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    Capital budgeting is an essential managerial tool used in decision making. One

    duty of a financial manager is to choose investments with satisfactory cash flows and rate

    of return. Therefore, a financial manager must be able to decide whether an investment is

    worth undertaking and be able to choose intelligently between two or more alternatives.

    To do this, a sound procedure is needed to evaluate, compare, and select projects and sub

    options. This procedure is called capital budgeting.

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

    undertaking. Capital budgeting is basically concerned with the justification of capital


    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.

    Capital budgeting is the process by which the financial manager decides whether

    to invest in specific capital projects or assets. In some situations, the process may entail in

    acquiring assets that are completely new to the firm. In other situations, it may mean

    replacing an existing obsolete asset to maintain efficiency.

    Capital budget may be defined as the firms decision to invest its current funds

    most efficiently in the long-term assets in anticipation if an expected flow of benefits over a

    series of years". Therefore it involves a current outlay or series of outlay of cash resources

    in return for an anticipated flow of future benefits. Capital budgeting is the process of

    identifying , analyzing and selecting investment projects whose returns (cash flow) are

    expected to extend beyond one year.

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    Long-term investments represent sizable outlays of funds that commit a firm to

    some course of action. Consequently, the firm needs procedures to analyze and properly

    select its long-term investments. It must be able to measure cash flows and apply

    appropriate decision techniques. As time passes, fixed assets may become obsolete or may

    require an overhaul, at these points too financial decisions are to be made.

    Capital budgeting is the process of evaluating and selecting long-term investments

    that are consistent with the firms goal of maximizing owner wealth. Firms typically make a

    variety of long-term investments, but the most common for the manufacturing firm is in

    fixed assets, which include property (land), plant, and equipment.

    Components of Capital Budgeting

    Initial Investment Outlay

    It includes the cash required to acquire the new equipment or build the new plant, less any

    net cash proceeds from the disposal of the replaced equipment. The initial outlay also

    includes any additional working capital related to the new equipment. Only changes that

    occur at the beginning of the project are included as part of the initial investment outlay.

    Any additional working capital needed or no longer needed in a future period is accounted

    for as a cash outflow or cash inflow during that period.

    Net Cash benefits or savings from the operations:

    This component is calculated as follow:

    The incremental change in operating revenues-The incremental change in the operating

    cost = Incremental net revenue-Taxes Changes in the working capital and other


    Terminal Cash flow

    It includes the net cash generated from the sale of the assets, tax effects from the

    termination of the asset and the release of net working capital.

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    The Net Present Value technique

    Although there are several methods used in Capital Budgeting, the Net Present Value

    technique is more commonly used. Under this method a project with a positive NPV implies

    that it is worth investing in.

    Example: A company is studying the feasibility of acquiring a new machine. This machine

    will cost $350,000 and have a useful life of three years after which it will have no salvage

    value. It is estimated that the machine will generate operating revenues of $300,000 and

    incur $75,000 in annual operating expenses over the useful life of three years. The project

    requires an initial investment of $15,000 in working capital which will be recovered at the

    end of the three years. The firms cost of capital is 16%. The firms tax rate is 25%.

    Steps in Capital Budgeting

    Capital budgeting is the process of determining whether a big expenditure is

    in a company's best interest. Here are the basics of capital budgeting and how it works.

    Company undertakes capital budgeting in order to make the best decisions

    about utilizing its limited capital. For example, if we are considering opening a distribution

    center or investing in the development of a new product, capital budgeting will be

    essential. It will help to decide if the proposed project or investment is actually worth it in

    the long run.

    Identification or Innovation of Investment Projects

    The first step in the capital budgeting process is to identify the opportunities that we have.

    Many times, there is more than one available path that a company could take. We have to

    identify which projects we want to invest and further and which ones do not make any

    sense for company. If we overlook a viable option, it could end up costing us quite a bit of

    money in the long term.

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    Estimating Cash Flow

    We need to determine how much cash flow it would take to implement a

    given project. We also need to estimate how much cash would be brought in by such a

    project. This process is truly one of estimating--it takes a bit of guesswork. We need to try

    to be as realistic as we can in this process. Do not use the best-case scenario for numbers.

    Most of the time, we need to use a fraction of that number to be realistic. If the project takes

    off and the best-case scenario is reached, that is great. However, the odds of that happening

    are not the best on new projects.

    Evaluate the Investment Projects

    Once have identified the reasonable opportunities, we need to determine

    which ones are the best. Look at them in relation to overall business strategy and mission.

    See which opportunities are actually realistic at the present time and which ones should be

    put off for later.

    Selection the Best Investment Project

    After we look at all of the possible projects, it is time to choose the right

    project mix for company. Evaluate all of the different projects separately on their own

    merits. We need to come up with the right combination of projects that will work for

    company immediately. Choose only the projects that match with company goals.

    Implementation of the Project

    Once the decisions have been made, it is time to implement the projects. Implementation is

    not really a budgeting issue, but we will have to oversee everything to be sure it is done

    correctly. After the project gets started, we will need to review everything to make sure the

    finances still make sense.

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    Continuous Evaluation of the Selected Project

    Here, project manager has to see the performance of the selected project. He has to check

    for any error and calculate the profit as per cash flow.

    Application/Grounds of Capital Budgeting

    As already discussed, capital budgeting is used to take decision for future financial

    investment of large amount.

    Purchases of FixedAssets

    Capital budgeting is used to take decision for new investment to purchases land, equipment

    or building for any organisation.

    Modernization of Production Process

    Here one needs to distinguish a new production method and an old one. The need is to

    compare administrative disbursement, life time of projects, salvage value, market price etc

    by financial investment method and determine which is best one and which method need

    to follow: continuation of old method or set new production method?

    Expansion of business

    When a company wants to expanse business, there is a need to take decision for such

    expansion. Such business expansion may necessitate buying a machine for production. In

    this case, company production manager need to calculate the total net cash outlet for

    machine setup and the total profit from this machine for selected year.

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    Importance of Capital Budgeting

    Capital budgeting decisions are of paramount importance in financial decision. So it needs

    special care on account of the following reasons:

    Long-term Implications

    A capital budgeting decision has its effect over a long time span and inevitably affects the

    companys future cost structure and growth. A wrong decision can prove disastrous for the

    long-term survival of firm. On the other hand, lack of investment in asset would influence

    the competitive position of the firm. So the capital budgeting decisions determine the

    future destiny of the company.

    Involvement of large amount of funds

    Capital budgeting decisions need substantial amount of capital outlay. This underlines the

    need for thoughtful, wise and correct decisions as an incorrect decision would not only

    result in losses but also prevent the firm from earning profit from other investments which

    could have been undertaken.

    Irreversible decisions

    Capital budgeting decisions in most of the cases are irreversible because it is difficult to

    find a market for such assets. The only way out will be to scrap the capital assets so

    acquired and incur heavy losses.

    Risk and uncertainty

    Capital budgeting decision is surrounded by great number of uncertainties. Investment is

    present and return is future. The future is uncertain and full of risks. Longer the period of

    project, greater may be the risk and uncertainty. The estimates about cost, revenues and

    profits may not come true.

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    Accept-reject decisions

    Business firm is confronted with alternative investment proposals. If the proposal is

    accepted, the firm incur the investment and not otherwise. Broadly, all those investment

    proposals which yield a rate of return greater than cost of capital are accepted and the

    others are rejected. Under this criterion, all the independent proposals are accepted.

    Limitation of Capital Budgeting

    Capital budgeting is very important to take future financial decision. Because future profit

    and loss depends of capital budgeting. But capital budgeting has some limitations.

    Lack of Adequate Data, Lack of Reliability of the Data, Problem of Measuring Future, Timing

    of the Projects, Problems of Quantification, Personal Judgment of the Decision.


    Methodology: Methodology may be a description of process, or may be expanded to

    include a philosophically coherent collection of theories, concepts or ideas as they relate to

    a particular discipline or field of inquiry.

    Methodology may refer to nothing more than a simple set of methods or procedures or it

    may refer to the rationale and the philosophical assumptions that underlie a particular

    study relative to the scientific method. For example, scholarly literature often includes a

    section on the methodology of the researchers.

    RESEARCH: Research is defined as human activity based on the intellectual application in

    the investigation of matter. The primary purpose for applied research is discovering,

    interpreting, and the development of the methods and systems for the advancement of

    human knowledge on a wide variety of scientific matters of our world and the universe.

    Research can use the scientific method, but need not do so.

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    SCOPE OF RESEARCH: Research needs valuable resources such as money, time, materials,

    manpower and machines to get the work done effectively to minimize input value for a unit

    value of output and the return-on-investment.


    The assigned task was to conduct a survey for a well reputed company. Research is

    concerned with the systematic and objective collection, analysis and evaluation of

    information about specific aspects in order to help management make effective decisions.

    Once the aspect is identified and defined, it is the responsibility of the researcher to chalk

    out a comprehensive plan explaining each step required to conduct the research in a

    successful manner.

    OBJECTIVES OF RESEARCH: The principal objective of research is to find solutions to

    problems in a systematic way. In general, the objectives of research can be specified as:

    y To acquire familiarity with a phenomenon.y To study the frequency of connection or independence of any activity or occurrence.y To determine the characteristics of an individual or a group of activities and the frequency

    of the occurrence of these activities.

    y To test a hypothesis about a causal relationship that exists between variables.The first step in research is setting the objectives for which their study is to be undertaken. It is

    essential that objectives are set before hand. The objectives must be hierarchical, quantifiable,

    realistic and verifiable.

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    The capital budgeting in BHEL is based elaborate, which covers the following aspects.

    1) CAPITAL FUNDS BUDGET:-y Five year plansy Annual plan exercise.

    2) FEASIBILITY REPORT/DETAILED PROJECT REPORT:-y Submission and approval procedure/financial limits.y Guidelines for preparation of feasibility reports.y Externally funded schemes.




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    All expenditure exceeding Rs. 10,000 which results in the acquisition of permanent

    assets is called capital expenditure. These assets are intended to be continuously used in

    the business for the purpose or earning revenue directly or indirectly.


    Fiveyear plan of the company constitute the preliminary programmes of budgeted

    investment during the plan period of 5 years. These investments are planned against

    various categories viz schemes under implementation, new schemes to be taken up in

    science and technology, modernization & rationalization and welfare facilities.


    The annual plan comprises yearly capital investment funds budget of the company to

    be submitted to the government for approval. The allocated funds by the government are

    utilized in a planned manner against at the investment schemes of modernization and

    rationalization, township, science and technology.


    Capital funds budget is what enable a programme of action on all capital expenditure

    item to be grouped in one consolidated document. This outlines the proposal for creation of

    new assets additions for increase in production; diversification or reduction of cost ensures

    how these ventures will be financed over a given period. Included five year plan, annual

    plan exercise and no-plan budget exercise, which are described blow.

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    The government has been formulating five-year plans for the economic growth of the

    country. In line with this policy, BHEL also formulates the five-year plans of the company

    and submits to the government for inclusion in every five-year plan of the country.

    Five-year plans exercise normally starts from the third year of the previous five-

    year plan. These schemes included in the five-year plan approved by planning commission

    are prioritized for implementation depending on the need/resources etc, these schemes

    should be in line with Perspective Plan of the company.


    Plan funds are provide by the planning commission for each scheme based the

    progress, funds availability etc, the five-year plan funds are then distributed and released

    as per the annual plans of the undertakings.


    The capital funds budget/annual plan is meant for making provision for cash

    expenditure of capital nature including the foreign exchange component wherever


    The capital funds budget will mainly contain the following information along with

    other information.

    1) Revised estimates for the current year.2) Budget estimated for the ensuring year i.e. budget year


    As per present practice, the annual plan/capital funds budget of the company is

    financed under two major headsBudgetary supports from the government.

    Internal resources of the company.

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    1) The budgetary support from the government is received in the form ofloan and equity the ratio of 1:1 approximately as per the government


    2) Internal resources are the companys own funds/reserves. The presenttrend indicates gradual decline budgetary support from the government

    and it is insisting on utilizing of more internal resources for capital

    funding. This necessitates a rigorous and critical budget formulation



    The complete consolidated capital funds budget as per the prescribed formats/information

    required giving revised budget for current year, funds budget for ensuing year (i.e. budget

    year) preliminary budget for the year following the budget year should reach corporate

    office be 10th August every year. The division will be communicated about the board

    approval/provisional government indications by December/January every year.


    All expenditure on capital equipment like cranes, materials handling equipment,

    special tools and plants equipment, which are required at project sits for erection and

    commissioning purpose etc, should be considered as non-plan expenditure.


    Guidelines for preparation of feasibility report.

    For investments a detailed feasibility report is required to be formulated for approval

    of the competent authority. The feasibility report must spell out in detail the following,

    yObjectives of the scheme/project.

    yConsistency with the company plans/policies.yInputs required and their phasing.yFinancial economic analysis.

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    yImplementation plan.yExpansions programmed in future if any.

    In BHEL the capital investment proposal can be classified broadly as

    ySchemes for expansion of plan capacity diversification etc.yModernization and rationalization, including replacement schemesyTownshipyScience and technology


    Feasibility report for such schemes should include an analysis for the project/plant,

    its present status, its products and this role in the industry. Government view on the

    present/ future growth plans for thee industry to which the products belong and current

    five year plan provisions for the scheme should also be brought out.


    A brief paragraph on alternatives examined/results obtained should be included in

    the report.

    This should done taking into consideration factors like optimum size of the plant,

    location, product mix, technology, demand, transportation etc.


    For the products to which the scheme relates all considerations /parameters analyzed

    in making the choice should be outlined. These may enumerated as follows.ySuitability of technology for the product/raw material availableyStatus of technology within BHELyWhether exiting/new technology, if new, reasons for preference and benefits.

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    yTrends in world/ local markets.yCompetitiveness of the technology chosen.yCollaboration proposedyR&D activities required.yChances of technology chosen getting obsolete.


    In order to help the appraisal in analyzing evaluating the proposal, the

    description should touch upon site, equipment requirements, input requirements, laborsphasing of construction, production built up, and any collaboration required, housing needs



    The detailed market analysis in the feasibility report should answer questions like,

    Total market potential for the product.

    Expected market share.

    Competitors details.

    Based on the market survey, the demand supply position in details should be given.

    Marketing plan for the product based on market survey and studies conducted for the

    product should be mentioned in the report.


    It is necessary that the estimates of capital costs presented in the feasibility report

    should be reasonable, complete and properly estimated. For the purpose of the project

    appraisal, capital costs are essentially those costs, which are incurred before the

    commencement of commercial production. For fixed assets costs like customs duty, excise

    insurance, transportation at the latest applicable rate should be calculated.

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    For the purpose of project appraisal, operation costs are essentially those costs, which

    are incurred after the commencement of commercial production. This will help in financial



    The purpose of financial analysis of a project is to presents some measures to assess

    the financial viability of the project. The data presented in this format should be consistent

    with the production plans, operation costs, and capital costs.


    The feasibility report should also briefly indicate present the results of sensitivity

    analysis. This is relevant whenever the key assumptions made in the feasibility report are

    likely to be changed/affected.


    The feasibility report should briefly indicate the project implementation, organization

    that will be responsible for executing the scheme. This is most essential for

    expansion/diversification schemes at existing plant locations.


    Economic analysis of the viability of the project is evaluated taking in, to the account

    the opportunity cost of the tradable inputs/outputs, which go in to the project, shadow

    prices for foreign exchange, domestic resources costs to the non-tradable inputs. Such

    analysis may be relevant for planning commission in evaluating the projects form the

    national perspective/plans.


    For all capital investment schemes, which have been approved by the government, it

    is essential to prepare a detailed project report, which will form the basis of project

    execution. The purpose of detailed project report is not only to enable projecting a realistic

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    requirement of budgetary funds, but it would also improve the planning the

    implementation aspects of capital projects. The detailed projects reports should be

    submitted within six months from the date of financial sanction for the scheme.


    1. NEED FOR THE PROJECTy Company plans/objectivesy Government policy/five year plansy Industry detailsy Examination of various alternatives and results


    3. PROJECT DESCRIPTIONy Site selection/availability of existing infrastructurey Environmental considerationy Housingy Plant & machinery equipment descriptiony Constructions description and materialsy Manpowery Transportationy Planning of constructiony Production technologyy Input requirements

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    4. MARKETING DEMAND SUPPLYANALYSISy Industry datay Demand/supply positiony Choice and product mixy Selling price and Export potential marketing organization5. CAPITAL INVESTMENT REQUIREMENTy Capital cost for plant and machinery, civil works buildingy Basis for estimationy Other items of capital cost/interest during construction6. OPERATING REQUIREMENTSy Operating cost and its basisy Inventoryy Production built up7. FINANCIALAGENCIESy Assumptions made regarding depreciation, income tax, investment allowances,y Profit and loss statementy Return on investment at various plant capacities,y Discounted cash flow analysisy Financial statementy Break even analysis

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    8. PROJECT IMPLEMENTATIONy Schedule of the activities of the projecty Project organizationy Availability of scarce construction inputsy Infra structure9. SENSITIVITYANALYSISy With respects to demand forecasty With respect to capital costsy With respect to input pricey With respects to any other critical element.


    y Foreign exchange savingsy Development of labour skills/employment generatedy Ancillary developmenty Exporty Time cycle reduction

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    Once the capital budget has been approved, it has to be ensured that targets

    laid down regarding physical progress adhered to. Any shortfall in this regard is likely to

    delay the completion of project and ultimately affects production program me. Therefore,

    each project is continuously monitored at division level both physical and financial.

    For major projects costing more than 5 crores, project review committees are required to

    be constituted having representatives from project unit and corporate office. These

    committees should meet periodically to review the progress and recommend taking

    corrective actions.


    At the beginning of each financial year mid April, each division should make a detailed

    month wise cash outflow plan for each scheme linked with the major physical activities of

    that scheme. Complete progress of the scheme for the budget year should be reported on

    this plant.

    1. MONTHLY REPORTING:The capital expenditure progress should be reported to corporate office in this first

    week of the every month with effect from April.

    2. QUARTER REPORTING:Apart from above, quarterly report should be submitted to corporate for the purpose of

    information to be sent to government/directors and CMD on the progress status everyquarter.

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    3. COMPLETION REPORT:In case of completed projects, a completion report should be submitted one year

    after the start of commercial production


    Substantial investments have been made in the plant and machinery in all the BHEL

    manufacturing division. Through modernization and expansion programmers, new

    machine tool has been added from time to time. New projects are underway increasing

    investment in plant and machinery still to higher level.

    Capital expenditure will be considered to have been accrued for replacement if an item

    of equipment is declared to be unfit to perform the desired functions and similartechnologically better piece of equipments is purchased in its place to continue the specific


    Replacement of plant and machinery may be warranted for the following reasons:

    1. Due to natural wear and tear2. Technological obsolescence3. Change in service requirements4. Accident


    Each unit will have replacement committee, the replacement committee should

    comprise representatives from manufacturing technology, maintenance and services,

    factors engineering, finance industrial engineering management services and central

    planning divisions. They are representatives from the maintenance and services

    department will be the convener does not change often. The committee may formulate a

    written guideline indicating factors, which are to being taken on to account while carrying

    out technical appraisal. Once the need for replacement is established and various

    alternatives suggested, the proposal would be submitted to replacement committee for

    taking the decisions.

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    Replacement committee will also decide the manner in which the existing machine tool,

    is to be disposed off, before giving to outside party, it will examine the possibility of

    assigning the existing machine to alternative uses within the division or sister divisions.

    Having taken the decision on the disposal, responsibility may be fixed on suitable agencies

    within the division.


    Reference has been made in the manual to various governments publications containing

    guidelines/policies which are relevant/useful for the capital budgeting exercise within the

    BHEL and with the other government departments.


    The following budgeting procedure in BHEL is done in four phases which can be

    explained as follows:


    This phase involves the different aspects involved in approval put forth by the department

    concerned. The different steps involved are:-

    1. A letter of requisition with the proposal is sent to the department concerned tothe R&D department. This letter contains the specifications of the item and in

    the case of replacement the need for the replacement is to be clearly specifiedalong with the estimate

    2. This proposal is sent from R&D department to finance, industrial engineeringand maintenance and services departments for their consent.

    3. Finance department looks into the financial aspects of the proposal.

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    4. Industrial engineering department checks whether the specifications are apt forthe proposal.

    5. Maintenance and service department.


    This phase involves the following steps:

    1. The departments which has sent the proposal, gives 100% specifications to thepurchase department.


    The purchase department list outs the suppliers and quotations are invited.

    3. After the quotations are received, the proposal with least cost is opted for, alsokeeping in view the quality of the item.

    4. The item is then ordered.5. The stores department receives the item ordered for.6. The stores department unpacks the item and physical effects if any are checked.7. If the item is satisfactory, it is installed in the right place.


    This phase involves the following steps:

    1. A representative of the supplier gives demonstration with respect to thetechnical aspect and usage of the item.

    2. The item is then put to use.3. From time to time, steps are taken for proper maintenance.

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    If the machines become worn out or obsolete, it is disposed off for replacement.

    The price is described above its continuous cycle. It can be represented diagrammatically

    as follows:




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    Shri B.P. Rao (Chairman & Managing Director)

    PART TIME OFFICIAL DIRECTORSy Shri Saurabh Chandra (Additional Secretary & Financial Adviser)y Shri Rajiv Bansal (Joint Secretary)

    PART TIME NON-OFFICIAL DIRECTORSy Shri S. Raviy ShriAshok Kumar Basuy Shri M.A. Pathany Smt. Reva Nayyary Shri V. K. Jairath

    FUNCTIONAL DIRECTORSy Shri C. S. Verma (Director Finance)y ShriAnil Sachdev(Director HR)y ShriAtul Saraya (Director Power)y Shri O.P. Bhutani(Director (E, R & D))

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    BHEL is the largest engineering and manufacturing enterprise in India in the energy,related/infrastructure sector, today.

    BHEL was established more than 40 years ago, ushering in the indigenous Heavy

    Electrical Equipment industry in India - a dream that has been more than realized with a

    well-recognized track record of performance. The company has been earning profits

    continuously since 1971-72 and paying dividends since 1976-77.

    BHEL manufactures over 180 products under 30 major product groups and caters to

    core sectors of the Indian Economy viz., Power Generation & Transmission, Industry,

    Transportation, Renewable Energy, etc. The wide network of BHEL's 14 manufacturing

    divisions, four Power Sector regional centres, over 100 project sites, eight service centers,

    18 regional offices and one subsidiary enables the Company to promptly serve its

    customers and provide them with suitable products, systems and services -- efficiently and

    at competitive prices. The high level of quality & reliability of its products is due to the

    emphasis on design, engineering and manufacturing to international standards by

    acquiring and adapting some of the best technologies from leading companies in the world,

    together with technologies developed in its own R&D centers.

    BHEL caters to core sectors of the Indian Economy:

    1. Power Generation and Transmission,2. Industry,3. Transportation,

    4. Renewable Energy,

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    Power Generation and Transmission:

    Power Generation Sector comprises thermal, gas, hydro and nuclear power plan


    The company manufactures 220/235/500/540 MW nuclear turbine-generator sets.

    Custom-made hydro sets the power plant equipment manufactured by BHEL is based on

    contemporary technology comparable with the best in the world, and is also internationally


    The company has proven expertise in plant performance improvement through

    renovation, modernization and up rating of a variety of power plant equipment, besides

    specialized know how of residual life assessment, health diagnostics and life extension of



    BHEL manufactures and supplies major capital equipment and systems like captive

    power plants, centrifugal compressors, drive turbines, industrial boilers and auxiliaries,

    waste heat recovery boilers, gas turbines, pumps, heat exchangers, electric machines,

    valves, heavy casting and forgings etc. to a number of industries other than power utilities

    like metallurgical, mining, cement, paper, fertilizers, refineries and petro-chemicals, etc.

    BHEL has also emerged as a major supplier of controls and instrumentation systems,

    especially distributed digital control systems for various power plants and industries.


    Most of the trains on Indian Railways, whether electric or diesel powered are equipped

    with BHELs traction propulsion system and controls. The systems supplied are both with

    conventional DC drives and state of the art AC drives. Indias first underground metro at

    Kolkata runs on drives and controls supplied by BHEL.

    Renewable energy:

    BHEL has been manufacturing and supplying a range of renewable energy system and

    products. It includes solar energy system namely PV modules, PV power plants, solar

    lanterns, street lighting, solar pumps and solar water heating system. A large no of small

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    hydro power stations have also been completed. New areas like wind power generation etc.

    are also being explore for entry.


    The Ramachandrapuram unit of Bharat Heavy Electricals Limited (BHEL) has achieved

    its highest-ever turnover of Rs. 5,004 crore and a record profit of Rs. 930 crore during the

    year 2009-10.

    The company registered a 21 per cent increase in turnover as compared to Rs. 4,149

    crore and 24 per cent increase in profit from Rs. 753 crore in the previous fiscal despite

    global instability, stiff competition and critical input constraints. BHEL Ramachandrapuram

    has set a target of achieving a turnover of Rs. 6,651 crore in the current fiscal, envisaging

    33 per cent growth.

    Announcing the company's results here on Monday, BHEL Ramachandrapuram general

    manager (in-charge) R. Krishnan said the unit had a healthy order book of Rs. 15,264 crore

    and it was facing a major challenge in meeting the contractual requirements. It was,

    therefore, decided to accelerate manufacturing and project delivery for which initiatives

    such as outsourcing of finished assemblies, pre-order advance manufacturing and process

    improvements were being taken.

    He said the unit was contemplating to significantly enhance capital investment for

    capacity expansion during the current fiscal and Rs. 205 crore, 60 per cent higher than the

    previous year's Rs. 128 crore, had been earmarked towards this end.

    Mr. Krishnan said the company was gearing up to meet super critical applications as

    adoption of super critical technology was essential for the low carbon growth strategy ofthe country. BHEL had also initiated steps to enter into technology tie-ups for higher

    capacity compressors to cater to the ever-increasing demand from fertilizer plants and


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    In line with its commitment to expand manufacturing capacity to 20,000 MW by

    2012, BHEL had invested more than Rs. 200 crore during the previous year while the

    company was fully on track to surpass the strategic plan target of Rs. 7,000 crore by the

    end of 2011-12

    Evolution and growth of BHELHyderabad unit:

    The Hyderabad Unit of BHEL is located at Ramachandrapuram which is around 30KM

    from the historic city of Charminar . Foundation Stone of the Plant was laid in 1959 and

    the production commenced in the year 1965. The Unit was set up mainly to manufacture

    60MW and 110MW Steam Turbo Generator sets for State Electricity Boards and also 12

    MW TG Sets. From this small beginning, the Ramachandrapuram Unit has been growing

    steadily in different phases of development and today it caters to a wide spectrum of

    business in Power, Industry, Transmission, Oil and Gas. It now boasts the largest number

    of products under a single roof as compared to any of the other BHEL Units.

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    Phase. I - Project Implementation & Technology absorption (1959-70)

    Phase. II - Diversification (1971-78)

    Phase.III - Technology upgradation (197985)

    Phase.IV - Market orientation (1985-91)

    Phase.V - Adaptation to liberalization (1992-2002)

    Phase.VI - Modernization and Capacity enhancement (2003-2012)


    y As a member of the prestigious BHEL family, BHEL Hyderabad has earned areputation as one of its most important manufacturing units, contributing its lions

    share in BHEL Corporations overall business operation

    y The Hyderabad unit was setup in 1963 and started its operations with manufactureof turbo-generator sets and auxiliaries for 60 and 110 MW thermal utility sets.

    y Over the years it has increased its capacity range and diversified its operations tomany other areas. Today, a wide range of products are manufactured in this unit,

    catering to the needs of variety of industries like fertilizers & chemicals,

    petrochemicals & refineries, paper, sugar, steel, etc.,

    y BHEL Hyderabad unit has collaborations with world renowned MNCs like M/SGeneral Electric, USA, and M/S Nuovo pig none, etc.


    y BHARAT HEAVY ELETRICALS LIMITED (BHEL) is one of the pioneers in engineeringindustries in the world. The vital role played by the BHEL today in the country is themark of its continuous effects to improve the service in the nation by consultancy,

    manufacturing and offering services in Power section.

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    y The success story of BHEL how ever goes back to 1956 when its first plant was setup in BHOPAL. Three major plants in Haridwar, Hyderabad and Tiruchirapalli

    followed this. These plants have been the core of BHELs effects to grow and

    diversify and become one of the most Integrated Power and Industrial Equipment

    manufacturers in the world. The company now has 14 manufacturing units, 8

    service centers and 4 Power stations spread all over India and abroad.

    y BHEL manufactures over 180 products under 30 major product groups and meetthe needs of core sector like Power, Industry, Transmission, Defense,

    Telecommunications, Oil business etc. Its products have established on enviable

    reputation for high quality and reliability. This is due to the emphasis placed all

    along on Design, Engineering and manufacturing to International Standards by

    acquiring and adapting some of the best technologies developed in its own centers.

    BHEL has acquired ISO 9000 certification for quality management and ISO14001

    certification for Environment Management. BHEL caters to the needs of different

    sectors by Designing and Manufacturing according to the needs of its Clients in

    Power sector.

    BHEL Ramachandrapuram unit to upgrade gas turbine facility:

    THE BHEL Ramachandrapuram unit has decided to upgrade its gas turbine facility with

    an initial investment of Rs 34 cores during the current financial year. The investment is

    essentially directed towards procuring machinery to strengthen the existing

    infrastructure, according to Mr. A.N. Jagadeeswaran, Executive Director.

    Buoyed by the good performance in the gas turbine sector, BHEL is also diversifying into

    advanced class turbines, low-cost steam turbine generators and export markets, Mr.

    Jagadeeswaran told Business Line.

    With orders from Kazakhstan, Iran, Oman in hand, the company was exploring markets in

    Algeria, Nigeria, Iran, Bosnia and other Latin American countries. Plans had also been

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    firmed up for the manufacture of gas turbine-driven compressors for gas

    transportation/LNG projects, he said.

    The Ramachandrapuram unit is also focused on upgradation of gas turbines and

    retrofitting for low emissions. The BHEL unit, achieved a turnover of Rs 1,533 cores

    during fiscal 2001-02. It is pinning its hopes of quick turnover growths in the power

    sector. The Union Power Ministry has set an ambitious target of adding about one lakh

    MW of power during the Tenth and Eleventh Five-Year plans.

    BHEL had also equipped itself to provide expertise in life extension studies for the existing

    power plants in the country, he said.

    In the power sector, BHEL units wants to diversify into setting up small, biomass-based

    power plants of the size of 10-15 MW. "There is a definite demand for such compact

    alternate energy units and we propose to capture this market with our advantages", he


    The Ramachandrapuram unit has emerged as an important contender for the 660 MW

    supercritical power plant of NTPC proposed in Madhya Pradesh. The company has

    identified a foreign consortium partner and the bid for the project is to be executed on a

    turnkey basis, as for the NTPC's 500 MW Simhadri power plant in Andhra Pradesh, he said.

    In the area of pumps and heaters, BHEL units had signed up MoUs with Sulzer Pumps of

    Switzerland for the design, upgradation and retrofit of different pumps.


    BHEL has exported its equipment and services to over 50 countries. In Malaysia,

    BHEL has supplied 80% of the Boilers besides several Hydro sets andG

    as Turbines. BHELequipment are in operation in Matta, Cy, Saudi Arabia, Oman, Egypt, Libya, Greece,

    Bangladesh, Srilanka, Iraq, Australia etc. BHEL exports turnkey power projects of Thermal,

    Hydro, Gas based types, Substation projects Rehabilitation project besides a wide variety of

    product like Insulators, Transformers, Valves, Motors, Traction Generators and services for

    Renovation and Modernization and Operation Power station.

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    BHEL is one of the few companies world wide involved in Development of Integrated

    Gasification Combined Cycle (IGCC) Technology, which word uses in clean Coal Technology.

    BHEL R & D efforts have produced several new products. Some of the recent successful R &

    D products are Automated Storage Retrieval Systems, Automated Guided Vehicles for

    Material Transportation, Automatic Robotic Welding Systems.


    The greatest strength of BHEL is its highly skilled and committed people. Every

    employee is given equal opportunity to develop himself and improve his position.

    Continuous training and retraining a positive work culture and participation style of

    management have led to the Development of a motivated work force and enhanced

    Productivity and Quality.



    A world Class, Innovation, Competitive and Profitable Engineering Enterprise

    Providing total Business Solutions.


    To be the leading Engineering Enterprise providing Quality products System and

    services in the field of Energy, Transportation, Industry, Infrastructure and other

    potential areas.


    Meeting commitments made to External and Internal customers.

    Faster learning, Creativity and Speed of response. Respect for Dignity and potential of Individuals. Loyalty and Pride in the Company. Team playing. Zeal to Excel.

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    To ensure a steady growth by enhancing the competitive edge of BHEL in existing

    Business, new areas and International operation so as to fulfill National expectations

    from BHEL.


    To provide a reasonable and adequate return on Capital employed, Primarily

    through improvements in Operational efficiency, Capacity Utilization and

    Productivity and generate adequate Internal resources to Finance the companys

    growth. Confidence in providing increased value for this money through

    International Standards of Product, Quality, Performance and superior customer



    To achieve Technology excellence in operations by development of Indigenous

    Technologies to and efficient absorption and adaptation of Imported Technologies

    to suit Business needs and priorities and provide a competitive advantage of the



    To fulfill the expectation which stock holders like Government as own, employees,

    customers and the country at large have from BHEL.

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    BHEL manufactures a wide range of Power plant equipments and also caters to theindustry sector.

    The products profile includes

    y Gas Turbinesy Steam Turbinesy Compressorsy Turbo generatorsy Pumpsy Pulverizersy Switchgearsy Solar Water Heating Systemsy Oil Rigsy Electrics for Urban Transportation System

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    BHEL - the largestG

    as Turbine manufacturer in India, with the state-of-art facilities in allareas of Gas Turbine manufacture provide complete engineering in-house for meeting

    specific customer requirement.

    With over 100 machines and cumulative fired hours of over four million hours,

    BHEL has supplied gas turbines for variety of applications in India and abroad. BHEL also

    has the worlds largest experience of firing highly volatile naphtha fuel on heavy duty gas



    BHEL has the capability to design, manufacture and commission steam turbines of up to

    1000 MW rating for steam parameters ranging from 30 bars to 300 bars pressure and

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    initial & reheat temperatures upto 6000C. Steam Turbines are manufactured under

    technical collaboration with Siemens, Germany covering the whole rang of requirements

    for Drive, Cogeneration, Captive Power, Utility and Combined Cycle applications. BHEL

    today, is fully equipped to provide comprehensive service to clients covering system

    engineering, equipment design, and turnkey erection and commissionin


    BHEL made its foray into Centrifugal Compressors in the year 1970 with technical

    collaboration from Nuovo Pignone, Italy and since then has been catering to the Fertilizer,

    Refinery, Petrochemical and other process industries. BHEL today, has built up a

    cumulative experience of more than 30 million hours of operation for various applications.

    BHEL offers CENTRIFUGAL compressors for pressures as high as 350Kg/Cm2 and flows

    upto 350,000 Nm3/Hr. BHEL has the unique capability of offering the Compressor with

    any kind of drive being a manufacturer ofGas Turbine, Steam Turbine as-well-as Motors

    and can offer the Compressor station fully tested as per the requirements.

    BHEL offers total package of Compressor with its drive and all the associated auxiliaries

    which includes inter-stage coolers, separators, lube oil and sealing systems, anti-surge

    control systems, instrumentation and controls and process gas and cooling water piping for

    supporting the compressor for continuous and trouble free operation.

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    Compressors are made as per API Standards/Specification as

    y API 610 Centrifugal Pumpsy API 611 Auxiliary Steam Turbinesy API 612 Drive Steam Turbinesy API 613 Gearboxy API 614 Oil Systemsy API 616 Drive Gas turbinesy API 617 Centrifugal Compressorsy API 670 Instrumentationy API 671 Couplingsy API 672 Packaged, Integrally Gearedy Compressorsy API 676 Positive Displacement Pumpsy IS 325 Auxiliary Electric Motorsy

    ASME PTC 10 Performance Test

    y ASME Sec. VIII & IX Heat ExchangersTURBO GENERATORS

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    BHEL presently has manufactured Turbo-Generators of ratings upto 560 MW and is in the

    process of going up to 660 MW. It has also the capability to take up the manufacture of

    ratings up to 1000 MW suitable for thermal power generation, gas based and combined

    cycle power generation as-well-as for diverse industrial applications like Paper, Sugar,

    Cement, Petrochemical, Fertilizers, Rayon Industries, etc. Based on proven designs and

    know-how backed by over three decades of experience and accreditation of ISO 9001, the

    Turbo-generator is a product of high-class workmanship and quality. Adherence to

    stringent quality-checks at each stage has helped BHEL to secure prestigious global orders

    in the recent past from Malaysia, Malta, Cyprus, Oman, Iraq, Bangladesh, Sri Lanka and

    Saudi Arabia. The successful completion of the various export projects in a record time is a

    testimony of BHEL's performance.


    BHEL started manufacture of Pumps during the mid-sixties under technical collaboration

    with M/s Sigma Latin, Czechoslovakia, to meet the requirements of 60 MW, 110 MW and210 MW thermal power stations, the scope of which was widened to meet the

    requirements of power plants up to 500 MW, with the help of another collaboration with

    M/s Weir Pumps, U.K. BHEL has also made some in-house product development to gain

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    spin off benefits from the above collaboration as well as to develop new pumps to meet the

    requirements of Combined Cycle Power plants.

    BHEL has undertaken a design up-gradation and retrofit of the existing 200 KHI Boiler

    Feed pumps Inside Stators with energy efficient hydraulics and cartridge design internals

    under technical tie-up with M/s Sulzer Pumps, Germany; and recommended the upgraded

    200 KHI-S Boiler Feed pump to all customers of 110 MW & 210 MW Power Stations

    operating with the earlier Czech design for increase of pump availability and reliability and

    also considerable reduction in operational costs.


    BHELmanufactures mills for pulverized coal fired Thermal and Industrial boilers. BHEL till

    date has manufactured over 1200 bowl mills and over 100 tube mills, operating in different

    coal fired Thermal power stations in India.

    BHEL has absorbed technology from world leader M/s. Combustion Engineering USA for

    bowl mills. The specific range - 583 XRP/XRS to 1043 XRP covers the-state-of-the-art mills

    required for the Indian market and are supplied as Industrial boilers as-well-as Utility

    boilers of 60 MW, 110 MW, 120 MW, 210 MW, 250 MW & 500 MW capacities.

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    To meet the requirement of very high ash content coal with high moisture, BHEL in

    collaboration with M/s Stein Industry, France of the ALSTHOM group, manufactures Ball

    Tube Mills for Tower-type Boiler as-well-as conventional Boiler. These are horizontal mills

    that grind coal by impact and attrition. They do not lose any of their grinding

    characteristics with time, and provide constant fineness throughout the service life of their

    wear parts. They are the only mills truly adapted to both, very abrasive high -ash coals and

    very low volatile coals which require very fine grinding.


    BHEL is involved in the design, commissioning and service of a wide range of

    Switchgears catering to various applications like power station auxiliaries, power

    distribution, process industries, rural electrification, open cast mines, electric traction and

    other special applications. BHEL started manufacturing circuit breakers in 1965 in

    collaboration with ASEA, Sweden and to keep pace with the technological advancement and

    to meet customer requirements, SF6 technology was introduced in 1981 in collaboration

    with Siemens, Germany for manufacture of 145 kV to 420 kV class circuit breakers. BHEL

    also introduced Vacuum Circuit Breakers in the range of 3.3 kV to 33 kV and the present

    range also includes the indigenously developed and successfully tested 'Gas Insulated

    Switchgear' for 36 kV range.

    Over 750000 Circuit Breakers of different media (Air, Oil, Vacuum and SF6) with variety of

    operating drives (spring & hydraulic), supplied by BHEL are rendering trouble free service

    all over the country and abroad. The switchgear designs are fully type tested as per the

    I.E.C and I.S standards.

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    BHEL a pioneer in the field of design manufacturing and installation of solar water heating

    systems (SWHS) in the country till date have installed systems covering more than 74,000

    m2 of absorber area of capacity over 37 Lakh liters per day. The largest over SWHS of

    40000 LPD for space heating is in use at Dr. Willmar Schwa be India Pvt. Ltd. Noida.

    Solar water heating systems are environmental friendly, pollution free equipments,

    harnessing the abundantly available Sun's energy. They find application at homes, hostels,

    hotels, and hospitals (swimming pool, bathing, washing, cleaning and cooking); inindustrial process heating (Textile, Food processing, Pharmaceutical, Dyeing, Breweries,

    Metal Plating industries); Milk dairies and chilling plants; space heating in central air

    conditioning systems; pre-heating of boiler feed water.

    In the BHEL make Solar Collector, stabilized efficiency values up to 65% is assured under

    normal circumstances over a long period without degradation.

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    BHEL started manufacturing oil field equipment in collaboration with M/s US Steel

    Engineers and Consultants USA (National Oil well), M/s Sky top Brewster USA, M/s

    Branham Industries USA, M/s IRI International, USA. After successful absorption of

    technology, BHEL now has the capability to manufacture conventional deep drilling rigs up

    to a depth of 9000 meters, mobile rigs to a depth of 3000 meters and well servicing rigs to a

    well depth of 6100 meters. BHEL is authorized by the American Petroleum Institute (API)

    for manufacturing products under specification API 4F, API 7K and API 8A.

    BHEL also undertakes refurbishment, up gradation and renovation of the existing rigs withthe customers to provide better flexibility of operation for faster drilling, and higher

    availability of rigs.

    BHEL, since the first order for oil rigs in 1977, has manufactured and supplied 84 nos.

    drilling and well servicing rigs to both M/s ONGC Ltd. and M/s Oil India Ltd., that are

    deployed for drilling and well servicing operations. In addition BHEL has upgraded 3 nos.

    rigs by installing Independent Rotary Drive system.

    BHEL offers services for refurbishment and modernization of the rigs and rig equipment of

    both BHEL make and also others. This includes

    yTotal inspection of rig equipmenty Major overhauling of rig equipment

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    y Supply of spares (for BHEL make rigs)y Refurbishment of rig equipmenty Repairs on mast and substructures and reassessment of

    the structure

    y Up gradation of rigsy Supply and installation of Independent Rotary Drive system on the conventional

    drilling rigs.


    y 25 KV AC, 50 HZ, single phase, broad gauge/metre gauge, Electrical Multiple Unitswith DC Drives.

    y 1500V DC, broad gauge/meter gauge, Electric Multiple Units with DC Drives.y 25 KV AC/1500 VDC broad gauge Electrical Multiple Units with 3 phases drive.y Diesel Electric at Multiple Unitsy Metro Railway.y Tram Cars

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    y BHEL at a Glance:Rupees (In Million)

    2006-07 2007-08 CHANGE (%)

    Turnover 18739 21401 14.2

    ValueAdded 7182 8323 15.9

    Employee (Nos.) 42124 43636 3.6

    Profit Before Tax 3736 4430 18.6

    ProfitAfter Tax 2415 2859 18.4

    Dividend 600 746 24.4

    Dividend Tax 93 127 36.8

    Retained Earnings 1722 1986 15.3

    TotalAssets 22280 29352 31.7

    NetWorth 8788 10774 22.6

    Total Borrowings 89 95 6.3

    Debt : Equity 0.01 0.01 0

    Per Share (in Rupees) :

    - Net worth 179.5# 220.1 22.6

    - Earnings 49.3# 58.4 18.4

    - Dividend

    (US $ in million)

    Turnover 4344 5419 24.8

    Profit Before Tax 866 1122 29.5

    ProfitAfter Tax 560 724 29.3

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    Business Mix Industry Segment Break-up

    BHELs Expected Performance for the year 2010-11

    Gross Sales (Turnover) (Rs. Millions) 380,000

    Gross Margin (Rs. Millions) 81,200

    PBDIT to Total Employment (Rs. Millions) 1.740

    Gross Margin to Gross Block (%) 92.02

    Gross Profit to Capital Employed (at year end) (%) 45.71

    Net Profit to Net Worth (at year end) (%) 25.67

    Added Value to Gross Sales (%) 17.03

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    Further, a stretch Turnover target of Rs. 395,000 Millions has been fixed under 'Excellent'


    In addition, a number of Dynamic parameters covering areas such as, Quality & Customer

    Satisfaction, Human Resource, Engineering and R&D including Technology Development


    Patents & Commercialization (In house developed products), Project Implementation

    (Modernization/Expansion), Capital expenditure for Capacity augmentation, Delivery index


    Customer projects, Extent ofGlobalization, Sustainable development and Corporate social

    Responsibilities have been identified with specific targets for each of them to be achieved

    during the year.


    The strength, Weaknesses, Opportunities and Threats which are being experienced

    by BHEL as a growing concern have been summarized up in the following lines.


    y Vast pool of Trained Man Power.y Excellent state of art facilities.y Good working atmosphere.y Rapport between Management and Union.y Product manufactured to International Quality.y Low labour Cost and Low manufacturing cost.


    y Excess Man Power.y Slippage in delivery commitments.y System implementation inadequate.y No Financial package.y Inadequate compensation package to employees.

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    y Growing Power Sector Machinery.y Liberalization has opened up the market.y Navratna company status.y Dominant player in Domestic Market.y Expert potential growing.


    y Liberalization Entry of MNCs or Private sector more competitiony MNCs taking away good employees with attractive packages.y Government taxation policy against manufacturing sector.

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    Financial management emerged as distinct field of study at the turn of the 20 century. Its

    evolution may be divided into three broad phases.


    It begins the early 1940s and continued through the early 1950s. Though the nature of financial

    management during this phase was similar to that of the traditional phase, greater emphasis

    was placed on the day-to-day problems faces by financial managers in the areas of funds

    analysis, planning and control. The focus shifted to working capital management.


    It begins in the mid 1950s and has witnesses an accelerated pace of development with the

    infusion of ideas from economic theory and application of quantitative methods of analysis.

    Their central concern of financial management is considered to be a rational matching of funds

    to their uses so to maximize the wealth of current shareholders.

    Financial management is service activity, which is associated with providing quantitative

    information, of financial nature and that which may be needed for making economic decision

    regarding the choice among alternative course of actions.

    Thus financial management process of identification, accumulation, analysis, preparation,

    interpretation and communication of financial and control a business firm.

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    Financial management is an area of financial decision making harmonizing individual

    motives and enterprise goals

    Weston and Brigham

    Financial management is the application of the planning and control functions to the

    finance functions

    Howard and Upon.



    The first and perhaps the most important decisions that any firm has to make is

    to define the business or businesses that is wants to be this decision has a significant bearing

    on how capital is allocated in the firm.


    Once a firm has decided on the investment projects it wants to undertake, it has to

    figure out ways and means of financing them. The key issues in capital structure decisions are:

    what is the optimal debt-equity ration of the firm? Which specific instruments of equity and

    debt finance should the firm employ? Which capital markets should the firm access?


    Determining the dividend policy is an important task. The dividend decision involves what

    percentage of profit to be paid of the shareholder. A number of factors affect the dividend

    decision such as market price of the share earnings, tax positions etc.


    Working capital management, also referred to as short-term financial management, refers

    to the day-to-day financial activities that deal with current assets (inventories, debtors, short-

    term holdings of securities, and cash) and current liabilities (short-term debt, trade creditors,

    accruals and provisions).

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    The key issues in working capital management are:

    What is the optimal level of inventory for the operations of the firm?

    How much cash should the firm carry on hand? Etc

    A business proposal regardless of whether it is a new investment or acquisition of another

    company or restructuring initiative-raises the value of the firm only if the present value of the

    future stream of net cash benefit expected from the proposal is greater than the initial cash

    outlay required to implement the proposal.


    The alternative course of action typically has different risk-return implications. A large

    plant may have a higher expected return and a higher risk exposure, where a small plant has

    may have a lower expected return and a lower risk exposure. A higher debt-equity ratio,

    compared to a lower debt-equity ratio, May reduced the cost of capital but expose the firm to

    greater risk.


    It is natural phenomenon that the firm is always in deficit of funds. There are two

    methods of rising of funds.



    Capital budgeting decisions involve long-term funds. The different long-term sources of

    finance generally followed by companies are.


    Equity capital represents ownership capital, as equity shareholders collectively own thecompany. They enjoy the rewards and bear the risk of ownership. However, their liability of the

    owner in a proprietary firm and the partners in a partnership concern is limited to their capital


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    1. They have long-term consequences2. They often involve substantial outlay.3. They may be difficult or expensive.


    y It involves exchange of current funds for the benefits to be achieved in future.y Future benefits are expected to be realized over a series of years.y There is relatively high degree of risk.y They are invariable decisions.y They have long-term and significant effect on profitability of the concern.y They generally involve huge funds.


    Capital budgeting is of a paramount importance in financial decision-making.

    Capital budgeting decision affects the profitability of the firm. They also have a bearing on

    the competitive position of the enterprise. Capital budgeting decisions determine the future

    destiny of the company.y An opportunity investment decision can yield spectacular returns where as an ill-

    advised and incorrect investment decision can endanger the very survival even

    of the large sized firms.

    y A capital expenditure decisions has its effect over a long-term time span andinevitably affects the companys future cost structure.

    y Capital investment decisions are not easily reversible, without much financial lossto the firm.

    y Capital investment involves cost and the majority of the firms have scares capitalresources

    y Capital investment decisions are of national importance because of it determinesemployment, economic activities and economic growth.

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    These decisions add the total revenue of the firm. These investment decisions are

    subject to less uncertainty. This is because the firm has a better feel for potential cost

    saving as it can examine past production and cost data.


    1) Accept-reject decisions:This is a fundamental decision capital budgeting. If the project is accepted, -

    the firm invests in it. If the proposal is rejected, the firm does not invest in it so, by

    applying this criterion, all independent projects are accepted. Independentprojects are projects that do not compete with one another in such a way the

    acceptance a project preclude the possibility of acceptance of another.

    2) Mutually exclusive projects decision:These are projects, which, compete with other projects in such a way that

    the acceptance of one will exclude the acceptance of other projects. The

    alternatives are mutually exclusive and only one may be chosen. Mutually

    exclusive investment decisions acquired significance when more than one

    proposal is acceptable under accept-reject criterion.

    3) Capital rationing decisions:Capital rationing refers to situation in which the firm has more acceptable

    investments requiring greater amount of finance then is available with the firm. It

    is concerned with selection of group of investment proposals actable under

    accept-reject criterion under financial constraints.

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    At each point of time a business firm has a number of proposals regarding various

    number of projects in which it can invest funds. But funds available with the firms are

    always limited and its not possible to invest in all the proposal at a time

    In selecting the criterion, the following two fundamental principles must be

    kept into view.

    y The bigger, the better principles: the principle means that other things being equalbigger benefits are preferable to small ones.

    y The bird in hand principles: this principle means that other things being equal,early benefits as other things are seldom equal.

    Bother the above principles have to be applied to take the right decision


    The methods of appraising capital expenditure proposals can be classified in to two

    broad categories:

    1. Traditional or un discounted cash flow techniques

    2. Discounted or time adjusted cash flow techniques


    The distinguishing characteristics of discounted cash flow capital budgeting

    techniques are that they taking in to consideration the time value of money while

    evaluating the cost and benefits of the project. They also take into consideration the

    benefits and cost occurring during an entire life of the project.


    NPV may be defined as the summation of the present values of the cash proceeds in

    each year minus the summation of the present values of the net cash outflows in each year.

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    The net present value (NPV) of a project is the sum of the present values of all the cash-

    flows positive as well as negative that are expected to occur over the life of the projects.

    The generally formula of NPV is:-


    NPV of project = -------- Initial investment



    Where Ct = Cash flow at the end of year t

    RT = Discounted rate for year t

    The steps to be followed for adopting the NPV methods:

    1) Determine an appropriate rate of the interest that should be selected as aminimum required rate of return. This rate should be the minimum rate of return

    below which the investor considers that does pay him the invested amount.

    2) Compute the present value of total investment outlay; if the total investment is tobe made in the initial year, the present value shall be the same the cost of


    3) Compute the present value of total investment proceeds i.e. cash inflows at theabove determined discounted rate

    4) Calculate the NPV of each project by subtracting the present value of cash out flowfor each project.

    The present value of rupee 1 due in any number of years can be found by using the

    following formula.


    PV = -------


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    Where PV = Present value

    r = rate of interest

    t = number of years




    In case of mutually, exclusive projects, the various proposals would be ranked in order to

    descending order. The proposal with higher NPV is to be accepted.


    1) It recognizes the time value of money.2) It is sound method of appraisal as it considers the total benefits arising out of the

    proposal over its lifetime.

    3) Changing discount rate can be built in to the NPV calculation by altering thedenominators. This rate normally changes because longer the time span, lower the

    value of money and higher, the discount rate

    4) This method is very useful for selection of normally exclusive projects.DEMERITS:

    A. It is difficult to calculate to understandB. The present value method involves the calculation of required rate of return to

    discount the cash flows, which present serious problems.

    C. It is an absolute measure.

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    D. This method may not give satisfactory results in case of projects having differenteffective lives.


    The internal rate of return (IRR) of a project is the discount rate, which makes its NPV

    equal to 0.Put differently, it is the discount rate, which equates the present value of future

    cash flows with the initial investment. It is the value or r in the following equation:


    Investment = -------



    T = ---------



    Ct = Cash flow at the end of the year

    r = internal rate of return (IRR)

    t = life of the project

    Applying following stapes can calculate IRR

    Step 1

    Calculate cash flow after tax

    Step 2

    Calculation fake payback period

    Initial investment

    Fake PBP = ------------------------

    Average cash flow

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    Step 3

    Look for the factor in the present value annuity table in the year column until you arrive at

    figure until you closest to the fake PBP

    Step 4

    Note the corresponding percentage.

    Step 5

    Calculate NPV at that percentage

    Step 6

    If NPV is positive take a rage higher and if NPV is negative take regret lower and once again

    calculate NPV

    Step 7

    Continue Step5 until we arrive at low rates one giving positive NPV and another giving

    negative NPV.


    Actual IRR can be calculated by using the following formula:

    LR + P.V of cash inflows at LR-P.V cash outflows

    IRR = --------------------------------------------------------------------------------- (HR-LR)

    P.V of cash inflows atLR-P.V of cash inflows at HR.

    Where,R = interest rate,

    LR = lower rate

    HR = Higher rate

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    ACCEPT: If the IRR is greater than the cost of capital.

    REJECT: If the IRR is less than the cost of capital.


    1) It recognizes the time value of money.2) It considers all cash flows occurring over the entire life of the projects to

    calculate its return.

    3) It is consistent with the shareholders wealth maximization objective.





    1) It gives misleading and inconsistent results when the NPV of a project doesnot decline with discount rates.

    2) It also fails to indicate a correct choice between mutually exclusive projectsunder certain situations.


    It is ratio of the present value of the cash inflows at the required rate of return to the

    initial cash outflow of the investment. Using the profitability index PI or benefits cost ratio

    (BCR) a project will qualify often acceptance if its PI exceeds one. The NPV will be positive

    greater than one and will negative when the PI is less than one. Thus, NPV& PI approaches

    give the same results regarding the investment proposal. The selection of project with the

    PI method can also be done on the basis of ranging. PI depends upon cash inflows before

    depreciation and after tax. It makes into consideration the scrap value. The formula to

    calculate PI or BCR is as follows:

    Total present value of cash inflows

    PI = ------------------------------------------------

    Total present value of cash outflows

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    1) It gives due consideration to the time value of money.2) Since the present value of cash inflows is divided by initial cash outflows it is a

    relative measure of the projects profitability.


    1) It is difficult to understand2) It involves more computation than traditional methods.


    1. PAY BACK PERIOD METHOD (PBP):Pay back measures the number of years required by the cash flows after tax to pay back the

    original outlay required in an investment proposal. It depends upon cash inflows before

    depreciation and after tax. Payback period does not consider the scrap value. There are two

    ways of calculating the PBP.

    The first method can be applied when the cash inflows are uniform.

    Original investment

    PBP = ------------------------------------------

    ConstantAnnual Cash Inflows

    The annual cash flow represents the earnings i.e. estimated cash savings resulting from

    the proposed investment.

    If the calculated PBP is less than the standard, project is accepted and vice versa

    The second method is used when projects cash flows are not equal and vary from year to

    year. Payback period is calculated.

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    2. DISCOUNTED PAY BACK METHOD:This is developed due to the limitation of the PBP method that it ignores time value of

    money. Hence, an improvement is made where the present values of all inflows are

    cumulated in order of time. The time at which the cumulated present value of cash inflows

    equals the present value of cash outflows is known as discounted PBP. The project, which

    gives a shorter discounted payback period, is accepted.


    Despite its serious short comings the PBP is widely used in appraising investments.

    p The PBP May be regarded roughly as the reciprocal for the IRR when the annualcash inflow is constant and the life of the project fairly long.

    p The PBP is somewhat akin to the breakeven point. A rule of thumb, it serves as auseful shortcut in the process of informational of generation and evaluation

    p The PBP conveys information about the rate at which the uncertainty associatedwith a project is resolved. The shorter the PBP the faster the uncertainty

    associated with the project is resolved and vice versa.


    The payback period method can be used as a decision criterion to accept or reject

    investment proposals. If a single investment is being considered, if the annual pay back

    period is less than the predetermined payback period the project will be accepted, if not it

    would be rejected.

    When the mutually exclusive projects consideration they may be ranked according to

    the length of the payback period. The project with shortest pay back may be assigned

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    1) It is the best method incase o evaluation of single project.2) It is to calculate and simple to understand.3) It is bases on the cash flow analysis.


    1) It completely ignores all cash flows after the payback period.2) It completely ignores time value of money.

    In case the cash flow are unequal the payback period can be found by adding up the cash

    flows until the total is equal to the initial cash outlay of the project.

    3. ACCOUNTING RATE OF RETURN (ARR):Average rate or return is also known as accounting rate or return method. It is based on

    accounting information rather than cash flows. ARR is a technique that helps us in knowing

    the particular project, from which decision can be made to accept or reject the investment


    According to ARR as an accept / reject criterion, the actual ARR would compared with the

    predetermined or a minimum required rate of return or cut off rate. A project can be

    accepted if the actual ARR is higher than the minimum desired ARR, otherwise it is liable to


    ARR depends upon profit after depreciation and tax (PAT), ARR neglects the scrap value.

    The time value of money is not taken into consideration.

    Average annual profit after tax

    ARR = ------------------------------------------------- *100

    Average investment

    Average Investment = NetAdditional working capital + Salvage value +

    1/2(Original Investment-Salvage value).

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    y Expected economic life of the project.y Salvage value of the asset at the end of the economic life.y Capacity of the product.y Selling price of the product.y Production cost.y Depreciation.y Rate of Taxationy Future demand of the product, etc.

    But due to uncertainties about the future the estimates of demand, production, sales

    costs, selling price, etc cannot be exact, for example a product may become obsolete much

    earlier than anticipated due to un expected technological developments all these elements

    of uncertainties have to be take into account in the form of forcible risk while making an

    investment decision. But some allowances for the element of risk have to be proved.


    There are many factors financial as well as non financial which influence the

    capital expenditure decisions and the profitability of the proposal yet, there are many other

    factors which have to be taken into consideration while taking a capital expenditure

    decisions. They are

    1) URGENCY:Sometime an investment is to be made due to urgency for the I survival of the firm

    or to avoid heavy losses. In such circumstances, proper evaluation cannot made though

    profitability tests. Examples of each urgency are breakdown of some plant and machinery

    fire accidents etc.

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    2) DEGREE OF UNCERTAINTY:Profitability is directly related to risk, higher the profits, greater is the risk or


    3) INTANGIBLE FACTORS:Sometimes, a capital expenditure has to be made due to certain emotional and

    intangible factors such as safety and welfare of the workers, prestigious projects, social

    welfare, goodwill of the firm etc.

    4)AVAILABILITY OF FUNDS:As the capital expenditure generally requires the previsions of laws solely influence

    by this factor and although the project may not be profitable. Yet the investment has to be


    5) FUTUREEARNINGS:A project may not be profitable as competed to another today, but it may be profited

    to increase future earnings.

    Sometimes project with some lower profitability may be selected due to constant

    flow of income as compared to another project with an irregular and uncertain inflow of



    Capital expenditure involves no-flexible long-term commitments of funds. The

    success of an enterprise in the long run depends up on the effectiveness with which the

    management makes capital expenditure decision. Capital expenditure decisions are veryimportant as their impact is more or less permanent on the well being and economic health

    of the enterprise. Because of this large scale mechanization and automation and

    importance of capital expenditure for increase in the profitability of a concern. It has

    become essential to maintain an effective system of capital expenditure control.

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    y To make an estimate of capital expenditure and to see that the total cash outlay iswithin the financial resources of the enterprise

    y To ensure timely cash inflows for the projects so that no availability of cash may notbe problem in the implementation of the problem.

    y To ensure that all capital expenditure is properly sanctioned.y To properly coordinates the projects of various departmentsy To fix priorities among various projects and ensure their follow-up.y To compare periodically actual expenditure with the budgeted ones so as to avoid

    any excess expenditure.

    y To measure the performance of the project.y To ensure that sufficient amount of capital expenditure is incurred to keep pace

    with rapid technological development.

    y To prevent over expansion.


    y Preparation of capital expenditure budget.y Proper authorization of capital expenditure.y Recording and control of expenditure.y Evaluation of performance.

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    Lease finance is an agreement for the use of an asset for a specified rental. The owner of the

    asset is called the lesser and the user the lesser

    1) Operating leases2) Financial leases

    Operating leases are short-term no-cancel able leases where the risk of obsolescence in

    borne by the lesser

    Financial leases are long-term non-cancelable leases where any risk in the use of asset is

    borne by the lessee and he enjoys the return too.

    y Preliminary budget estimates for the year following the budget year.GENERAL GUIDELINES:-

    The capital funds b