Financial estimates and projections

COST OF PROJECT Conceptually, the cost of project represents the total of all items of outlay associated with a project which are supported by long-term funds. It is the sum of the outlays on the following: Land and site development uildings and civil wor!s "lant and machinery #echnical !now-how and engineering fees $%penses on foreign technicians and training of Indian technicians abroad &iscellaneous fi%ed assets "reliminary and capital issue e%penses "re-operative e%penses &argin money for wor!ing capital Initial cash losses MEANS OF FINANCE #o meet the cost of the project the following means of finance are available: 'hare capital #erm loans (ebenture capital (eferred credit Incentive sources &iscellaneous sources ESTIMATES OF SALES AND PRODUCTION #ypically, the starting point for profitability projections is the forecast of sales revenues. In estimating sales revenues, the following considerations should be borne in mind: ). It is not advisable to assume a high capacity utilisation level in the first year of operation. $ven if the technology is simple and the company may not face technical problems in achieving a high rate of capacity utilisation in the first year itself, there are li!ely to be other constraints li!e raw material shortage, limited power, mar!eting problems, etc * It is not necessary to ma!e adjustments for stoc!s of finished goods. +or practical purposes, it may be assumed that production would be e,ual to sales. -. #he selling price considered should be the price realisable by the company net of e%cise duty. It shall, however, include dealers. commission which is shown as an item of e%pense /as part of the sales e%penses0.

1. #he selling price used may be the present selling price2it is generally assumed that changes in selling price will be matched by proportionate changes in cost of production.* If a portion of production is saleable at a controlled price, ta!e the controlled price for that portion. 'ales and production are closely inter-related. 3ence they may be estimated together. +or this purpose, the format given in $%hibit 4.* may be employed. COST OF PRODUCTION 5iven the estimated production, the cost of production may be wor!ed out. #he major components of cost of production are: &aterial cost 6tilities cost Labour cost +actory overhead cost WORKING CAPITAL REQUIREMENT AND ITS FINANCING In estimating the wor!ing capital re,uirement and planning for its financing, following points have to be born in mind: ). #he wor!ing capital re,uirement consists of the following: /i0 raw materials and components /indigenous as well as imported0, /ii0 stoc!s of goods-in-process /also referred to as wor!-in-process0, /iii0 stoc!s of finished goods, /iv0 debtors, /v0 operating e%penses and /vi0 consumable stores. *. #he principal sources of wor!ing capital finance are: /i0 7or!ing capital advances provided by commercial ban!s, /ii0 #rade credit, /iii0 8ccruals and provisions, and /iv0 Long term sources of financing. -. #here are limits to obtaining wor!ing capital advances from commercial ban!s. #hey are in two forms: /i0 the aggregate permissible ban! finance is specified as per the norms of lending, followed by the lending ban!, /ii0 against each current asset a certain amount of margin money has to be provided by the firm. 1. #he #andon Committee has suggested three methods for determining the ma%imum permissible amount of ban! finance for wor!ing capital. #he method that is generally employed now is the second method -. 8ccording to this method, the ma%imum permissible ban! finance is calculated as follows: Current assets as per the norms laid 9 :on-ban! current liabilities li!e trade down by the #andon Committee /;.<=0 credit and provisions #he implication of this norm is that at least *= percent of current assets must be supported by long-term sources of finance. =. #he margin re,uirement varies with the type of current asset. 7hile there is no fi%ed formula for determining the margin amount, the ranges within which margin re,uirements for various current assets lie are as follows:

Current Assets >aw materials 7or!-in-process +inished goods (ebtors

Margin );-*= percent *;-1; percent -;-=; percent -;-=; percent

PROFITABILIT PROJECTIONS !OR ESTIMATES OF WORKING RESULTS" 5iven the estimates of sales revenues and cost of production, the ne%t step is to prepare the profitability projections or estimates of wor!ing results /as they are referred to b term-lending financial institutions in India0. #he estimates of wor!ing results may be prepared along the following lines: 8 Cost of production #otal administrative e%penses C #otal sales e%penses ( >oyalty and !now-how payable $ #otal cost of production /8 ? ? C ? (0 + $%pected sales 5 5ross profit before interest 3 #otal financial e%penses I (epreciation @ Aperting "rofit /5-3-I0 B Ather income L "reliminary e%penses written off & "rofitCloss before ta%ation /@?B-L0 : "rovision for ta%ation A "rofit after ta% /&-:0 Less (ividend on - "reference capital - $,uity capital " >etained profit D :et cash accrual /" ? I ? LE0 PROJECTED CAS# FLOW STATEMENT #he cash flow statement shows the movement of cash into and out of the firm and its net ) impact on the cash balance within the firm. 8 format for preparing the cash flow statement, which is really a cash flow budget, is shown in $%hibit 4.=. 7hile this format calls for preparing the cash flow statement on a half-yearly basis for the construction period and on an annual basis for the operating period /for ten years0 for managerial purposes, it may be helpful to prepare it on a ,uarterly basis for the construction period and on a half-yearly basis for the first * to - operating years for managerial purposes. #his would facilitate better financial planning, project evaluation, and fund control PROJECTED BALANCE S#EET #he balance sheet, showing the balance in various asset and liability accounts, reflects the financial condition of the firm at a given point of time.

D.). #he alance sheet of 'waraj Limited at the end of year n /the year which is just over0 is as follows: />s in million0 Lia$i%ities 8ssets 'hare capital = +i%ed assets )) >eserves and surplus 1 Investments ;.= 'ecured loans 1 Current assets )).= 6nsecured loans Cash ) Current liabilities 4 >eceivables 1 "rovisions ) Inventories 4.= **#he projected income statement and the distribution of earnings is given below: />s in million0 'ales *= Cost of goods sold )F (epreciation ).= "rofit before interest and ta%es 1.= Interest ).* "rofit before ta% -.#a% ).G "rofit after ta% ).= (ividends ).; >etained earnings ;.= (uring the year n?), the firm plans to raise a secured term loan of >s ) million, repay a previous term loan to the e%tent of >s ;.= million. Current liabilities and provisions would increase by = per cent. +urther, the firm plans to ac,uire fi%ed assets worth >s ).= million raise its inventories by >s ;.= million. >eceivables are e%pected to increase by = percent. #he level of cash would be the balancing amount in the projected balance sheet. 5iven the above information, prepare the following: /i0 "rojected cash flow statement /ii0 "rojected balance sheet