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Time value of Money

Time value of Money

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Time value of Money

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  1. Time value of Money • It may be noted that any project which is undertaken will involve the expenditure ie lot of Money. • Money has time value. A rupee today is more valuable than a rupee a year hence. • There are several reasons 1) Individuals in general prefer current consumption to future consumption 2) Capital can be employed productively to generate positive return. An investment of one rupee today would grow to (1+r) a year later( r is rate of return on the investment) * In an inflationary period a rupee today represents a greater real purchasing power than a rupee a year hence

  2. Future value of a single amount • To understand the future value of a single amount ,let us take an example. • A bank is willing to give 10% interest compounded annually, for a period of 3 years, deposit will grow as follows First year principal amount -- 1000/- Interest for one year= 1000*10/100= 100/- Principal amount for second year = 1100/-

  3. contd • Second year Interest would be 110 hence principal for third year = Rs1210/ and interest would for third year =Rs121/- thus value of money at the end of third year would become 1210+121=Rs1331/-. The general formula we can apply to calculate would be n • FVn=PV(1+r) where PV= cash today • FVn = Future value n years later r = interest rate per year n = Numbers of year

  4. Present value of money • As we have discussed future value of money we should also understand Present value of money. Suppose some one promises to give Rs1000/- three year hence if we want to know what is the present value of this money at the interest rate of10% Value three year hence= 1000.00 Value two year hence = 1000( 1/ 1.10) Value one year hence = 1000(1/1,10)(1/1.10)

  5. Key steps in Market and Demand analysis Collection of secondary information Demand forecasting Situational analysis& specification Of objectives Characterization of market Market planning Conduct of market survey

  6. Commercial Appraisal of Project • Commercial appraisal entails assessment of existing demand and projected demand and supply gap in the envisaged product-mix. Market is very important aspect of the project and it must be appraised very critically .Commercial aspect of the project can be assessed by focusing on following aspects: 1- Scope of the market in terms of the demand of product

  7. contd • Assessment of quality &price of the product which result in consumer preference for the product in relation to competitive products • Prospects of entering into export market and likely extent of export sales • Information on government control ,if any, on the sale price ,distribution ,import ,export in respect of product proposed to be manufactured

  8. Commercial Appraisal • Commercial appraisal entails assessment of existing and projected demand and supply gap in envisaged product-mix. Market is very important aspect of the project and must be appraised very carefully and critically , it can assessed by focusing on following aspects: • 1) scope of the market in terms of the demand of the product

  9. continued • Assessment of quality and price of the product which would result in consumer preference for the product in relation to competitive products • Evaluation of the current and future demand and supply of the product mix proposed to be manufactured. • Prospect of entering into export market and extent of export sales

  10. Technical appraisal • Technical appraisal is of great importance in project need assessment. The field covered by technical appraisal is wide, it basically includes investigation regarding location of unit, production process , selection of appropriate technology , technical tie-ups ,scale of production ,size of plant , selection of plant & machinery, utilities required and schedule of implementation.

  11. Location of a Project • The basic consideration for project sites are: 1) Size , suitability and cost of land 2) Availability of adequate water, power , sanitary and sewerage services 3)Transportation facilities 4)Availability of skilled manpower 5) acceptability of project by local people

  12. Raw Material • Availability , adequacy and of reasonable price of raw material are important factor for long term success of the project. Raw materials if imported, one must consider the governmental rules and regulation and also indigenization plan for same so as to reduce cost and development of technology & manufacturing capability for the same . in case cement , glass , aluminium projects leasing of mines is of utmost importance

  13. Manpower and technical management • The availability of appropriate personnel often decides the success or failure of project. The important aspect of technical appraisal is to determine the capability of technical people associated with the project and their capability to manage the project from conception through design , implementation and operation

  14. Environmental & Local aspects • In project appraisal care should be taken for disposal of waste and effluent and it should conform to State pollution control boards. Project should have little detrimental impact on natural resources • Collaboration and tie-ups Due consideration must be given for collaboration and tie-ups so that technology can be absorbed suitably

  15. Financial Feasibility • Financial feasibility is of critical value to the success or failure of project. Financial appraisal involves the evaluation of following aspects • Financial analysis of past working results • Preparation of cost estimates& financial projections • Means of financing • Financial institutions lending the finance

  16. Important aspects • While estimating the cost of project following aspects must be considered 1) Land , site development and building 2)Technical know-how fees 3) Preliminary and capital issue expenses 4)Provision for contingencies 5) Margin money for working capital

  17. Means of Financing • Availability of financial resource is an integral part of managing project . The sources of financing are 1) Share capital and Debenture 2) long term rupee loans/ foreign currency loans from IDBI ,IFCI ,LIC Foreign financial institution like IMF, World Bank, ADB

  18. Conitinued • Deferred payment of Plant and Machineries both indigenous and imported • Unsecured loan from promoters • Banks like State ban of India, ICIC Bank • Foreign collaborators. Sound debt-equity ratio is indispensible for successful operation of projects. This ratio depends on many factors like gestation period

  19. Financial Institutions • The financial institution have played very crucial role in development of various projects In India since India’s independence. They have played a very decisive role in strengthening the India ’economy. An integrated network of more than 60 institutions functioning at all India level as also at State level has been setup not only for financing but also to promote establishment of new projects

  20. Some of the financial Institutions • Industrial Finance corporation of India- The IFCI was set up in 1948 as public corporation was restructured in to a company in July 1993 provides medium and long term loans to Industries • Industrial developments bank of India ( IDBI) Established in 1964 ,The IDBI coordinates the activities of other financial institution, supplements their resources to plan & promote

  21. continued • Medium and large industries. Small Industries Development Bank of India(SIDBI)- A wholly owned subsidiary of IDBI .This the main institution for developing and financing the small scale industries

  22. Economic Appraisal • Economic appraisal as also the evaluation of the project profitability constitute important criterion for the success or failure of the project. Three basic questions are raised: 1) Whether the project would contribute significantly to the development of the sector and economy as a whole? 2)whether Project will contribute to the industrial development of the concerned region

  23. continued • Whether project would improve the socioeconomic status of the people in the region ? Would project result in overall foreign exchange saving/earning or not? Export potential of projects( namely Industries) are also kept in view. Following measures are adopted to assess the viability of the project 1) Economic rate of Return • Investment to employment ratio • Pay back period

  24. Environmental Analysis • Growing concerns of environmental resource depletion and pollution have forced the Planners , Policy-makers and project implementators to take care of environmental on the new and existing projects. Following are the environmental components 1) Air 2) water 3) Land

  25. continued • Fauna and Flora • Monumental resources • Socio-economics • Human aspects Environmental Impact Assessment(EIA) is defined as “An Activity designed to identify , predict , interpret and communicate information about the impact of action on man’s health and well being

  26. Project Implementation • Implementation stage covers the actual development or construction of the projects up to the point at which these become fully operational. It includes monitoring of all the aspects of work or activity as it proceeds and supervision by “ oversight” agencies within the country or external lenders. Every project has start and ending dates, and what happens between these dates is nothing but Implementation. It is the heart of the project

  27. Continued • Implementation is what realizes plan , what generates project outputs and what utilises the scare resources Its role is to mobile the resources which were anticipated and operationalize the activities which were designed .This implies that project activities will achieve anticipated out comes in the sense of technical performance within given cost and time schedules. Implementation has the objective of anticipating deviations from planned performance and making proper adjustment

  28. Task of the Manager • An important task of the project manager is to keep track of the range of project activities , their functional responsibility and their scheduling dependencies. He has to be an enlightened manager of Human resources. Project staff have not only to be motivated to accept the manager’s leadership and direction but also encouraged to take responsibility of project performance

  29. Network Techniques (CPM & PERT) • For sound planning , scheduling and control of project control activities , Network techniques have been found useful .Two techniques , namely, CPM &PERT have been found relevant for Project Management. Network techniques involve breaking up projects in terms of activities to be carried out ,studying their inter-relationship among them , bringing causality of each activity & fixing time schedule for each, to complete project by due date. Top management may apply tecnique based on broad categories compared tolevel use of more detailed technique by lower

  30. Critical Path Method • CPM an acronym for critical path Method was developed in1956-67 by Du Pont company in USA to solve scheduling problems in industrial concern. CPM is basically a technique used for reducing the time required to implement the project , By breaking the project in terms of activities and functions and by fixing their time sequence, it is possible to isolate the most critical activity in project and to compute the critical Path schedule for their implementation. Main thrust of CPM analysis is time-cost relationship

  31. Assumptions • Assumption in CPM analysis are: • Activities and function of a project can be crashed for their implementation • Crashing reduces time but leads to enhanced direct costs because of factor like overtime and wastages. • It involves fixation of time schedule for each activity . cost are two type Direct& indirect

  32. Programme Evaluation & Review Technique • PERT was originally developed in 1958, to facilitate the planning and scheduling of the Polaris fleet Ballistic Missile project of the US government . Designed to handle risk and uncertainty , PERT is widely used in defense and space industry and in other projects involving new technology. In comparison to “Deterministic” approach in the CPM, PERT approach is “Probabilistic”

  33. Formula for PERT computation of an activity • Lewis has given at formula for PERT computation of activity. The estimate of average expected time to perform an activity is a+4m+b te= _______ 6 te= expected time m= most likely time a=optimistic time b= pessimistic time

  34. PERT & CPM comparison • Both techniques have found widespread use in scheduling .they hold good potential for use developing countries • Main thrust of CPM is on time-cost relationship , the focus of PERT is on shortening and controlling project time • The PERT analysis was developed for projects characterized by uncertainty whereas CPM was developed for relatively risk free projects

  35. Financial estimates & Projections Balance sheet Costofproject & time phasing Cash flow statement Means of financing depreciation Interest&Loan repayment Cost of production Estimate of working result Interest on WCA Working capital needs Working capital advance Tax Factor

  36. Means Of Financing • Following means of financing are available 1) Share capital 2) Term Loan 3) Debenture capital 4)Deferred Capital 5) incentive sources 6) Miscellaneous sources

  37. Share capital • Whenever new projects ( even Industrial organization i,e Factory) are considered and raising the money is very important aspect and for that promoters of the industry would put their money and buy the shares of the factory. The number of shares being held by the promoters , represent their ownership . Amount of capital that a company can issue as per its memorandum represents the authorized capital. Other form of capitals are

  38. Forms of capital • Issued capital and subscribed capital. The actual amount paid by investor is called paid-up capital. • An important source of long term financing ,equity capital offers the following advantages • There is no compulsion to pay dividend if firm has insufficient fund • Equity capital has no maturity date • Presently equity dividends are tax exempt in the hands of investors

  39. disadvantages • Sale of equity to outsider will dilute the control of existing owner. • The cost of equity capital is high, usually highest • Equity dividends are paid out of profit after Tax, whereas interest payments are Tax deductible expenses

  40. Debenture • Debentures are a viable alternative to term loans . Debentures are instruments for raising the debt finance. Debenture holders are the creditors of the company. • Debentures are typically secure by mortgages/charges on the immovable property of the company . • Corporate debts may be short-term, or long term. Debentures are normally redeemable in nature

  41. Innovations in debentures • A varieties of debentures have been formulated • Deep- discount bonds – a deep discount bond are issued at a deep discount over its face value. • Convertible debentures – convertible debentures as the name suggest can be converted partially or wholly into equity shares. The conversion premium and conversion timing are predetermined and stated in the prospectus. • Any conversion partial or full be optional at hands of Investor

  42. Indexed Bond • The payoff of atypical indexed bond will have two parts .First part will be fixed amount and second part will be variable component whose value will depend on some index . An indexed bond will appeal to investors who are looking for assured return along with capital appreciation that is linked to some index

  43. Advantages & disadvantages of Debt Financing Term loans and debentures are two important ways of raising long term debts. The advantages are : 1 )Interest on debt is a tax-deductible expense ,whereas equity and preference dividends are paid out of profit after taxes 2) Debt financing does not result in dilution of control

  44. Project evaluation • Project evaluation is concerned with what happens once a project has been put into operation. It is primarily an effort to determine the worth or utility of the project. During project implementation ,evaluation is done to ensure efficiency in resource utilization. Project evaluation is done for one or more of three purpose

  45. Effectiveness • The criterion of effectiveness is the most common method of project evaluation. How effective is the development project? By effectiveness is meant degree of objective achievement it refers to the measure of project’s productivities in yielding the intended result. Efficiency • By efficiency is meant an amount of effort required to produce a given level of effectiveness. If not qualified efficiency means technical efficiency

  46. Impact • Impact is a measure of a projects ’results which actually work to alleviate or reduce the development problems which originated the idea for project in the first instance. Relationship exists in all the three methods , but all the three of these purpose require different method of evaluation. The efficiency criteria is best made while the project is under way in contrast impact evaluation is done after the conclusion of the project

  47. Types of Evaluation • Performance appraisal Performance appraisal of the project usually requires that project manager or senior project staff prepare summary documents on all aspects of project performance. It may take place at any time during project cycle • Audit : An audit is an important part of evaluation technique for evaluating the quality of project management’s handling of project finances. Audit may focus on evaluating the utilization of specialized equipments