Day 12-Financial Analysis

8/2/2019 Day 12-Financial Analysis

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Financial Viability

J.M.PantManagement Consultant, Trainer and Visiting Professor

+919811030273,[email protected]

www.jemsconsultancy.com
mailto:[email protected]:[email protected]


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J.M.Pant, Management Consultant, Trainer & Visiting Professor+919811030273, [email protected], www.jemsconsultancy.com

Financial Analysis Of Projects

Useful for:

Entrepreneurs

Financial institutions/ banks Shareholders

Venture capitalist

All those involved in project appraisalA financially weak project will soonbecome sick and ultimately close down


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Financial Viability

Objective is to assess project viability byexamining: Estimates of cost of project: whether complete and realistic

Estimates of working capital Source of funds and timely availability- capital structuring

Production capacity, selling price, various cost items

Cost of production and profitability

Balance sheet

Fund flow

Debt and equity servicing capacity of project

Break even, payback, NPV,IRR, EPS


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Cost Of Project

Particulars Rs lakhs

1. Land and site development (cost of land,

development, documentation expenses)2. Buildings (main factory, administration, stores,

utilities, canteen, housing etc. Cost proportional to

type of construction and covered area)

3. Plant and Machinery (equipment, spares, excise,

customs duty, sales tax, packing and forwarding,freight, insurance, foundation, erection and

commissioning. Also whether basis of cost is FOB,

CIF, C&F, ex-works, landed cost)


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Cost Of Project


4. Technical knowhow (lumpsum fees)

5. Training and deputation including foreign technicians

6. Miscellaneous assets and Utilities and services

(furniture, office equipment, vehicles, laboratory

equipment, fire fighting, water, power, gas related items,

workshop, communication etc)

7. Preliminary expenses (company formation expenses,memorandum and articles of association, registration

fees,professional fees of CA, legal fees, public share

issue expenses-underwriting, brokerage, publicity,

merchant banker fee etc)


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Cost Of Project

Particulars Rslakhs

8. Preoperative expenses (expenses incurred prior to start of

commercial production like establishment expenses-rent,

telephone, salaries, travel, power; interest on term loan

during construction, insurance, trial run, market

development expenses etc)

9. Contingencies (for non-firm cost, unforeseen events- taken

at 5 to 10% of estimated value of items 1 to 8)

10. Margin Money for Working Capital (Total Working

CapitalBank loan for Working Capital)

Total Cost Of Project = sum of sl. 1 to 10


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Means Of Finance


1. Equity share capital

Promoters contribution (desirable 25 to 30% of cost of project)

Public issue

Government institutions, SFC, SIDC, banks

Mutual funds

Venture Capital

2. Term Loans3. Capital Subsidy

4. Unsecured loans

Total source of funds= sum of sl. 1 to 4 = Total cost of project


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Working Capital

Current Assets Basis (for example) I II III IV V

1. Materials 1 month (of consumption)

2. Work in progress 1 week(of cost of production)

3. Finished goods 2 weeks (of cost of sales)

4. Bill receivables 2 months of sales

5. Operating expenses 1 month (rent, salaries, power etc)

A. Total C.A = sum 1 to 5

B. CurrentLiabilities

1. Material on credit 15 days

Total Working

Capital(A-B)

= Current AssetsCurrent

Liabilities


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Working Capital

Basis (for example) I II III IV V

C. Bank Borrowings

for Working

Capital

= 75% of Current AssetsCurrent

Liabilities

D. Margin Money for

working Capital

= Total Working CapitalBank

Borrowings for Working Capital

This has to be met through long term finance

During analysis, one should closely examine:

Basis of inventory computation, and norms of inventory

Adequacy of working capital. One should never under estimateworking capital requirement. Be specifically particular about bill

receivables.

Trade creditors for current liabilities


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Working Capital Cycle

Cash Suppliers

Materials

WIP

Finished Goods

Accounts

Receivables

Wages,Salaries,

Factory Overheads


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Estimation Of

Operations/Production & Sales

Year1 Year2 Year3 Year4 Year5

1. Installed capacity (Quantity/day

or per year)

2. No. of working days

3. Estimated annual

operations/production (Quantity)

4. Estimated output as % of plant

capacity

5. Sales (Quantity)..after adjusting

stocks

6. Value of Sales


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Cost of Operations and

Profitability


1. Raw materials, chemicals,

consumables and stores

2. Utilities- power, water, fuel3. Labour-wages and salaries plus

benefits

4. Factory overheads-repairs and

maintenance, rent, insurance etc

5. Administrative expenses-salaries,remuneration to directors,

professional fees, postage,

telephone, fax, office supplies

(stationery, printing etc)


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Profitability

Yr 1 Yr2 Yr3 Yr4 Yr5

6. Marketing expenses: promotion including

advertisement, channel, incentives, salaries

Sales expenses

7. Royalty

8. Total cost of operations (1 to 7)

9. Expected sales

10. Gross profit before interest and depreciation (9-8)

11. Financial expenses:

Interest on term loans

Interest on working capital loan

Other interest (unsecured loans etc)


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J.M.Pant, Management Consultant, Trainer & Visiting Professor

+919811030273, [email protected], www.jemsconsultancy.com


Profitability


12 Depreciation

13 Profit (10-11-12)

14 Preliminary expenses written off

15 Profit/loss before tax (NPBT)(13-14)

16 Tax

17 Profit after tax NPAT (15-16)

18 Dividend on equity capital

19 Retained profit (17-18)

20 Net cash accruals (19+12+14)


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Projected Cash Flow Statement

Year 0 Year1 Year2 Year3 Year4

A Source of Funds

1 Share Capital

2 Profit before tax with interest onterm loans added back

3 Depreciation

4 Increase in term loans

5 Increase in bank borrowings for

working capital6 Increase in capital subsidy

7 Increase in unsecured loans

Total A (1 to 7)


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B Use of Funds

1 Capital Expenditure

2 Increase in working capital

3 Decrease in term loans

4 Decrease in unsecured loans

5 Decrease in bank borrowings for

working capital

6 Interest on term loans

7 Taxation

8 Dividends

Total B (1 to 8)


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Opening balance

Net surplus/ deficit (A-B)

Closing Balance

One must have enough cash to meet the

requirements, else default in payments to

suppliers, employees etc will occur. Excess money

has to be parked in sound investment schemes. If

adequate cash is not available in any period, one

has to pump in more equity or borrow money.


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Projected Balance Sheet


Liabilities

1 Share Capital

2 Reserves and surplus

3 Term loans

4 Unsecured loans

5 Current liabilities & provisions

Total Liabilities

Assets

1 Fixed assets

Less depreciation

Net Block Assets

2 Current Assets

3 Cash and Bank Balance

Total Assets


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Break Even Analysis

Break Even point as a % of capacity

= [Fixed cost/(Sales-Variable cost)]* % capacity utilization

Take the estimates from cost of operations statement for ayear of maximum capacity utilization

Lower the BEP, better is the project

Volume

RsVariable cost

Fixed cost

Total cost =fixed cost + variable costSales

BEP


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Pay Back Period

Payback period is when cumulative benefits

(profits) is equal to the initial investment.

Lower the payback period better is the project.Year Cost Net

Benefit

PV of net benefit

at 18% interest

Cumulative PV

0 150000 - - -

1 - 40000 33898 33898

2 - 60000 43091 76989

3 - 80000 48691 125680

4 - 70000 36105 161785

Payback period is about 4 years


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Debt Service Coverage Ratio

DSCR (average) =

(PAT+Dep+Int on term loan)/(Term loan instalments + Int of term loan)

Use estimates from cost of operations and cash flow statement. Sum them up for all yearsbased on the loan repayment period, and take the ratio as above.

DSCR measures the capacity of the project to service the term loaninstalments and interest.

DSCR of 2 is good. It provides adequate cover.If DSCR is high, reduce the repayment period and increaseinstalments as project has that capacity.

DSCR below 1.5 requires caution .


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Internal Rate of Return

IRR is that rate at which the discounted cashinflow = discounted cash outflow, or the NPV=0

Higher the IRR, better is the project.

IRR measures the intrinsic efficiency of theinvestment.

It can be used to compare your project with other

projects.It can be used as a benchmark figure foraccepting or rejecting a project.IRR must be computed and analyzed for large investmentdecisions.


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Internal Rate of Return

The projections are made over the life of the project (10 to

15 years)

For the terminal year, salvage value may be added.

YrCash Inflow (A) SumA Cash Outflow (B) SumB NetCash

flow (A-

B)

NPAT+interest

on term loan

Dep. Salvage

value

Capital

expenditure

Increase in

current assets

(working

capital)

0

1..

15


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Ratios

Debt Equity Ratio: Debt/Equity

SSI units- 2:1 to 3:1

Medium-1.5:1

Large- 1:1or lower

Current RatioCurrent Assets/Current Liabilities.

Desirable 1.33:1.

NPV- select one with highest NPVSimple ROI= (NPBT +Interest on termloans)/(Total Investment)


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Ratios

Turnover Ratios

Inventory turnover ratio=Net sales/Inventory

Average collection period=Receivables/Average sales per

daySales to capital employed=Sales/Capital employed

Sales to Receivables=Sales/Receivables

(For example, 12:1 = one month book debts, 3:1 = 4

months book debts)Profitability ratios like margin on sales.

These ratios must be used for comparison with industryaverages


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Day 12-Financial Analysis

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