Project & Finance Decisions & Source of Finance 011009

8/3/2019 Project & Finance Decisions & Source of Finance 011009

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PROJECT & INFRASTRUCTURE FINANCE BY CA. R.C. AGARWAL

DECISION ABOUTDECISION ABOUT

PROJECT & FINANCEPROJECT & FINANCEA PRESENATIONA PRESENATION

BYBYCA. R.C. AGARWALCA. R.C. AGARWAL


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Capital Investments

Importance

Long term effects

Irreversibility Substantial outlays

Difficulties

Measurement problems

Uncertainty


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Types of Investments

Mandatory Investments

Replacement investments

Expansion investments

Diversification investments

R & D investmentsMiscellaneous investments


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Capital Budgeting Process

Financing

Implementation

Selection

Analysis

Review

Planning


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Key Issues in Project Analysis

Market Analysis

Technical Analysis

Potential Market

Market Share

Technical Viability

Sensible Choices

Financial AnalysisRisk

Return

Economic Analysis

Benefits and Costs in Shadow

PricesOther Impacts

Ecological AnalysisEnvironmental Damage

Restoration Measures


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Feasibility Study : A Schematic Diagram

Generation of Ideas

Initial Screening

Is the Idea Prima Facie Promising

Plan Feasibility Analysis

Conduct Market Analysis Conduct Technical Analysis

Conduct Financial Analysis

Conduct Economic and Ecological Analysis

Is the Project Worthwhile ?

Prepare Funding Proposal Terminate

Terminate

Yes No

NoYes

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W

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A

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Key Issues in Major Investment

DecisionsInvestment story

RisksDiscounted Cash Flow Value

Financing

Options


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Basic Considerations : Risk and Return

Investment

decisions

Financing

decisions

Return

Risk

Market value

of the firm


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Identification of Investment opportunityIdentification of Investment opportunity

Monitoring the environmentMonitoring the environment

Corporate appraisalCorporate appraisal

Identifying investment opportunitiesIdentifying investment opportunities

Preliminary screeningPreliminary screening

Sources of Net Present Value (NPV)Sources of Net Present Value (NPV)


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Important aspectsImportant aspects Economic sectorEconomic sector

State of economyState of economy Overall growthOverall growth

Cyclical fluctuationsCyclical fluctuations

Linkage with world economyLinkage with world economy

Trade surplus deficitTrade surplus deficit

Balance of payment situationBalance of payment situation


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Governmental sectorGovernmental sector

Industrial policyIndustrial policy

Government programmes and projectsGovernment programmes and projects

Tax frameworkTax framework

Subsidies, incentives and concessionsSubsidies, incentives and concessions

Import and export policiesImport and export policies

Financing normsFinancing norms

Lending conditions of financial institutions andLending conditions of financial institutions andcommercial bankscommercial banks


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Technological sectorTechnological sector

Emergence of new technologyEmergence of new technology

Access to foreign and domestic technicalAccess to foreign and domestic technicalknowknow--howhow

Acceptability by industryAcceptability by industry


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SocioSocio--Demographic sectorDemographic sector

Population trendsPopulation trends

Age shifts in populationAge shifts in population Income distributionIncome distribution

Educational profileEducational profile

Employment of womenEmployment of women Attitude towards consumption andAttitude towards consumption and

investmentinvestment


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Supplier sectorSupplier sector

Cost and availability of raw materialsCost and availability of raw materials

Cost and availability of energyCost and availability of energy

Cost and availability of moneyCost and availability of money


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Marketing and distributionMarketing and distribution

Market image of firmMarket image of firm

Product lineProduct line Market shareMarket share

Distribution networkDistribution network

Customer loyaltyCustomer loyalty Marketing and distribution costsMarketing and distribution costs


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Production and operationProduction and operation

Condition and capacity of plant andCondition and capacity of plant and

machinerymachinery Availability of raw material and powerAvailability of raw material and power

Locational advantageLocational advantage

Cost structureCost structure


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Research and developmentResearch and development

Research capability of firmResearch capability of firm

Track record of new productTrack record of new productdevelopmentdevelopment

Laboratories and testing facilitiesLaboratories and testing facilities

CoCo--ordination between research andordination between research andoperationsoperations


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Corporate resources and personnelCorporate resources and personnel

Corporate imageCorporate image

Clout with government and regulatoryClout with government and regulatoryagenciesagencies

Type of top managementType of top management

State of industrial relationsState of industrial relations


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Finance and accountingFinance and accounting

Financial leverage and borrowing capacityFinancial leverage and borrowing capacity

Cost of capitalCost of capital Tax situationTax situation

Relations with shareholders and creditorsRelations with shareholders and creditors

Accounting and control systemsAccounting and control systems Cash flow and liquidityCash flow and liquidity


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Profit potential of industriesProfit potential of industries--Porter ModelPorter Model

As per Michael Porter profitability potentialAs per Michael Porter profitability potential

depends on combined strength of 5depends on combined strength of 5

componentscomponents

Threat of new entrantsThreat of new entrants

Rivalry among existing firmsRivalry among existing firms

Pressure from substitute productsPressure from substitute products Bargaining power of buyersBargaining power of buyers

Bargaining power of sellersBargaining power of sellers


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Porter Model

According to Michael Porter the profit potential of an industry

depends on the combined strength of the five basic competitive forces

as shown below

Forces Driving Industry Competition

Potential

Entrants

Suppliers

THE INDUSTRY

Rivalry Among

Existing Firms

Buyers

Substitutes

Threat of New

Entrants

Bargaining

Power of Buyers

Bargaining

Power of

Suppliers

Threat of

Substitute

Products


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Analyse performance of existing industriesAnalyse performance of existing industries

Review imports and exports policiesReview imports and exports policies

Study plan outlays and Government guidelinesStudy plan outlays and Government guidelines

Find out local materials and resourcesFind out local materials and resources

Analyse Economic and Social trendsAnalyse Economic and Social trends

New technological developmentsNew technological developments

Trends of consumptions abroadTrends of consumptions abroad

Possibility of reviving Sick unitsPossibility of reviving Sick units


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Preliminary screeningPreliminary screening

Compatibility with promoterCompatibility with promoter

Consistency with Government prioritiesConsistency with Government priorities

Availability of inputsAvailability of inputs Adequacy of marketsAdequacy of markets

Reasonableness of costReasonableness of cost

Acceptability of risk levelAcceptability of risk level


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Sources of Net Present Value (NPV)Sources of Net Present Value (NPV)

Choosing positive NPV projects is like selectingChoosing positive NPV projects is like selectingunder valued securitiesunder valued securities

Six factors result in positive NPV projectsSix factors result in positive NPV projects

Economies of scaleEconomies of scale

Product differentiationProduct differentiation

Cost advantageCost advantage

Marketing reachMarketing reach Technological edgeTechnological edge

Government policyGovernment policy


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AnalysisAnalysis

Market and demand analysis by expertsMarket and demand analysis by experts

Technical analysis by technical expertsTechnical analysis by technical experts

Necessity for financial estimationNecessity for financial estimationbecausebecause

Project cost will depend on these analysisProject cost will depend on these analysis

and decisionsand decisions Variations and changes in decisions willVariations and changes in decisions will

affect the cost of projectaffect the cost of project


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Collection ofSecondary

Information

Situational

Analysis and

Specification

of Objectives

Conduct of

Market Survey

Characterisation

of the Market

DemandForecasting

Market

Planning

Key Steps in Market and Demand Analysis and their Inter-relationships


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Market and demand analysisMarket and demand analysis

Experts will study mainly:Experts will study mainly:

Situational analysisSituational analysis

Project analyst will conductProject analyst will conductsituational analysis which willsituational analysis which willprovide basis for formal study`provide basis for formal study`


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Collection of informationCollection of information

Secondary information which has beenSecondary information which has been

collected in some other contextcollected in some other context Its accuracy, relevance for the project toIts accuracy, relevance for the project to

be examinedbe examined

To have comprehensive analysis, primaryTo have comprehensive analysis, primaryinformation to be gathered throughinformation to be gathered throughmarket surveymarket survey


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Conduct of market surveyConduct of market survey

To conduct sample surveyTo conduct sample survey

Define target populationDefine target population Select sample sizeSelect sample size

Develop questionnaireDevelop questionnaire

Verify the information collectedVerify the information collected Analyse the informationAnalyse the information


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Characterization of marketCharacterization of market

Based on information, market of theBased on information, market of the

product to be defined in terms ofproduct to be defined in terms of

Effective demandEffective demand

PricePrice

Method of distributionMethod of distribution

ConsumersConsumers Supply and competitionSupply and competition



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Demand forecastingDemand forecasting

Based on the above informationBased on the above information

future demand to be projectedfuture demand to be projected Based on this and other factors theBased on this and other factors the

sales forecasting will be donesales forecasting will be done


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Market planningMarket planning

To have the product reach desired level ofTo have the product reach desired level of

marketmarket

Workout marketing planWorkout marketing plan

PricingPricing

DistributionDistribution

Promotion of productPromotion of product Servicing of productServicing of product


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Technical analysisTechnical analysis

For choosing technology forFor choosing technology for

manufacturing/service themanufacturing/service the

consideration may beconsideration may be

Plant capacityPlant capacity

Investment outlayInvestment outlay

Production costProduction cost Use of technology by other units of firmUse of technology by other units of firm


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Satisfactory arrangement to be made toSatisfactory arrangement to be made toobtain technical knowobtain technical know--how needed forhow needed for

proposed manufacturing processproposed manufacturing process Define materials and input requiredDefine materials and input required

Setting up supply programmeSetting up supply programme


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Acquisition of technology may beAcquisition of technology may be

throughthrough

Technology licensingTechnology licensing Outright purchaseOutright purchase

Joint venture arrangementJoint venture arrangement


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Factors which affect plant capacityFactors which affect plant capacity

decisiondecision

Technology requirementTechnology requirement Input constraintsInput constraints

Investment costInvestment cost

Market conditionsMarket conditions Resources of firmResources of firm



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Choice of location will mainlyChoice of location will mainly

depend ondepend on

Proximity to raw materials andProximity to raw materials andmarketmarket

Availability of infrastructure facilitiesAvailability of infrastructure facilities

Specific piece of land is to beSpecific piece of land is to beidentified for the projectidentified for the project


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Requirement of plant andRequirement of plant and

machinery depends onmachinery depends on

Production technologyProduction technology Plant capacityPlant capacity

Type of productType of product


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Structure and civil works to be dividedStructure and civil works to be divided

inin

Site preparation and developmentSite preparation and development Building and structuresBuilding and structures

Outdoor worksOutdoor works

Environmental aspects to be examinedEnvironmental aspects to be examinedand taken careand taken care


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Important project charts and layout to be preparedImportant project charts and layout to be prepared

General functional layoutGeneral functional layout

Material flow diagramMaterial flow diagram

Production line diagramProduction line diagram Transport layoutTransport layout

Utility consumption layoutUtility consumption layout

Communication layoutCommunication layout

Organizational layoutOrganizational layout

Plant layoutPlant layout

Prepare project implementation planPrepare project implementation plan


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Financial estimation and projectionsFinancial estimation and projections

Cost of projectCost of project

Means of financingMeans of financing

Estimates of sales and productionEstimates of sales and production

Cost of productionCost of production

Working capital requirement and its financingWorking capital requirement and its financing

Profitability projectionsProfitability projections

Projected cash flow statementsProjected cash flow statements

Projected balance sheetsProjected balance sheets

Fi i l P j i


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Balance Sheet

Cash FlowStatement

Means of Finance

and Time Phasing

Interest and Loan

Repayment

Estimate of

Working Results

Working Capital

Advance (WCA)

Cost of Project and

Time Phasing

Interest on WCA

Tax Factor

Depreciation

Cost of Production

Working Capital

Needs

Production Plan

Projected Sales

Financial Projections


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Cost of Project

The cost of project represents the total of all items of outlay associated with aproject which are supported by long-term funds. It is the sum of the outlays on

the following: Land and site development

Buildings and civil works

Plant and machinery

Technical know-how and engineering fees

Expenses on foreign technicians and training of Indian technicians abroad

Miscellaneous fixed assets

Preliminary and capital issue expenses Pre-operative expenses

Margin money for working capital

Initial cash losses


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Land and site developmentLand and site development

Cost of LandCost of Land

Premium on leasehold and conveyancePremium on leasehold and conveyancechargescharges

Leveling and developmentLeveling and development

Approach and internal roadsApproach and internal roads Entry gates and tube wellsEntry gates and tube wells


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Building and civil worksBuilding and civil works

Main plantMain plant

Auxiliary services like steam supply, workshops,Auxiliary services like steam supply, workshops,

laboratory, water supply etclaboratory, water supply etc Godowns, warehouses and open yardGodowns, warehouses and open yard

Canteen, time office, excise office, guest house, staffCanteen, time office, excise office, guest house, staffquarters, garagesquarters, garages

Tanks, wells, chests etc. necessary for plant installationTanks, wells, chests etc. necessary for plant installation Sewers, drainage and civil engineering worksSewers, drainage and civil engineering works


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Plant and machineryPlant and machinery

Cost of imported machineryCost of imported machinery

FOB (free on board) valueFOB (free on board) value Shipping, freight, insuranceShipping, freight, insurance

Import dutyImport duty

Clearing, loading/unloading,Clearing, loading/unloading,transportationtransportation


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Plant and machineryPlant and machinery--contcont

Cost of indigenous machineryCost of indigenous machinery

FOR (free on rail) costFOR (free on rail) cost Sales tax, octroi and other taxesSales tax, octroi and other taxes

Transportation to siteTransportation to site

Cost of stores and sparesCost of stores and spares Foundation and installation costFoundation and installation cost


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Technical knowTechnical know--how and engineeringhow and engineering

feesfees

Royalty payable for the knowRoyalty payable for the know--how will behow will beoperating exp.operating exp.

Expenses on foreign techniciansExpenses on foreign technicians

Expenses of training Indian techniciansExpenses of training Indian technicians

abroadabroad


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Miscellaneous fixed assetsMiscellaneous fixed assets

Furniture, vehicles, office machinery andFurniture, vehicles, office machinery andequipmentequipment

Railway siding, diesel generating sets,Railway siding, diesel generating sets,transformerstransformers

Boilers, laboratory and workshop equipmentBoilers, laboratory and workshop equipment

Fire fighting equip., effluent treatment plant etc.Fire fighting equip., effluent treatment plant etc. Exp. incurred for patents, trade marks,Exp. incurred for patents, trade marks,

copyrights etc.copyrights etc.


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Preliminary and capital issuePreliminary and capital issue

expensesexpenses

Identifying project, market survey,Identifying project, market survey,feasibility reportfeasibility report

Memorandum and Articles ofMemorandum and Articles of

associationassociation Issue expensesIssue expenses


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PrePre--operative expensesoperative expenses

Establishment expensesEstablishment expenses

Rent, rates and taxesRent, rates and taxes

Traveling and conveyanceTraveling and conveyance Interest and commitment chargesInterest and commitment charges

Insurance and mortgage chargesInsurance and mortgage charges

StartStart--up expensesup expenses

These expenses are related to project implementationThese expenses are related to project implementationand hence for expected delay, additional estimation ofand hence for expected delay, additional estimation of

20 to 25% escalation to be taken into account20 to 25% escalation to be taken into account


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Provision for contingenciesProvision for contingencies

Divide project cost in two parts i.e. firmDivide project cost in two parts i.e. firmcost and noncost and non--firm cost (variable cost)firm cost (variable cost)

Provide for 5 to 10% of nonProvide for 5 to 10% of non--firmfirm

(variable) cost as contingency(variable) cost as contingency

If implementation period is more than 1If implementation period is more than 1

year, provide for additional 5% per yearyear, provide for additional 5% per year


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Margin money for working capitalMargin money for working capital

To avoid using margin money for overTo avoid using margin money for over--run costrun cost

Banks normally require amount of loanBanks normally require amount of loan

equivalent to margin money be released whenequivalent to margin money be released whenproject is completedproject is completed

Initial cash lossesInitial cash losses

Provision is to be made for expected cashProvision is to be made for expected cashlosses in initial years to avoid liquiditylosses in initial years to avoid liquidityproblemsproblems


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Estimation of Sales and ProductionEstimation of Sales and Production

For estimating profitability these projections areFor estimating profitability these projections arevery essentialvery essential

Following aspects to be consideredFollowing aspects to be considered

Not to assume high capacity utilization in 1st yearNot to assume high capacity utilization in 1st year Even when there is simple technology, firm may faceEven when there is simple technology, firm may face

shortage of Raw material, may get limited power supply,shortage of Raw material, may get limited power supply,face marketing problems etc.face marketing problems etc.

Reasonably assumption should be in the range ofReasonably assumption should be in the range of 4040--50% in first year50% in first year 5050--80% in second year80% in second year

8080--90% in third year and onwards90% in third year and onwards


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Estimation of Sales and ProductionEstimation of Sales and Production

Normally closing stock of finished goods is notNormally closing stock of finished goods is notassumed i.e. production is assumed equal toassumed i.e. production is assumed equal tosalessales

Selling price to include realizable price includingSelling price to include realizable price includingdealers commission and Net of excise dutydealers commission and Net of excise duty

Selling price should be present price as anySelling price should be present price as anyvariation will also affect the cost of productionvariation will also affect the cost of production

If part of finished goods are to be sold atIf part of finished goods are to be sold atcontrolled price (e.g. sugar) take controlledcontrolled price (e.g. sugar) take controlledprice for that part of sale projectionprice for that part of sale projection


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(Details may be furnished separately for each product and until the plant reaches

maximum capacity utilisation)

Product

1st 2nd 3rd 4th

yr yr yr yr

1. Installed capacity (qty per day per annum)

2. No. of working days

3. No. of shifts

4. Estimated production per day (qty)

5. Estimated annual production(qty)

6. Estimated output as % of plant capacity

7. Sales (qty) (after adjusting stocks)

8. Value of sales (in000 of Rs)

Product

(i)

(ii)

(iii)

Note : Production in the initial period should be assumed at a reasonable level of utilisation of

capacity increasing gradually to attain full capacity in subsequent years.

Estimates of Production and Sales


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Material costMaterial cost

Price of material input to be defined inPrice of material input to be defined inCIF (cost, insurance and freight) termsCIF (cost, insurance and freight) terms

Present cost of material inputs to bePresent cost of material inputs to be

taken and inflation to be ignoredtaken and inflation to be ignored

If seasonal fluctuation in price is regularIf seasonal fluctuation in price is regular

that should be accounted forthat should be accounted for


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Utilities costUtilities cost

Consists power, water and fuelConsists power, water and fuel

Consumption may be assumed at the level suggested byConsumption may be assumed at the level suggested by

consultants or industry average whichever is higherconsultants or industry average whichever is higher Cost of power is assumed for power bought fromCost of power is assumed for power bought from

outside.outside.

Cost of captive power plant is included in fuel costCost of captive power plant is included in fuel cost

Cost payable for water supply to be shown separately.Cost payable for water supply to be shown separately. If water is from own well, not to show water chargesIf water is from own well, not to show water charges

Difficult to estimate fuel cost for furnace oil, coal,Difficult to estimate fuel cost for furnace oil, coal,firewood etc.firewood etc.


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Labour costLabour cost Cost of all manpower employed in factoryCost of all manpower employed in factory

Remuneration rates may be on the basis of practiceRemuneration rates may be on the basis of practiceavailable in industryavailable in industry

Remuneration to include salary, allowances, benefits,Remuneration to include salary, allowances, benefits,reimbursements etc. i.e. cost to company basisreimbursements etc. i.e. cost to company basis

Labour cost to be increased @ of 5% p.a. forLabour cost to be increased @ of 5% p.a. forestimationestimation

Cost to be estimated for the highest capacityCost to be estimated for the highest capacityutilization year and reduced to some extent forutilization year and reduced to some extent forearlier yearsearlier years


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Working Capital requirement andWorking Capital requirement and

FinancingFinancing

The working capital requirement consists of

Raw materials and components

Work-in-process

Finished goods

Consumable stores

Debtors

Operating expenses

The principal sources of working capital finance are

Working capital advances provided by commercial banks Trade credit

Accruals and provisions

Long-term sources of financing


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Working Capital requirement andWorking Capital requirement and

FinancingFinancing

Limits to obtain working capital advances from commercialbanks

They relate to the maximum permissible bank finance forworking capital and

Amounts that can be raised against each individual currentasset

Method of financingMethod of financing

Tandon norms method I and IITandon norms method I and II

Turnover methodTurnover methodMaximum permissible finance (MPBF)Maximum permissible finance (MPBF)

Drawing powerDrawing power

Margin for each current assetMargin for each current asset


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Profitability projections orProfitability projections or

Estimation of working resultsEstimation of working results

It is done on following linesIt is done on following lines i. Cost of productioni. Cost of production

ii. Total administrative expensesii. Total administrative expenses

iii. Total sales expensesiii. Total sales expenses iv. Royalty and knowiv. Royalty and know--how payablehow payable

v. Total cost of production (i+ii+iii+iv)v. Total cost of production (i+ii+iii+iv)

vi. Expected sales vi. Expected sales

vii. Gross profit before interest (vivii. Gross profit before interest (vi--v)v)

viii.Total financial expenses including interestviii.Total financial expenses including interest

ix. Depreciationix. Depreciation

x. Operating profit (viix. Operating profit (vii--viiiviii--ix)ix)


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Profitability projections orProfitability projections or

Estimation of working resultsEstimation of working results

It is done on following linesIt is done on following lines--contcont

xi. Other incomexi. Other income

xii. Preliminary expenses written offxii. Preliminary expenses written off

xiii.Profit/loss before tax (x+xixiii.Profit/loss before tax (x+xi--xii)xii) xiv.Provision for taxxiv.Provision for tax

xv. Profit after tax (xiiixv. Profit after tax (xiii--xiv)xiv)

xvi.Dividend on Preference and Equity Capitalxvi.Dividend on Preference and Equity Capital

xvii.Retained earnings (xvxvii.Retained earnings (xv--xvi)xvi)

xviii.Net cash accrual (xvii+ix+xii)xviii.Net cash accrual (xvii+ix+xii)

Cash Flow Statement


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Sources of Funds

1. Share issue

2. Profit before taxation with interest added back3. Depreciation provision for the year

4. Development rebate reserve

5. Increase in secured medium and long-term borrowings for the project

6. Other medium/long-term loans

7. Increase in unsecured loans and deposits

8. Increase in bank borrowings for working capital

9. Increase in liabilities for deferred payment (including interest) to machinery

suppliers

10. Sale of fixed assets

11. Sale of investments

12. Other income (indicate details)

Total (A)

Cash Flow Statement


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Application of Funds

1. Capital expenditure for the project

2. Other normal capital expenditure

3. Increase in working capital*

4. Decrease in secured medium and long-term borrowings

- All India Institutions

- SFCs

- Banks

5. Decrease in unsecured loans and deposits

6. Decrease in bank borrowings for working capital

7. Decrease in liabilities for deferred payments (including interest) to machinery

suppliers

8. Increase in investments in other companies

9. Interest on term loans

Total (B)


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Projected Balance sheetProjected Balance sheet

Following information is need for preparingFollowing information is need for preparing

projected B/Sprojected B/S

Balance sheet at the end of year ABalance sheet at the end of year A

Projected income statement and distribution ofProjected income statement and distribution ofearnings for the year A+1earnings for the year A+1

Proposed external finance to be obtained in theProposed external finance to be obtained in theyear A+1year A+1

Proposed repayment of debt capital (long term,Proposed repayment of debt capital (long term,medium term, short term) during the year A+1medium term, short term) during the year A+1


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Following information is need for preparingFollowing information is need for preparing

projected B/Sprojected B/S--contcont

Additions and disposal of Fixed assets during the yearAdditions and disposal of Fixed assets during the year

A+1A+1 Changes in level of Current assets during the year A+1Changes in level of Current assets during the year A+1

Changes in other assets and certain additions likeChanges in other assets and certain additions like

preoperative and preliminary expenses (which arepreoperative and preliminary expenses (which arecapitalized) during the year A+1capitalized) during the year A+1

Cash balance at the end of year A+1Cash balance at the end of year A+1


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ExampleExample

ParticularsParticulars OpBlOpBl ChangesChanges ClBlClBl

LiabilitiesLiabilities

Share capitalShare capital 100100 ---- 100100

Reserve & surplus 20Reserve & surplus 20 +20 retained earnings+20 retained earnings 4040

Secured loansSecured loans 8080 +20 add. TL+20 add. TL 5 Repay 955 Repay 95

Unsecured loansUnsecured loans 5050 +10 proposed increase 60+10 proposed increase 60

Current liabilitiesCurrent liabilities 9090 ---- 9090

ProvisionsProvisions 2020 ---- 2020---------------- --------------

360360 405405


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ExampleExample--contcont

AssetsAssetsFixed assetsFixed assets 180180 +30Add.+30Add. 20 Depre20 Depre 190190InvestmentsInvestments ---- ----Current assetsCurrent assets 180180 215215CashCash 2020 (balancing A/c)(balancing A/c) 3030InventoriesInventories 8080 +10 proposed increase+10 proposed increase 9090ReceivablesReceivables 8080 +15 Proposed increase+15 Proposed increase 9595

------------------------ --------------360360 405405

-------------------------- --------------


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Multi year projectionMulti year projection

Like one year projections are made, multi yearLike one year projections are made, multi yearprojections can be madeprojections can be made

In projections certain assumptions are made e.g.In projections certain assumptions are made e.g. What will be tax rateWhat will be tax rate

How much preliminary and preHow much preliminary and pre--operative exp. are to be writtenoperative exp. are to be writtenoff (Amortized) or capitalizedoff (Amortized) or capitalized

When dividend payment is expected to start and how muchWhen dividend payment is expected to start and how much

Other assumptions like interest rates, market credit, turnoverOther assumptions like interest rates, market credit, turnoveretc. are to be madeetc. are to be made

Above assumptions are required for estimating projectedAbove assumptions are required for estimating projectedrevenue and costsrevenue and costs


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Financing OptionFinancing Option

Primarily funded by Equity, Debt & Govt GrantPrimarily funded by Equity, Debt & Govt Grant

Debt Financing can be in Local Currency & ForeignDebt Financing can be in Local Currency & ForeignCurrency.Currency.

Foreign Currency Debt (ECB) can be arranged fromForeign Currency Debt (ECB) can be arranged fromIndian Bank, Foreign banks, MLAsIndian Bank, Foreign banks, MLAs IFC, ADB, Etc,IFC, ADB, Etc,ECA, Bonds.ECA, Bonds.

ECB raising should be in compliance with RBI Policy.ECB raising should be in compliance with RBI Policy.

Project to comply with Equator Principles in case ECBProject to comply with Equator Principles in case ECBto be raised from Foreign Banks & MLAs.to be raised from Foreign Banks & MLAs.


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Project FinanceProject Finance Key TermsKey Terms

Security : Project Assets and assignment of contracts & InsuranceSecurity : Project Assets and assignment of contracts & Insurance

Upfront equity contribution atleast 50%Upfront equity contribution atleast 50%

2 qtr of Interest and Term Loan repayment liability2 qtr of Interest and Term Loan repayment liability

DSCR : Average 1.50 and minDSCR : Average 1.50 and min 1.251.25

M

ax Debt to Equity : 75:25/ 80:20M

ax Debt to Equity : 75:25/ 80:20 Interest Reset ClauseInterest Reset Clause

Escrow Account for Financial disciplineEscrow Account for Financial discipline

Repair & maintenance Reserve accountRepair & maintenance Reserve account

Lenders approval compulsory for addl borrowing or diversion ofLenders approval compulsory for addl borrowing or diversion ofsurplus cash for other opportunities.surplus cash for other opportunities.

Step in ProvisionStep in Provision

Pledge of at least 51% of Promoters share.Pledge of at least 51% of Promoters share.

Availability periodAvailability period Construction period + 6/12 months.Construction period + 6/12 months.

Financial and Investment Decisions


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Financing Decisions Investment Decisions

Financing decisions take place incapital markets which are

approximately perfect.

Investment decisions take placein real markets which tend to be

imperfect.

While making financial

decisions, you can observe thevalue of similar financial assets

While making investment

decisions, you have to estimatethe value of the capital projects.

There are very few opportunities

in the realm of financing that

have an NPV that is significantly

different from zero

There are many opportunities in

the realm of capital budgeting

that have an NPV that is

significantly different from zero.

Financial economists feel that securities are fairly priced i.e. capital market is efficient.

Basic Differences between Equity and Debt


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q y

Equity Debt

Equity shareholders have aresidual claim on the income

and the wealth of the firm.

Creditors (suppliers of debt) have afixed claim in the form of interest

and principal payment.

Dividend paid to equity

shareholders is not a tax

deductible payment.

Interest paid to creditors is a tax

deductible payment.

Equity ordinarily has indefinite

life.

Debt has a fixed maturity.

Equity investors enjoy the

prerogative to control the

affairs of the firm.

Debt investors play a passive role

of course, they impose certain

restrictions on the way the firm is

run to protect their interest.


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Debt - Equity Ratio

Key factors in determining the debt-equity ratio

for a project are:

Cost

Nature of assets

Business risk

Norms of lenders

Control considerations Market conditions

Ch kli t


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ChecklistUse more equity when Use more debt when

Corporate tax rate applicable isnegligible.

Corporate tax rate applicable ishigh.

Business risk exposure is high. Business risk exposure is low.

Dilution of control is not an

important issue.

Dilution of control is an issue.

Assets of the project are

important issue.

Dilution of control is an issue.

Assets of the project are mostly

intangible.

Assets of the project are mostly

tangible.

Project has many valuable growth

options.

Project has few growth options.

Sources ofFinance


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Sources of Finance

Internal

AccrualsSecurities Term loans Working capital

advances

Miscellaneous

sources

Sources of Finance

Equity

Preference

Bonds

Equity Debt

Equity

Preference

Internal

accruals

Bonds

Term loans

Working capital advances

Miscellaneous sources

Part B

Part A


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Methods of Offering

There are different ways in which a

company may raise finances in the primary

market

Public offering

Rights issue

Private placement

Preferential allotment

Comparison of the Various Methods


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Public Rights Private Preferential

Issue Issue Placement Allotment

Amount that can Large Moderate Moderate Moderate

be raised

Cost of issue High Negligible Negligible Negligible

Dilution of Yes No Yes Depends

control

Degree of Large Irrelevant Small No

underpricing

Market Negative Neutral Neutral Neutral

perception

Comparison of the Various Methods


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Financing optionsFinancing options

Owned fundsOwned funds

Conventional DebtConventional Debtfinancingfinancing

Unconventional debtUnconventional debtfinancingfinancing


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Equity capitalEquity capital

Ordinary shares with voting rightOrdinary shares with voting right

No compulsion to pay dividendNo compulsion to pay dividend

Affects controlling rightsAffects controlling rights Dividend tax to be paid by firmDividend tax to be paid by firm

Preference capitalPreference capital

Cumulative and nonCumulative and non--cumulativecumulative

Participating and nonParticipating and non--participating in profitsparticipating in profits Redeemable and nonRedeemable and non--redeemableredeemable

Convertible and nonConvertible and non--convertibleconvertible


84/120



Preference capitalPreference capital--contcont

Fixed dividendFixed dividend

No voting rightsNo voting rights

Preference in return of capitalPreference in return of capital

If firm skips dividend for 3 years, votingIf firm skips dividend for 3 years, votingrights for matters affecting preferencerights for matters affecting preferenceshare holdersshare holders


85/120



Venture capitalVenture capital

Normally provided by investor unrelated toNormally provided by investor unrelated topromoter group to finance startpromoter group to finance start--up companiesup companies

Normally take preference shares with right toNormally take preference shares with right toConvertConvert

voting rightvoting right

seat on the boardseat on the board sale share holding to firmsale share holding to firm


86/120



Retained earningsRetained earnings

General reservesGeneral reserves

Share premium accountShare premium account

Un appropriated Credit balance of P&L A/cUn appropriated Credit balance of P&L A/c Unencumbered reserves and not related to a specificUnencumbered reserves and not related to a specific

purposepurpose

Features areFeatures are readily availablereadily available no issue costno issue cost

no dilution of controlno dilution of control


87/120



Government subsidiesGovernment subsidies Incentives by Central Govt.Incentives by Central Govt. Incentives by State Govt.Incentives by State Govt. SubsidiesSubsidies

Infrastructure creationInfrastructure creation Incentives provided by the Government or its agenciesIncentives provided by the Government or its agencies

for setting up project in certain areasfor setting up project in certain areas

Capital assistance at nominal interestCapital assistance at nominal interest Capital subsidyCapital subsidyTax deferment or exemption for certain periodTax deferment or exemption for certain period Power subsidyPower subsidy


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Warrants / OptionsWarrants / Options

Attachments to instruments which culminateAttachments to instruments which culminatethrough conversion or eligibility into shares at futurethrough conversion or eligibility into shares at futuredate with or without additional paymentsdate with or without additional payments

Warrants attached to convertible debentures orWarrants attached to convertible debentures orGlobal Depository receipts to be lodged with issuingGlobal Depository receipts to be lodged with issuingco. on specified date to acquire equity shares of co.co. on specified date to acquire equity shares of co.

In options, holder has the option to acquire sharesIn options, holder has the option to acquire shares

or retain the debt instrument without conversion inor retain the debt instrument without conversion inshares e.g. Essar Oil Optionally Convertibleshares e.g. Essar Oil Optionally ConvertibleDebenturesDebentures


89/120



Foreign Institutional InvestorsForeign Institutional Investors

Registration with RBI for investment in shares of IndianRegistration with RBI for investment in shares of Indiancompaniescompanies

Investment upto 49% of issued capital under general schemeInvestment upto 49% of issued capital under general scheme

on cumulative basison cumulative basis Investment can be throughInvestment can be through

subscription to public offersubscription to public offer

private placementprivate placement

These are usuallyThese are usuallyMutual funds, Institutional investorsMutual funds, Institutional investors

Banks, Venture capital funds registered abroadBanks, Venture capital funds registered abroad


90/120



Foreign Direct Investment (FDI)Foreign Direct Investment (FDI)

Foreign investors invest in IndianForeign investors invest in Indian

company as per prior agreement withcompany as per prior agreement withpromoterspromoters

Usually it is part of deal of technologyUsually it is part of deal of technology

transfer or joint venturetransfer or joint ventureIt can be only for investment alsoIt can be only for investment also


91/120


Conventional Debt financingConventional Debt financing

FeaturesFeatures

Interest tax deductibleInterest tax deductible

No impact on control of companyNo impact on control of company

Debt holders do not participate in remainingDebt holders do not participate in remainingprofitsprofits

Maturity of instrument can be tailored as perMaturity of instrument can be tailored as perrequirementrequirement

Default can result is bankruptcyDefault can result is bankruptcyRestrictive covenantsRestrictive covenants


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Financial institutions, National,Financial institutions, National,InternationalInternational

IDBIIDBI

Asian Development BankAsian Development BankWorld BankWorld Bank

International Finance CorporationInternational Finance Corporation

Tourism Finance CorporationTourism Finance Corporation

Power Finance CorporationPower Finance Corporation

etc.etc.


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BanksBanks--National, InternationalNational, International

Public Sector BanksPublic Sector Banks

Private Sector Banks (Old generation)Private Sector Banks (Old generation)Private Sector Banks (new)Private Sector Banks (new)

Foreign banksForeign banks

CoCo--operative banksoperative banksRegional Rural banksRegional Rural banks


94/120



Banks, National, InternationalBanks, National, International--contcont

FacilitiesFacilities Fund basedFund based

Loans, OverdraftLoans, Overdraft

Cash credit / packing creditCash credit / packing credit

Bills purchased / discountedBills purchased / discounted

NonNon--fund basedfund based L/C DP / DA, Inland / ForeignL/C DP / DA, Inland / Foreign

Letter of guarantee (LG)Letter of guarantee (LG) Performance, FinancialPerformance, Financial

Deferred payment (DPG)Deferred payment (DPG)

Advance payment, BidAdvance payment, Bid--bondbond


95/120



Government loansGovernment loans

Governments form specific fundsGovernments form specific funds

for funding modernization /for funding modernization /expansion of specific industriesexpansion of specific industriese.g.e.g.

Steel development fundSteel development fundShipping development fundShipping development fund


96/120



Public depositsPublic deposits

RBI permission is necessary for duration,RBI permission is necessary for duration,interest rates, quantum etc.interest rates, quantum etc.

DebenturesDebentures Secured / UnsecuredSecured / UnsecuredRated by rating agenciesRated by rating agencies

Convertible, partially convertible, nonConvertible, partially convertible, non--

convertibleconvertibleDeep discountDeep discount


97/120



DebenturesDebentures

FeaturesFeatures

Debenture trustDebenture trust

Maturity more than 18 months have to beMaturity more than 18 months have to becompulsorily ratedcompulsorily rated

For maturity of more than 18 months DebentureFor maturity of more than 18 months Debenture

redemption reserve (DRR) has to be createdredemption reserve (DRR) has to be createdDRR equal to 50% of issue has to be cratedDRR equal to 50% of issue has to be crated

before redemption startsbefore redemption starts


98/120



DebenturesDebentures--ffeatureseatures--contcont

First charge over fixed assets and secondFirst charge over fixed assets and second

charge over current assetscharge over current assets

Fixed rate / floating rate/ zero rate of interestFixed rate / floating rate/ zero rate of interest

Call option to company to redeem beforeCall option to company to redeem before

maturity at a certain pricematurity at a certain price

Put option to holder to seek redemption at aPut option to holder to seek redemption at a

specified time at pre determined pricespecified time at pre determined price


99/120



Unsecured loansUnsecured loans

Normally by promotersNormally by promoters

By associates and friendsBy associates and friends

No securityNo security

Normally part of covenantsNormally part of covenants

T lT l


100/120


Term loansTerm loans

CurrencyCurrency

Rupee term loanRupee term loan

Foreign currency term loansForeign currency term loansSecuritySecurity

Direct securityDirect security

Collateral securityCollateral securitySecond charge on moveable assetsSecond charge on moveable assets

T lT l


101/120



Interest payment and principalInterest payment and principalrepaymentrepaymentMoratorium timeMoratorium time

Interest, cumulative periodInterest, cumulative periodCommitment chargesCommitment charges

Prepayment chargesPrepayment charges Penalty for defaultsPenalty for defaults

Processing charge and upfront feeProcessing charge and upfront fee

Duration of installmentsDuration of installments

T lT l


102/120



Restrictive covenantsRestrictive covenants Representation on the BoardRepresentation on the Board Level of unsecured loansLevel of unsecured loans

Declaration of dividendDeclaration of dividend Restrictions on undertaking new projects orRestrictions on undertaking new projects or

expansionexpansion Repayment of existing loansRepayment of existing loans Restrictions on taking additional loansRestrictions on taking additional loans Restriction on transfer of shareholding by promotersRestriction on transfer of shareholding by promoters

/ Associates/ Associates

i l d b fi ii l d b fi i


103/120


Unconventional debt financingUnconventional debt financing

Mutual fundsMutual funds

Normally invest inNormally invest in

EquitiesEquities

DebenturesDebentures

Hybrid instrumentsHybrid instruments

Inter corporate depositsInter corporate deposits

Through subscription to public issues,Through subscription to public issues,private placementsprivate placements

U i l d b fi iU i l d b fi i


104/120



Suppliers creditSuppliers credit

Facilities extended by Banks and FinancialFacilities extended by Banks and Financialinstitutions to good companies for supplyinginstitutions to good companies for supplying

plant and machinery or equipment orplant and machinery or equipment orengaged in fabrication and engineeringengaged in fabrication and engineering

Clients of such companies are approved byClients of such companies are approved byfinancers and receive plant and machinery onfinancers and receive plant and machinery on

credit and pay the amount in installmentscredit and pay the amount in installments



105/120



Short term borrowingsShort term borrowings

Inter corporate depositsInter corporate deposits

Loans on basis of promissory notesLoans on basis of promissory notes

Normally repayable within 1 yearNormally repayable within 1 year May be secured / unsecuredMay be secured / unsecured

Commercial paper by rated companiesCommercial paper by rated companies Finance against collateral security ofFinance against collateral security of

Treasury bills and other GovernmentTreasury bills and other Governmentsecuritiessecurities



106/120



Short term borrowingsShort term borrowings--contcont Commercial paperCommercial paper

Short term unsecured promissory noteShort term unsecured promissory note

Maturity period less than 1 year normallyMaturity period less than 1 year normally90 to 180 days90 to 180 days

Normally issued at a discount from itsNormally issued at a discount from itsface valueface value

Normally investors keep the CP tillNormally investors keep the CP tillmaturity therefore, secondary market didmaturity therefore, secondary market didnot developnot develop



107/120



Foreign lines of creditForeign lines of credit

Lines of credit provided by foreign banks orLines of credit provided by foreign banks orFIIs who do not have representation in IndiaFIIs who do not have representation in India

Provided for specified industries/companiesProvided for specified industries/companies Financial institutions or banks in IndiaFinancial institutions or banks in India

provide the funds on the basis of line ofprovide the funds on the basis of line ofcredit received from abroadcredit received from abroad

Mi llMi ll


108/120


Miscellaneous sourcesMiscellaneous sources

Public depositsPublic deposits

Finance LeaseFinance Lease

Hire purchaseHire purchase

Fi LFi L


109/120


Finance LeaseFinance Lease

Long term non cancelable arrangement duringLong term non cancelable arrangement duringprimary lease periodprimary lease period

Lease is fully amortized during primary leaseLease is fully amortized during primary lease

period i.e. during this period lessor recovers hisperiod i.e. during this period lessor recovers hisinvestment along with acceptable returninvestment along with acceptable return

Lessee is responsible for maintenance, insuranceLessee is responsible for maintenance, insuranceand taxesand taxes

Lessee enjoys option for renewing the leaseLessee enjoys option for renewing the lease

Lessee can not claim depreciationLessee can not claim depreciation

Hi hHi h


110/120


Hire purchaseHire purchase

FeaturesFeaturesHiree purchases the asset and gives on hire toHiree purchases the asset and gives on hire to

hirerhirer

Hirer pays regular installments for interestHirer pays regular installments for interestand principaland principal

Normally hiree charges flat rate of interest onNormally hiree charges flat rate of interest onprincipal without reducing balanceprincipal without reducing balance

Possession of asset is with hirerPossession of asset is with hirerHirer enjoys salvage value being ownerHirer enjoys salvage value being owner

Fi i O iFi i O i


111/120


Financing OptionsFinancing Options

Working capital financeWorking capital finance

Fund basedFund based Cash credit / OverdraftCash credit / Overdraft

PrePre--shipmentshipment Packing creditPacking credit Bill purchase / DiscountingBill purchase / Discounting

PostPost--shipmentshipment Bill discountingBill discounting

NonNon--fund basedfund based Letter of guaranteeLetter of guarantee

Letter of creditLetter of credit

Fi i O tiFi i O ti


112/120



Letter of credit (L/C)Letter of credit (L/C)

Guarantee of bank to honour an exporters draft (bill) orGuarantee of bank to honour an exporters draft (bill) orany other claims for payment, which has fulfilled theany other claims for payment, which has fulfilled theconditions of L/Cconditions of L/C

Issuing or Opening bankIssuing or Opening bank

Importers bank who opens the L/CImporters bank who opens the L/C

Advising bankAdvising bank

Correspondent bank in exporters country whoCorrespondent bank in exporters country whoreceives L/C from opening bankreceives L/C from opening bank

Than forwards L/C to exporterThan forwards L/C to exporter

Fi i O tiFi i O ti


113/120



Letter of credit (L/C)Letter of credit (L/C)--contcont

BeneficiaryBeneficiary

ExporterExporter

Uniform Customs and Practices for DocumentaryUniform Customs and Practices for Documentary

CreditsCredits

Code evolved by International Chamber ofCode evolved by International Chamber ofCommerce to resolve disputes in documents ofCommerce to resolve disputes in documents of

international tradeinternational trade

Utilisation of L/CUtilisation of L/C -- D/P or D/AD/P or D/A

A bankers acceptanceA bankers acceptance

When L/C opening bank accepts DA BillWhen L/C opening bank accepts DA Bill

Fi i O tiFi i O ti


114/120



Utilisation of L/CUtilisation of L/C -- D/P or D/AD/P or D/A contcont

DiscountingDiscounting

Discounting DA billDiscounting DA bill

Revocable L/CRevocable L/C Right to opening bank to amend or cancel L/CRight to opening bank to amend or cancel L/C

without consent of beneficiarywithout consent of beneficiary

Irrevocable L/CIrrevocable L/C

L/C can not be cancelled or amended withoutL/C can not be cancelled or amended withoutthe consent of exporterthe consent of exporter

Fi i OptiFi i Opti


115/120



Utilisation of L/CUtilisation of L/C--contcont

Confirmed irrevocable L/CConfirmed irrevocable L/C

In addition to opening bank an additional bank i.e.In addition to opening bank an additional bank i.e.Confirming bank gives commitment to pay the billConfirming bank gives commitment to pay the bill

if all conditions are metif all conditions are met

It may be advising bank or one more bank is addedIt may be advising bank or one more bank is added

Revolving L/CRevolving L/C

Used when export will take place on continuing basisUsed when export will take place on continuing basis

and single L/C will cover several shipmentsand single L/C will cover several shipments

Fin n in Opti nFin n in Opti n


116/120




Transferable L/CTransferable L/C

Permits the beneficiary to transfer part or fullPermits the beneficiary to transfer part or fullbenefits of L/C to secondary beneficiarybenefits of L/C to secondary beneficiary

Used when the exporter is middlemanUsed when the exporter is middleman BackBack--toto--Back L/CBack L/C

When exporter asks its own bank to openWhen exporter asks its own bank to openirrevocable L/C in favour of another party on theirrevocable L/C in favour of another party on thebasis of L/C received by him from importerbasis of L/C received by him from importer

Original L/C becomes guarantee against next L/COriginal L/C becomes guarantee against next L/C



117/120




Red clause L/CRed clause L/C

With this red clause, advising bank is authorized toWith this red clause, advising bank is authorized tomake clean advance to exporter to be adjusted frommake clean advance to exporter to be adjusted from

the discounted billsthe discounted bills When invoice is in currency neither of importer norWhen invoice is in currency neither of importer nor

of exporter than importers bank to advise thirdof exporter than importers bank to advise thirdcountry bank to inform exporter that payment willcountry bank to inform exporter that payment willbe made in third country currencybe made in third country currency

Standby L/CStandby L/C Provides a fallback guarantee to supplier if primaryProvides a fallback guarantee to supplier if primary

obligator fails to payobligator fails to pay



118/120



Other methodsOther methods

Cross border leasingCross border leasing

ForfeitingForfeiting

Importer gives bundle of bills of exchange /Importer gives bundle of bills of exchange /promissory notes for principal and intt. which fallpromissory notes for principal and intt. which falldue say every six monthdue say every six month

Bills are guaranteed by importers bankBills are guaranteed by importers bank

Bills are discounted without recourse by exporterBills are discounted without recourse by exporter

International financing optionsInternational financing options

Will be dealt separatelyWill be dealt separately

Financial closerFinancial closer


119/120


Financial closerFinancial closer

All sources of funds required forAll sources of funds required forproject have been tied upproject have been tied up

It takes a long timeIt takes a long timeAdequate underwriting arrangementsAdequate underwriting arrangements

have been made for market relatedhave been made for market relatedofferingsofferings

Project Financing Decision


120/120

Project Financing Decision

key business considerations relevant for the

project financing decisions are:

Cost

Risk

Control

Flexibility

Documents

Project & Finance Decisions & Source of Finance 011009