A study on Capital Budgeting and Asset Management Practices in BHEL

CAPITAL BUDGETING:

Introduction:

Financial management is largely concerned with financing, dividend

and investment decisions of the firm with some overall goal in mind.

Corporate finance theory has developed around a goal of maximizing the

market value of the firm to its shareholders. This is also known as shareholder

wealth maximization. Although various objectives or goals are possible in the

field of finance, the most widely accepted objective for the firm is to

maximize the value of the firm to its owners.

Financing decisions deal with the firm’s optimal capital structure in

terms of debt and equity. Dividend decisions relate to the form in which

returns generated by the firm are passed on to equity-holders. Investment

decisions deal with the way funds raised in financial markets are employed in

productive activities to achieve the firm’s overall goal; in other words, how

much should be invested and what assets should be invested in. The objective

of the investment or capital budgeting decision is to maximize the market

value of the firm to its shareholders. The relationship between the firm’s

overall goal, financial management and capital budgeting is depicted in Figure

1.1.

Funds are invested in both short-term and long-term assets. Capital

budgeting is primarily concerned with sizable investments in long-term assets.

These assets may be tangible items such as property, plant or equipment or

intangible ones such as new technology, patents or trademarks. Investments in

processes such as research, design, development and testing – through which

new technology and new products are created – may also be viewed as

investments in intangible assets.

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Irrespective of whether the investments are in tangible or intangible assets, a

capital investment project can be distinguished from recurrent expenditures by

two features. One is that such projects are significantly large. The other is that

they are generally long-lived projects with their benefits or cash flows

spreading over many years.

Sizable, long-term investments in tangible or intangible assets have

long-term consequences. An investment today will determine the firm’s

strategic position many years hence. These investments also have a

considerable impact on the organization’s future cash flows and the risk

associated with those cash flows. Capital budgeting decisions thus have a

longrange impact on the firm’s performance and they are critical to the firm’s

success or failure.

As such, capital budgeting decisions have a major effect on the value

of the firm and its shareholder wealth. It deals with capital budgeting

decisions, defines the shareholder wealth maximization goal, and distinguishes

three types of investment project on the basis of how they influence the

investment decision process, discusses the capital budgeting process and

identifies one of the most crucial and complex stages in the process, namely,

the financial appraisal of proposed investment projects. This is also known as

economic or financial analysis of the project or simply as ‘project analysis’.

`Actual project analysis in the real world involves voluminous, tedious,

complex and repetitive calculations and relies heavily on computer

spreadsheet packages to handle these evaluations

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CAPITAL BUDGETING:

Figure 1.1. Corporate goal, financial management and capital budgeting.

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GOAL OF THE FIRM

Maximize shareholder wealth or value of the firm

Financing Decision Dividend Decision Investment Decisions

Long-term

Investments

Short-term

Investments

CAPITAL BUDGETING

Classification of investment projects:

Investment projects can be classified into three categories on the basis

of how they influence the investment decision process: independent projects,

mutually exclusive projects and contingent projects.

An independent project is one the acceptance or rejection of which

does not directly eliminate other projects from consideration or affect the

likelihood of their selection. For example, management may want to introduce

a new product line and at the same time may want to replace a machine which

is currently producing a different product. These two projects can be

considered independently of each other if there are sufficient resources to

adopt both, provided they meet the firm’s investment criteria. These projects

can be evaluated independently and a decision made to accept or reject them

depending upon whether they add value to the firm.

Two or more projects that cannot be pursued simultaneously are called

mutually exclusive projects – the acceptance of one prevents the acceptance of

the alternative proposal. Therefore, mutually exclusive projects involve

‘either-or’ decisions – alternative proposals cannot be pursued simultaneously.

For example, a firm may own a block of land which is large enough to

establish a shoe manufacturing business or a steel fabrication plant. If shoe

manufacturing is chosen the alternative of steel fabrication is eliminated. A car

manufacturing company can locate its manufacturing complex in Sydney,

Brisbane or Adelaide. If it chooses Adelaide, the alternatives of Sydney and

Brisbane are precluded.

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Mutually exclusive projects can be evaluated separately to select the

one which yields the highest net present value to the firm. The early

identification of mutually exclusive alternatives is crucial for a logical

screening of investments. Otherwise, a lot of hard work and resources can be

wasted if two divisions independently investigate, develop and initiate projects

which are later recognized to be mutually exclusive.

A contingent project is one the acceptance or rejection of which is

dependent on the decision to accept or reject one or more other projects.

Contingent projects may be complementary or substitutes. For example, the

decision to start a pharmacy may be contingent upon a decision to establish a

doctors’ surgery in an adjacent building. In this case the projects are

complementary to each other. The cash flows of the pharmacy will be

enhanced by the existence of a nearby surgery and conversely the cash flows

of the surgery will be enhanced by the existence of a nearby pharmacy.

In contrast, substitute projects are ones where the degree of success (or

even the success or failure) of one project is increased by the decision to reject

the other project. For example, market research indicates demand sufficient to

justify two restaurants in a shopping complex and the firm is considering one

Chinese and one Thai restaurant. Customers visiting this shopping complex

seem to treat Chinese and Thai food as close substitutes and have a slight

preference for Thai food over Chinese. Consequently, if the firm establishes

both restaurants, the Chinese restaurant’s cash flows are likely to be adversely

affected. This may result in negative net present value for the Chinese

restaurant. In this situation, the success of the Chinese restaurant project will

depend on the decision to reject the Thai restaurant proposal. Since they are

close substitutes, the rejection of one will definitely boost the cash flows of the

other. Contingent projects should be analysed by taking into account the cash

flow interactions of all the projects.

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CAPITAL BUDGETING PROCESS:

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Corporate Goal

Strategic Planning

Investment opportunities

Preliminary Screening

Financial appraisal, quantitative analysis, project

evaluation or project analysis

Qualitative factors, judgements and gut feelings

Accept/reject decisions on the projects

Accept Reject

Implementation

Facilitation, monitoring, control and review

Continue, expand or abandon project

Post-implementation audit

The capital budgeting process

Capital budgeting is a multi-faceted activity. There are several

sequential stages in the process. For typical investment proposals of a large

corporation, the distinctive stages in the capital budgeting process are

depicted, in the form of a highly simplified flow chart.

Strategic planning

A strategic plan is the grand design of the firm and clearly identifies

the business the firm is in and where it intends to position itself in the future.

Strategic planning translates the firm’s corporate goal into specific policies

and directions, sets priorities, specifies the structural, strategic and tactical

areas of business development, and guides the planning process in the pursuit

of solid objectives. A firm’s vision and mission is encapsulated in its strategic

planning framework.

There are feedback loops at different stages, and the feedback to

‘strategic planning’ at the project evaluation and decision stages – indicated by

upward arrows in Figure – is critically important. This feedback may suggest

changes to the future direction of the firm which may cause changes to the

firm’s strategic plan.

Identification of investment opportunities

The identification of investment opportunities and generation of

investment project proposals is an important step in the capital budgeting

process. Project proposals cannot be generated in isolation. They have to fit in

with a firm’s corporate goals, its vision, mission and long-term strategic plan.

Of course, if an excellent investment opportunity presents itself the corporate

vision and strategy may be changed to accommodate it. Thus, there is a two-

way traffic between strategic planning and investment opportunities.

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Some investments are mandatory – for instance, those investments

required to satisfy particular regulatory, health and safety requirements – and

they are essential for the firm to remain in business. Other investments are

discretionary and are generated by growth opportunities, competition, cost

reduction opportunities and so on. These investments normally represent the

strategic plan of the business firm and, in turn, these investments can set new

directions for the firm’s strategic plan. These discretionary investments form

the basis of the business of the corporation and, therefore, the capital

budgeting process is viewed in this book mainly with these discretionary

investments in mind.

A profitable investment proposal is not just born; someone has to

suggest it. The firm should ensure that it has searched and identified

potentially lucrative investment opportunities and proposals, because the

remainder of the capital budgeting process can only assure that the best of the

proposed investments are evaluated, selected and implemented. There should

be a mechanism such that investment suggestions coming from inside the firm,

such as from its employees, or from outside the firm, such as from advisors to

the firm, are ‘listened to’ by management.

Some firms have research and development (R&D) divisions

constantly searching for and researching into new products, services and

processes and identifying attractive investment opportunities. Sometimes,

excellent investment suggestions come through informal processes such as

employee chats in a staff room or corridor.

Preliminary screening of projects

Generally, in any organization, there will be many potential investment

proposals generated. Obviously, they cannot all go through the rigorous

project analysis process. Therefore, the identified investment opportunities

have to be subjected to a preliminary screening process by management to

isolate the marginal and unsound proposals, because it is not worth spending

resources to thoroughly evaluate such proposals. The preliminary screening

may involve some preliminary quantitative analysis and judgements based on

intuitive feelings and experience.

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Financial appraisal of projects

Projects which pass through the preliminary screening phase become

candidates for rigorous financial appraisal to ascertain if they would add value

to the firm. This stage is also called quantitative analysis, economic and

financial appraisal, project evaluation, or simply project analysis.

This project analysis may predict the expected future cash flows of the

project, analyses the risk associated with those cash flows, develop alternative

cash flow forecasts, examine the sensitivity of the results to possible changes

in the predicted cash flows, subject the cash flows to simulation and prepare

alternative estimates of the project’s net present value.

Thus, the project analysis can involve the application of forecasting

techniques, project evaluation techniques, risk analysis and mathematical

programming techniques such as linear programming. While the basic

concepts, principles and techniques of project evaluation are the same for

different projects, their application to particular types of projects requires

special knowledge and expertise. For example, asset expansion projects, asset

replacement projects, forestry investments, property investments and

international investments have their own special features and peculiarities.

Financial appraisal will provide the estimated addition to the firm’s

value in terms of the projects’ net present values. If the projects identified

within the current strategic framework of the firm repeatedly produce negative

NPVs in the analysis stage, these results send a message to the management to

review its strategic plan. Thus, the feedback from project analysis to strategic

planning plays an important role in the overall capital budgeting process.

The results of the quantitative project analyses heavily influence the

project selection or investment decisions. These decisions clearly affect the

success or failure of the firm and its future direction. Therefore, project

analysis is critically important for the firm. The project focuses on this

complex analytical stage of the capital budgeting process, that is, financial

appraisal of projects (or simply, project analysis).

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Qualitative factors in project evaluation

When a project passes through the quantitative analysis test, it has to

be further evaluated taking into consideration qualitative factors. Qualitative

factors are those which will have an impact on the project, but which are

virtually impossible to evaluate accurately in monetary terms. They are factors

such as:

_ the societal impact of an increase or decrease in employee numbers

_ the environmental impact of the project

_ possible positive or negative governmental political attitudes towards the

project

_ the strategic consequences of consumption of scarce raw materials

_ positive or negative relationships with labour unions about the project

_ possible legal difficulties with respect to the use of patents, copyrights and

trade or brand names

_ impact on the firm’s image if the project is socially questionable.

Some of the items in the above list affect the value of the firm, and

some not. The firm can address these issues during project analysis, by means

of discussion and consultation with the various parties, but these processes

will be lengthy, and their outcomes often unpredictable. It will require

considerable management experience and judgemental skill to incorporate the

outcomes of these processes into the project analysis.

Management may be able to obtain a feel for the impact of some of

these issues, by estimating notional monetary costs or benefits to the project,

and incorporating those values into the appropriate cash flows. Only some of

the items will affect the project benefits; most are externalities. In some cases,

however, those qualitative factors which affect the project benefits may have

such a negative bearing on the project that an otherwise viable project will

have to be abandoned.

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The accept/reject decision

NPV results from the quantitative analysis combined with qualitative

factors form the basis of the decision support information. The analyst relays

this information to management with appropriate recommendations.

Management considers this information and other relevant prior knowledge

using their routine information sources, experience, expertise, ‘gut feeling’

and, of course, judgement to make a major decision – to accept or reject the

proposed investment project.

Project implementation and monitoring

Once investment projects have passed through the decision stage they

then must be implemented by management. During this implementation phase

various divisions of the firm are likely to be involved. An integral part of

project implementation is the constant monitoring of project progress with a

view to identifying potential bottlenecks thus allowing early intervention.

Deviations from the estimated cash flows need to be monitored on a regular

basis with a view to taking corrective actions when needed.

Post-implementation audit

Post-implementation audit does not relate to the current decision

support process of the project; it deals with a post-mortem of the performance

of already implemented projects. An evaluation of the performance of past

decisions, however, can contribute greatly to the improvement of current

investment decision-making by analysing the past ‘rights’ and ‘wrongs’.

The post-implementation audit can provide useful feedback to project

appraisal or strategy formulation. For example, expost assessment of the

strengths (or accuracies) and weaknesses (or inaccuracies) of cash flow

forecasting of past projects can indicate the level of confidence (or otherwise)

that can be attached to cash flow forecasting of current investment projects.

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Company Overview

Bharat Heavy Electricals Limited (BHEL) is the largest engineering

enterprise of its kind in India and is one of the major power plant equipment

manufacturers in the world.

BHEL's Tiruchirapalli Complex is India's largest manufacturer of

boilers and auxiliaries providing total boiler island solutions for utility,

industrial, captive power and heat recovery applications.

The BHEL Tiruchirapalli Complex comprises five units…

High Pressure Boiler Plant (Tiruchirapalli)

Seamless Steel Tube Plant (Tiruchirapalli)

Boiler Auxiliaries Plant (Ranipet)

Piping Centre (Chennai)

Industrial Valves Plant (Goindwal)

State-of-the-art Manufacturing Facilities

BHEL’s manufacturing facilities are comparable with the best in the

world with modern design, engineering, material preparation, fabrication,

welding, heat treatment, handling, testing and shipping facilities.  

BHEL’s Tiruchirapalli Complex alone has a covered area of over

175000 sq metres with direct railway link to the shipping areas.

International Product Quality

BHEL offers customers worldwide a wide range of products and

services that conform to the highest international quality standards and

specifications with the added advantages of shorter delivery periods and

competitive prices.

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The R&D Advantage

BHEL's Tiruchirapalli Complex is the leading centre for coal-based

research and development in India with hundreds of man-years of expertise in

designing boilers for optimum performance using even low grade fuels. 

In-house R&D facilities include a 6.2 MWe Integrated Gasification

Combined Cycle (IGCC) Demonstration Plant, Asia’s Largest Fuel Evaluation

Text Facility (FETF), FBC and CFBC test rigs, comprehensive test facilities

for test firing of solid and liquid fuels, metallurgical and chemical laboratories,

etc.

Proven Capability

BHEL has supplied boilers and auxiliaries accounting for nearly 70%

of the total installed thermal power generation capacity in India.

BHEL has successfully executed boiler projects in Malaysia and the

Middle East and continues to secure repeat orders from overseas customers for

servicing and renovation of boilers.

PRODUCTS:

Utility boilers

Industrial Boilers

Circulating Fluidised Bed Combustion Boilers

Heat Recovery Steam Generators

Atmospheric Fluidised Bed Combustion Boilers

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SERVICES:

Supply of spares

Residual Life Assessment

Thermal Performance Assessment

Design Updates

Load Regain

Fuel Conversion

Efficiency Improvement

Stoker to fluid bed conversion

Recommendations on chemical cleaning

Electrostatic Precipitator retrofits

 

FACILITIES

BHEL’s Tiruchirapalli Complex is the

largest engineering andmanufacturing

complex in Tamilnadu spread over 2900

acres at Tiruchirapalli and 1250 acres at

Ranipet.

The High Pressure Boiler Plant and the

Seamless Steel Tube Plant at

Asia’s largest Incremental Pipe

Bending Machine

8000 Tonne Hydraulic Press

Tiruchirapalli have a total covered

area of over 200,000 sq metres

while the Boiler Auxiliaries Plant

at Ranipet has a covered area of

around 45,000 sq metres.

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The manufacturing plants are equipped with sophisticated state-of-the-art

facilities for material preparation, handling, heat treatment, welding,

fabrication and testing.

Some of the unique facilites include…

Asia’s largest Incremental Pipe Bending

Machine, an 8000-tonne hydraulic press,

panel processing machines, flatfin welding

machines, a tandem arc SAW machine for

drum long seam welding, a high productive

drum drilling machine, sophisticated tube-

to-tube-sheet welding machines, bore

cladding machines,

Flat Fin Welding Machine

 

HRSG module welding

CNC milling, drilling, boring and

machining facilities, tube and

panel bending machines, spiral fin

and stud welding machines,

plasma cutting systems, CNC gas

cutting machines

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QUALITY

International Recognition

BHEL was the first Indian company to obtain

authrisation to use the prestigious ‘S’ stamp on

equipment manufactured to ASME standards. BHEL

now also has the authorization to use the ASME ‘R’,

‘U’ and ‘U2’ stamps. Calibration Centre

The quality systems of BHEL’s manufacturing plants have also been certified

in accordance with are ISO9000 standards.

Unique Facilities

4MeV Linear

Accelerator

BHEL’s manufacturing plants are equipped with state-

of-the-art analytical, mechanical and non-destructive

testing facilities. Unique facilities include the

sophisticated Calibration Centre which is a nationally

accredited laboratory and the Central Laboratory

which houses a wide range of equipment for

mechanical testing and analysis.

PRODUCT CERTIFICATIONS:

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ASME “S”, “U”& “U2” certificates of authorisation

National Board “R” certificate of authorisation

API “5L”, “6A”, “6D”, “16C”, “17D” monograms

ACCREDITATION:

National Accreditation for Calibration Centre by NABL, India

National Accreditation for Plant Laboratory by NABL, India

ISO CERTIFICATION:

ISO 9001 : 2000 by BVQI

ISO 14001 by DNV

ISO 18001 by DNV

ISO 27001 for ISMS

INTERNATIONAL PROFESSIONAL AGENCIES:

EVT, Germany

Germanischer Lloyds

Lloyds Register of Shipping

Bureau Veritas

American Bureau of Shipping

TUV

SGS

Det Norse Veritas

Indian Boiler Inspectorate

EIL

PDIL

LLB, Germany

BUSINESS GROWTH PLAN:

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BHEL, Trichy has set an ambitious target to reach a turnover of

Rs.10,000 Crores by 2011-12 from Rs.2304 Crores in 2004-05 based on

Business Strategy 2012 0f BHEL Trichy. A growth plan with CAGR of 24%

has been projected

The following chart explains the growth planned

The core business of BHEL Trichy is in Power Boiler with the robust growth

of Indian Economy, The Government of India plans to add 100000 MW by

2012 expected to add at the same rate in 12th and future plans. Corporate

Management has assessed that there is an immediate need for all BHEL units

to revaluate their manufacturing and material handling facilities to identify

gaps if any, taking into account the projected loading in view of anticipated

orders during the 11th & 12th 5 year plan.

EXPORTS:s

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Growth in turnover

in Rs. ‘000 Crores

BHEL Tiruchi has exported boilers and boiler components to Indonesia,

Malaysia, Singapore, Japan, Egypt, Libya, Syria, Malta, Cyprus and the USA.

BHEL boilers in Malaysia

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ENVIRONMENT

BHEL’s Environment Management System gets coveted ISO14001

certification

BHEL’s High Pressure Boiler Plant, Seamless Steel Tube Plant, R&D

Complex and Welding Research Institute located at Tiruchirapalli in the

southern state of Tamilnadu in India, have been awarded the ISO 14001

certification by an independent international certifying authority.

Environment-friendly CFBC boiler technology from BHEL

BHEL supplies a range of Circulating Fluidised Bed Combustion

(CFBC) boilers for burning low grade fuels with significantly reduced

emissions. This technology is now becoming increasingly popular worldwide

particularly in developed nations. 

BHEL Fabric  Filter Technology for Pollution Control

BHEL Fabric Filters for a variety of applications can filter the finest

particulate matter from flue gases before they are released into the atmosphere.

Fabric Filters offer several advantages including compact design and can be

used to achieve emission levels of 10 mg/Nm3 or less.

BHEL Electrostatic Precipitators - Over 99.9% Efficiency

BHEL has unmatched expertise in dust precipitation in utility and

industrial boilers including AFBC and CFBC boilers, co-generation plants,

pulp and paper mills, cement and steel industries. BHEL ESPs are designed

for as low as 20 mg/Nm3 emission rate, operate at collecting efficiencies as

high as 99.98+% and can be used for gas flow rates of up to 37,00,000 m3/hr. 

BHEL offers complete turnkey solutions from problem analysis and

design to erection and commissioning including carrying out feasibility studies

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for ESP installation in existing plants and rendering assistance in carrying out

renovation work on existing precipitators.

BHEL also provides solutions for a wide range of industrial and utility

particulate emission problems. 

BHEL Desalination Plants - Potable water from sea water

BHEL offers turnkey solutions for setting up Desalination Plants from

raw water sourcing to delivery of processed water. Desalination plants of any

capacity for both drinking and industrial water requirements can be supplied.

BHEL has vast experience in building small, medium & large capacity plants

with around 40 such plants currently in operation throughout India. 

BHEL has also set up India’s first Reverse Osmosis process based

open sea intake desalination plant of one million gallons per day capacity and

has been in charge of operation and maintenance of the plant since 1999.

BHEL Wind Electric Generators - Renewable source of energy

BHEL has been in the forefront of developing systems for harnessing

non-conventional energy sources to meet the growing demand for power.

BHEL supplies a wide range of Wind electric Generators with technology

from NORDEX of Denmark. 

Pollution-free public utility vehicle from BHEL - Zero fuel costs!

BHEL's ElectraVan is an environment-friendly smokeless, noiseless,

oil-free battery powered vehicle. BHEL ElectraVans are similar in all other

respects to conventional diesel or petrol vehicles except that it they are run by

an electric motor powered by a pack of rechargeable traction batteries. Ideally

suited for public transport in congested areas, hospitals, factories, wildlife

sanctuaries, airports, schools and heritage sites, BHEL ElectraVans also offer

the added advantage of low maintenance and zero fuel cost. Buyers of BHEL

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ElectraVans are also eligible for a cash subsidy from the Ministry of Non-

Conventional Energy Sources, Government of India, gives a cash subsidy to

the buyers. 

BHEL Solar Water Heaters

BHEL is the pioneer in the field of design, manufacturing and

installation of solar water heating systems in India and has installed systems

adding up to over 74,000 sq m of absorber area and a heating capacity of over

3.7 million litres per day. The largest unit commissioned for space heating has

a capacity of 40000 litres per day.

BHEL Portable Solar Lanterns

BHEL Solar Lanterns are user-friendly, portable, easy to operate,

attractive and of compact design. They are easy to assemble and dismantle,

provide light in all directions and re-charge in 4 hours on sunny days. 

EVENTS

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BHEL’S ENVIRONMENT MANAGEMENT SYSTEM

RECEIVES ISO14001 CERTIFICATION FROM

INTERNATIONAL CERTIFYING AUTHORITY

BHEL’s High Pressure Boiler Plant, Seamless Steel Tube

Plant, R&D Complex and Welding Research Institute located at

Tiruchirapalli, have been awarded the ISO 14001 certification

by an independent international certifying authority. The

certificate was received by Mr KG Ramachandran, Chairman &

Managing Director, BHEL, at a function held at Tiruchirapalli

on December 9.

“Eco-efficiency : A business link to sustainable

development”

Presiding over the function, Mr Ramachandran said

that, “World over there has been a strong shift from

environmental issues being seen as a problem and risk factor by

businesses, to a situation where it is seen as an opportunity

today, leading to efficiency improvement and competitive

advantage. Progressive companies have understood this and are

grabbing the opportunity to demonstrate that they are operating

to high standards like the ISO14000 to gain access to the global

markets. International corporate customers are under pressure

to report their environmental and social performance and they

in turn place demands on their suppliers to document that they

are also meeting high standards. Thus ‘Eco-efficiency’ as a

concept has become a business link to sustainable

development.”

Mr Ramachandran added that continuous improvement

of eco-efficiency of processes, conservation of materials and

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other resources and product improvement for better

environmental performance were the need of the hour and the

focus should be on resource efficiency, waste minimisation and

improved financial performance. He emphasisied that these

shifts were necessary as companies achieved a competitive

edge by improving environmental performance. 

Speaking on the occasion, Shri VK Gopinath, Executive

Director, BHEL Tiruchirapalli Complex said, “At BHEL, we

have always been alive to the concerns of society about cleaner

environment and sustainable development. We have been

continuously making conscious efforts to reconcile

developmental goals with ecological responsibility. We

earnestly believe that our adoption of ISO 14001 standards is

not just a passing fad or a flavour of the month, but is the

reflection of an abiding faith born out of deep conviction

that this award is a definite milestone in our journey towards

business excellence.” In this context, Mr Gopinath observed

that in the future, the CEO of every organisation also has to see

himself as a ‘Chief Environmental Officer’.

As part of BHEL’s efforts towards Environment Management, over

100,000 trees have been planted on its campus and as many as 300 large trees

were transplanted to avoid felling during the year. BHEL also designed and

created a garden for the Erumbeeswarar Rock Temple located at Tiruverumbur

near the BHEL Complex.

CAPITAL BUDGETING PRACTICES IN BHEL

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Capital Budget Analysis - Process Flow

Yes

>Rs 100 Cr?

No

PLANNING AND BUDGET APPROVALS:

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Market/Customer

need analysis

Infrastructure

analysis capacity,

Layouts

Investment Plan & Proposal,

Cost details Financial

Analysis

Feasibility report

to Corporate

Submitted to Board

for approval

Procurement, Co-ordination

& Monitoring

Review by

External Agency

Recommendations

/ Comments

Post Investment

analysis

UNIT CORPORATE

Investment opportunities have to be identified or created; they do not

occur automatically. Investment proposals originate at different levels within a

firm. Most proposals, in the nature of cost reduction or replacement or process

or product improvements take place at plant level. The top management’s

contribution in generating investment ideas is confined to expansion or

diversification projects. The proposal for adding a new plant may arise from

the plant manager who thinks of a better way of utilising idle capacity.

Suggestions for replacing an old machine or improving the production

techniques arise at the factory level.

In BHEL, Trichy proposals for asset are invited from various

departments. The departmental heads pose their requirements in consultation

with the employees under them. The proposals from various department is

collected by the Capital Budgeting Co-Ordination Committee (CBC). The

proposal form is then presented for approval to the appropriate authority. The

purchase of asset involves either small investment or large investment or both.

The Trichy unit is entrusted with an annual amount of Rs. 5 Crore and minor

capital.

Small investment include

Revenue Chargeable Fixed Assets (RCFA) and

Minor capital

Revenue Chargeable Fixed Assets involves capital less than Rs.

10,000. It is a decentralised system of decision making. There is no

limit in the purchase. It is decided by the Industrial Engineering

Department.

Minor Capital means capital ranging from Rs. 10,000 to Rs. 20,00,000

fall under this category. It is owned by the Capital Budgeting Co-

ordination Committee approved by the Executive Director locally. The

Executive Director is the head of the Trichy Unit.

Large investment involves capital beyond Rs. 20,00,000. It may be

either modernisation or reconditioning or scheme of assets. It is

approved by the Corporate Office.

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Purchase Requisition is raised by Capital Budgeting Committee. The real need

for the asset is identified and justified by a group of members and the

requisition is made if the approving committee is fully satisfied with the

purchase. Then the procurement activity is done by the capital purchase

department. In the process of procurement of the asset the technical part is

referred to the user as he has a better knowledge in its operations. The

Ordering proposal by the Capital purchase is sent to the Capital Budgeting

Committee for budget clearance. For the Budget clearance the proposal is sent

to the Finance Department there they cross check the estimated amount with

the list of assets which were approved at the time of planning and check that

the estimated amount does not exceed. In case if the amount exceeds, upto

10% of the estimated amount is relaxable beyond that they should again get

capital budget approval. Then the purchase order is released and the asset is

being procured and is supplied to the concerned department or the user.

Below is a typical project application form example:

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The next presents an advice of project change form: 

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A capital expenditure appropriation request form shown below:

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ASSET MANAGEMENT PRACTICES:

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ADDITION:-

Asset management deals with the addition, maintenance and deletion

of Fixed Assets. The need for asset arises when the production capacity has

increased and there is limited machines to produce or replacement of worn out

machines. The asset may have a life period of 10 to 20 years depending upon

the asset and its usage and after which it should be replaced. The asset should

be replaced when it has lost its capacity and the breakage is high or the power

consumed is high or the number of output is reduced. List of Assets are being

recorded with the Industrial Engineering Department. The department should

justify the real need for the asset. After the real need for the asset is

ascertained, the assets are prioritised based on the need and importance with

the limited capital. This type of prioritising the asset based on the capital is

called capital rationing. The Proposal form which is with the finance

department is cross checked with the purchase order. Then purchase is done in

the form of tendering.

The tender may be either:-

Open

Limited

Single

Open tender is

Limited tender is

Single tender is

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After deciding on tendering options, quotations from various suppliers

are received. The supplier who provides the best quality, cheap rate and who

satisfies all the requirements are selected. The technical part is verified and

then th supplier is finalised. Then the purchase order is released. The order is

made to the supplier and the asset is now procured. The receipt is obtained on

the procurement of the asset. After which the erection and the commissioning

of the asset takes place by the Maintenance and Service Department in the

presence of the vendor’s representative. Then the asset is verified by the user.

He then gives his acceptance that the machine is ready for use and it is as per

the required specifications of the user.

MAINTENANCE:

BHEL deals with machines that are costly. So higher the value of

machinery more the importance of its maintenance. It is not only the

machineries that need maintenance but also the building walls, compound,

outside garden, stair cases, fans, lighting system, electricity generator sets etc.

all needs maintenance to create a good work ability and work atmosphere. All

this costs money and hence the chief of maintenance has to give priorities.

IMPORTANCE AND NECESSITY OF MAINTENANCE:

Equipment breakdown leads to stoppage of production and hence loss

of man hours and machine hours

Many times if the first stage machine is non-operative next ‘n’ number

of machines will be idle due to no feeding of material due to

operational sequence need.

Some of the breakdown losses are quantifiable and some are not

quantifiable.

Due to lack of maintenance product quality will be poor and

inconsistent.

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The losses and inconvenience created due to equipments breakdown

are summed up as under.

Rescheduling of production plan causing delay in supply.

Rejection, damage to components due to faulty machines.

Loss of production and man hours.

Increasing sub-contracting and hence more cost and

Shortfall is also taken care by over time and hence increases

costs.

A D

B C

Warranty Ageing

Phase Phase

Newly installed equipment shows a very high rate of failure.

Greater failure rate is common during the initial phase. Once this phase

is over, the failure rate dips relatively. This behaviour comes close to

hyper-exponential distribution. It is a result of poor design and poor

installation. The equipment’s initial run allows those failures which

were inherent in it.

The other extreme is that of wear and tear on ageing of the

equipment. There may be a failure, a total failure or death which comes

about at ‘mean’ or ‘average’ time, may be a little earlier or later. The

ageing failure comes close to a bell-shaped normal distribution pattern.

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Now between these two equipments also equipment do fail, but

reasons for these failures are neither inherent design or installation anomalies

or ageing wear out. The cause hear is external to the equipment, and so the

possibility of failing is constant. These graphs are available so that we can

compute Mean Time Between Failures (MTBF), thus indicating system

reliability, availability, anticipated life etc.

Planned maintenance avoids the possibilities of breakdown. It is a

planned activity of oiling, lubricating, cleaning and taking corrective action. It

is a periodical inspection and service activities which are aimed to detect

potential failures and perform minor adjustments or repairs which will prevent

major operating problems in the future. This is a precautionary measure and

ensures continuous use of machines after attending the work. It identifies the

wear out parts, bent or deviated components, loose joints oiling and lubricants

needs bearing wear and tear.

Breakdown down maintenance is the repair which is generally done

after the equipment has attained down state. When any sudden breakdown

occurs in any machine or plant service, the repair maintenance staff

endeavours to locate any mechanical, electrical or some such fault and to

correct it immediately. It is often an emergency nature which will have

associated penalty in terms of expediting cost of maintenance and down time

cost of equippments.

DELETION:

The Asset is either condemned or disposed off. Asset Condemnation

Committee is a group comprising of 6 members from various departments

who are usually the second heads of the department. The committee views the

users report for condemnation. Then the committee visits the asset to be

condemned in the department checks and then declares the asset condemned.

After which the company will fix its resale value.

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When there is a surplus of asset the assets are disposed off. Surplus

occurs when the machine is no longer in use or it is outdated. The reserve

prices for assets are fixed. Then the assets is let for auction. The taker with the

highest bid is selected.

ACCOUNTING FOR ASSETS:

ADDITIONS:

The user who requires the asset is responsible for the

asset. It is because on his request the asset is procured. The asset is procured

by purchase from outside suppliers through tenders or it is transferred in from

other units. Transfer in means if one unit of BHEL has a surplus machine then

it gives notification to all other units. If any other units require the machine

they can procure the machine from that unit at a price without profit. ie, at cost

MAINTENANCE:

Inter departmental movement of assets should be

updated in the registers. The transfer of assets between the departments should

be properly registered so that all the assets are accountable and to avoid any

mis-appropriations.

DELETION:

Disposal of the surplus assets is a form of deletion. It

may be also in the form of transfer out to other units. Transfer out means if a

machine is used by one unit of BHEL for 5 years and the depreciation is also

calculated then the unit purchasing the machine has accumulated depreciation

then the purchasing unit should charge depreciation only from when they are

procuring.

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