Project appraisal system at APSFC

A
study on
PROJECT APPRAISAL SYSTEM
at
Andhra Pradesh State Financial Corporation
- a case study
submitted
by
Shrath Chandra Malkani
Process Engg. with M.B.A.(I.D.D.) 4th year
Indian Institute of Technology Roorkee
under the guidance of:
Mr. V.P. Arun Mozhi
Senior Manager
Projects Department
APSFC

Contents
1 Introduction 5
1.1 Project Appraisal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
1.2 Need for the study . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
1.3 Objectives of the study . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
1.4 Methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
1.5 Limitations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
2 Companys’ Profile 7
2.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
2.2 Objectives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
2.3 Milestone Achivements of APSFC . . . . . . . . . . . . . . . . . . . . . . . 8
2.4 Ownership . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.5 Nominee Directors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.6 Operational Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
3 Project Appraisal System at APSFC 11
3.1 Products & Services . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
3.1.1 Products- Fund based activities . . . . . . . . . . . . . . . . . . . . 11
3.1.2 Services- Non Fund based activities . . . . . . . . . . . . . . . . . . 12
3.2 New Schemes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
3.3 Loan Sanction Criteria . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
3.4 CIBIL (Credit Information Bureau of India Limited) . . . . . . . . . . . . 13
3.5 Pre Sanction Inspection . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
3.6 Project Screening Committee . . . . . . . . . . . . . . . . . . . . . . . . . 14
3.7 Method of Project Appraisal . . . . . . . . . . . . . . . . . . . . . . . . . . 14
3.8 Viability, Profitability & Ratio analysis . . . . . . . . . . . . . . . . . . . . 16
3.9 Sensitivity Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
3.10 Internal Risk Rating Department . . . . . . . . . . . . . . . . . . . . . . . 17
4 Project Appraisal Mechanism -A theoretical Framework 18
4.1 Appraisal Procedure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
4.2 Promoter Evaluation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
4.2.1 Educational Qualification . . . . . . . . . . . . . . . . . . . . . . . 19
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4.2.2 Family Background . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
4.2.3 Experience . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
4.2.4 Credit Worthiness . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
4.2.5 Ability to offer collateral security . . . . . . . . . . . . . . . . . . . 19
4.3 Technical Evaluation : . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
4.3.1 Land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
4.3.2 Structure and civil works: . . . . . . . . . . . . . . . . . . . . . . . 21
4.3.3 Plant & machinery . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
4.3.4 Power . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
4.3.5 Water . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
4.3.6 Ambience . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
4.3.7 Availability of man power & Labour . . . . . . . . . . . . . . . . . . 23
4.3.8 Environmental factors . . . . . . . . . . . . . . . . . . . . . . . . . 23
4.4 Financial evaluation: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
4.4.1 Cost of the project: . . . . . . . . . . . . . . . . . . . . . . . . . . 24
4.4.2 Means of Finance: . . . . . . . . . . . . . . . . . . . . . . . . . . . 26
4.4.3 Estimation of working capital: . . . . . . . . . . . . . . . . . . . . . 27
4.4.4 Estimates of sales and production: . . . . . . . . . . . . . . . . . . 28
4.4.5 Projected cash flows statements: . . . . . . . . . . . . . . . . . . . . 28
4.4.6 Viability Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
4.4.7 Sensitivity analysis: . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
4.5 Market evaluation: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
4.5.1 Collection of Information . . . . . . . . . . . . . . . . . . . . . . . . 32
4.5.2 Market Survey . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
4.5.3 Concept of Michel porter on competition: . . . . . . . . . . . . . . . 33
4.5.4 Threat to new entrants: . . . . . . . . . . . . . . . . . . . . . . . . 33
4.5.5 Rivalry between existing firms: . . . . . . . . . . . . . . . . . . . . 33
4.5.6 Pressure from substitute products: . . . . . . . . . . . . . . . . . . 33
4.5.7 Bargaining power of buyers: . . . . . . . . . . . . . . . . . . . . . . 34
4.5.8 Bargaining power of suppliers: . . . . . . . . . . . . . . . . . . . . . 34
4.6 Risk evaluation: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
4.6.1 Visibility of risks: . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
4.6.2 Types of risks: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
4.6.3 Risk assessment . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
4.6.4 Qualifying the risks: . . . . . . . . . . . . . . . . . . . . . . . . . . 36
4.6.5 Strategies for managing risk: . . . . . . . . . . . . . . . . . . . . . 37
4.6.6 Limitations: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
4.7 Credit Rating . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
4.7.1 Rating Nomenclature . . . . . . . . . . . . . . . . . . . . . . . . . . 37
4.7.2 Credit Rating Model . . . . . . . . . . . . . . . . . . . . . . . . . . 38
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5 Case Study 40
5.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
5.1.1 Risk Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
5.2 Due Diligence Report . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
5.3 Technical Aspects . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
5.3.1 Scope of the project . . . . . . . . . . . . . . . . . . . . . . . . . . 45
5.3.2 Location . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
5.3.3 Raw Materials . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
5.3.4 Manufacturing Process . . . . . . . . . . . . . . . . . . . . . . . . . 46
5.3.5 Technical Know-how . . . . . . . . . . . . . . . . . . . . . . . . . . 46
5.3.6 Utilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46
5.3.7 Manpower Requirement . . . . . . . . . . . . . . . . . . . . . . . . 47
5.4 Cost of Project . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.5 Notes on cost of the scheme . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.5.1 Land: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.5.2 Buildings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48
5.5.3 Plant & Machinery . . . . . . . . . . . . . . . . . . . . . . . . . . . 48
5.5.4 Erection . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48
5.5.5 Estimation of Working Capital requirements . . . . . . . . . . . . . 49
5.5.6 Means of Finance . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.5.7 Promoters’ Contribution . . . . . . . . . . . . . . . . . . . . . . . . 50
5.5.8 Debt Equity Ratio . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.5.9 Security . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.5.10 Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.6 Economics of Working . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
5.6.1 Raw material . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
5.6.2 Power . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
5.6.3 Fuel . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
5.6.4 Wages . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
5.6.5 Salaries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
5.6.6 Provisions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
5.6.7 Sales Revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
5.6.8 Assumptions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
5.7 Break Even Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
5.8 Debt Service Coverage Ratio . . . . . . . . . . . . . . . . . . . . . . . . . . 55
5.9 Internal Rate of Return . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55
5.11 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55
6 Findings and Suggestions 56
6.1 Findings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56
6.2 Suggestions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56
4

Chapter 1
Introduction
1.1 Project Appraisal
Project appraisal is the structured process of assessing the viability of a project or proposal.
It involves calculating the feasibility of the project before committing resources to it. It
is a tool that company’s use for choosing the best project that would help them to attain
their goal. Project appraisal often involves making comparison between various options
and this done by making use of any decision technique or economic appraisal technique.
Project appraisal is a tool which is also used by companies to review the projects
completed by it. This is done to know the eﬀect of each project on the company. This
means that the project appraisal is done to know, how much the company has invested on
the project and in return how much it is gaining from it.
The purpose of project appraisal is to establish whether a project is worthwhile in the
light of its costs in terms of resource commitments and the project’s expected beneﬁts.That
is, appraisal is an ex ante assessment of a project and is the key element in the decision as to
whether or not to proceed with a project. This will involve the consideration of alternative
projects (the with option[s]), or alternatively, by comparison with the status quo (that
is, the do-nothing option). In practice, this is an intricate and sophisticated process of
enquiry, with substantial data requirements. Examination of the viability of the project
may require the specialised services of appraisal missions and appointed consultants.
Project appraisal is the process of critical evaluation of all the six faces of the project
appraisal namely:
1. Technical analysis
2. Financial analysis
3. Legal analysis
4. Market analysis
5. Management appraisal
6. Ecological appraisal.
The methodology basically look at trying to understand the capital budgeting mecha-
nism/techniques in evaluating the various aspects of project implementationand the method-
5

ology followed by the reputed institution Andhra Pradesh State Financial Corporation(APSFC),
which is a pioneer institution in extending term loands facility to small and medium scale
industries, is examined critically
1.2 Need for the study
The financial institutions and banks have a vital role to play in the different facets of project
work.They are responsible for appraising the soundness of the project that is presented to
them for financial assistaance. The main purpose of this study is to understand the lending
criteria and appraisal technique for financing the project
1.3 Objectives of the study
• To understand the various aspects involved in appraising a project
• To know the methodology of project appraisal system adopted by Andhra Pradesh
State Financial Corporation
• To undertake the case study of a proposal which APSFC has appraised for sanction
of term loan and evaluate the methodology and its compliance to established norms
1.4 Methodology
The data required for the study has been collected from both primary and secondary
sources of information. As part of collection of information from primary sources, I met
the concerned officersof Project Appraisal system in APSFC whose inputs are the vital
part of my study.The secondary sources of information are APSFC website and books like
Financial Management and some online sources
1.5 Limitations
• Due to Time constraints,couldnot meet the promoters of the project which would
have helped me in analyzing the case in detail
• Due to same reason, couldnot study the Risk Raing System of APSFC in detail which
would have brought the report a complete form
6

Chapter 2
Companys’ Profile
2.1 Introduction
Andhra Pradesh State Financial Corporation [APSFC] is a term lending Institution estab-
lished in 1956 for promoting small and medium scale industries in Andhra Pradesh under
the provisions of the Sate Financial Corporations Act, 1951.The corporation came into exis-
tence on 1-11-1956 by merger of Andhra State Financial Corporation and Hyderabad State
Financial Corporation. The corporation has launched many entrepreneur-friendly schemes
to provide term loans, working capital term loans, special and seed capital assistance to
suit the needs of various categories of entrepreneurs. The Corporation has completed five
decades of dedicated service in industrial financing of tiny, small and medium scale sector
units and contributing to the balanced regional development of the state.
2.2 Objectives
• To industrialise the State through balanced regional development and dispersal of
industries.
• To support promotion and development of tiny, small and medium scale industries
and service sector units by extending need based credit to them.
• Nurtures entrepreneurship and encourages first generation entrepreneurs.
• To act as a catalyst for generation of employment.
Andhra Pradesh State Financial Corporation was formed with the main objective of
extending financial assistance for setting up of industrial units and service enterprises in
tiny, small and medium scale sectors. APSFC has been playing a significant role in taking
the state to its rightful place on the industrial map of the country. Initially, APSFC has
been started with the main objective of a developmental financial institution for stting up
industries in all regions of the state mainly in order to create employment oppurtunities
7

and contribute to ecnomic growth of the country.Subsequently, APSFC became a premier
term lending institution in the state of Andhra Pradesh providing financial assistance to
new and upcoming enterpreneurs as well as new identifiable and sustainable successful
industrial activities.
2.3 Milestone Achivements of APSFC
• So far sanctioned Rs.2,503 crores for 93,999 units in Andhra Pradesh as on 31/03/2012
• Disbursed Rs.8,571 crores to 73,480 units - 70% to Tiny/SSI sector as on 31/03/2012
• Recovered Rs.9,349 crores including interest since inception till 31/03/2012
• Established unblemished repayment track record since inception
• Has consistent record of earning operating profit throughout its history
• Created total Investment of around Rs. 27,487 crores
• Generated direct and indirect employment to about 11 lakh persons
• Channelled a significant share of assistance of around 70% to tiny and small scale
industries
• Industrialised backward areas by extending 50% of its assistance to industries coming
up in notified backward areas.
• Enjoying 60% of the market share in term lending in promoting First Generation
Entrepreneurs in Andhra Pradesh
2.4 Ownership
In exercise of the powers conferred by Section 48 of the State Financial Corporation
Act,1951, SFC Act specifies the share holding pattern as well as the powers of APSFC
to issue shares. Currently the sntire shareholding is distributed between the Government
of Andhra Pradesh(69%) and SIDBI(31%).
Recent amendments to SFCs Act,stipulates that the share holding of the State govern-
ment and the parent development bank to be atleast 51%. The prospects of disvestments
to other entities exist upto 49% of paid-up equity capital,equivalent to Rs. 50 crores(on
Rs. 100 crores authorized captal),disvestment of stake has also been by Khan Committee
(for SLFIs) and Gupta Committee(for SFCs). However disvestment beyond the specified
level of 49% will depend on Amendment in SFCs Act.
8

2.5 Nominee Directors
The Corporation shall nominate oﬃcers of the corporation as nominee directors in respect
of units where sanctioned amount is Rs. 5 crores and above.
2.6 Operational Results
The Corporation improved its operational results during the year„particularly in disburse-
ments and recoveries. The total sancions of Rs. 1368.82 crore were made in FY 2012 as
against Rs. 1386.38 crore recorded in FY 2011. The disbursements increased to Rs.936.89
crore from Rs.904.64 crore,in the previous year, registering a growth of 3.556%. The per-
formance of the corporation in disbursements during the year was highest ever recorded.
The total income of the Corporation grew by 14.14% to Rs.368.02 crore from Rs.322.43
crore in FY 2011./the increase is on account of consistent growth in loan portfolio and
increase in rate of interest in FY 2012.The total expenditures increased by 12.96% to
Rs.222.12 crore from Rs.196.64 crore. The increase in total expenditure by Rs.25.48 is
mainly due to increase in interest cost.
Figure 2.1: Performance Review for last 5 years
9

Figure 2.2: Operating Income and Expenditure for last 5 years
Figure 2.3: Proﬁt Before Tax
10

Chapter 3
Project Appraisal System at APSFC
Corporation’s role on the project appraisal starts when a person/firm/company approach
with a request to consider financial assistance for setting up the industrial units with their
own ideas. The officers/Branch Managers at various districts,discuss the project to as-
sess the product,application and demand for the product, present market trend, price,
competition, qualifications & experience of the promoters and their investment capaci-
ties,capabilities to implement and operate the project. After satisactory discussion,the
Branch Office issues an application along with a list of information/documents to be fur-
nished with regard to the project so as to complete the appraisal part with in the stipulated
time limit.The branch officials also guide the enterpreneur in submission of necessary infor-
mation and also explain the corporation’s experience in such activity to the enterpreneur.
3.1 Products & Services
3.1.1 Products- Fund based activities
Andhra Pradesh State Financial Corporation (APSFC) extends financial assistance for
setting up industrial units in Small Medium Scale, Service enterprises in the state of
Andhra Pradesh. The Corporation extends finance basically through two products the
Term Loans and the Working Capital Term Loans.
Term loans
The Corporation extends financial assistance up to Rs 2000 lakhs per project for acquiring
fixed assets viz., Land, Building and machinery through Term Loan.The Corporation is
having an understanding (MOU) with SIDBI and Five Leading Nationalised Commercial
Banks and for bigger projects it extends need based finance through consortium finance
with MOU Banks and Institutions. The loan period normally ranges from 5 to 8 years.
12

MSME- MTL
The Corporation extends financial assistance for existing units with good working results.
The loan period normally is upto 3 years. The Corporation in consortium with Leading
Commercial Banks, with which it is having a MOU, extends higher working capital loans
to deserving units.
3.1.2 Services- Non Fund based activities
MARKETING OF INSURANCE PRODUCTS (LIFE NON LIFE)
• Life Insurance Products In Collaboration With Life Insurance Corporation Of India
• General Insurance Products in Collaboration With United India Insurance Company
Ltd.
FIXED DEPOSITS
APSFC launched fixed deposit scheme during the year 2001, with the approval of the
Reserve Bank of India.
• CUMULATIVE DEPOSITS With a minimum deposit of Rs.20,000/- Interest is paid
on maturity
• NON-CUMULATIVE DEPOSITS With a minimum deposit of Rs.40,000/- Interest
is paid Quarterly
Valuation of Assets
The Corporation, leveraging its rich experience, will also provide property valuation service
at an affordable fee.
Being in the business of financing, APSFC knows the value of assets of all kinds much
better than many. We can take up valuation of both tangible and intangible assets to
reflect their true and fair value.
Internal Audit Services
APSFC is offering internal audit service to industries and service sector enterprises at an
affordable fee.
The Corporation, with its pool of highly experienced professionals, is eminently qual-
ified to take up independent, objective and systematic internal audit of small, medium or
large enterprises in all sectors. Our team of auditors have the experience, expertise and,
above all, the right attitude towards the client’s requirements and the auditing process.
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3.2 New Schemes
The corporation reviews the existing schemes on regular basis, modifies them wherever
required and introduces new schemes to suit the changing needs of customers. During
FY 2012,it introduced ’Risk Capital Fund Scheme’ which envisages to supplment the
promoters’ margin for expansion/modernization/diversification of the existing unit and
also to meet working capital margins and other business needs.
3.3 Loan Sanction Criteria
Corporation sanctions loans to industrial units, service sector units like nursing homes,
commercial complexes, hotels, motels, road laying equipment, transport operators, excava-
tors, tourist transport vehicles etc. The Corporation considers loans at 75% on the assets
such as land, buildings and machinery subject to DER norms i.e., 3:1 for the projects up
to Rs. 10.00 lakhs and 2:1 for project cost above Rs. 10.00 lakhs and for loan amount upto
Rs 2000 lakhs. The applicant shall offer collateral security ranging from 25% to 150% of
the loan amount depending upon the type of the schemes and as guided by the lending
policy.
3.4 CIBIL (Credit Information Bureau of India Lim-
ited)
Credit Information Bureau of India Limited (CIBIL) is a premier service organization
providing information on the credit reports of various entities - commercial and individual
throughout the country
The entire Banking sector and Financial Institutions provide the credit information of
their borrowers which in turn are provided to all the members on payment of prescribed
fees.
Corporation as a part of Risk Management and to know the details of credit history of
the promoters and their enterprises also subscribed to the CIBIL and obtain the credit
information reports viz., commercial and consumer during appraisal, both at Head Office
and Branches.
3.5 Pre Sanction Inspection
Once the enterpreneur submits the information, the officials visit the location to ascera-
tinits sustainability and adequacy for the proposed activity and examine the information
with regard to technical aspect of the project viz., machinery required & availability i.e.,
by taking quotations from 3 similar machinery suppliers etc, raw material required and
availability,proximity of raw materials to unit and its price etc, operation process involved
and experience of promoters in such operations,marketing arrangements made i.e,details
14

of customers contacted, enquiries obtained, details of dealers if appointed, market survey
report indicating the demand of the product, details of competitors and their share in the
market, demand supply gap and projection of sales etc, licenses and approvals required as
per statutory obligations for setting up the unit in that particular location and financial
aspects like investment capacity of the promoters along wiht sources of finance, details of
securities proposed to be offered i.e, copies of property documents together with link doc-
uments, encumbrance certificates or charges on the properties for establishing rights over
the properties,financial projections made by the promoters, details of the other associated
units, if any in which the promoters are interested.
Based on the information submitted by the enterpreneur, the project will be taken for de-
tailed appraisal for extending necessary financial assistance. The appraisal of the projects
may be done at branch level or at head office level depending on the quantum of finan-
cial assistance sought by the promoters. In case financial assistance sought is above Rs.
100 lakhs, the branch office prepares the project information sheet as per the information
submitted by the promoters and sends the same to the head office along with the loan
application, for further action.
3.6 Project Screening Committee
The Projects Department at head office, on receipt of project information sheet studies the
proposal thoroughly and lists out the merits and demerits of the proposal placed before
the Projects Screening Committee for initial scrutiny. The promoters are also called for
the meeting to interact with higher officials and represent their case and request for any
sort of concessions such as lesser rate of interest, reduction of collateral security,etc.
The PSC after detailed discussions with the promoters as well as among the members
of the committee, decide whether to take up the proposal for financial assistance or to
reject the proposal. In case, the committee decides to take up the proposal with certain
conditions, the proposal will be sent to the Projects Department and allocates the proposal
to the concerned team depending on the time of activity.
3.7 Method of Project Appraisal
Broad items covered under project appraisals for which information is sought is details
pertaining to extent of land, adequacy of buildings, machinery & cost resonability creden-
tials, prices of raw materials and finished products, technology and manufacturing process,
market potential, availability of infrastructural facilities such as power, water, fuel, evalua-
tion of plant capacity, machinery balancing, cashflows, BEP, IRR, Risk Evaluation etc.The
checklist is isuued at the time of issuing the loan application
Project Appraisal is a technique to study the viability of the project with regard to the
financial,technical,marketing and economic aspects. The team members consisting of ex-
perts in financial as well as in technical aspects will attend to the appraisal of the project
15

The details are as under:
Technical Appraisal
It is done by the qualified and experienced engineers who will have detailed interaction
with the enterpreneur snd his technical consultant
Land & Buildings
The parameters, extent of building is assessed based on type of industry and cost of
building is worked out based on the approved civil rates of the corporation. The com-
ponents/provisions that are included while estimating the value of buildings & civil works
are civil rates for required plinth area and provison for sanitation, water supply, gate, ser-
vice charges, artitect fee, etc and other specific civil works applicable as required for the
specific industries.
Machinery
The precaution taken for financing imported machinery is to obtain quotation directly
from foreign supplier or authorized agent. The cost of imported machinery is estimated
including customs duty, clearing & forwarding , freight, etc and basic cost„ excise duty, sales
tax,insurance & freight, packaging & forwarding,etc in case of indigeneous machinery. If
the data is available of the same supplier, no comparative quotation is required otherwise
three quotations shall be required.The machinery considered for financial assistance is
treated as new if it is 1.5 years old from date of filling of application with loan eligibilty of
75%. Otherwise, it is treated as second hand with loan eligibility of 50%. Suitable amount
is provided for erection of machinery.
Preliminary & Pre-operative Expenses
THe overall provision of preliminary & pre-operative expenses is about 10% of project cost
and overall provision can be made up of maximum of 70% of loan considered. However,
where the implementation period is very long in the projects like hotels, nursing homes,
power plants, etc a higher provision may be made on case to case studies.
Financial Appraisal
Promoters contribution, Term loans, Unsecured loans, Working capital loan in case of loan
considered under single window scheme. Promoter’s contribution: Promoters/partners
capital in case of proprietary/partnership concern, paid up equity share capital in case of
limited companies including equity participation of other institutions, reserves & surplus,
internal accruals, P&L A/c, interest free secured loans is given to bridge the gap in equity.
The quantum of term loan assistance is decided based on PC,DER,perception of eligibility
16

and also complying with the PSC decision on risk perception. Unsecured loans are consid-
ered as equity or debt on the basis that Equity for interest free unsecured loans and Debt
for interest bearing unsecured loans.
3.8 Viability, Profitability & Ratio analysis
Market demand, while appraising the project -data on demand in state/country shall be
verified. Also to chesk the authenticity of information given by enterpreneur the distribu-
tion network may be ensured. The economic viability is verified on the bais of 1st year
of operating capacity, cash flow, profitability statements for 8 years and DSCR, IRR and
BEP. Cashflow statement is prepared to show cash disbursement & cash availability within
a specific period. It means:
1. No. of years in which the loan is to be repaid with the amount of installments
2. Dividends or Withdrawls
3. Value of output/capital employed
4. interest/ value of output
5. Operating profit/value of output
6. Net profit/ equity
Acceptable Debt Service Coverage Ratio is 1.5 to 2 and if it is more, loan period shall
be reduced proportionately.
IRR
Rate at which total cash outflows of the unit becomes equal to the discounted future
cashinflows. IRR should usually be higher than the cost of borrowings. IRR above 20% is
satisfactory
BEP
It is used estimation of no profit no loss zone and also to determine the level of margin of
safety at an optimum capacity utilization. BEP should be less than the optimum capacity
of the unit. More less the BEP, more viable is the project.
DER
The loan eligibility will be fixed based on the pre-determined DER as applicable to the
line of activity.The Maximum DER is generally taken as 2:1.
Components of Debt are Term loan, Interest bearing unsecured loans,High Purchase
loans,etc.Components of Equity are Promoters’ capital, Share application money, Reserves
and Surplus, Interest free unsecured loans, etc.
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Promoters’ contribution
Corporation’s term loan will be reckoned with a promoters’ contribution at 22.5% in case
of SSI sector and 25% in case of MSI sector.
3.9 Sensitivity Analysis
It is done to ascertain the impact on the viability of the project. The viability of the proect
will also be verified by making changes in the sales revenue/cost of raw materials/ other
inputs to estimate how sensitive is the project with the changes made. The variations
will be upto 10% increase in the cost of raw material/inputs and upto 10% decrease in
selling prices/job/work/revenue.If the project does not withstand increase in Raw material
or Sales price, it is said to be sensitive. decrease in The sensitivity is carried out on DSCR,
BEP IRR.
3.10 Internal Risk Rating Department
The corporation introduced risk assessment/risk rating of the proposals being put up to
respective authorities for sanction of loan proposals involving loan amount more than Rs.
100 lakhs. The Risk Management Department will analyze the case based on the creditwor-
thiness of the promoter’s financial strengths, marketing arrangements, securities provided,
management etc.The Corporation is enrolled as a member of CIBIL. The list of defaulters
shall be furnished to CIBIL.The information received from CIBIL shall be analyzed by
the Branch Managers and HOD(Projects) and HOD(Operations), while appraising new
proposals and indicated in the appraisal mechanism. After detailed appraisal,the draft
memoranda is circulated to the HOD for verification. The final memorandum is circulated
to the respective committee members viz, Head Office Sanction Committee or Executive
Committee or Board of Directors. The sanction letter is then issued to the promoters after
due approval of the respective authority.
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Chapter 4
Project Appraisal Mechanism -A
theoretical Framework
4.1 Appraisal Procedure
Project Appraisal procedure covers the following aspects
• Promoters Evaluation
• Technical Evaluation
• Financial Evaluation
• Means of Finance
• Market Evaluation
• Risk Evaluation
• Components of Project
4.2 Promoter Evaluation
The corporation attaches great importance to the background of the promoters of the unit.
The role of corporation has been the development of enterpreneurship to promote the indus-
tries in the state.Accordingly,the background of the promoters,his experience,educational
qualiﬁcations,etc assumes prime importance in the proﬁle to the proposed industry.The
corporation normally looks at the following aspects with regard to promoters’ background
as a part of appraisal of the project
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4.2.1 Educational Qualification
The relevance of education plays a great role in the ability of the enterpreneur to match
to the industrial requirements.The relevant educational qualifications always help in dis-
charging the managerial activities related to the industrial activity proposed in a better
way.However there are several enterpreneurs who have minimal educational qualifications
and have become successful mainly on account of family background or experience acquried
over a period of time.
4.2.2 Family Background
It plays a vital role in shaping the promoter to meet the requirements of the industry. The
promoter who comes from business family generally adopts himself seamlessly to improve
the business oppurtunities.This skill is amply seen in enterpreneurs who come from business
community in India.These enterpreneurs generally obtain training from their peers.These
categories of people right from young age are exposed to various facets of industry and
business and have proved to be successful in their industrial ventures.
4.2.3 Experience
A greater weightage is appraised to the experience in the relevant industries of the pro-
moters.His experience in the field shall be of great importance and is considered to be the
right person to establish the industry.
4.2.4 Credit Worthiness
Any project requires considerable amount of funds to be invested by the promoters.Most
of the institutions adopt a regulation of debt equity ratio of 2:1 which means that 35-
40 percantage of the project cost has to be borne by the promoters.The ability of the
enterpreneurs to bring in the required funds for meeting the working capital requirements
is assessed by examining their solvencies and abilities to mobilize the required funds.Apart
from these, institutions look to aspects like if they have availed loans in the past,what is
their track record and if they have companie,what is their performance.
4.2.5 Ability to offer collateral security
Normally institutions look for additional security as collateral security to be offered by the
promoters for the term loan extended to secure the loan facility.In the event if promoter
fails to reapy the loan ,the security of the financing institution is at stake.The institution
insists on securities ranging from 25 to 150 percantage depending on the risk perceptions of
the agency.In case promoters are not able to offer collateral security, alternatively the fixed
deposits are accepted as security and the details about collateral security is also examined
in detail during project appraisal.
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4.3 Technical Evaluation :
The technical feasibility of the project will be examined with reference to the following
areas :
• Land/location of the site
• Construction of building and other civil works
• Plant lay out
• Plant and Machinery
• Determination of plant capacity
• Infrastructure facilities required such as power, water, effluent treatment facilities,
fuel, etc.
• Inputs required(raw materials, consumables, stores spares)
• Environment aspects
4.3.1 Land
Land is the primary requirement of a project. The location of the project has a prime im-
portance. This is basically selected based on availability of raw materials, proximity to the
market, other aspects regarding availability of required skilled manpower, transportation
facilities and technical services. The topography of the land and other location related
advantages greatly influences the location of the project. The following factors play an
important role in finalizing the land:
Quantum of land required
The requirement of land is based on the type of project and if could be located in the
midst of habitation or in areas specifically marked for industrial units like industrial de-
velopment areas, industrial estates etc. government is creating necessary approvals from
the connected authorities through single window mechanism. The government has created
common infrastructure facilities for providing uninterrupted power, telecommunications
facilities, other facilities i.e. treatment of effluents etc.
The cost of the land should be low as it ia a unproductive asset. If the cost of the land
is high, the cost of the project enhances to that extent resulting low profitability / returns
on the investment made. Thus the cost of land shall be minimal and appropriate.
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Proximity to raw materials and markets:
An important consideration for location is the proximity to sources of raw materials and
nearness to the market for final products. In terms of a basic location model, the optimal
location is one where the total cost (raw material transportation cost plus production cost
distribution cost for the final product) is minimized. This generally implies that (1) a
resource basic material (for example, limestone in the case of a cement plant and iron-ore
in the case of a steel plant); (2) a project based on imported material may be located near
a port; and (3) a project manufacturing a perishable product should be close to the centre
of consumption. Generally , the nature of the product influences the location of the plant.
If the consumption of the product is broadly distributed and spread over large areas , the
plant can be located at any place close to one of the markets. However, if the product is
directly linked to a major production centre viz. as an ancillary product to a specific large
unit, such ancillary unit invariably should be close to the consumption point.
Availability of facilities
Facilities such as uninterrupted power, water, etc. also influence the location of the mar-
ket industries. Generally such facilities are available at specific industries zones. Hence,
location of the plants in such areas is desirable.
4.3.2 Structure and civil works:
Structures and civil works may be divided into three categories:
Site preparation and development: This covers, granding and leveling of the site,
demolition and removal of existing structures, relocation of existing pipelines, cables,
roads, power lines, etc., reclamation of swamps and draining and removal of standing
water, connections for the following utilities from the site to the public network: electric
power(high tension and low tension), water for drinking and other purposes, communi-
cations(telephone, internet etc.), roads, railway sidings, and other site preparation and
development work.
Building and structures: buildings and structures may be divided into, factory or pro-
cess building, ancillary building required for stores, warehouses, laboratories, utility supply
centers, maintenance services, and others, administrative building, staff welfare building,
cafeteria, and medical services buildings, and residential buildings.
Outdoor works: It covers supply and distribution of utilities (water, electric power,
communication, steam, and gas),handling and treatment of emission, wastages, and efflu-
ents, transportation and traffic signals, outdoor lighting, landscaping and enclosure and
supervision (boundary wall, fencing, barriers, gates, doors, security posts, etc.) Further, a
provision is to be made for construction of facilities for treatment and discharge of effluents,
plantation to protect environment, etc
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4.3.3 Plant & machinery
The cost of plant & machinery forms the critical aspects of the project. The machinery
is important since they process the raw materials and convert them into finished goods of
the desired standards. The requirement of machineries and equipments is dependent on
production technology and plant capacity. It is also influenced by the type of project. The
selection of machinery is based on the following aspects:
• Specifications of the machinery for process required
• The credibility of the machinery suppliers
• Performance of the machinery in similar plant
• Ability to deliver the desired output
• Availability of after sales service
• Availability of spare parts
• Flexibility of the equipment to upgrade or modernize
4.3.4 Power
The requirement of power is based upon the power requirement of individual machinery and
its utilization time. Many a time, most of the machinery operates continuously. Some of
the machinery operates intermittently. Thus the total quantum of power required is based
on the operations of machinery. Highly power intensive plants such as steel, ferroalloys
etc, are to be established only after ascertaining the availability of uninterrupted power
to operate such plants. Frequent disruption of power to such plants may lead to loss of
the production and in certain plants, loss on account of damage to materials which are in
process. Some plants are providing generator sets which run on diesel, etc.
4.3.5 Water
Water also forms an essential part in an industry except for some specific activities. Water
becomes a part of process in some of the industries such as paper, chemical, drugs etc. in
such industries water is used in process directly etc. availability of water either through
government sources or through underground sources is to be ensured for such projects.
Facilities shall also be provided for optimizing the utility of water by recirculation after
treatment. Many a time, the water gets polluted by addition of various ingredients in the
manufacturing process, thus necessitating treatment of such water before disposing it.
23

4.3.6 Ambience
The facilities created are in tune with the distinct technology and requirements of the
project. There are specific requirements for some projects in manufacturing viz.FDI (For-
eign Direct Investment)regulations in case of pharma and drug industries, HACCP (Hazard
Analysis Critical Control Point ) regulations in case of food processing industries, the stan-
dard prescribed under BIS(Bureau of Indian Standards) regulations for air conditioning
/humidification in textile units.
4.3.7 Availability of man power & Labour
It is important to understand the requirement of skilled manpower, etc. and the area
chosen invariably should have such availability. Otherwise, the cost of manpower will be
high resulting in high cost of production. In labour-intensive projects, the labour situation
in a particular location becomes important. The key factors to be considered in evaluating
the labour situation are:
• Availability of labour, skilled, semi skilled and unskilled
• Prevailing labour rates
• Labour productivity
• State of industrial relations judged in terms of the frequency and severity of strikes
and lockouts
• Degree of unionization
4.3.8 Environmental factors
A project may cause environmental pollution in various ways: it may throw gaseous emis-
sions; it may produce physical liquid and solid discharges; it may cause noise, heat, and
vibrations. World over, great importance is laid on protecting the environment. Govern-
ment is also exercising stringent norms for protecting atmosphere. The projects, which
generate effluents or cause harm to environment invariably, should create facilities for
treatment of such effluents by installing suitable / adequate effluents treatment plants and
ensure that the discharged wastage is pollution free. Necessary approvals shall be obtained
from the concerned authorities before they come in to existence.
4.4 Financial evaluation:
To judge a project from the financial angle, the following needs to be estimated after due
evaluation and projections made:
• Cost of the project
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• Means of financing
• Estimates of sales and production
• Cost of production
• Working capital requirements and its financing
• Estimates of working results(probability projections)
• Projected cashflow statements
• Debt-equity ratio & debt service coverage ratio
• Break even point
• Calculation of internal rate of return
4.4.1 Cost of the project:
One of the important aspects of the project appraisal is arriving at the cost of the project:
conceptually, the cost of the 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
• Buildings and civil works
• Plant and machinery
• Provision for contingencies
• Expenses on foreign technicians and training of Indian technicians aboard
• Preliminary and capital issues expenses
• Pre-operative expenses
• Margin money for working capital
Land & site development:
The cost of the land and site development includes basic cost of land/premium payable on
leasehold and conveyance charges/cost of leveling and development/cost of laying approach
roads and internal roads, cost of gates and cost of tube wells. The cost of land varies
considering from one location from one location to another. The cost is very high in
urban and even semi-urban locations and it is relatively low in rural locations. The site
development, too, varies widely depending on the location and topography of the land.
25

Buildings & civil works:
Buildings and civil works cover main plant & equipment, auxiliary services like stream sup-
ply , workshops, laboratory, water supply, godowns, warehouses and open yard facilities,
non-factory building like canteen , guest house, time offices, excise houses, etc., staff quar-
ters, tanks, wells, chests, basins, garages, etc. the cost of buildings and civil works depends
on the kinds of structures required which in turn, are dictated largely by the requirements
of the manufacturing process. Once the kinds of structures required are specified, cost
estimates are based on the plinth area and rates for various types of structures. These
rates, of course vary with location to some extent.
Plant & machinery:
The cost of the plant and machinery typically the most significant component of the project
cost. It consists of cost of imported machinery including FOB(free on board) value, ship-
ping, freight & insurance, import duty, clearing, loading & unloading and transportation
charges; cost of indigenous machinery including FOR(free on rail)cost, octroi, sales tax,
excise duty, freest & insurance, packing, transportation charges to site etc., cost of stores
and spares, foundation and installation charges. The cost of plant & machinery is based
on the latest available quotation duly adjusted for possible escalation.
Provision for contingencies:
A provision for contingencies is made to provide for certain unforeseen expenses and price
increases over and above the normal inflation rate which is already incorporated in cost
estimates of buildings and plant and machinery.
Miscellaneous fixed assets:
Fixed assets and machinery which are not part of the direct manufacturing process may be
referred to as miscellaneous fixed assets viz. furniture, office equipments, tools, vehicles,
railway siding, DG(diesel generating) sets, transformers, boilers, piping systems, laboratory
equipment, etc.
Preliminary & pre-operative expenses:
Expenses incurred for identifying the project, conducting the market survey, preparing the
feasibility report, drafting the memorandum & articles of association, incorporating the
company, expenses, undertaking commission, brokerage, fees to managers and registrars,
printing and postage, advertising and publicity, listing fee, stamp duty, etc. preoperative
expenses include establishment expenses, rent rates & taxes, travelling expenses, interest
and commitment charges on borrowings mortgage expenses, interest on deferred payments,
trial run expenses, etc.
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Margin money for working capital:
The principal support for working capital is provided by commercial banks and trade
creditors. However, a certain part of working capital has to come from long- term sources
of finance referred to as margin money for working capital. This is an important element of
the project cost. Many a time, the margin money for working capital is utilized for meeting
over runs in the capital (initial) costs; which leads to a working capital problem when the
project is commissioned. Thus, generally financial institutions stipulate that a portion of
the loan amount equal to the margin money for working capital be blocked initially so that
it can be released when the project is completed.
4.4.2 Means of Finance:
To meet the cost of the project, the following means of finance are available.
• Share capital/promoters capital
• Term loan
• Debentures
• Incentives
• Miscellaneous sources/unsecured loans (interest free or interest bearing).
Share capital/promoter’s capital:
There are two types of share capital i.e. equity share capital or preference share capital.
Equity share capital represents the contribution made by the owners of the business, the
equity shareholders, who enjoy the rewards and bear the risks of ownership. Equity carries
no fixed rate of dividend. Preference capital represents the contribution made by the
preference shareholders and the dividend paid on it is generally fixed. Capital brought in
by the promoters of sole proprietary or partnership firm is referred to as promoter’s capital.
Term loans:
Provide by financial institutions and commercial banks, term loans represent secured bor-
rowings which are a very important source (and often the major source) for financing new
projects as well as for expansion, modernization in india viz. rupee term loans for financing
land, building, other civil works, and indigenous plant and machinery and foreign currency
term loans which are provided for meeting the foreign currency expenditures towards the
import of equipment and technical know-how.
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Debentures:
Akin to promissory notes, debentures are instruments for raising debt capital. There are
two broad types of debentures viz. non-convertible debentures and convertible debentures.
Non convertible debentures are straight debt instruments. Typically they carry fixed rate
of interest and have maturity period of 5 to 9 years. Convertible debentures are convertible
wholly or partly into equity shares. The conversion period and price are determined in
advance.
Deferred credit:
Many a times the suppliers of the plant & machinery offer a deferred credit facility under
which payment for the purchase of the plant and machinery can be made over a period of
time.
Incentives:
The government and its agencies may provide financial support as an incentive to certain
types of promoters or for setting up industrial units in certain locations or promote certain
industries viz. food processing, etc. these incentives may take the form of seed capital
assistance(provided at a nominal rate of interest to enable the promoter to meet his con-
tribution to the project) or capital subsidy (to attract industries to certain locations) or
tax deferment or exemption(particularly from sales tax)for a certain period.
Miscellaneous sources:
A small portion of the project finance may come from miscellaneous sources like unsecured
loans, public deposits, leasing and hire purchase finance. Unsecured loans are typically
provided by the promoters to bridge a gap between the promoter’s contribution (as required
by the financial institutions) and the equity share capital the promoters can subscribe to.
Public deposits represent unsecured borrowing from public at large. Leasing and hire
purchase finance represent a form of borrowing which is different from the conventional
term loans and debenture capital.
4.4.3 Estimation of working capital:
In estimating the working capital requirement and planning its financing, the following
points have to be borne in mind:
• The working capital requirement consists cost of raw materials and components (in-
digenous as well as imported), stocks of goods-in-process (also referred to as work in
process), stocks of finished goods, debtors and operating expenses etc.
28

• The principal sources of working capital finance are working capital advances pro-
vided by commercial banks, trade credit, accruals and provisions and long terms
sources of financing.
• There are limits to obtaining working capital advances from commercial banks. They
are two forms the aggregate permissible bank finance in specified as per the norms
of lending followed by lending bank (prescribed by Tandon committee) and against
each current asset a certain amount of margin money has to be provided by the firm.
• The Tandon committee has suggested three methods for determining the maximum
permissible amount of bank finance for working capital. The method that is generally
employed now is the second method. According to this method maximum permissible
bank finance is calculated as follows: Current assets as per the norms laid down by the
Tandon committee (0.75)-Non bank current liabilities like trade credit and provisions.
• The implication of this norm is that at least 25 percent of current assets must be
supported by long term sources of finance.
4.4.4 Estimates of sales and production:
It is not advisable to assume a high capacity utilization level in the first year of operation.
Even if the technology is simple and the company may not face technical problems in
achieving high rate of capacity utilization in the first year itself, there are likely to be other
constraints like raw material shortage, limited power, marketing problems etc. it is sensible
to assume that capacity utilization would be some-what low in the first year and rise there
after gradually to reach the maximum level in the third or fourth year of operation.
The selling price considered should be the price realizable by the company net of excise
duty. It shall, however, include dealer’s commission which is shown as an item of expense(as
part of sales expenses).
The selling price used may be the present selling price.It is generally assumed that
changes in selling prices will be matched by proportionate changes in cost of production. If
a portion of production is saleable at controlled price, the controlled price for that portion
has to be taken.
4.4.5 Projected cash flows statements:
The 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. A format for preparing the cash flow
statement, which is really a cash flow budget, is prescribed by All India financial insti-
tutions. While 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 operation period (for ten
years) for managerial purposes, it may be helpful to prepare it on a quarterly basis for
the construction period and on a half yearly basis for the first 2 to 3 operating years for
29

managerial purposes. This would facilitate better financial planning, project evaluation,
and fund control.
4.4.6 Viability Indicators
Debt - Equity Ratio:
Meaning: This ratio establishes a relationship between long term debts and shareholders
fund.
Objective: The objective of computing this ratio is to measure the relative proportion of
debt and equity in financing the assets of a firm.
Components: There are two components,
1. Long term Debts, which mean long-term loans (whether secured or unsecured) (e.g.,
debentures, bonds, loans from financial institutions).
2. Shareholder’s funds, which mean equity share capital plus preference share capital
plus reserves and surplus minus fictitious assets (e.g., Preliminary expenses).
Computation: This ratio is computed by dividing the long terms debts by the shareholders-
’ funds. This ratio is usually expressed as a pure ration e.g., 2:1. In the form of a formula,
this ratio may be expressed as follows:
Debt-Equity Ratio = Long-term Debts/Shareholders’ Fund
Interpretation: It indicates the margin of safety to long-term creditors. A low debt-equity
ratio implies the use of more equity than debt which means a larger safety margin for
creditors since owner’s equity is treated as a margin of safety by creditors and vice versa.
Traditionally, a debt equity of 2:1 is considered to be satisfactory which means debt could
be twice the equity. The enterprise should have neither a very high nor a very low ratio,
it should have a satisfactory ratio. To judge whether the ratio is satisfactory or not, it
should be compared with its own past ratios or with the ratio of similar enterprises in the
same industry or with the industry average.
Debt-Service Coverage Ratio:
Meaning: This ratio measures the relationship between Net Profits before Interest + Tax
and Interest + Principal portion of installment. Objective: The objective of computing this
ratio is to determine the firm’s capacity to pay off both the interest and principal portion
of the installment. Components: There are two components of this ratio as follows:
• Net Profit before Interest and Tax
• Interest and Principal portion of Installment
30

Computation: This ratio is calculated by dividing the Net Profit before Interest and
Tax by the aggregate of interest and Principal portion of installment. It is usually expressed
in number of times. In the form of a formula, this ratio may be expressed as follows:
DSCR = (Annual Net Income + Interest Expense + Amortization&Depreciation + Other
discretionary and non-cash items like non contractual provided by the management)/
(Principal Repayment + Interest Payments + Lease Payments)
Interpretation: DSCR shows the number of times the amount of interest on longterm
debts and the principal portion of instalment is covered by the profits out of which that
will be paid. It indicates the limit beyond which the ability of the firm to service its debt
would be adversely affected. For instance, an debt service of five times would imply that
even if the firm’s net profits before interest and tax decreases by 80% of the present level,
the firm will still be able to pay interest and instalment out of profits. Higher the ratio,
greater the firm’s ability to pay current interest and instalment but very high ratio may
imply lesser use of debt and very efficient operations.
Break-Even Analysis
The break-even point (BEP) is the point at which cost or expenses and revenue are equal:
there is no net loss or gain, and one has "broken even". A profit or a loss has not been made,
although opportunity costs have been "paid", and capital has received the risk-adjusted,
expected return. In short, all costs that needs to be paid are paid by the firm but the
profit is equal to 0.
the break-even point (in terms of Unit Sales (X)) can be directly computed in terms of
Total Revenue (TR) and Total Costs (TC) as:
TR = TC (4.1)
P × X = TFC + V × X (4.2)
P × X − V × X = TFC (4.3)
(P − V) × X = TFC (4.4)
X =
TFC
P − V
(4.5)
where:
TFC is Total Fixed Costs,
P is Unit Sale Price, and
V is Unit Variable Cost.
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Accounting break-even analysis:
A project that breaks even in accounting terms is like a stock that gives you a return of
zero percent. Here you get back your original investment but you are not compensated
for the time value of money or the risk that you bear. Put differently, you forego the
opportunity cost of your capital. Hence a project that merely breaks even in accounting
terms will have a negative NPV(net present value).
Financial break-even analysis:
The focus of financial break-even analysis is on NPV and not on accounting profit. i.e., at
what level of sales will the project have a zero NPV.
4.4.7 Sensitivity analysis:
Since the future is uncertain, you may like to know what will happen to the viability of
the project when some variable like sales or investment deviates, or sensitivity analysis.
The NPV based on the expected values of the underlying variables can vary widely and
hence you would like to explore the effect of such variations on the NPV. So you define the
optimistic estimates for the underlying variables. To do this, vary one variable at a time.
To study the effect of an adverse variation in one variable, you maintain the values of the
other underlying variables at their expected levels.
4.5 Market evaluation:
Market analysis forms an important part of the project appraisal methodology. Market
evaluation basically means the scope for the product produced/manufactured, the con-
sumer acceptance, the other competitors who manufacture similar product, the segment
which uses the product, the rate at which the demand for the next years, etc. Each of
these activities are critical for evaluation of the scope of the project.
Market analysis is also very critical, primarily at the time of conceptualizing the prod-
ucts. There is no point in selecting a product to be manufactured/produced which has no
demand, low demand or falling demand. This necessarily means that the product after
being manufactured/roduced can be sold in the market with little efforts. However eval-
uating or re-assessing all the above factors is very difficult since most of the analysis is
based upon certain presumptions in most of the cases as the details of the growth pattern,
details of consumer pattern, details of strengths of the competitors, details of pricing ad-
vantage are not available. This is more in unorganized sector where in several players are
producing the products and there is no agency, which organizes the date. If the product
manufactured/produced is used to cater a premium market and the players are few, there
is possibility of evaluating the scope for the product to enter into the market.
The appraisal pursuant to market evaluating and demand analysis is generally carried
out in a systematic manner, they could be said as:
32

• Situation Analysis
• Collection of information: (1) Primary, (2) Secondary
• Conducting of market survey and adopting methodology of seed marketing
• Demand formulation
Finally evaluating the capacity at which the company has to operate. Under the situa-
tion analysis, interacting with actual users and also ascertaining the scope for establishing
the unit whit specific reference to demand from end users. The specific advantage of the
product proposed to be manufactured also has a bearing on the competitor with similar
produces in the market.
4.5.1 Collection of Information
The primary information basically thus generated from the end users and potential for
increase in such usage. The secondary information is basically gathered from the published
data available through various agencies viz. Census regarding population availability in
the country or in the region, sample reports conducted by various agencies on different
products, economic survey conducted by the ministry of finance, annual survey of industries
conducted by them on various aspects of the industry, the bulletin published by department
of exports and imports, specialized reports published by various specialized consulting
agencies on specific lines of activities, the production details of various selected agencies /
companies from Reserve bank of India etc.
4.5.2 Market Survey
Some times a well â“ structured questionnaire is designed and circulated to various users
situated all over the industry, sector wise to the industrial needs. This questionnaire should
be so designed to indicate the various facets of the product proposed to be manufactured
by highlighting the features. The information should cater to the needs to be interpreted
properly to bring out a meaningful observation. The results of the market survey need to
be compensated for the sample size being non representative, not bringing a proper ques-
tionnaire, failure of respondents to answer the questionnaire properly, deliberate incorrect
observations, improper scrutiny of the data and analysis. To sum up it would be concluded
that market evaluation basically needs an understanding on the following:
1. Effective demand for the product during the past and present
2. Components of demand of product (sector wise)
3. Pricing pattern
4. Segregation of customers
33

5. Competition existing in the market and
6. Finally the government policies to support the market
4.5.3 Concept of Michel porter on competition:
Michel porter has argued that the profit potential of an industry depends on the combined
strength of the following five basic competitive forces that drive the industry competition
has a bearing on designing the strategy the unit has to follow to counter such market forces.
4.5.4 Threat to new entrants:
New entrants add capacity, inflate costs, push prices down and reduce profitability. Hence,
if an industry faces the threat of new entrants, its profit potential would be limited. The
threat from new entrants is low if the entry barriers confer an advantage on existing forms
and deter new entrants. Entry barriers are high when:
• The new entrants have to invest substantial resources to enter the industry.
• The economies of scale are enjoyed by the industry.
• Existing firms control the distribution channels, benefit from product differentiation
in the form of brand image and customer loyalty, and enjoy some kind of proprietary
experience curve.
• Switching costs - these are essentially one-time costs of switching from the products
of one supplier to another - are high.
• The government policy limits or even prevents new entrants.
4.5.5 Rivalry between existing firms:
Firms in an industry compete on the basis of price, quality, promotion, sevice, warranties
and so on. Generally, a firms attempts to improve its competitive position provoke re-
taliatory action from others. If the rivalry between the firms in an industry is strong,
competitive moves and counter moves dampen the average profitability of the industry.
4.5.6 Pressure from substitute products:
All firms in an industry face competition from industries producing substitute products.
Performing the same function as the original product, substitute products may limit the
profit potential of the industry by imposing a ceiling on the prices that can be charged by
the firms in the industry. Thus the threat from substitute products is high.
34

4.5.7 Bargaining power of buyers:
Buyers are competitive force. They can bargain for price cut, ask ;for superior quality and
better service and induce rivalry rivalry among competitors. If they are powerful, they can
depress the profitability of the supplier industry.
4.5.8 Bargaining power of suppliers:
Suppliers, like buyers, can exert a competitive force in an industry as they can raise prices,
lower quality and curtail the range of free services they provide. Powerful suppliers can
hurt the profitability of the buyer industry.
4.6 Risk evaluation:
Innovations and industry developments are inherently risky. It is important to identify and
understand different types of risks as well as describing strategies to manage and minimize
the impact of risk in an industry. Such an analysis critical to every industrial project. Risk
varies from industry, but the dimensions of risk are similar across all businesses. The level
of risk associated with a particular industry or project will depend upon the following:
• The value of resources devoted to the project
• The length of time for which the resources will be devoted to the project
• The inherent risk of the project
• The cost of exiting the project
• The recoverable costs when the project to fail
4.6.1 Visibility of risks:
Many potential risks can be identified during the industry planning process and strategies
can be developed to mitigate them. There will also be unforeseen risks that an industry
must be able to deal with as and when they arise. A businessâTM
s ability to manage
unforeseen risks will largely depend on the caliber and experience of management and the
nature of the event. An important aspects of industry planning is that, as a result of
having development a comprehensive plan, when unforeseen events occur, manages have
the time and the resources available to tackle them.
4.6.2 Types of risks:
Industry risks can be categorized as:
• Operational
35

• Industry
• Financial
• Political
Operational:
Operational risks are internal to the business and relate to its ability to achieve its chosen
strategy. They include the following:
• Unforeseen problems in the production process
• Machinery break down or its incompatible with the raw materials
• Stock damages
• Fire, theft and floods
• Technology problems
• The product is so successful that the business cannot meet demand
Industry:
Industry risks caused by external developments in the industry and may develop as a result
of actions by the business itself. They include the following:
• A new firm enters the market
• A key supplier closes down or prevents the supply of crucial raw materials
• Demand for the product falls or fails to materialize
• A competitor aggressively cuts prices
• A new technology is developed making existing products obsolete
• Two competitors merge providing them with a major cost advantage
Financial:
Potential financial risks include the following:
• Interest rates increase dramatically, raising the cost of servicing the industrys debts.
• There is a significant devaluation, which increases the cost of raw materials purchased
from abroad.
• High demand for the product leads to overtrading and lack of available working
capital to fund the industrial activities.
36

Political:
• Political risks include not only government risks but also those resulting from the
actions of trade unions, lobbyists and activists. They include the following:
• Sanctions imposed on a country preventing access to customers or raw materials
• Taxation rates change or taxation policy alteration
• Grants, loans and subsides alteration
• Trade unions organize industrial action, preventing production from continuing
• Pressure from lobbyists requiring a change in the business practice of industry
• The industry suffers organized vandalism by radical protesters
4.6.3 Risk assessment
Indentifying risks
The task of risk assessment is to try and identify as many potential risks for an industry
as possible. Many of the existing outputs from the business planning process can be used
in the exercise. PEST(political, economic, social, technology) analysis may well highlight
political and financial risks. Lastly, a brainstorming exercise, examining each of the four
risk categories, should be performed.
4.6.4 Qualifying the risks:
The business-planning model can be used to examine the financial impacts of the risks.
A useful technique is to run a sensitivity analysis across the key inputs in the model that
best relate to the identical risks:
• The quality demanded of the product
• The selling price of the product
• Distribution costs
• Sales and marketing costs
• The costs of raw materials
• Interest rates
• Taxation rates
• Exchange rates
37

4.6.5 Strategies for managing risk:
The tactics and strategies for managing and mitigating the identified industry risks will be
specified to the business, its industry and its position within that industry. The strategies
for mitigating potential risks, however, must be based on influencing one of the dimensions
of risks.
4.6.6 Limitations:
If risks are improperly assessed and prioritized, time can be wasted in dealing with risk
of losses that are not likely to occur. Spending too much assessing and managing unlikely
risks can divert resources that could be used more profitably. Unlikely events do occur,
but if the risk is unlikely enough to occur, it may be better to simply retain the risk,
and deal with the results it the loss does in fact occur. Prioritizing too highly the risk
management processes, it could potentially keep an organization from ever completing a
project or even getting started. This is especially true if other work is suspended until the
risk management process is completed.
4.7 Credit Rating
The Corporation has introduced credit risk rating models for rating of loan proposals
involving loans of above Rs.100 lakhs in the following categories, during September,2005
and successfully implemented the rating mechanism.
• Risk rating model for Term loans
• Credit Risk rating Model for Additional Term loans
• Credit Risk raing Model for Working Capital Term loans
4.7.1 Rating Nomenclature
S.No. Total score Grade Implication of
Grade accorded
1 91-100 CR 1 Excellent safety
2 81-90 CR 2 Very Good safety
3 71-80 CR 3 Good safety
4 61-70 CR 4 Ordinary safety
5 51-60 CR 5 Less ordinary safety
6 41-50 CR 6 Low safety
7 31-40 CR 7 Unsafe
8 21 -30 CR 8 Loss category
Table 4.1: Rating Nomenclature
38

The proposals falling in the rating of CR 1, CR 2, CR 3 & CR 4 only shall be considered.The
proposals with rating CR 5 are considered selectively with higher Collateral security.
Grop Exposure
The Corporation considering the risk with regard to exposure to a closely held group ﬁxes
the maximum expossure that can be taken at any given point of time. The present exposure
limits are as under:
• Group borrowers of GE category in industrial sector - Rs. 60 crores
• Others - Rs. 40 crores
4.7.2 Credit Rating Model
Summary score sheet for Credit Risk Rating
S.No. Risk Parameter Full Marks
1 Financial Risk 22
2 Business Risk 18
3 Industry Risk 10
4 Management Risk 26
5 Risk Mitigation 24
Total 100
Table 4.2: Summary Score sheet
39

Detailed Score sheet
S.No. Parameter Full Marks
Financial Risk Parameters
1 Projected DER 5
2 IRR 2
3 Gross Avg. DSCR 5
4 Terms of Repayment 5
5 Stress tested DSCR 5
Aggegrate Financial risk score 22
Business Risk Parameters
1 Technology 4
2 Capacity Utlsn vs BE point 2
3 Compliance of Environmental 4
regulation
4 User/Product proﬁle 2
5 Market net-work 4
6 Location of unit 2
Aggregate Business risk score 18
Industry Risk Parameters
1 Competition 2
2 Industry Outlook (in industry 4
cycle)
3 Regulatory risk 2
4 Contemporary viz., WTO issues 2
Aggregate Industry Risk Score 10
Management Risk factors
1 Integrity 4
2 Track Record 3
3 Management competence/ 5
Expertise
4 Experience in industry 5
5 Payment record 4
6 Length of ralationship 5
Aggregate Management Risk Score 26
Risk Mitigation
1 Value of CS 5
2 Nature of CS 5
3 PC Margins 5
4 Default ratio in portfolio 6
5 Solvency of promoters 3
Aggregate Risk Mitigation Score 24
Total Score 100
40

Chapter 5
Case Study
5.1 Introduction
APPLICATION FOR A TERM LOAN OF Rs. 550 LAKHS FROM TRIDENT
PAPER MILLS LTD. FOR SETTING UP OF A 50 TPD CAPACITY KRAFT
MANUFACTURING UNIT IN MEDAK DISTRICT
—————————————————————————————————————-
Name of unit : Trident Paper Mills Ltd.
Location : Sy No 98/AA, Mogaligidda (v), Farookhnagar (m), Medak Dt.
Constitution : Partnership concern
Name of Partners : Mr. Mukesh, Mr. Naresh, Mr. Mahesh, Mr. Dinesh
Line of activity : Manufacturing of Kraft paper
Capacity : 50 TPD on 3 shifts and 300 working days per annum
Operating Capacity :
Year capacity(%)
1st year 50
2nd year 55
3rd year onwards 60
Table 5.1: Operational capacity
41

Application : Manufacture of corrugated boxes/sheets
Size of the unit: Small scale industry
Cost of project : Rs. 830 lakhs
Implementation Schedule:
Activity Start Finish
Land Acquired during
Jun-13
Civil Works Jul-13 Mar-14
Plant & Machinery Jan-14 Sep-14
Erection Aug-14 Sep-14
Trial runs Oct-14 Nov-14
Stabilization of Operations Nov-14 Apr-15
Date of commencement of May-15
operations onwards
Table 5.2: Schedule of Implementation
Financial Indicators :
Indicators Normal As worked out
Loan Eligibility max 75% 73.85
DER max 2:1 1.96
Promoters Contribution min 22.5% 33.74
Avg. DSCR (for 8 years) min 1.55 1.94
Break Even Point max 60% of capacity 35
IRR min 20% 32.18
Repayment period max 8 years 8 years
Moratorium period max 2 years 2 years
Table 5.3: Financial Indicators
Collateral security : The unit shall furnish Collateral security of 40% of loan
amount
5.1.1 Risk Analysis
Business Risk
Price:
Prices of the diﬀerent grades of paper being manufactured is lower than the prevailing
market price.
42

Demand :
There are plenty of units situated close to the applicant ﬁrm. The unit obtained market
tie up letters from 5 customers.
In view of above , the risk involved is low.
Technological obsolescence
The process adopted is pulping of waste Kraft paper and producing kraft paper on kraft
machining section.
The utilities consumption like steam,power, labour,etc are the least as in the indus-
try.Hence, the technology adopted is the latest and therefore the risk is low in this regard.
Political Economic Conditions (Government Policies)
The policy on packing paper is favourable which is imposing restrictions on use of plastic
paper as packing material.
The unit is adopting all pollution control methods such as Eﬄuent Treatment of Pro-
cessed Water(used for recirculation in machining section operations).Pollution control mea-
sures for gaseous outlets like cyclones and chimney in case of boiler.
The unit is obtaining permission from AP Control Board,so risk in this regard is low.
Management Risk
The Managing Partner Mr. Mukesh is having six years experience in Kraft Paper man-
ufacturing unit and has a good track record in the organization.Mr. Naresh and Dinesh
have 4 year experience in trading of kraft paper.
Partners can manage unit both technically and managerially
So, Treat in this regard is low.
Financial Risks
Solvency:
The solvency of all the partners combined is Rs. 470 crore which is adequate to meet the
promoters margin
Security for Institutional loans:
The proposal is secured by way of primary security of land,building,plant & machinery of
project and collateral security of 40% of loan amounting to Rs.220 crores.
DER:
The Debt Equity Ratio of 1.96 which is less than 2.
Hence, the risk even in this regard is low.
43

Risk Rating:
The rating to the project is CR-4 Ordinary Safety which indicate that the proposal is above
the investible grade for the corporation
Credit Rating CR-4 (Ordinary Safety)
PLR rate 14%
Application Rate PLR + 1%
Net Rate 15% p.a.
Table 5.4: CR
CIBIL Data verification
Verified the credit information on all the borrowers on CIBIL site and found them to be
in order(no adverse credit information found).
PSC meeting:
The proposal was put up to Project Screening Committee who have decided to process the
application as per norms. The collateral security to be offered is 40% of term loan.
The proposal is processed as per Project Screening Committee decision.
44

Background of Promoters
S.No. Name Qualification Experience
1 Mr. Mukesh B. Tech. Managing Partner of Company,
Has six years of experience
in Kraft paper manufacturing
unit in A paper mills Ltd.
2 Mr. Naresh M.B.A (Sales) Has two years of experience in
trading of kraft paper
Worked as Marketing Engineer in
M/s APHMEL during 2002-04
3 Mr. Dinesh M.B.A (Marketing) Has two years of experience in
trading of kraft paper
4 Mr. Mahesh Diploma L.M.E Proprietor of Mahesh Paper Mills
Income Tax assesse
Table 5.5: Promoters Background
Solvency details of Promoters
5.2 Due Diligence Report
The Branch submitted the Due Diligence Pre-sanction Cum site inspection report and
observations are as under:
Integrity :
Promoters/Management’s is having good reputation about integrity in the market
Track record with the corporation :
The promoter approached the Corporation for the first time
Management competence :
Management Profile indicates adequate level of competency and commitment
45

Experience in industry :
Managing Partner, Mr. Mukesh is having six years of experience in Kraft paper manufac-
turing unit and two other managing partners have experience in trading of kraft paper.
Hence, Management can be categorized with long experience in the industry of more
than 5 years
Credit Worthiness :
The promoters are having ability to invest their margins and to raise unsecured loans and
to raise working capital loans from banks or from friends and relatives.
Solvency and financial standing :
The aggregate solvency of Promoters is Rs. 470 crore.
5.3 Technical Aspects
5.3.1 Scope of the project
The project envisages to setup of a unit for manufacturing of kraft paper of 50 TPD
capacity or 15000 TPA The firm proposes to produce kraft paper with thickness range
from 100 GSM to 200 GSM and Burst Factors of 14,16 and 18.
5.3.2 Location
The unit is proposed to be located in land admeasuring 6 acres. situated at Sy No 98/AA,
Mogaligidda (v), Farookhnagar (m), Medak Dt
The proposed site is located in industrial park at kavalimandal, Medak Dist. which is
on the NH-9 road leading to Mumbai from hyderabad, where all the required infrastructure
facilities are available.
5.3.3 Raw Materials
The main raw material is local kraft paper which is easily available locally with stockists
and dealers . Promoters identified suppliers for continuos supply of waste kraft paper within
13km vicinity. Small amount of waste kraft paper which is imported from Indonesia.
In addtion to the above, the company requires materials like Rosin , Alum, packing
material which is available from local suppliers.
The cost of raw materials at 50% operating capacity during first year of operation is
estimated at Rs.902.6 lakhs
Product Mix is assumed as 50% 14 BF, 30% 16 BF and 20% 18 BF.BF indicates Burst
Factor
46

5.3.4 Manufacturing Process
The process is as follows:
Pulping section
• Waste kraft paper is fed and crushed in hydropulper
• Removal of wastes like plastics, steel ,etc by various screens and refiners
• Softening of pulp
• Final cleaning of pulp
• Spreading of fine pulpon the wire part in machining section
Machine section
• Pressing of paper
• Drying of paper in series of heaters until paper reaches moisture content of 5-6%
• Cutting and packaging of paper
5.3.5 Technical Know-how
Process adopted is pulping and forming of paper in machine section which is well established
Managing Partner has six years experience who can operate the unit successfully with the
help of skilled workers.
5.3.6 Utilities
Power
The connected load of the unit is 1475 HP and contracted load is 1032 HP. The unit
proposes to approach APDISCOM for power connection.
Fuel
The fuel used is agrowaste which is available locally and required fuel in first year of
operation 4752 tonnes.
Water
Water required for operating purpose is 135KL per day and domestic purposes can be met
by borewell in unit premises
47

Effluent
The wastewater generated is treated in Effluent Treatment Plant and recirculated for use
in pulp section. Boiler is equipped with Multi Cyclone Dust Collector for disposing of
waste gases and approval is taken from APPCB
5.3.7 Manpower Requirement
The company proposes to appoint 15 skilled workers, 12 semi skilled and 20 unskilled work-
ers. In addition to above, thecompany proposes to recruit 1 Plant Manager, 6 Supervisors,
3 Chemist Storekeeper, 1 Admn.Officer / Accounts, 3 Asst/Typist and 4 Watchmen /
Attenders.
5.4 Cost of Project
COST OF THE SCHEME Rs IN LAKHS
- -
LAND 8.10
BUILDINGS 146.00
PLANT & MACHINERY 535.00
ERECTION 22.00
ELECTRICALS 0.00
DEPOSITS 16.00
PREL. & PRE-OP EXP 46.90
MARGIN MONEY FOR W/C 56.00
T O T A L : 830.00
-
Table 5.6: Cost of the Scheme
5.5 Notes on cost of the scheme
5.5.1 Land:
The company entered into sale agreement for purchase of land admeasuring 6 acres situated
at Sy No 98/AA, Mogaligidda (v), Farookhnagar (m), Medak Dt.
The total cost of land is Rs.8.1 lakhs including registration and stamp duty and loan
is proposed on land.
48

5.5.2 Buildings
S. no. Buildings Area Req.
1 Main Factory Shed 1400 sq. mt.
10 mts height
2 Pulp & waste paper shed 470 sq.mt.
3 Boiler Shed 180 sq.mt.
4 Admin Oﬃce 70 sq.mt.
5 Chest Tank 512 KL
8 no.s
6 Chimney 13 m ht
Table 5.7: Buildings
Civil works are approved by DTCP. The cost of buildings is estimated as Rs. 146 lakhs.
5.5.3 Plant & Machinery
Machinery is required mainly for pulping section and machine section which is essentially
obtained from DS Engineers, Ahmedabad. Other connected machinery are 5TPH boiler,
vacuum pumps, Electric motors, cranes, Pollution Control Equipment, etc are proposed
from standard suppliers.
The machinery is acquired from standard suppliers and the cost including taxes is
estimated as Rs. 535 lakhs.
5.5.4 Erection
An amount of Rs. 22 lakhs is provided for erection.
Deposits
DEPOSITS (RS. IN LAKHS)
Consumption Deposit to AP DISCOM 15.40
Telephone 0.10
Miscellaneous 0.50
Total 16.00
Table 5.8: Deposits
49

Preliminary & Pre-operative expenses
CONSIDERED FOR LOAN ELIGIBILITY:
Interest during constructuion 32.00
Legal expenses 1.00
Wages during construction period 0.30
Insurance during construction period 0.15
Trial run exps. 0.25 33.70
NOT CONSIDERED FOR LOAN ELIGIBILITY:
Service charges & Upfront fee to APSFC 6.18
Service line charges to AP DISCOM 4.30
Initial advertisement 0.50
Travelling expenses 0.90
Oﬃce establishment & misc. 1.32
13.20
Total 46.90
Table 5.9: PRELIMINARY & PRE-OPERATIVE. EXPENSES:
5.5.5 Estimation of Working Capital requirements
Description Cost No of Days Quantum of % of Borrowings
working capital eligibility Rs.(lakhs)
Raw material 902.60 10.00 30.09 75% 22.56
Wages & OE 73.14 25.00 6.09 0% 0.00
WIP & Finished goods 1244.07 3.00 12.44 75% 9.33
Sundry debtors 1571.25 30.00 157.13 75% 117.84
Loans and advances 0.00 0.00 0.00
Other current assets 0.00 0.00 0.00
Total 205.75 149.74
206.00 150.00
Table 5.10: Working Capital Estimates
The Working Capital margin is Rs. 56 lakhs.
50

5.5.6 Means of Finance
Means Rs.(lakhs)
Promoters Capital 280.00
Term Loan- APSFC 550.00
Total 830.00
Table 5.11: Means of Finance
5.5.7 Promoters’ Contribution
Promoters contribution works out to Rs. 280 lakhs which is 33.73 % of project cost and is
satisfactory.
5.5.8 Debt Equity Ratio
APSFC Term Loan is Rs. 550 lakhs and Promoters capital is about Rs. 280 lakhs The
DER ratio works out to 1.965 :1 which is less than 2:1
5.5.9 Security
The loan is secured through primary and secondary security.
Primary security is mortagage of land & building and hypothecation of Plant & Ma-
chinery.
Collateral security is estimated as Rs.220 lakhs as per criteria set by PSC @ 40% of loan
amount and unit proposes to oﬀer residential plots in hyderabad and land and building of
promoter.
5.5.10 Market
Kraft paper is used as Raw Material for manufacture of corrugated boxes.
The demand is huge and has several applications such as beverages,FMCG products,
pharma products, footwear, crackers, etc. The growth for industry is continuous.Packing
of export products requires superior packing material and the exports are growing contin-
uously. The promoters are having good market network by way of trading units of two
promoters.
51

5.6 Economics of Working
Installed capacity : 50 TPD or 15000 TPA
OPERATING CAPCITY:
1st Year 50% 7500 Tons
2nd Year 55% 8250 Tons
3rd Year & onwards 60% 9000 Tons
Table 5.12: EOW
5.6.1 Raw material
Raw Material Req./p.a. (tons) Rate/ton Total Cost in Rs lakhs
Local Waste Kraft paper 7050.00 9500.00 669.75
Imported waste 450.00 14000.00 63.00
Rosin (fortified) 28.13
Alum 78.75
Provision for Waste (Plastics, metal, moisture, etc.) 62.97
Total 902.60
Table 5.13: Raw Material Requirement
5.6.2 Power
Load HP
Connected Load - Machinery 1464 HP
Connected Load - Lighting & Pumps 11 HP
Total Connected Load 1475 HP
Contracted Load 70% 1032 HP
Demand Factor 80%
Load factor 60%
Demand Tariff ( per KVA p.m ) Rs.250
Energy Tariff ( per kwh ) Rs.4.80
Demand Charges ( 1032 * 0.8776 *0.8 df *250*12/100000 ) Rs 21.74 Lakhs
Energy Charges ( 1032x0.746x 21x300 x 0.5 oc x 0.6 x4.8 ) Rs 69.84 Lakhs
Customer Charges @ Rs 1125 p.m Rs 0.14 Lakhs
Total Power charges p.a (rounded) Rs 91.70 Lakhs
Table 5.14: Power Estimation
52

5.6.3 Fuel
Capacity of the Boiler 6 TPH
Boiler Efficiency 82%
Net Calorific Value of fuel - Husk 3000 kcal/kg
Husk Required per Hr (6x 540 kcal/kg / 0.82 / 3000) 1.32 Tons
Husk required per yr (1.32 x 24 hrs x 300days x 0.5 o.c) 4,752.00 Tons
Cost of Husk Rs 2000 per Ton
Fuel required p.a (4752 x 2000 ) Rs.95.04 lakhs
TOTAL COST OF POWER & FUEL Rs 186.74 Lakhs
Table 5.15: Estimation Fuel consumption
5.6.4 Wages
Particulars No. Wages P.M. Total Wages Wages P.A.
Skilled Workers 15 Rs 9,000 Rs 135,000 Rs 1,620,000
Semiskilled Workers 12 Rs 8,000 Rs 96,000 Rs 1,152,000
Unskilled Workers 20 Rs 6,000 Rs 120,000 Rs 1,440,000
Total 47 Rs 4,212,000
Add: Fringe benefits @ 15% Rs 631,800
Total Wages P.A. Rs 4,843,800
Or Say Rs 48.44 lakhs
Table 5.16: Wages calculation
5.6.5 Salaries
Particulars No. Salries P.M. Total Salary Salary P.A.
Plant Manager 1 Rs 22,000 Rs 22,000 Rs 264,000
Supervisors 6 Rs 10,000 Rs 60,000 Rs 720,000
Chemist & Storekeeper 3 Rs 8,000 Rs 24,000 Rs 288,000
Admn.Officer / Accounts 1 Rs 15,000 Rs 15,000 Rs 180,000
Asst/Typist 3 Rs 10,000 Rs 30,000 Rs 360,000
Watchmen / Attenders 4 Rs 7,000 Rs 28,000 Rs 336,000
Total 18 Rs 2,148,000
Add: Fringe benefits @ 15% Rs 322,200
Total Salaries P.A. Rs 2,470,200
Or Say Rs 24.70 lakhs
Table 5.17: Salaries Estimation
53

5.6.6 Provisions
Provisions Amount (Rs lakhs p.a)
REPAIRS & MAINTENANCE 18.00
TAXES AND INSURANCE 3.00
MANAGEMENT REMUNERATION 12.00
OTHER ADMINISTRATIVE EXPENSES 6.00
MISCELLANEOUS EXPENSES
Freightcharges for transportation of Kraft Paper(Rs. 300 per ton) 22.5
Other Miscelleneous Expenses 6.00
Total Miscellaneous Charges 6.00
SELLING EXPENSES @2% on sales revenue 31.43
Table 5.18: Provisions
5.6.7 Sales Revenue
Product Quantity (TPA) Sale Price/ton Revenue (Rs lakhs)
Kraft Paper 14 BF 3750 Rs 20,000 Rs 750.00
Total 7500 Rs 1,571.25
Table 5.19: Sales Revenue from ﬁnished products
54

5.6.8 Assumptions
FINACIAL ASSUMPTIONS
RATE OF INT ON TERM LOANS 15.00
% INT ON BANK BORROWINGS 14.00
RATE OF INCOME TAX 30.90
REPAYMENT PERIOD FOR T/L(PROP) 8.00
MORATORIUM FOR TERM LOANS(PROP) 2.00
RATE OF DEPRECIATION : W.D.V
BUILDINGS 10.00
PLANT & MACHINERY 15.00
FURNITURE 10.00
VEHICLES 15.00
OTHER ASSETS 25.00
OTHER ASSUMPTIONS
CAPACITY UTILISATION
FIRST YEAR 50%
SECOND YEAR 55%
THIRD YEAR 60%
FOURTH YEAR ONWARDS 60%
% INC IN REP & MAINT 10
%INC IN SALARIES & WAGES 5
% INC IN MANAGEMENT REMUNERATION 5
% INC IN OTHER ADMN EXP 5
% INC IN RENT,TAXES & INS 5
OPTIMUM YEAR 3
Table 5.20: Assumptions
5.7 Break Even Analysis
The unit is expected to breakeven at 35% and cash breakeven at 23.03% of its installed
capacity. The breakeven calculations are based on company’s working results in the 3rd
year of operation which is optimum level of operation.
55

5.8 Debt Service Coverage Ratio
The average Debt Service Coverage Ratio comes out to 1.94 which is well above 1.55 and
DSCR of no single individual year is less than 1 which is satisfactory.The maximum and
minimum values of DSCR are 3.35 and 1.88.
5.9 Internal Rate of Return
The project’s IRR for a period of 15 years works out to 32.18% and is satisfactory. The
assumptions made are as under:
• Life of the project is assumed at 15 years
• The residual value of fixed assets at the end of 15th year is fixed at 5% of original
value and 100% for land
• The realization value of current assets is taken at 100%
5.10 Sensitivity Analysis
The sensitivity analysis is done by increasing raw material cost by 5% and reducing the
sales revenue by 5%. The details of DSCR, IRR and BEP on such changes are given below:
Parameter Normal 5% Increase in 5% Decrease in
Raw Material Cost Sales Revenue
DSCR 1.94 1.6 1.42
IRR 32.18% 25.49% 21.96%
BEP 35% 41.54% 46.17%
Table 5.21: Sensitivity Analysis
From the above, it is observed that the unit is more sensitive when there is decrease in
sales revenue than increase in raw material costs.Normally, prices of finish goods depends
on the cost of raw materials. Any increase/decrease in raw materials generally results in a
corresponding change in prices of finished goods.
5.11 Conclusion
Recommended to sanction a term loan of Rs.550 lakhs
56

Chapter 6
Findings and Suggestions
6.1 Findings
• APSFC is jointly promoted by SIDBI and Government of ANdhra Pradesh. APSFC,
an ISO 9001:2008 organization, offers a range of schemes for encouraging first gener-
ation entrepreneurs in different sectors.
• As part of Promoter’ evaluation, the background of the promoter, his creditworthi-
ness, experience, his past track record, etc are scrutinized. In fact a Due Diligence
Report is generated on the promoters before a final decision on funding the project
is done.
• Information required for promoters’ evaluation is collected from the place of opera-
tions of projectby the branch officials who oversee the project
• The economic viability is verified on the basis of optimum year of operating capacity
and cashflow, profitability statements and DSCR, IRR, BEP are calculated for 8
years for evaluation
• The viability of project is verified by making sensitivity analysis by reducing the sales
revenue by 5% and increasing the raw material cost by 5%. The DSCR, BEP, IRR
particulars for both normal and above said changes are calculated and analyzed.
6.2 Suggestions
• The corporation is providing many schemes for first generation entrepreneurs and
enjoying major share of term lending in promoting them. But there is still large
untapped market for which the corporation needs to market those schemes in a wide
range, so that this will motivate the uneducated first generation entrepreneurs.
• The corporation should reduce the collateral security requirements as it is difficult
for first generation entrepreneurs to provide high collateral security.
57

• The appraisal teams need to update themselves to meet the changing technical and
industrial trends. They could be deputed to large industrial and trade fairs and
seminars, etc to understand the dynamics of industry.
• In case of sick units, the corporation should try to know the reasons for sickness and
improve the mechanism to avoid sickness by focussing on these speciﬁc areas.
58

List of Tables
4.1 Rating Nomenclature . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
4.2 Summary Score sheet . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
5.1 Operational capacity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
5.2 Schedule of Implementation . . . . . . . . . . . . . . . . . . . . . . . . . . 41
5.3 Financial Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
5.4 CR . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43
5.5 Promoters Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
5.6 Cost of the Scheme . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
5.7 Buildings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48
5.8 Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48
5.9 PRELIMINARY & PRE-OPERATIVE. EXPENSES: . . . . . . . . . . . . 49
5.10 Working Capital Estimates . . . . . . . . . . . . . . . . . . . . . . . . . . . 49
5.11 Means of Finance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50
5.12 EOW . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
5.13 Raw Material Requirement . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
5.14 Power Estimation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
5.15 Estimation Fuel consumption . . . . . . . . . . . . . . . . . . . . . . . . . 52
5.16 Wages calculation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
5.17 Salaries Estimation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52
5.18 Provisions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
5.19 Sales Revenue from ﬁnished products . . . . . . . . . . . . . . . . . . . . . 53
5.20 Assumptions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
59

Bibliography
• Prasanna Chandra, "Projects:Planning, Analysis, Selection, Financing, Implementa-
tion and Review"
• I.M. Pandey, "Financial Management"
• Shahi Gupta & R.K. Sharma, "Financial Management Theory & Practice"
• The journal of Venture Capital
• www.wiley.co.uk

Project appraisal system at APSFC

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