitution, Adaptation, and Combination.

Chance. Hope that the chance factor will favor you. Identification of investment opportunity
may be influenced by the chance factor. Two examples may be given here.

3.4. Preliminary Screening

By using the suggestions made in the preceding section, it is possible to develop a long list of
project ideas. Some kind of preliminary screening is required to eliminate ideas which prima
facie are not promising. For this purpose, the following aspects may be looked into:

i. Compatibility with the promoter

The idea must be compatible with the interest, personality, and resources of the entrepreneur.
According to Murphy, a real opportunity has three characteristics: (i) It fits the personality of the
entrepreneur-it squares with his abilities, training, and proclivities. (ii) It is accessible to him. (iii)
It offers him the prospect of rapid growth and high return on the invested capital.

ii. Consistency with Government Priorities

The project idea must be feasible given the national goals and governmental regulatory
framework.

Availability of Inputs

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The resources and inputs required for the project must be reasonably assured. To assess this, the
Adequacy of the Market

The size of the present market must offer the prospect of adequate sales volume. Further, there
should be a potential for growth and a reasonable return on investment

Reasonableness of Cost

The cost structure of the proposed project must enable it to realize an acceptable profit with a
price. The following should be examined in this regard:

 Cost of material inputs  Selling and distribution costs

 Labor cost  Service cost

 Factory overheads  Economies of scale

 General administration expenses

iii. Acceptability of Risk Level

The desirability of a project is critically dependent on the risk characterizing it. In the assessment
of risk-a difficult task indeed-the following factors should be considered:

 Vulnerability to business cycles  Governmental control over price and

 Technological changes distribution

 Competition from substitutes

 Competition from imports

3.5. Project Rating Index

When a firm evaluates a large number of project ideas regularly, it may be helpful to streamline
the process of preliminary screening

On Being an Entrepreneur

Many persons have an entrepreneurial urge to set up their own project and be on their own.
Hence, it may not be out of place here to discuss the questions every entrepreneur must answer
and the qualities and traits of a successful entrepreneur.

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The Questions Every Entrepreneur Must Answer

What qualities and traits are required to be a successful entrepreneur? It appears that a successful
entrepreneur has the following qualities and traits:

 Willingness to make sacrifices

 Leadership
 Decisiveness
 Confidence in the project
 Marketing orientation
 Strong ego
 Open mindedness

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 3.6. Monitoring the Environment

Basically, promising investment ideas enable a firm (or the entrepreneur) to exploit opportunities
in the environment by drawing on its competitive strengths. Hence, the firm must systematically
monitor the environment and assess its competitive abilities. For purposes of monitoring, the
business environment may be divided into two broad sectors i.e macro and micro environment:

Macro – external environment

The macro environment (which include the economic, political and legal, social and cultural, and
technological forces) and its important aspects studied in monitoring consist of the following:
Economic sector - State of the economy
- Overall rate of growth
- The growth rate of primary, secondary and tertiary sectors.
- Projected national income trends, GNP trends
- Provisions of infrastructure
- Inflation rate, interest rate, exchange rate
- Unemployment level
- Linkage with the world economy etc
Governmental (political - Manifestoes of party in power and the opposition
and legal) sector - Attitude towards investors
- Restrictions on areas of investment by private sector
- Restrictions on imports
- Control over prices and distribution of goods etc
Technological sector - Emergence of new technologies
- Access to technical know-how, foreign as well as indigenous
- Transport
- Product processing etc
Social and cultural sector - Population trends, shift in population among regions
- Age shifts in population
- Educational profile
- Employment of women etc

Micro – External environment

The micro external environment is also known as Task environment. The micro – external
environment is mainly concerned with industry, market, competitors, etc. and the major factors
to be studied consist of:
Competition sector (analysis of the - Number of firms in the industry and the market
industry and the market) share of the top few
- Degree of homogeneity and differentiation among
 products
- Exit and Entry barriers
- Comparisons with substitutes in terms of quality,
price and functional performance
Supplier sector - Availability and cost of raw materials and sub-
assemblies
- Availability and cost of energy
- Availability and cost of money
- Exit and entry of suppliers
- Power of suppliers

3.7. Corporate Appraisal

A realistic appraisal of corporate strengths and weaknesses is essential for identifying investment
opportunities which can be profitably exploited. The broad areas of corporate appraisal and the
important aspects to be considered under them are as follows:

Marketing and Distribution

 Market image
 Product line
 Market share
 Distribution network
 Customer loyalty
 Marketing and distribution costs
Production and Operations
 Condition and capacity of plant and machinery
 Availability of raw materials, sub-assemblies, and power
 Degree of vertical integration
 Location advantage
 Cost structure
Research and Development

 Research capabilities of the firm

 Track record of new product developments
 Laboratories and testing facilities
 Coordination between research and operations
Corporate Resources and Personnel

 Corporate image
 Clout with governmental and regulatory agencies
 Dynamism of top management
 Competence and commitment of employees
 State of industrial relations
Finance and Accounting
 Financial leverage and borrowing capacity
 Cost of capital
 Tax situation
 Relations with shareholders and creditors
 Accounting and control system
 Cash flows and liquidation
 UNIT FOUR
PROJECT PREPARATION
4.1. Introduction

Some investment proposals pass through a stage of checking out the feasibility. Large projects
usually need feasibility test to be carried out before a handsome amount of capital is committed.
A feasibility study is part of the process of project identification, preparation and selection. This
process involves the appraising of projects or groups of projects and choosing to implement
some of them. Feasibility literally means whether some idea will work or not. Feasibility is a
multivariate concept; that is, a project has to be viable not only in technical terms but also in
economic and commercial terms too.
These proposals as pointed out above take the following forms of feasibility studies:
1. Market/Commercial viability
2. Economic feasibility
3. Financial feasibility
4. Technical feasibility
5. Social Cost Benefit analysis
6. Other feasibility considerations like legal, administrative, ecological

When projects are evaluated by government or government agencies, economic and social
feasibility is also considered. Market feasibility is also emphasized, but technical and financial
feasibility is less emphasized.

Market and Demand Analysis

A market, whether a place or not, is the arena for interaction among buyers and sellers.
From seller’s point of view, market analysis is primarily concerned with the aggregate demand
of the proposed product/service in future and the market share expected to be captured.

After all, the whole universe cannot be your market. You have to carefully segment the market
according to some criteria such as geographic scope, demographic and psychological profile of
the potential customers etc.

Requirements for market and demand analysis

A. Information requirement

The principal types of information required for market and demand analysis relate to:
1. Effective demand: to gauge the effective demand in the past and present, the starting point
typically is apparent consumption.

2. Breakdown of demand: to get a deeper insight into the nature of demand, the aggregate
(total) market demand may be broken down into demand for different segments of the
market.

(i) Nature of product: One generic name often subsumes many different products: steel covers
sections, rolled products, and various semi-finished products; commercial vehicles cover
trucks and buses of various capacities etc.
(ii) Consumer groups: Consumers of a product may be divided into industrial consumers and
domestic consumers.

(iii) Geographical division: A geographical breakdown of consumers, particularly for products

which have a small value-to-weight relationship and products which require regular, efficient
after-sales service is helpful.

B. Price: Price statistics must be gathered along with statistics pertaining to physical quantities.

C. Methods of distribution and sales promotion: the method of distribution may vary with the
nature of product. Capital goods, industrial raw materials or intermediates, and consumer
products tend to have differing distribution channels.

D. Consumers: two categories of information about the consumers may be required:

a) Demographic and sociological information-, information on: age, sex, income,

avocation, residence, religion, customs, beliefs, and social background, and

b) Attitudinal information- information on - preferences, intentions, attitudes, habits, and

responses.

E. Governmental policy: import duties, export incentives, excise duties, sales tax, industrial
licensing, preferential purchases, credit controls, financial regulations, and
subsidies/penalties of various kinds.

F. Supply and competition: it is necessary to know the existing sources of supply and whether
they are foreign or domestic
G. Demand estimation

The first and most difficult step in market feasibility analysis is determining the potential
demand for the product or the service we are intending to produce/render. There are different
methods of estimation.

A. Market survey

The information sought in a market survey may relate to one or more of the following;

o Total demand and rate of growth of demand;

o Demand in different segments of the market;
o Attitudes toward various products
o Distributive trade practices and preferences;
o Socio-economic characteristics of buyers.

B. Demand forecasting
After gathering information about various aspects of the market and demand from primary and
secondary sources, an attempt may be made to estimate future demand. Several methods are
available for demand forecasting. The important ones are qualitative and quantitative methods.

I. Qualitative Methods

Qualitative or judgmental forecasting does not rely on numbers to conclude forecast, but
rather on intangible factors. This method is especially common when sufficient historical data is
not available,

Jury of Executives Opinion Method

This method, which is very popular in practice, involves soliciting the opinions of a group of
managers on expected future sales and combining them into a sales estimate.

Delphi Method
This method is used for eliciting the opinions of a group of experts with the help of a mail
survey.

II. Quantitative Methods

Simply stated, the word quantitative signifies an estimate of a particular, indefinite or

considerable amount of anything. Quantitative techniques rely primarily on numbers to
conclude forecasts. These numbers are multiplied, added or correlated and then placed in a
formula to predict the company's sales.

A. Trend Projection Method

When the trend projection method is used, the most commonly employed relationship is the
linear relationship. Trend projection consists of determining the trend of consumption by
analyzing past consumption statistics, and projecting future consumption by extrapolating the
trend. The trend of consumption may be represented by one of the following relationships:

Linear Relationship: Yt = a + bt

Where; Yt = demand for year t,

t = the time variable,
a = intercept of the relationship
b = slope of the relationship
a, b are constants.
The values of a and b can be determined using the following formula:
To illustrate demand forecasting using simple regression analysis, consider the following data
concerning demand for product x during the last eight years.
Year Actual demand
1 200
2 250
3 175
4 186
The linear equation for the above data is formulated as follows: assuming that the base line is the
first five years:
n ∑ TY −∑ T ∑ Y
∑ Y −b ∑ T
n ∑ T −( ∑ T )
2 2
b= a= n
Using the above data, the computations of a and b are as follows:
Year (T) Actual demand (Y) TY T2
1 200 200 1
2 250 500 4
3 175 525 9
4 186 744 16
5 225 1125 25
 = 15  = 1036  = 3094  = 55

n ∑ TY −∑ T ∑ Y
n ∑ T 2 −( ∑ T )
2
b=
1036− ( −75 ( 15 ))
= 5
1036−(−21 )
= 5
= 211.40
7
T
Yt = 211.40 - 5

∑ Y −b ∑ T
a= n

5(3094 )−(15 x 1036)

= 5 (55 )−(15)2
15470−15540
= 275−225
−70
= 50
−7
= 5
 B. Exponential smoothing

Exponential smoothing is another very popular demand forecasting method. Under exponential
smoothing, the current forecast is the weighted average of the last forecast and the current value
of demand. That is:
New forecast:  (current observation of demand) + (1-) (last forecast)
In symbols,
Ft =  Dt-1 + (1 - ) Ft-1
Where 0 <   1 is the smoothing constant.  (alpha) determines the relative weight placed on
the current observation of demand. 1 -  is interpreted as the weight placed on past observations
of demand. D refers to the actual demand of current period (t-1). The above formula can be
rewritten as follows:
Ft = Ft-1 +  (Dt-1 – Ft-1)
where
Ft-1 = previous forecast
 = smoothing constant
Ft = New forecast
Dt-1 = the demand for the current period.
From the above description, it is possible to conclude that exponential smoothing method
requires only three items of data: the last period’s forecast, the demand for the current period,
and the smoothing constant ().
To illustrate demand forecasting using exponential smoothing, assume that demand for product
X in April was forecasted to be 120 units (F t-1 = 120). Actual April demand was 140 units (D t-1 =
140). If smoothing constant is 0.4 ( = 0.40), the forecast for May would be:
FMay = Ft-1 + (Dt-1 – Ft-1)
= 120 + 0.40 (140 – 120)
= 120 + 8
= 128
Thus, alpha () indicates the weight of importance given for past forecasting inaccuracies in
forecasting the next time period dictating how much correction will be made.
To further illustrate exponential smoothing, assume that Grace company has the following
recorded demand for its product Y in the last 8 quarters: The smoothing constant is 10%.
Quarter Actual demand (D) Forecast (F)
1 200 200 (By assumption)
2 250
3 175
4 186
5 225
6 285
7 305
8 190
The demand forecast for periods 2 – 5 are shown below:
Ft = Ft-1 +  (Dt-1 – Ft-1)
F2 = 200 + 0.10 (200 – 200) = 200
F3 = 200 + 0.10 (250 – 200) = 205
Moving Average Method
According to this method, the forecast for the next period is equal to the average of the sales
for several preceding periods.
St + St−1 +. ..+ S t−b +1
F t+1=
n
where:
Ft+1 = Forecast for the next period
St = Sales for period t
n = period over which averaging is done
To illustrate, consider the following data for the past 10 years.

Year Sales (Actual)

1 80
2 60
3 70
4 90
5 75

C. End use method

End use method, also called consumption coefficient method, is more suitable for estimating the
demand for intermediate products. Intermediate products are considered output of one company
and then input of another company. For example, chips are the output to the chip manufacturer
but input to computer producing company. The use of end use method in demand forecasting
involves the following steps.
Step 1. Identify the possible uses of the product
Step 2. Define the consumption coefficient (usage rate) of the product for various uses.
Step 3. Project the output levels for the consuming industries
Step 4. Derive the demand for the product.
The company collected consumption coefficient and projected output of each industry and
summarized the data below:
Industry Consumption Projected output for
Coefficient each industry

Electronics 5 10,000
Computer 4 30,000
Electricity 6 15,000
Telecommunication 7 20,000

Required: Determine the total forecasted demand for chips

To give a solution to the above question, it is advisable to understand the data properly. The
consumption coefficient indicates the rate of input (chips) per unit of output. For instance, the
consumption coefficient of 5 for electronics industry implies that the industry uses 5 chips to
produce one unit of its output. The 3 rd column shows the planned production for each industry.
Accordingly, demand for chips in the coming year is computed as follows:

Industry Consumption Projected Projected demand

coefficient output for chips
Electronics 5 10,000 50,000
Computer 4 30,000 120,000
Electricity 6 15,000 90,000
Telecommunication 7 20,000 140,000
Total forecasted chips 400,000

3.2. Economic feasibility

Economics is the study of costs- and- benefits. In regard to the feasibility, the study of the
entrepreneur is concerned whether the capital cost as well as the cost of the product is justifiable
vis-à-vis the price at which it will sell at the market place.

Apart from the cost-benefit analysis as above, which we also refer to as private cost-benefit
analysis, it is also useful to do what is known as social- cost-benefit- analysis (SCBA). For
example, the entrepreneur may be getting subsidized electricity in which case private cost would
be less than social cost.

Financial feasibility

The objective of financial analysis is to ascertain whether the proposed project will be financially
viable in the sense of being able to meet the burden of servicing debt and whether the proposed
project will satisfy the return expectations of those who provide the capital.

Capital budgeting is project decision-making as to whether a project is worth undertaking.

Capital budgeting is basically concerned with the justification of capital expenditures. Current
expenditures are short-term and are completely written off in the same year that expenses occur.
Capital expenditures are long-term and are amortized over a period of years are required by the
tax authorities

Basic Steps of Capital Budgeting

1 Estimate the cash flows (initial outflow and subsequent net inflows)
2 Assess the riskiness of the cash flows.
3 Determine the appropriate discount rate.
4 Find the PV of the expected cash flows.
5 Accept the project if PV of inflows > costs. IRR > Hurdle Rate and/or payback < policy
Payback Period (PBP)
Payback period refers to the length of time it takes to recover initial investment of the project.
Depending on the nature of net cash flows, payback period may be computed in two ways.
a) When cash flow is in annuity form
Annuity refers to equal amount of cash flows that occur every period over the life of the
project
Initial Investment
PBP = Annual Net Cash Flows
To illustrate the computation of payback period, assume that a project requires an initial
investment of Br. 24,000 and annual after tax cash flows of Br. 6000 for five years. How long it
takes the company to recover its initial investment?
24 ,000
PBP = 6000 = 4 years
It is expected to take the company four years to recover the project’s initial investment of Br.
24,000
b) When cash flows are not in annuity form
When net cash flows are not annuity, payback period is obtained by adding net cash flows for
successful years until the total is equal to initial investment. To exemplify, assume that a project
requires an initial investment of Br. 60,000. The after tax cash flows (or net cash flows) are as
follows:
Year 1 = 8000 Year 4 = 20,000
Year 2 = 15,000 Year 5 = 20,000
Year 3 = 22,000
The payback period is computed as follows:
15 , 000
PBP = 3 years + 20 , 000 = 3.75 years
In the above example, if the 1 st three years’ net cash flows are added, the sum is equal to Br.
45,000. But the initial investment is Br. 60,000. If the fourth year net cash flows (Br. 20,000) is
added to Br. 45,000, the sum is Br. 65,000 which is greater than the initial investment. Thus, the
payback period is between year 3 and year 4. To find the exact payback period, we take the three
years and divide the remaining cash flows by the fourth year net cash flows. If the exact payback
period is needed in months the fraction can be computed as follows:
15 , 000
(12 months)
PBP = 3 years + 20 , 000
= 3 years and 9 months

Decision Rule for Payback Period

i. Accept the project if its payback period is less than or equal to the required payback period
(standard)
ii. Reject the project if its payback period exceeds the required payback period. The shorter
the payback period, the more desirable the project.

Accounting Rate of Return (ARR)

Also called the average rate of return on investment, the accounting rate of return is a measure of
profitability which relates net income to investment.
 Both net income and investment are measured in accounting terms.
Although there are several methods of computing ARR, the most common method is shown
below:
Average annual net income
ARR = Average investment
Original costs + salvage value
Average Investment = 2
To illustrate, assume that a project has original investment of Br. 70,000, life of 4 years, and
salvage value of Br. 6000. Straight-line method of depreciation is used. Income before
depreciation and taxes for each of the four years are as follows: year1, Br. 40,000; year 2, Br.
42,000; year 3, Br. 36,000; and year 4, Br. 50,000. Income tax rate is 40%.
Depreciation = 70,000 – 6000 = 16,000
4
Before ARR is determined, it is necessary to compute net income for each of the four years as
follows:
Year 1 Year 2 Year 3 Year 4
Income before depreciation tax 40,000 42,000 36,000 50,000
Less: Depreciation 16,000 16,000 16,000 16,000
Income before taxes 24,000 26,000 20,000 34,000
Less: Taxes (40%) 9600 10,400 8000 13,600
Net income 14,400 15,600 12,000 20,400
14 , 400+15 ,600 +12 ,000+20 , 400
=15 ,600
Average Net income = 4
70 , 000+6000
=38 , 000
Average Investment = 2
Average Annual Net Income
ARR = Average Investment
15600
=41 %
= 38000
Decision Rule for Accounting Rate of Return
i. Accept the project if ARR exceeds the required rate of return.
ii. Reject the project if ARR is less than the required rate of return.
Net Present Value Method
The net present value of project is the difference between the present value of net cash inflows
and present value of initial investment. In formula,
n Ct
∑ −I 0
NPV = i=1 ( 1+r )t
Where:
NPV = Net present value
Ct = Net cash flows at the end of year t
n = Life of the project
r = Discount rate
I0 = Initial investment
Net present value can also be determined as follows:
NPV = PV of NCF – I0
Where: PV = Present value
NCF = Net cash flows
To illustrate, assume that a project is expected to have initial investment and life of Br. 40,000
and five years respectively. The annual after tax net cash flow is estimated at Br. 12,000 for each
of the five years. The required rate of return is 10%. Net present value is determined as follows:
NPV = PV of NCF – I0

( )
1
1−
( 1+0.10 )5
− 40,000
= 12,000
0.10
= 12,000 (3.791) – 40,000
= 45,492 – 40,000
= 5492
1
1−
( 1+ 0. 10 )5
In the above formula, 0 . 10 represents the discount factor and its value is equal to
3.791. This discount factor can be taken from the present value of annuity of 1 table from the
intersection of i = 10% and n = 5. It can also be determined using your calculator.

In the above example, net cash flows are annuity. The same procedure can be followed if net
cash flows are not in annuity form. To illustrate the computation of NPV when net cash flows are
not annuity, suppose the project has initial investment and useful life of Br. 30,000 and four
years respectively. Its annual cash flows are as follows: Year 1, Br. 10000; Year 2, Br. 8000;
year 3, Br. 15000; and year 4, Br. 12,000. If the required rate of return is 10%, NPV is
determined as follows:
 Year Net cash flows Discount factor (10%) Present value
1 10,000 0.909 9090
2 8000 0.826 6608
3 15,000 0.751 11,265
4 12,000 0.683 8196
Present value of NCF 35,159
Less: Initial investment 30,000
NPV + 5159

What does NPV represent? NPV represents the amount by which the value of (wealth of) the
firm will increase if the project is accepted.

Decision Rule for NPV

1. If NPV is greater than zero (NPV > 0), the project is considered desirable.
2. If NPV is less than 0, the project is considered undesirable.
Internal Rate of Return (IRR)
Internal Rate of Return is the discount rate which equates the project NPV equal to zero. It is the
discount rate at which the present value of Net cash flows is equal to the present value of initial
investment. In other words, IRR is the rate of return on investments in the project. The
determination of IRR is purely based on project cash flows. Mathematically, at IRR,
n Ct
∑ ( 1+ r )t = Initial investment
i=1

IRR is determined using trial and error: the complexity of determining IRR is greater if net cash
flows are not in annuity form. This section illustrates the determination of net cash flows when
cash flows are annuity as well as non-annuity.

a) Determination IRR when NCFs are annuity.

Assume that the project has initial investment of Br. 40,000, and useful life of five years. The
annual net cash flows is estimated at Br. 12000 for five years. The required rate of return is 10%.
The following steps can be followed to determine IRR.

Step1: Compute the leading discount factor (payback period)

Initial Investment 40 , 000
=
PBP = Annual net cash flows 12, 000 = 3.333
Step2. From the present value of annuity table, find two discount factors and their corresponding
interest rates closest to the computed leading discount factor. If we look in the PV of annuity
table on n = 5 years row (horizontally), the leading discount factor (3.333) is found between 15%
and 16%.
Interest rate 15% 16%
Discount factor 3.352 3.274

Step 3: Compute the actual IRR using the following formula

IRR = r –
( PBP−DFr
DFr L−DFr H )
Where:
r = Either of the two interest rates (15% or 16%)
DFr = Discount factor for the taken interest rate
DFrL = Discount factor for the lower interest rate
DFrH = Discount factor for the higher interest rate
Let's take r = 15%, IRR is determined as follows:

( 3 .333−3 .352
IRR = 15% - 3 .352−3. 274
)
= 15% - (-0.24)
= 15.24%
If we take r = 16%, the computation of IRR looks like the following:

( 3 .333−3 .274
IRR = 16% - 3 .352−3 .274
)
= 15.24%

b) Determination of IRR when net cash flows are non-annuity

The steps followed in the preceding section are equally applicable for non-annuity cash flows.
However, one step is added at the beginning to determine the weighted average net cash flow,
which will be used to determine the leading discount factor. To illustrate, assume that a project
has initial investment of Br. 40,000 and the following net cash flows: year 1, Br. 15,000; year 2,
Br. 10,000; year 3, Br. 10,000; year 4, Br. 15000; and year 5, Br. 15,000. The discount rate is
15%. The following steps can be used to compute IRR:
Step 1. Compute the weighted average net cash flows.
Year Net cash flows Weight NCF X weight
1 15,000 5 25,000
 2 10,000 4 40,000
3 10,000 3 30,000
4 15,000 2 30,000
5 15,000 1 15,000
Total 15 190,000
Note that the weight is assigned in the reverse order of the project's useful life.
190 , 000
Weighted average NCF = 15
= 12,667
Step 2: Compute the leading discount factor (PBP)
Initial Investment
PBP = Weighted average NCF
40 ,000
= 12 , 667
= 3.158
Step 3: From the present value of annuity table, find the starting rate (a good first guess) by
looking for the closest interest rate and discount factor. In this case, the nearest rate is 18% (i.e.,
first guess = 18%)
Step 4: Compute NPV at the 1st guess (18%)
NPV (18%)
Year NCF Discount factor (18%) Present value
1 15,000 0.847 12,705
2 10,000 0.718 7180
3 10,000 0.609 6090
4 15,000 0.516 7740
5 15,000 0.437 6555
Present value of net cash flows 40,270
Less: Initial Investment 40,000
NPV + 270
Since, at IRR, NPV is equal to zero, 18% is not the exact IRR. Thus, another rate should be tried.
Which rate should be tried next? Generally as we go down (in rate decreasing direction),
discount factor increases. Now we need to find a rate at which NPV = 0. Thus, we should try a
higher rate. The next (2nd) guess could be 19%. Then NPV should be computed at 19% using the
above procedure.
NPV at 19%:
Year NCF Discount factor (19%) Present value
1 15,000 0.840 12,600
2 10,000 0.706 7060
 3 10,000 0.593 5930
4 15,000 0.499 7485
5 15,000 0.419 6285
Present value of net cash flows 39,360
Less: Initial investment 40,000
NPV -640
At 19% NPV is negative, this implies that IRR lies between 18% and 19%. Thus, such iteration
process ends when two neighboring rates, at lower rate NPV are positive and at higher rate is
negative. To find the exact IRR, steps 4 and 5 will be followed:
Step 4: Obtain the absolute sum of the two present values
Sum = |+270| + |-640|
= 270 + 640
= 910
Step 5: Divided the NPV of the smaller rate by the absolute sum and add to the smaller rate
270
IRR = 18% + 910
= 18.30%
Decision Rule for IRR
Accept: If the IRR is greater than the discount rate
Reject: If the IRR is less than the discount rate

Profitability Index (PI)

The profitability index, also called benefit - cost ratio, is the ratio of the present value of net cash
flows and initial investment.
Pr esent value of NCF
PI = Initial investment
To illustrate, assume that a project is expected to have initial investment and useful life of Br.
90,000 and four years respectively. Annual net cash flows amounted to Br. 40,000. The discount
rate is 10%. Profitability index can be computed as follow:
Pr esent value of NCF
PI = Initial investment
40 ,000 (3. 170 )
= 90, 000
126,800
= 90,000
= 1.41
Decision rule for profitability Index
 i. Accept if the project's profitability index is grater than 1
ii. Reject if the project's profitability index is less than 1

3.3. Technical feasibility

The technical aspects of a typical project idea can be scrutinized in detail to evaluate its technical
feasibility, as distinct from commercial, financial, economic and managerial feasibility. For the
sake of comprehensiveness we will cover Environmental Impact Analysis (EIA) also, as a part of
this analysis.

3.3.1. Objectives:

First, the project proposal must fall within the ambit of the stated mission of the sponsor(s).
Next, the proposal must be able to further the objectives and priorities of the sponsor(s). These
must therefore be ascertained and clearly recorded, along with detailed specifications for the
output which constitute the basic frame of reference for all future decisions.

Location and site

Initially, as many locations as possible should be identified which meet the most fundamental
operational requirements of the proposed project. These should then be evaluated and an
optimum location selected using the criteria of material versus market orientation, quality
standards, infrastructural status, local laws, and socio-economic and living conditions.

Note: Resource-oriented projects like mining of minerals involve items like geological analysis
covering geological structure, hydrological conditions, characteristics of the resource, resource
reserves, prospecting status, and expected geological problems.

Plant Size

Determination of an optimum plant size is critical to the success of a project. A plant represents
sunk costs and any under utilization of its capacity means either reduced profits or, for levels
below the Break-Even Point, losses. The adverse impact of an extra-large capacity is felt all the
more keenly during the early years when profits are all the more important for survival.
Technology

The same product or service can generally be obtained using quite different technologies.
Electricity, for example, can be generated using solar panels, coal (thermal plants), hydraulic
power plants, and nuclear power plants and so on. Basic telephone Sol-vices can similarly be
provided using manual, semiautomatic, or automatic exchanges. And, even the last-named
category is available if] various technological versions like Stronger, Crossbar, Analogue
electronic and Digital electronic.

Design, Layout & Plant & Machinery

The feasibility study should broadly specify the recommended design of the processes and plant
(giving essential assumptions and design calculations). It should also present a rough layout of
various facilities and list out all the major equipments needed, with key specifications and
available source(s) of supply. Moreover, it should consider, and evaluate alternative equipments
as well and give reasoned recommendations about them.

Construction Process

This needs to be tackled in the feasibility study in terms of its five aspects,

Inputs

These relate to the operation phase of the project, but need to be identified at this stage of the
feasibility study to examine the technical feasibility of the proposed system(s).

Infrastructural Facilities

Availability and characteristics of roads, bridges, railway facilities (like station, yards), air
transportation, waterways, ports, etc. depending upon their relevance to the assessed
requirements of the project at both implementation and operation stages need to be studied.
Manpower

The availability in needed numbers, of manpower of requisite skills where and when required,
has to be studied. This covers both the project implementation and the operation (&
maintenance) phases.

Environment Impact Assessment (EIA);

This study identifies the environment in which a project is to be implemented, assesses the short
-- and long-term impacts the former is likely to be subjected to as result of the project activities
during construction as well as operation phases, and generates preferred alternative courses of
action, if possible.

Social cost benefit analysis

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 country’s
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 requirements and is
implementable.

The net benefits equation can be written as:

NB = α ( βγδ X −βM−γδ d )
Where α = weighing factor for exchange rate stability;
β = weighing factor for impact of protective practices;
γ = weighting factor for labor availability
δ = weighting factor for adequacy of support services
3.4. Other feasibility issues

Ecological Feasibility

We have discussed Environmental Impact Analysis under the Technical analysis. When there are
serious ecological implications, it is worthwhile to have a separate and full-fledged ecological
feasibility.
 Legal and Administrative Feasibility

Legal and administrative feasibility is another element of the study. Clearances and Approvals:
Setting up of an industrial unit requires the entrepreneur to obtain a number of clearances and
approvals regarding land use, pollution control and safety.

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