NCP-29 Construction Finance Management

Assignment no. 4Construction finance management

Registration no.

ASSIGNMENT

NICMAR / CODE OFFICE

1. Name -

2. Reg. No. -

3. Course No. - NCP-29

4. Course Title - Construction Finance Management

5. Assignment No. - Four

ASSIGNMENTAn offer has been given by a Charitable Trust to develop and build a

facility on a 10,000 Square Meter of plot in a prime locality of Pune

where 5000 Square Meter of area will be used by the trust housing, health

facilities for senior citizens. 5000 Square Meter will be given free to

developer as a cost of development.

Cost of land is Rs. 10,000 / Square Meter

Specifications for flooring:

10% Granite

40% Kota Stone

50% Mosaic cement tiles

R.C.C. framed structure

Aluminium sliding windows – Class A.

Rest specifications as used for Class A constructions.

of 18


Registration no.

Discuss the financial viability of the project and the financial planning of

the project. Developer would like to have minimum 18% net profit on his

investment. Developer can invest only Rs 10 lakhs as his own funds and

can raise not more than Rs 50 lakhs as bank loan.

INTRODUCTION:-Financial Management is concerned with management of funds.

Principles of financial management are applicable to every

concern whether it is business concern, charitable organization or

hospitals or Educational Institutions. It is concerned with

management of money matter.

“Financial Management deals with procurement of funds and

their effective utilization in the business.”

Finance Management as an analytical way of looking into the

financial problem of the firm & consider financial management.

as a part of Overall Management. The emphasis is on the

managerial financial problem from rising of funds to the efficient

& effective use of funds, efficient allocation etc.

The Capital investment relates to allocation of Capital &

involves the decision to commit funds to long term assets, which

would yield benefits in future but future benefits are difficult to

measure & cannot be predicted with certainty. Because of its

uncertain nature, capital investment decision involves risk.

of 18


Registration no.

The Financing decision involves decision on when, where and

where and how to acquire funds to meet the firm’s investment

needs. The central issue is to meet the firm’s investment need.

The central issue is to determine the proportion of equity capital

and debt capital. The time should strive for the best financing

mix or optimum capital structure for the firm.

Objectives of financial Management are:

1. PROFIT MANAGEMENT:- Profit maximization

cannot be sole objective of a company. It is at best a

limited objective.

The term profit is vague.

If Profit maximization is the only goal then risk factor

is altogether ignored

Profit Maximization as an objective does not take into

account the time pattern of returns.

2. WEALTH MANAGEMENT:- Value of a firm is

represented by the market price of the company’s common

stock. The market price serves as a performance index or

report card of the firm’s progress.

The financial management in a bid to maximize owner’s wealth

should strive to maximize returns while minimizing risk. To

ensure maximum return funds flowing in and out of the firm

of 18


Registration no.

should be constantly monitored to assure that they are

safeguarded property utilized. They should seek course of action

that avoid unnecessary risk. The financial reporting system must

be produce timely and accurate information for action.

Then we have to find out the Objectives & Facilities to be

provided of the given Project:

OBJECTIVE : - To utilize the space provided by charitable trust for a social

& noble cause.

To provide a better place for senior citizens.

To make the society aware about the responsibly towards

our elders.

FACILITIES TO BE PROVIDED:- Charitable Trust Share.

Parking Facility should have enough space for four

wheelers & two wheelers.

Security Announcement Booth will be provided.

Landscaping for providing natural green environment to

the area.

Lighting Arrangement for providing necessary yard and

illumination, luminax per sq. ft. will be 160.

Public Toilets for providing basic public convenience.

Fire Fighting system.

Cafeteria

of 18


Registration no.

Health facilities.

Elevators

Then we have to finalize the Schedule for the Project .

PROJECT IMPLEMENTATION SCHEDULE:-

For preparing Project Schedule we have to prepare the Break

down Structure which should cover the total Scope of the work

then we will provide the duration for the each activity.

A REASONABLE project implementation schedule is as stated

below:

Sl. No.

OUTPUT No. of days form start date

1 Approval of concept 02 Site Survey To be done3 Preliminary Drawing, Design and Cost

EstimatesTo be done

4 Preparation of detailed drawings and estimates

25

5 Tender Notice for Construction Contracts 276 Award of Contract 507 Commencement of Construction 92

8 Completion of Construction 365

9 Completion of Project 460

EXECUTIVE SUMMARY:-

of 18


Registration no.

SL No. Project Estimate Unit Qty Rate Amount

in Crs. Remarks

A Civil Works

Construction of Main Building SQM 16000 5000 8

Trust + developers share

B Services & Utilities 0

- Fire Fighting L/s 1 2500000 0.25 - Elevator Nos 4 1700000 0.68 - Electrification L/s 1 3000000 0.3 - Plumbing L/s 2000000 0.2 C Interiors

D - Finishing Items SQM 1000 1000 0.1

- Furniture L/s 500000 0.05

E - Miscellaneous Items L/s 5000000 0.5

F External Site Development L/s 5000000 0.5

TOTAL TOTAL 10.58

Total construction cost /sq. Mt ( not taking into a/c cost trust share of bldg)

105800000

CalculationsTotal land area with developer SQM 5000

of 18


Registration no.

Total build up area on G.F SQM 4000Common area on G.F including foyers ,staircases etc SQM 750Total built up area on F.F SQM 4000Common area on F.F including foyers, staircases etc SQM 750Net area for sale SQM 6500Price of land in Pune SQM 10000Cost of total land RS 50000000Undivided share of land /SQM. Of net area for sale RS 50000000 SQM 7692Add for Interest for on year on 60 lacs RS 900000Interest per Sq. Mt for net are of sale RS 138total cost of land + cost of const + interest /Sq. mt SQM 24108Total Selling price /Sq. Mt. SQM 24246Total amount from selling of commercial property RS 78800000Selling price of commercial space on G.F SQM 24246Total selling amount for G.F RS 78800000Selling price of commercial space on F.F @ 60% of the G.F rate SQM 14548Total selling amount for F.F RS 47280000Total revenue from sales RS 126080000Total expenditure for Developer Total construction cost /sq. Mt ( not taking into a/c cost trust share of bldg) RS 105800000Add for Interest for on year on 60 lacs RS 900000Total expenditure RS 106700000Total Revenue from sales RS 126080000Net profit RS 19380000 Profit % age % 18

of 18


Registration no.

It is desirable to have a balance between working capital & cost

differentials of various sources of capital forming part of

working capital.

The Finance executive has to balance various costs in an effort to

keep the total cost of working capital as low as possible.

These costs may consist of:

1. Cost of having trade credit.

2. Cost of extending liberal credit term to debtors.

3. Cost of letting or allowing cash to remain idle.

4. Cost of managing cash in off periods, and

5. Cost of borrowing money from lenders or lending

institutions.

The Planning of sources of working capital can be:

1. Net gains from operations

2. Sales to fixed assets.

3. Raising long term debt

4. Additional issue of shares.

So we have to calculate the long term interest rate, return rate

and other many useful things which will be helpful in future

control & monitoring the financial planning of working capital.

of 18


Registration no.

TERM LOAN INTEREST AND REPAYMENT SCHEDULE

Term loan : 50 Rate of Interest : 15%

Installment (Nos.) : 9

(Rs.Lakh) Years Opening Quarterly

Installment No.

Principal Closing Balance (Interest)

InterestTotal Amount of Installment Balance Amount

1 Ist Year 50 1 6 44 1.88 7.88 44 2 6 38 1.65 7.65 38 3 6 32 1.43 7.43 32 4 6 26 1.2 7.22 2 Year 24 6.15 30.15 26 5 6 20 0.98 6.98 20 6 6 14 0.75 6.75 14 7 6 8 0.53 6.53 8 8 6 2 0.3 6.3 3rd year 2 9 2 0 0.08 2.08 2.63 28.63

Sufficiency of Design: The responsible person has to check & satisfied

himself before regarding correctness and sufficiency of the design for the

works. Prices shall, except as otherwise provided, cover all its obligations

under the contract and all matters and things necessary for the proper

completion and maintenance of the works. The design in itself should be

complete and should cover all the points required in a finished building.

of 18


Registration no.

FINANCIAL AND ECONOMICS EVALUTION:-

L.1 INTRODUCTION & BASIC FEATURES OF

CAPITAL BUDGETING:-

Capital Budgeting deals with problems of Capital Investment and

take a long range and futuristic view. It involves huge investment

of capital resources and inherent risk.

Capital Budgeting refers to the planned and pre-decided

allocation of funds available to the firm so as achieve the

maximum profitability.

A project involves the current outlay (or current and future

outlays) of funds with the expectation of getting future benefits.

While capital expenditure decisions are extremely important,

they also pose difficulties. Capital expenditure decisions involve

substantial investment. Due to the inherent uncertainty, future

predictions become difficult. It is difficult to identify and

measure the costs and benefits of a capital expenditure since they

are spread out over a long period of time, usually 10 to 20 years

for industrial projects and 20 to 50 years for infrastructure

projects. Capital expenditure decisions are irreversible; a wrong

capital investment decision often cannot be reversed without

incurring a substantial loss. Capital loss increases with advances

in technology. Capital investment decisions have an enormous

bearing on the future of an organization. Capital budgetary

of 18


Registration no.

proposals, therefore, demand a conscious approach in the early

stages of the project formulation.

Capital budgeting deals with problems of capital investment and

takes a long range and futuristic view. It involves huge

investment of capital resources and inherent risk. Characteristics

of capital budgeting are enumerated below.

Capital budgeting entails heavy investment of funds

There is greater uncertainty of the outcome. Every decision

has an element of uncertainty is much more potent here,

since capital budgeting concerns that future.

There is the anticipation of large benefits spread over a

long period. Investment in fixed assets widens the base of

activity and increases the profit earning capacity of the

concern.

A capital budget thus looks ahead to a much longer range in

the future than other budgets do.

Capital budgeting is the process of analysing the financial

benefits of acquiring a capital asset with a view to determine the

viability of the project. It is a complex process, as it takes into

consideration depreciation, taxes and cash flow. This appendix

outlines the methodology of the project budgeting. The capital

budgeting process involves the following steps:

a) Estimate the cash flow.

b) Establish the cost of capital.

c) Apply the investment appraisal criterion.

of 18


Registration no.

L.2 CASH FLOW:-

These components in the product lifecycle costing can be divided

into an initial investment, operating cash flows and a terminal

cash flow.

INITIAL INVESTMENT:- It represents the relevant cash

outflow or the cost of setting up the project.

Initial investment = Cost of capital assets + Installation costs

+ Working capital margin + Preliminary and pre-operative

expenses - Tax benefit on capital assets, where applicable.

OPERATING CASH FLOWS:- These are the relevant cash

inflows and outflows resulting from the operation of the

project during its economic life.

Operating cash inflow in a given year= Profit after tax +

Depreciation + Other non-cash charges + Interest on long-term

debt – Tax rebate.

TERMINAL CASH INFLOW:- It is the relevant cash

inflow occurring at the end of the product lifecycle on

account of project liquidation.

Terminal cash inflow = Post -tax proceeds from the sale of

capital assets + Net recovery of working capital margin

+ tax adjustment, where applicable.

of 18


Registration no.

L.3 WEIGHTED AVERAGE COST OF CAPITAL:-

The weighted average cost of capital for a firm is of use in two

major areas: in consideration of the firm’s position and in

evaluation of proposed change necessitating a change in the

firm’s capital. Thus a weighted average technique may be used in

quasi marginal way to evaluate a proposed investment project,

such as the construction of anew building.

L.4 APPLYING THE INVESTMENT APPRAISAL

CRITERION:-

After the capital costs and cash flows are computed, the next step

is to analyse the financial worthiness of the investment proposal.

There are many methods for analysing investment proposals for

making financial decisions. The commonly-used decision

criterion can be divided into two broad categories, i.e.,

discounting criterion and non-discounting criterion.

Discounting criterion. These are based on net present

value, internal rate of return techniques and cost-

benefit analysis.

Non-discounting criterion. In this category, pay–back

period is the commonly-used technique.

of 18


Registration no.

NET PRESENT VALUE (NPV):- It is the total of all the

cash flows, out and in, over the product / plant lifecycle. The Net

Present Value (NPV) is calculated as follows:

NPV = PV of cash flows – Investment

Note.

1) The expected future net cash flows (Inflows – outflows) are

discounted at the cost of capital (r) to the base year (present

time) to obtain the present value (PV) of these flows. Therefore,

it is assumed that all future proceeds can be invested by the

organization at the cost of capital.

2) The initial cost of the investment (1) is subtracted from the

present value (PV) to obtain the net present value (NPV) of the

investment.

3) If the cost of the investment is spread over more than one

year, the future cost must also be discounted at the cost of

capital to the base year.

4) Calculation of the Net Present Value (NPV) is accomplished

using the following formula:

t n

n

t 1

NPV NCF /(1 r) Investment

31 2 n2 3 h

NCFNCF NCF NCFNPV= ............... Investment (1+r) (1+r) (1+r) (1+r)

of 18


Registration no.

where NCF1, NCF2, NCF3, …… NCFn, are the net cash flows

(NCF) for the respective years, r is the cost of capital and n is

the expected life of the project.

An organization should accept projects with a positive NPV and

reject projects with a negative NPV.

INTERNAL RATE OF RETURN (IRR):- It is the interest

rate or discount rate, which gives zero Net Present Value (NPV)

of the investment over the project/plant lifecycle.

IRR (r) is calculated using the following formula:

31 2 n2 3 h

NCFNCF NCF NCF 50= + ........... Investment(1+r) (1+r) (1+r) (1+r) 2

where all the terms have the same definitions as those used in the

NPV method.

IRR can be found using trial and error using PV tables. In the

IRR method, it is assumed that all the future proceeds can be

invested at the IRR rate.

An organization can accept a project that exceeds its cost of

capital and reject those projects with IRR below its cost of

capital. Projects with higher IRR can be preferred over lower

IRR projects.

of 18


Registration no.

PAY–BACK PERIOD: - It is the time (in years) that a

project / plant take to pay back the initial cost of investment

from the expected future net cash flows resulting from the

investment. In other words, it is the time during which the

cumulative cash inflows equal to the original cash outflow. In

this method, a cut-off number of years can also be used to select

or reject the investment proposal. Projects/Plants with shorter

payback periods is preferred to those with longer pay–back

periods.

The pay–back period method does not take into consideration the

time value of money and as such, can lead to incorrect results. If

the expected future net cash flows can be discounted at the cost

of capital to the base year (present time), then the payback

period ranking conforms to the results obtained from NPV and

IRR methods.

BENEFIT-COST RATIO: - It is the ratio of the present

value of benefits to the initial investment. In other words, it

measures the NPV per rupee of outlay.

BCR = Present Value of benefits / Initial investment

If BCR > 1, accept the proposal.

If BCR < 1, reject the proposal.

If BCR = 1, consider other factors for decision.

Summary of Decision Criterion

of 18


Registration no.

FACTORS ACCEPTANCE CRITERION:-

Pay–back Period (PBP) < Target period

Net Present Value (NPV) > 0

Internal Rate of Return (IRR) > Cost of capital

Benefit-Cost ratio ( BCR ) > 1

Net Present Value of Cash Inflow on Investment

31 2 n2 3 h

NCFNCF NCF NCFNPV= + ........... Investment(1+r) (1+r) (1+r) (1+r)

IERNAL RATE OF RETURN (IRR):-

The interest rate or discount rate, which gives zero IRR (r), is

calculated using the following formula:

31 2 n2 3 h

NCFNCF NCF NCF0= + ........... Investment(1+r) (1+r) (1+r) (1+r)

By trial using statistical table, r = Y

of 18


Registration no.

RECOMMENDATION:-We have done rough schematic planning of the project because

detailed planning is subjected to Preliminary designs & can be

done successfully after it. Feasibility report, Preliminary

design/drawings as well as site survey and market survey is

necessary is required for better Financial Planning.

REFERENCE:-Course Material, NICMAR

of 18

NCP-29 Construction Finance Management

Documents

Transcript of NCP-29 Construction Finance Management