BBA|mantra`s

PROJECT MANAGEMENT
Mini-Textbook For All Management Students

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© 2016|BBA|mantra|All rights Reserved

Author: Vikas Choudhary

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 INTRODUCTION TO PROJECT MANAGEMENT

A Project may be defined as “a system involving coordination of different departments throughout the
organization which must be completed within prescribed schedule and budget constraints.”

A Project is essentially ‘an organized unit dedicated towards achieving predetermined objectives
related to development of a certain asset, in a systematic manner with limited budget and time.’

Types of Project

A Project can be classified on the basis of –

1. Type of Activity

 Industrial Project – Opening up of a factory, office, shop etc.

 Non – Industrial Project – Healthcare, educational, pollution control projects etc.

2. Location of Project

 National Project – A project setup within the national boundaries of a country.

 International Project – A project setup or extending outside the domestic borders of a country.

3. Time constraints

 Normal Project – Projects which do not have a strict timeline.

 Crash Project – Projects which have to be completed within a fixed time period.

4. Ownership

 Private Sector Project – Projects setup by promoters and private investors with the objective
of profit maximization.
 Public Sector Project – Project owned and controlled by the government of the country with
the objective of development and welfare of the society.
 Joint Sector Project – Projects which are owned partly by the government and partly by
private entrepreneurs.

5. Size of Investment

 Small Project – Projects involving an investment of less than Rs. 1 crore.

 Medium Project – Projects involving an investment ranging between Rs. 1 crore to Rs. 100
crore.
 Large Project – Projects which involve an investment of more than Rs. 100 crore
 6. Needs and requirements

 New Project – A project with the objective of launching a new product or service in the
market.
 Balancing Project – A project setup to meet the shortages in existing production unit
 Expansion Project – A project setup to increase the existing plant capacity
 Modernization Project – Projects which aim at updating the existing plant & machinery,
infrastructure, technology etc.
 Replacement Project – Projects which are setup to replace an old plant or machinery
 Diversification Project – A project setup with the objective to introduce a new product line
 Backward Integration Project – These projects are setup by manufactures of a product. In such
a project the manufacturer starts producing raw materials required for production himself.
 Forward Integration Project – These projects are setup by producers of raw materials. It
involves value addition to the existing raw material in production to make a final product.
Manufacturing facilities are added at the end of the product line to make a saleable product.

Project Life Cycle

It refers to a logical sequence of activities conducted to accomplish project goals or objectives. For
each stage in the project life cycle, accurate estimation of manpower, finance, material etc. is done by
the project manager to ensure smooth-running of the project.

A. Conception Stage – It includes generation of the project idea. An idea may come from
employees, market source, consultant or entrepreneur.

B. Project Initiation – It involves :

 Starting up of project development of a detailed project report
 Undertaking a feasibility study
 And Establishing a project team

C. Project Planning – It involves preparation of plans and guidelines for project delivery.

D. Project Execution – It involves the actual execution of the project i.e. building up of premises,
manufacturing of product etc.

E. Project Closure – When the project objectives are achieved the project is reviewed to know
whether it has been completed within the given time constraint and budget limitations.
 Project Management

Project Management is an organization venture for managing projects, which involves application of
modern tools and techniques in planning, financing, implementing, monitoring, controlling and
coordinating unique activities, to produce a desirable output according to some pre-determined
objectives within the constraints of time and cost.

Steps in Project Management

Planning → Analysis → Selection → Financing → Implementation → Review

Planning –

It involves generation of project idea and screening of project proposals. Feasibility studies are
conducted to determine whether a project will be profitable or not.

Analysis –

A detailed analysis of the selected projects is conducted and all relevant market, technical, financial
and economic aspects are taken into consideration.

 Economic Analysis – It is also called social-cost benefit analysis. It is conducted to determine

the impact of the project on the society in terms of income distribution, level of savings and
investment, employment, social and cultural order.

 Ecological Analysis – An ecological analysis may also be conducted in case of big industrial
projects like dams, power projects, nuclear plant, production of drugs and chemicals etc. It
helps in determining any damage, threat or loss to the environment due to the project and the
restoration measures and cost related to it.

 Market Analysis – It involves estimating the potential market and future market share related
to the project.

 Technical Analysis – It involves analysis of the technology available and technical viability and
feasibility of the project.

 Financial Analysis – It involves analysis of risks and returns associated with the project.
Selection –

The most attractive project in terms of profitability and feasibility is chosen by the company. Capital
budgeting techniques are used to appraise each project and various discounting and non-discounting
techniques are used to determine the most profitable one in terms of –

Accept Project Reject Project

Payback Period
Accounting Rate of Return
Net Present value
Internal Rate of Return
Benefit-cost Ratio
PBP<Target Period
ARR>Target Rate of return
NPV>0
IRR>Cost of Capital
BCR>1
PBP>Target Period
ARR<Target Rate of return
NPV<0
IRR<Cost of Capital
BCR<1

Financing –

All short term and long term needs of the project are considered before preparing a budget for the
project. Margin money for contingencies is also added to the total budget. Various sources of short
and long term funds are explored and the selected project is financed with an optimum mix of debt
and equity.

Implementation –

It involves the actual execution of the project in a systematic manner according to the project plans
and guidelines.

Review –

The project has to be reviewed periodically to compare to actual performance with the projected
performance, for this purpose a feedback mechanism is developed which helps in future decision
making and taking corrective measures to improve performance.
 GENERATION AND SCREENING OF PROJECT IDEA

An organization has to identify investment opportunities which are feasible and promising before
taking a full-fledged project analysis to know which projects merit further examination and appraisal.

Generation of an idea begins when someone with specialized knowledge or expertise or some other
competence feels that he can offer a product or service
- Which can cater to a presently unmet need
- To serve a market where demand exceeds supply
- Effectively compete with similar products or services due to better quality/price etc.

Generation and screening of a project idea involves the following Steps –

(1) Stimulating the flow of ideas – A panel is formed for the purpose of identifying investment
opportunities. It involves the following tasks -

(a) SWOT analysis – Identifying opportunities that can be profitably exploited

(b) Determination of objectives – Setting up operational objectives like cost reduction,

improvement in productivity, increase in capacity utilization, improvement in contribution
margin

(c) Creating Good environment – A good organizational atmosphere motivates employees to

be more creative and encourages techniques like brainstorming, group discussion etc.

(2) Monitoring the Environment – An Organization should systematically monitor the environment
and assess its competitive abilities in order to profitably exploit opportunities present in the
environment. The key sectors of the environment that are to be studied are:-

(a) Economic Sector –

 State of economy
 Overall rate of growth
 Growth of primary, secondary and tertiary sectors
 Inflation rate
 Linkage with world economy
 BOP situation
 Trade/Deficit
 (b) Government Sector -
 Industrial policy
 Government programs and projects
 Tax framework
 Subsidies, incentives, concessions
 Import and export policies
 Financing norms

(c) Technological Sector –

 State of technology
 Emergence of new technology
 Receptiveness of the industry
 Access to technical know how

(d) Socio demographic sector -

 Population trends
 Income distribution
 Educational profile
 Employment of women
 Attitude towards consumption and investment

(e) Competition Sector -

 No. of firms and their market share
 Degree of homogeneity and production differentiation
 Entry barriers
 Marketing policies and prices
 Comparison with substitutes in terms of quality/price/appeal etc.

(f) Supplier Sector -

 Availability and cost of raw material, energy and money

(3) Corporate Appraisal – It involves identification of corporate strengths and weaknesses. The
important aspects that are to be considered are:-

(a) Market and Distribution -

 Market Image
 Market share
 Marketing and Distribution cost
 Product line
 Distribution Network
 Customer loyalty
 (b) Production and Operations -
 Condition and capacity of plant and machinery
 Availability of raw materials and power
 Degree of vertical integration
 Location advantage
 Cost structure – Fixed and Variable costs

(c) Research and Development -

 Research capabilities of a firm
 Track record of new product developments
 Laboratories and testing facilities
 Coordination between research and other departments of the organization

(d) Corporate Resources and Personnel -

 Corporate Image
 Clout with government and regulatory agencies
 Dynamic nature of the top management
 Competence and commitment of employees
 State of industrial relations

(e) Finance and Accounting -

 Financial leverage and borrowing capacity
 Cost of capital
 Tax situation
 Relationship with shareholders and creditors
 Accounting and control system
 Cash flows and liquidity

Tools for identifying investment opportunities →

I. Porter 5 forces Model → It helps in analyzing profit potential of an industry depending upon
strength of -

i. Threat of new entrants

ii. Rivalry amongst existing companies
iii. Pressure from substitute products
iv. Bargaining power of buyer
v. Bargaining power of seller
II. Life cycle Approach → There are four stages a product goes through during his lifecycle each stage
representing different investment and net profit value →

(a) Pioneering Stage – In this stage the technology and product is new, there is high
competition and very few entrants survive this stage.
(b) Rapid Growth Stage – This stage witnesses a significant expansion in sales and profit.
(c) Maturity Stage – It marks developed industries with mature product and steady growth
rate.
(d) Decline Stage – Due to introduction of new products and changes in customer preference
the industry incurs a decline in market share and profits.

III. Experience Curve → Experience curve analyzes how cost per unit changes with respect to
accumulated volume of production. Investment must be such that reduces costs.

IV. Looking for Project Ideas →

 Reducing exports and imports

 Studying Government plans and guidelines
 Suggestion of financial institutions and development agencies
 Investigating local materials and resources
 Analyzing performance of existing industries
 Analyzing social and economic trends
 Analyzing new technological developments
 Studying the consumption pattern of people abroad
 Trade fairs and exhibitions
 Stimulating creativity to produce new ideas
 PRELIMINARY SCREENING OF A PROJECT

A preliminary screening is conducted to eliminate ideas which are not promising.

Factors considered in preliminary screening →

1. Compatibility with the promoter –The idea must be consistent with the interest, personality
and resources of entrepreneur.

2. Consistency with Government priorities – The idea must be feasible with national goals and
government regulations.

3. Availability of inputs – Availability of power, raw material, capital requirements, technology.

4. Adequacy of Market – Growth in market, prospect of adequate sale, reasonable ROI

5. Reasonableness of cost – The project must be able to make reasonable profits with respect to
the costs involved.

6. Acceptability of risk level – The desirability of the project also depends upon risks involved in
executing it. In order to access risk the following factors must be considered.
- Project`s vulnerability to business cycles
- Change technology
- Competition from substitutes
- Government`s control over price and distribution
- Competition from imports

Project Rating Index

It is a tool used for evaluating large number of project ideas. It helps in streamlining the process of
preliminary screening. Hence a preliminary evaluation may be converted in project rating index.

Steps →

i. Identifying the factors relevant for project rating

ii. Assigning weights to these factors according to their relative importance(FW)
iii. Rate the project proposal on various factors using suitable rating scale (FR) (5 point scale or 7
point scale)
iv. For each factor multiply the factor rating with factor weight to get factor scores. (FR X FW = FS)
v. All the factor scores are added to get the overall project rating index.
vi. Organization determines a cut off value and the project below this cut off value are rejected.
Sources of the Net Present Value →

There are six entry barriers which result in a positive NPV project -

i. Economies of scale
ii. Product differentiation
iii. Cost advantage
iv. Marketing reach
v. Technological edge
vi. Government policy

Entrepreneurial skills needed for good project management →

An individual must possess the following traits and qualities in order to be a successful entrepreneur -

i. He must be Willing to make sacrifices

ii. He must be a good Leader
iii. He must be able to make quick and rational decisions
iv. He must have confidence in the project
v. He must able to exploit market opportunities
vi. He must have strong ego in order to survive ups and downs of a business

Market and demand Analysis

Market and demand Analysis of a project is conducted to know –

 The aggregate demand for the product or service and

 The market share the proposed project will enjoy.

Steps in Market and demand Analysis of a Project

(i) Situational analysis and specification of objectives → It involves determining the following -

 Preference and purchasing power of customer

 Action and strategies of the competitors
 Practices of middle man
Specification of objectives helps the organization to move towards a particular direction. The analyst
must specify objectives in terms of →

 Potential buyer
 Total demand
 Break up of demand
 Type of distribution channel
 Prices and warranties

(ii) Collection of secondary information →

It is gathered in some other context and is already available in market. It is not conducted by
researcher itself.

• Census survey
• National sample survey reports
• 5 years plan reports
• India year book
• Economic survey reports
• Political survey reports
• Annual survey of industries
• Annual bulletin of export and importance
• Stock exchange directory
• Monthly bulletins of RBI
• Publications of advertising agencies
• Industry potential surveys

Once collected, this information is evaluated to judge its – reliability – accuracy – relevance with the
proposed project.

(iii) Conduct of Market Survey →

Secondary data does not provide comprehensive information. Therefore, it has to be supplemented
with collection of primary data. Primary information is gathered through market surveys especially
for a particular project. Market surveys may be census survey or sample survey. In a census survey the
whole population is considered while in a sample survey a sample of population is observed to gather
relevant information. They are conducted to gather information regarding -

• Total demand
• Growth of demand
• Income of consumers
• Buying motives
• Purchase plans i.e. unsatisfied needs and attitude towards products and services
• Characteristics of buyer
Steps in Sample Survey

(i) Defining the target population - The researcher must carefully choose the target population that is
to be surveyed.

(ii) Selecting the sample scheme and size – It may be a census survey or a sample survey.

Probability sampling (Every sample has an equal chance to be selected) OR Non-probability sampling (
No equal chance, some are preferred some are not) method may be used.

(iii) Developing the Questionnaire - A questionnaire may be Structured or Unstructured with Open
end questions (give a statement or view) or close end questions (yes/no, multiple choice). After
developing the questionnaire a pilot survey is done to look for any mistakes/difficulties.

(iv) Recruiting and training the field investigators - Investigators with good knowledge of the product
and good technical knowledge must be recruited and proper training must be provided to them.

(v) Obtaining the information according to questionnaire - The Investigators take personal
interviews, telephonic interviews and mail the questionnaires to the sample population to collect
responses.

(vi) Scrutinizing the information gathered - The Information gathered may be inconsistent and the
responses may be biased. Therefore the information gathered is analysed and scrutinized to eliminate
irrelevant and unwanted data.

(vii) Analysing and interpreting the information – A statistical analysis using Parametric and
Non parametric methods is done to analyse and interpret the information.

(iv) Characterization of Market →

The market for the product or service is described in terms of the following factors based on the
information collected through market surveys and secondary sources. These factors are :-

 Effective demand in the past/present and future

 Breakdown of demand
 Methods of distribution and sales promotion
 Types of consumer
 Listing of supply and competition
 Government policies
 Price
(v) Demand forecasting →

It refers to estimation of future demand for a product or service. Forecasting methods may be broadly
divided into three categories i.e. Qualitative methods, Time series projection methods and causal
methods :-

Qualitative Methods

(i) Jury of executive opinion method →

It involves soliciting the opinions of a group of Managers on expected future sales and combining
them into a sales estimate.

Advantages

i. It considers a variety of factors

ii. Cheap method for developing demand forecasting

Disadvantages

i. The managers may be bias

ii. The reliability of the technique is always in question

(ii) Delphi Method →

It is used for eliciting the opinions of a group of experts with the help of mail survey.

Steps →

(a) A Group of experts are sent questionnaire and asked to express their views.

(b) The responses received are summarized and another questionnaire based on this response is sent
back, not revealing the identity of the experts.

(c) The process is continued till a reasonable agreement emerges.

Time series Projection Method - It involves analysis of historical time series.

(i) Trend Projection Method →

It works on a linear relationship

Yt = a + bt

Where Yt = demand for a year

t = time variable

a = intercept of relationship

b = slope of relationship

(ii) Exponential smoothing method →

In this method forecasts are modified in the light of observed errors using relationship -

Ft + 1 = Ft + d et

Where Ft + 1 = forecast for the year t+1

d = smoothing parameter

et = is the error in the forecast for the year t

(iii) Moving Average Method →

In this method forecast for next period is equal to the average of sales in several preceding years.

Casual Method → These methods use the phenomenon of change in one parameter due to the
change in another parameter to develop a cause effect relationship which can be converted into
quantitative method.

(i) Chain Ratio Method –

Under this method the potential sales of a product may be estimated by applying a series of factors to
a measure of aggregate demand. It uses a simple analytical approach for estimating demand. Its
reliability depends upon the ratio and rates used in the process, one ratio leads to another.
(ii) Consumption level Method –

It is used for products which are directly consumed. Consumption level is estimated on the basis of
elasticity co-efficient for a product.

(iii) End user Method –

It is suitable to estimate demand of intermediate products and it involves following steps -

 Identifying the possible uses of product

 Identifying the consumption co-efficient of the product for various uses.
 Projecting the output level for consuming industries
 Deriving the demand for the product.

(iv) Bass diffusion Method –

It was developed by Frank Bass. Under this method sales is estimated OTB of -

p = co-efficient of innovation

(Probability of people to buy the product because it is innovative)

q = co-efficient of imitation

(Probability of people to buy the product as others have bought it)

The two main questions that an analyst has to answer are: Is the product innovative? and are people
buying the product?

(v) Leading indicator method –

There are Leading variables which change ahead of other variables called lagging variables. For e.g.
Change in level of urbanization used to predict change in demand for cars.

(vi) Econometric method –

It involves estimating quantitative relationships derived from economic theory.

(vi) Market Planning →

In order to penetrate the market and achieve pre-determined objectives an appropriate marketing
plan must be developed covering all aspects related to product, price, place and promotion. It
involves the following steps:-

Analysing the current market situation

Identifying opportunities and issues

Setting up of objectives

Deciding the marketing strategy

Action programme
 COST OF PROJECT

It 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 total expenditure on the following →

(i) Land and site development →

A. Basic cost of land and conveyance charges

B. Premium payable on lease hold and conveyance charges
C. Cost of leveling and development
D. Cost of laying roads and internal roads
E. Cost of gates, tube-wells etc.

It varies from location to location and topography of the land.

(ii) Building and Civil Works →

 Building for main plant and equipment

 Building for auxiliary services, water supply, laboratory, workshops etc.
 Godowns, warehouses and open yard facilities
 Non factory buildings like factory, guest houses, time office, excise house etc.
 Quarters for essential staff
 Silo's tanks, wells, chests, bins etc.
 Garages, Sewers, drainage etc.
 Other civil engineering works depend upon kind of structure required
 Buildings to fulfill requirements of manufacturing process

(iii) Plant and Machinery →

 Cost of imported machinery -

- FOB Value
- Shipping
- Freight
- Insurance cost
- Import duty
 Clearing loading, unloading and transportation cost

 Cost of indigenous machinery -

- FOR cost (free on rail)
- Sales tax and Octroi tax
- Railway freight and transportation charges
- Cost of stores and spares
- Foundation and installation charges
(iv) Technical Know-how and Engineering Fees →

 Recruitment of technicians for India or abroad

 Training of employees of production process
 Procuring technology
 Royalty fees to technology provider

(v) Expenses on foreign technicians and training of Indian technicians abroad

(vi) Preliminary and capital issue expenses →

Preliminary expenses are expenses incurred in :-

 Identifying the project

 Conducting market research
 Preparing feasibility report
 Drafting Memorandum and Articles of Association
 Incorporation of company

Capital issue expenses are expenses borne in connection with raising capital from the public -
 Underwriting
 Brokerage
 Fees to managers and registrars
 Printing and postage
 Advertising and publicity
 Listing fees and stamp duty

(vii) Electricals →

Cost of cables, panel boards, voltage stabilizers

(viii) Transportation cost

(ix) Pre-operative Expenses →

These are expenses incurred till the commencement of actual production of product e. g.
 Rent
 Taxes
 Traveling expenses
 Interest on borrowings
 Insurance and mortgage
 Start up and establishment expenses

(x) Provision for contingencies →

Funds for contingencies must be kept to provide for unforeseen expenses and price increase over the
normal inflation rate. These situations may arise due to deviation between estimated cost and
actual cost. Therefore, 5% - 15% margin is kept on cost of projects.

(xi) Margin Money for working capital →

The principal support for working capital comes from commercial banks and trade creditors. A
certain part of working capital is required to come from long term sources. It is used for meeting
overruns in capital cost. To mitigate this problem Financial Institutions stipulate a portion of loan
amount, equal to margin money for working capital.

(xii) Initial Cash Losses →

Most projects incur cash losses in initial year. Yet promoters do not reveal losses to make the project
appear attractive to financial Institutions and the investing public. Failure to make provision for initial
cash losses may affect the financial position of the company and impair the project.
 MEANS OF PROJECT FINANCING

Project financing includes raising funds required for a project through a financier or promoter. A
promoter mainly relies on the estimated cash flow generated by the proposed project to service their
loan. Cash flows from project related assets are also considered for assessing repayment capacity.
Creditors ensure proper utilization of funds and aid in creation of assets, funds are released in stages
as and when assets are created.

Means of Project Financing →

 Share capital
 Term Loan
 Debenture capital
 Deferred credit
 Incentive sources
 Miscellaneous sources

I. SHARE CAPITAL

It is the capital raised by a company by issue of shares. It may take two forms -

a. Equity share capital – It represents the investment made by the owners of the business.
They enjoy the rewards and bear the risks of ownership.

b. Preference share capital – It represents the investment made by preference

shareholders and the dividend paid on these shares is generally fixed.

II. TERM LOAN – Term loans are provided by Financial Institutions and Commercial banks. It
represents secured borrowings for financing new projects as well as expansion, modification,
renovation schemes.

It can be of two types -

a. Rupee term loans – They are given for financing land, building, plant & machinery etc.

b. Foreign currency term loan – They are given to meet foreign currency expenses
towards import of machinery, equipment and technology.
III. DEBENTURE CAPITAL

Debenture capital is a financial instrument for raising long term debt capital. It may be convertible or
Non-convertible.

Non-convertible debentures are straight debt instrument carrying a fixed rate and have a maturity
period of 5-9 years. If interest is accumulated it has to be paid by the company by liquidation of its
assets. It is an economical method of raising funds. Debenture holders do not have any voting rights
and there is no dilution of ownership.

Convertible debentures are convertible wholly or partly into equity shares after a fixed period of time.

IV. DEFERRED CREDIT

At times suppliers of plant and machinery offer a deferred payment facility under which payment of
plant and machinery can be made after a certain period of time as agreed upon by the buyer and
seller at the time of purchase.
In order to get deferred credit a person has to furnish Bank guarantee and may even have to mortgage
certain assets.

V. INCENTIVE SOURCES

The Government and its agencies may provide financial support incentive to certain types of
promoters for setting up industrial units in certain location. It may take form of -

i. Seed capital assistance

ii. Capital subsidies
iii. Tax deferment
iv. Exemptions

VI. LEASE FINANCING –

It is a contract in which the owner of the asset (lessor) gives right to use an asset to the user (lessee)
for an agreed period of time in return of consideration in form of periodic payments called lease
rentals. It is used for expansion projects, since repayment can be done immediately through cash
generated from existing facilities. It is a popular method of Project financing for large machinery,
airplane, ships, property etc.
VII. UNSECURED LOANS –

In case of shortage of funds, the promoter of the business may mobilise funds from family, friend and
relatives in form of unsecured loans to meet such shortage. Lenders may or may not receive any
interest on the amount lend and have no control over management and decision making. In this
method of Project Financing the borrower does not have to keep any collateral for the loan therefore
unsecured loans are perceived as less risky.

VIII. BRIDGE LOANS/FINANCE –

These are temporary loans provided by commercial banks to promoters of a business for arranging
capital cost of a project. These loans are sanctioned by banks and financial institutions to help
promoters in speedy development of a project, in its absence projects may be delayed due to
insufficient funds.

IX. PUBLIC DEPOSITS –

It refers to funds mobilized from the public and shareholders. These deposits can be taken for a
minimum period of 6 months and maximum period of 36 months. The government of India has fixed
the maximum amount of deposit at 25% of the paid up share capital and free resources of the
company. Only a public limited company is allowed to accept deposits from public and a private
company cannot do so, however private companies can raise deposits up to 25% of the share capital
from friends, family and relatives.
 ESTIMATES OF SALES AND PRODUCTION

In order to determine profitability of a project the first task to be carried out is the forecast of sales
revenue. While estimating sales revenue the following things must be kept in mind -

A. It is not advisable to assume a high capacity utilization of machinery level in the first year
of operation even if the technology is simple and company does not face any technical
problems. Due to constraints like raw material shortage, limited power, marketing
problems etc. It is sensible to assume low capacity utilization in the first year.

A reasonable assumption would be –

40% - 50% of installed capacity in first year
50% - 80% in 2nd year
80% - 90% in 3rd year onwards

B. It is not necessary to make adjustments for stock of finished goods. It may be assumed that
production will be equal to sale.

C. The Selling Price considered should be the price realizable by the company net of excise
duty. It shall however include dealer`s commission.

D. The Selling Price used may be the present selling price. It is assumed that change in selling
price will be matched by change in cost of production. If a portion of production is saleable
at controlled price, sell that portion at the controlled price.

In order to make estimates of Sales and Production the following details must be furnished for each
product and until the plant utilises its maximum capacity -

 Installed Capacity
 Number of working days
 Number of shifts
 Estimated production per day
 Estimated annual production
 Estimated output as a percentage of plant capacity
 Sales after adjusting stocks
 Value of sales
 COST OF PRODUCTION

Cost of production refers to all costs involved in acquiring goods and services required as input for
producing a product. The four major components of cost of production are -

 Material Cost
 Labour Cost
 Cost of Utilities
 Factory Overhead Cost

Components of Cost of Production

(i) Material cost –

It includes cost of raw material, chemicals, components, and other inputs required for production.
These costs may be determined on the basis of theoretical consumption norms, industry experience
or specifications provided by machinery suppliers. The following points must be kept in mind when
estimating the cost of material inputs –

(a) The total requirement of various materials inputs can be obtained by multiplying
Requirement per unit of output by Expected output during the year

(b) The price of material input are defined in terms of CIF (cost, insurance and freight)

(c) While determining the present value of material inputs, inflation factor must be ignored.

(d) There may be seasonal fluctuations in the prices of inputs which must be considered.

(ii) Labour cost –

It includes cost of all manpower employed. It is a function of number of employees and rate of
remuneration. Manpower includes the number of operators for operating various services, number of
Supervisors and Administrative staff.
Remuneration of workers may be calculated on the rate prevailing in the industry. It must include
basic pay, dearness allowance, conveyance allowance, travel concession, provident fund contribution,
medical, bonus etc. Payment related to vacation, overtime, night work, work on holidays must also be
included.

(iii) Cost of Utilities –

It includes Cost of Power, Water and Fuel. The requirements for fuel, water and power are
determined on the basis of norms specified by collaborators, consultants etc.

♦ The Cost of power includes bought out power estimated on the basis of charges of the concerned
electricity board.

♦ The Cost of water includes charges paid to local authorities.

♦ Cost of fuel consists of cost involved in buying coal, fire, wood, bio gas etc.

(iv) Factory overhead cost –

It includes expenses on repairs and maintenance, rent, taxes, insurance on factory assets. It is low in
initial years high in later years.