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Chapter IV
Project Feasibility Studies
Organization and Management Aspect
Marketing Aspect
Technical Aspect
Production Aspect
Financing Aspect
Socio-Economic Aspect
Objectives: The student should be able:
1. To structure the organization of an educational project.
2. To staff the organizational structure of the project.
3. To conduct market research relevant to the project.
4. To conduct technical requirements of the project.
5. To describe the process of productions
6. To identify sources of funds for the project.
7. To prepare the financial statements of the project and analyses
thereof.
8. To define the role of the project socially and economically.
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Organization and Management
The aspect of organization and management involves four parts:
1. External Linkages – The external environment consists of different
components and one of these is the linkage among the different
public and private agencies. These agencies will complement or fill
the gap to satisfy the needs of the project.
2. Internal Organization – the internal environment is as important as
the external environment. Proper organization of this will spell
success for the project.
3. Management Plan – The importance of this part cannot be over
emphasized. Supervision of all activities, control techniques,
coordination and integration of schedules etc. are the highlights of
activities in this part.
4. Personnel – an organizational structure without personnel is futile.
Any project should not be devoid of human aspect. A motivated
personnel will produce optimum outputs for the project.
5. Planning – this shows the various stages of management.
5.1
Management prior to full project orientation.
5.2
Management at full project operation
5.3
In-between full operational states.
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Marketing Aspect
In this aspect, the determination of the demand and supply will
necessitate the preparation of different instruments to gather data relative to
the project proposal. Some of the more important areas to be considered are:
a.
b.
c.
d.
e.
f.
Market share
Target clientele
Existing competitors
Prevailing Prices
Location of Suppliers and Consumers
Break-even Point
g. Present demand and supply
An illustration below will show you how break-even point analysis will
make use of market share, prevailing tuition fees, target clientele, etc.
Tuition fees for 2 semesters and 1 summer
1st semester 80 students x Php 6,000 / semester=Php 480,000
2nd semester 80 students x Php 6,000 / semester=
480,000
Summer
50 students x Php 6,000 / summer=
300,000
Total Tuition Fees
Php1, 260,000
Professors’ Fees
1st semester 10 professors x Php 16,200/semester=Php 162,000
2nd semester 10 professors x Php 16,200/semester=
162,000
3rd semester 10 professors x Php 16,200/semester=
162,000
Total Professor’s Fees
Php 486,000
Fixed Costs
Depreciation
Telephone, Light, Power
Dean & staff’s salaries
Total
Php 100,000
194,000
480,000
Php 774,000
Break-Even Point Analysis:
Revenues
Less-Variable Costs
Contribution Margin
Less-Fixed Costs
Profit (Loss)
Php 1,260,000
486,000
Php 774,000
774,000
Php xxx____
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If the graduate school’s market share is 20% or 210 students then it
will break-even. However, if through market research and the graduate
school’s market share is only 10% then it will lose. Any market share lower
than 20% is a losing proposition.
The catchment area or the location of target clientele is very essential
in the demand and supply analysis. If we can identify the total number of
prospective graduate students and can enumerate the number of graduate
schools with similar graduate offerings, with different modes of delivery, then
we can determine in advance if we will lose or gain in our proposed project.
FINANCE ASPECT
Individuals, groups of individuals, partnerships and corporations often
seek sources of funds to capitalize on their prospective projects. These
various entities are brought together with those having surplus funds in the
financial markets. Each financial market has different instruments in terms
of maturity and assets backing it.
Weston and Brigham, 1990, classified financial markets into 11 major
types:
1. Physical Asset Markets- these are for tangible goods like books,
school supplies, computers, desks, blackboards, chalks, tables,
magazines, slides, projectors, microscopes, globes, basketballs,
uniforms, shoes, school bus, educational films, etc.
2. Financial Markets- deal with stocks, bonds, notes, mortgages, and
other claims or real assets.
3. Spot Markets- these indulge in cash on delivery.
4. Future Markets- engage in delivery at some future date e.g. 30
days, 6 months or a year.
5. Money Markets- a financial market for debt securities with
maturities of less than one year.
6. Capital Markets- also a financial market for long-term debt and
corporate stocks.
7. Mortgage Markets- deal with loans on residential, commercial, and
industrial, educational real estate and farmlands.
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8. Consumer Credit Markets- involve loans or tangible assets,
education, vacation, etc.
9. World, National, Regional, and Local Markets- depending on the
individual, group or organizations’ size, nature and scope of
operation, it may borrow all around world, or it may be confined to
a strictly local, even neighborhood market.
10. Primary Markets- are markets in which newly issued securities are
involved. The corporation selling the stock receives the proceeds
from the sale in a primary market transaction.
11. Secondary Markets- markets in which existing outstanding
securities are traded among investors. Secondary markets also
exist for mortgages, various types of loans and other financial
assets. The corporation whose securities are being traded is not
being involved in a secondary market and, thus, does not receive
any funds from such a sale.
The efficient transfer of funds from people who are net savers to
individuals and firms who need capital is vital to any economy. Any economy
for that matter needs efficient financial markets.
Transfer of capital between savers and those who need capital take
place in three different ways:
1. Direct Transfer of Cash and Securities
The business sells its stocks or bonds directly to savers, without
going through any type of intermediary. The business delivers the
securities to savers who pay in cash,
2. Investment Banking HouseThere is a middleman who facilitates the issuance of securities.
The company sells its stocks or bonds to the investment bank,
which in turn sells these some securities to ultimate savers. The
business securities and the savers’ money merely “pass through”
the investment banking house. The investment bank buy and hold
the securities for a period of time, so it is taking a chance- it may
not be able to resell them to savers for as much or more than it
paid.
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3. Financial Intermediary
The intermediary obtains funds from savers issuing its own
securities in exchange and uses cash to purchase business’
securities.
These transfers of capital between the savers and those who use
it may well be illustrated as shown in Figure 4.1
1. Direct Transfer
Securities (Stocks or Bonds)
Business
Savers
PESOS
2. Indirect Transfer though Investment Bankers
Securities
Investme
nt
Business
Savers
Banking PESOS
PESOS
House
3. Indirect Transfers though a Financial Intermediary
Securities
Businesses’
Securities
Business
Financial
Intermediary
Intermediary’s
Securities
Savers
Figure 4.1- Diagram of the Capital Formation Process
Intermediaries
classifications:
are
generally
categorized
into
seven
major
1. Commercial Banks- are the traditional financial institutions which
serve a wide variety of savers and those with needs for funds.
Commercial banks lend money to those who need it and are capable of
paying it back with interest.
2. Savings and Loan Association- traditionally, these served individual
savers and residential and commercial mortgage borrowers, take the
funds of many small savers and then lend this money to home buyers
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and other types of borrowers. The most significant economic function
of savings and loan association is to create liquidity. These
intermediaries have more expertise in analyzing credit, setting up
loans, and making collections than individual savers could possibly
have, so they reduce the cost and increase the availability of real
estate loans. Lastly, these intermediaries hold large, diversified
portfolios of loans and other assets and thus spread risks in a manner
that would be impossible if small savers were making mortgage loans
directly.
3. Mutual Savings Banks- these are similar to savings and loan
associations, these accept savings primarily from individuals, and lend
mainly on a long-term basis to home buyers and consumers.
4. Credit Unions- are cooperative associations whose members have a
common bond. Members savings are loaned only to other members.
Credit unions are sometimes the cheapest source of funds available to
the individual borrower.
5. Pension Funds- are retirement plans funded by corporations or
government agencies for their workers and administered primarily by
the trust departments of commercial banks or by insurance
companies. Pension funds invest primarily on bonds, stocks,
mortgages, and real estate.
6. Life Insurance Companies- take savings in the form of annual
premiums, then invest these funds in stocks, bonds, real estate and
mortgages, and finally make payments to the beneficiaries of the
insured parties.
7. Mutual Funds- are corporations which accept cash from savers and
then use these to buy stocks, long-term bonds, or short-term debt
instruments issued by business or government units. These
organizations pool funds thus reduce risks by diversification. They
also gain economies of scales, which lower the costs, or analyzing
securities, managing portfolios, and buying and selling securities.
Different funds are designed to meet the objectives of different types of
savers.
The Cost of Money
The factors which affect the supply of and demand for
investment capital, or the cost of capital are described below:
1. Production Opportunities- returns available within an economy from
investment in productive or cash-generation assets.
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2. Time Preferences for Consumption- the preferences of consumers
for current consumption as opposed to saving for future consumption.
3. Risk- the chance that a loan will not be repaid as promised.
4. Inflation- the tendency of prices to increase over time.
Production and Technical Aspect
Production/Operations
Management
or
simply
Operations
Management is management of resources to produce goods or survives.
The scope of production/operations management which includes the
technical aspect are:
1. Quality management
2. Strategic business planning
3. Performance measurement
4. Human resource management
5. Designing and developing products and services
6. Forecasting and capacity planning
7. Location and distribution
8. Technology and automation
9. Process design and facility layout
10. Inventory and materials management
11. Production planning and scheduling
12. Operations scheduling
13. Project management
The Environment of a Production System
The production system is greatly affected by both the extreme and
internal environment.
The external environment influences the overall policies and objectives
of the company, so indirectly it influences the production system. The
following external factors influence the production system.
1.
2.
3.
4.
Economic conditions
Government regulations
Competing organizations
Evolving technology
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On the other hand according to James R. Evans, 1997, the internal
environment or other functional areas within the firm have a more direct
impact on production.
1. Financial decisions affect the choice of manufacturing equipment, use
of overtime, cost-control policies, and price-volume decisions.
2. Accounting provides data on costs, and prices that help managers
evaluate performance.
3. Marketing is responsible for understanding customer needs,
generating and maintaining demand for the firm’s products, ensuring
customer satisfaction, and developing new markets and product
potential.
4. Product design and engineering determine product specifications to
meet customer needs and the production methods necessary to make
the products or services.
5. Human resources- recruits and trains employees and is responsible
for employee development, motivation, and union relationships.
6. Research and development-investigates new ideas and their potential
uses as consumer products.
7. Purchasing- is responsible for acquiring the materials and supplies
necessary for production.
8. Traffic- is responsible for distributing the finished goods to customer.
9. Legal services ensure that laws and regulations for product labeling,
performance, safety, packaging, transportation, and other contractual
requirements are met.
10. Information systems provide the means for capturing, analyzing, and
coordinating the information needs of each of the proceeding area.
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The figure below shows the positions of the internal and external
environments.
ECONOMIC
CONDITIONS
FINANCE
PURCHASING
GOVERNMENT
REGULATIONS
MARKETING
COMPETITION
TRAFFIC
Production
TECHNOLOGY
PRODUCT DESIGN
AND
ENGINEERING
HUMAN RESOURCE
System
ACCOUNTING
LEGAL
INFORMATION
SYSTEMS
RESEARCH
AND
DEVELOPMENT
Figure 4.2- The Production System and Its Environment
Financial Aspect
This aspect shows the statement of income and balance sheet of the
proposed project for at least 3 years to see its profitability, thus its feasibility
and viability.
After one year of operation the financial statements are prepared. The
income statement summarizes the firm’s revenues and expenses over an
accounting period, while the balance sheet shows the financial position at a
specific point in time.
The income statement is composed of the following captions:
Revenues- gross receipts or receivables from sales or
services rendered.
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Cost of Sales or Services- the total inputs’ amount to finish a product
or render a service.
Operating expenses- incurred in the distribution of products or
services.
Other income- receipts or collectibles which are not normally earned
by the business.
Other expenses- incurred incidentally aside from operating expenses.
Assets
Current Assets
Permanent Investments
Plant, Property and Equipment
Intangibles
Other Assets
Liabilities
Current Liabilities
Long-Term Liabilities
Capital
1.) If the business is a sole proprietorship
Owner’s, Capital
2.) If the business is a partnership
Partner’s, Capital
Partner’s, Capital
3.) If the business is a corporation
Stockholder’s Equity
Paid-up Capital
Additional Pain-in Capital
Retained Earnings
FINANCIAL RATIOS
To asses the economy’s standing based on the statements prepared
different ratios are computed.
1. Liquidity Ratios- show the relationship of a firm’s cash and other
current assets to its current liabilities.
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1.1
1.2
Current Ratio- this is computed by dividing current assets by
its current liabilities. It indicates the extent to which the claims
of short-term creditors are covered by assets expected to be
converted to cash in the near future.
Quick or Acid-test Ratio- this is computed by deducting
inventories from current assets and dividing remainder by
current liabilities.
2. Asset Management Ratios- a set of ratios which measures how
effectively a firm is managing its assets.
2.1
Inventory Turnover- or the inventory utilization ratio is the
ratio by inventories.
2.2
Day Sales Outstanding- or the ratio of the average sales per day
into accounts receivable. It indicates the average length of time
the firm must wait after making a sale before receiving payment.
2.3
Fixed Assets Turnover or the fixed assets utilization ratio,
measures how effectively the firm uses its plant and equipment.
2.4
Total Assets Turnover is the ratio of sales by the total assets.
3. Debt Management Ratios- the extent to which a firm uses debt
financing, or financial leverage. Some benefits are derived from this
financial leverage:
1. By raising funds through debt, the owners can maintain
control of the firm with a limited investment.
2. Creditors look to the equity, or owner supplied funds, to
provide a margin of safety. If the owners have provided only
small proportion of total financing, the risks of the enterprise
are borne mainly by its creditors.
3. If the firm earns more on investments financed with borrowed
funds that it pays in interest, the return on the owner’s
capital is magnified or “leveraged”.
3.1
Debt Ratio- the ratio of total debt to total assets. This
measures the percentage of total funds provided by
creditors. Creditors prefer low debt ratios, because the
lower the ratio, the greater the cushion against
creditor’s losses in the event of liquidation. The owners
on the other hand may seek high leverage, either to
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magnify earnings or because selling new stock would
mean giving up some degree of control.
3.2
Times Interest Earned- the ratio of earnings before
interest and taxes (EBIT) to interest charges. It
measures the ability of the firm to meet the annual
interest payments.
3.3
Fixed Charge Coverage- this ratio expands upon the
times interest earned ratio to include the firm’s annual
long-term lease obligations.
3.4
Cash Flow Coverage- this ratio shows the margin by
which the firm’s operating cash flow cover its financial
requirements.
4. Profitability Ratios- a group of ratios showing the combined
effects of liquidity, asset management, and debt management
on operating results.
4.1
Profit Margin on Sales- this measures the income per
peso of sales. This is the ratio of net profit after taxes
over sales.
4.2
Basic Earning Power- indicates the ability of the firm’s
assets to generate operating income. This is computed
by dividing EBIT by total assets.
4.3
Return on Total Assets- the ratio of net income after
taxes to total assets.
4.4
Return on Common Equity- the ratio of net income
after taxes to common equity. It measures the rate of
return on common stockholder’s investments.
5. Market Value Ratios- a set of ratios that relate the firm’s
stock price to its earnings and book value per share.
5.1
Price/Earnings Ratio- the ratio of the price per share
to earnings per share. It shows the peso amount
investors will pay for Php 1 of current earnings.
5.2
Market/Book Ratio- the ratio of stock’s market price
to its book value.
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Trend Analysis- An analysis of a firm’s financial ratios over time. It is used
to determine the improvement or deterioration of its financial situation.
Comparative Ratio Analysis- An analysis based on a comparison of a firm’s
ratios with those of other firms in the same industry.
Uses of Ratio Analysis:
1. Managers- who employ ratios to help analyze, control, and thus
improve the firm’s operation.
2. Credit Analysts- like bank loan officers or bond rating analysts who
analyze ratios to help ascertain a company’s ability to pay its debts.
3. Security Analysts- including both stock analysts, who are interested
is a company’s efficiency and growth prospects and bond analysts who
are concerned with a company’s ability to pay interest on its bonds as
well as with the liquidity value of the assets that would be available to
bond holders in the event the company went bankrupt.
Social Impact
Business should set their goals and objectives congruent with the
national, regional, and local goals and objectives. The firm must have social
conscience. The policies and regulations formulated by the entity should not
be devoid of human feeling for any business will only survive if its target
clientele “human beings” will be highly considered.
Evaluation Activities
Following the different aspects of project feasibility study, prepare a
hypothetical project feasibility study about putting up a school.