Top 11 Appraisal and Evaluation Parameters for Project

This article throws light upon the top eleven appraisal and evaluation parameters for project. Some of the parameters are: 1. Basic Appraisal Parameters 2. General and Miscellaneous Appraisal Parameters 3. Project Appraisal under Normal, Inflationary and Deflationary Conditions 4. Macro and Micro Parameters in Project Selection 5. Market and Demand Analysis together with Analysis of Firm and Market Risk and Others.

Appraisal and Evaluation: Parameter # 1.

Basic Appraisal Parameters:

1. Technical:

Under the technical examination following aspects are considered:

Manufacturing process and technology

a. Selection of process knowhow

b. Fixation of the capacity of the plant as a whole

c. Selection of plant and equipment

d. Process description and plant layout

e. Evaluation of the existing transport and other service facilities for a brown field project

f. General layout, material flow chart and location

g. Construction schedule (work schedule)

h. Study of material inputs and utilities

i. Product mix

j. Techno-economic norms and yields of various production shops

k. Structures and civil works, etc.

2. Commercial:

A proposal should be commercially sound.

Thus, before a proposal is recommended, following aspects are examined to test the commercial viability of the proposal:

a. Demand and availability of the product on global basis

b. Site selection

c. Requirement and sources of raw materials

d. Banking facilities, etc.

Of the above, examination of demand and availability of the products to be produced by the project under consideration is very important. Continuity of the demand should also be examined. If the study of demand and availability of products is to on a realistic basis, then the whole project may fail in the middle of its life.

3. Economic Aspects:

A proposal has to be viable from the national point of view also. The economy of the country should improve on the execution of the proposal. If a proposal is for substitution of the existing imports of an essential product of national consumption or defence materials and oils, the proposal may be viewed more favourable from national economic considerations.

Sometimes such proposal may not yield any financial gain on tangible basis, still this may be considered to be implemented from national point of view.

4. Financial Aspects:

While examining the financial aspects of the proposal following points are considered:

a. Capital cost

b. Financing of the proposal

c. Production costs

d. Profitability analysis.

Success of the proposal is very much dependent upon the financial viability. A proposal with a least payback period and high rate of return on investment shall only be accepted.

All the related indices such as:

a. Payback period

b. Discounted payback period

c. Rate of return on investment

d. Accounting rate of return

e. Discounted cash flow method

f. Non-discounted cash flow method

g. Net present value

h. Social costs and benefits analysis

i. Internal rate of return

j. Economic rate of return

k. Benefit cost ratio (BCR)

l. Average rate of return

m. Annual capital charge

5. Appraisal and Evaluation of Organisation:

This aspect is examined in two contexts.

One is the study of organisational strength for the project execution and another is from the angle of financial assistance being considered by the financial institutions or banks.

First examination is made looking to the needs of execution of project.

There may be following aspects to be examined:

(i) Total organisational structure of the company, where project is being executed.

(ii) Organisation structure of project department, whether matches with the needs of project.

(iii) Whether organisation is fully equipped and staffed with the qualified and experienced managers in all departments including the areas of project execution such as design, purchase, personnel, construction, finance, monitoring and control etc.

(iv) Whether the project organisation has a good project head, competent, qualified, experienced and efficient in execution of such large projects.

(v) Whether the organisation has all types of construction equipment such as earth moving machines, excavators, heavy duty cranes, vehicles and various other equipment required for construction purpose either in its own stock or these are available with the contractors, who would be executing the project.

(vi) Design-organisation/consultants:

All these aspects are examined suiting the requirements of project execution in order to ascertain the need of project and the availability of the same either from within the organisation or from outside by contractual means.

However, when project is going to be executed through contractors on turnkey or on EPC or on other concessional contracts basis, the above organisational need may not be necessary as a big project organisation.

Needs of banks and Financial Institutions:

While providing financial assistance by the banks or financial institutions, the banks or financial institutions will try to know about the organisation (borrower), its past performance for at least three years prior to the current year or projected performance for the future.

These examinations shall be in the areas of:

a. Profitability, cash flow, fund flow statements, profit and loss statement, ratio analysis, etc.

b. Production

c. Sales

d. Stock position

e. Trend of profit

f. Trend of production and sales

g. Industrial relations.

h. Projects executed in the past with details of:

i. Types of projects

j. Cost of projects

k. Time overruns or cost overruns, if any

l. Details of total organisational structure including project department.

6. Appraisal and Evaluation of Managerial Strength:

Managerial feasibility shall be examined by both, i.e., organisation executing the project as well as lending organisation, i.e., banks or financial institutions providing financial assistance.

Organisational requirements would have:

(i) Sound project organisation

(ii) Competent, qualified, experienced project head/leader

(iii) Sound organisation setup, well staffed, with managerial effectiveness and stability.

7. Appraisal of Environmental Management and Control:

Appraisal of environmental management and control would be to know the level of pollution arising due to proposed project and needs to manage and control the same as well as measures taken, facilities provided in the project under consideration for controlling the pollution.

Appraisal and Evaluation: Parameter # 2.

General and Miscellaneous Appraisal Parameters:

1. Project Evaluation under Risk and Uncertainty

There may be following risks and uncertainties to the project:

(i) Time over-run due to various reasons beyond the control of project authorities

(ii) Cost overrun due to many reasons beyond the control of project authorities

(iii) Change in the demand of products/services proposed to be produced/generated from the project

(iv) Increase in the cost of production

(v) Change in the selling prices due to downward demand of product on account of arising of slackness in the market

(vi) Fund constraints leading to time overrun and cost overrun

(vii) Political risks

(viii) International risks due to problems in the countries of foreign contractors and suppliers to the project

(ix) Design or technological obsolescence

(x) Long gestation period

(xi) Economic crisis internal as well as global

(xii) Unforeseen causes and risks

(xiii) Excess imports/dumping by the foreign countries.

Examination and Review of Non-financial Aspects:

Non-financial justifications of projects may be as under:

(i) Increase in employment in the surrounding areas, where the project has been set up.

(ii) For the projects of hospital, schools, recreational facilities, training colleges, there may not be immediately any financial benefits. However, these projects will create the facilities for the people of the surrounding areas on long term basis by which the people would continue to enjoy benefits.

(iii) Similarly, the projects in government sectors, like in defence, basic industry, railways, powers, roads and other infrastructure, shall not be evaluated on the basis of costs and benefits basis. These projects being of essential nature for the economic growth of the country, shall be evaluated based on the national needs and not on the basis of financial evaluation methods, like payback period, return on investment, etc.

Appraisal and Evaluation: Parameter # 3.

Project Appraisal under Normal, Inflationary and Deflationary Conditions:

Details about the project such as, capital cost estimates, profitability projection, selling price of its products, cost of production, etc., are compiled assuming the current conditions. However, these assumptions made during the normal conditions for the capital cost of project, selling prices, and cost of production etc., may change due to inflation or deflation during and also after the execution period of the project.

Thus, the projections made about the profitability indices may not hold good. Therefore, for the changes in the conditions and assumptions, a sensitivity analysis is made working out the revised indices for the evaluation of project.

Appraisal and Evaluation: Parameter # 4.

Macro and Micro Parameters in Project Selection:

While taking the investment decisions, not only the financial indices are considered but also the other important parameters are examined and evaluated very minutely. These parameters are: Evaluation of organisational, managerial strengths, sensitivity analysis, market demand and supply of products, technical evaluation, etc.

Thus, all important aspects are examined in detail and minutely, so as to leave no chance to errors and omissions in proper selection of project.

Appraisal and Evaluation: Parameter # 5.

Market and Demand Analysis together with Analysis of Firm and Market Risk:

This study is very important. Any error/omission in market demand and supply study would be very costly to the organisation. This would affect very adversely the profitability position of the project. Similarly, the study and examination of probable market risks is also very important and the backbone of the investment decision making process.

Appraisal and Evaluation: Parameter # 6.

Special Decision Situation:

Sometimes, investment decision is taken on the basis of certain unique situations, not foreseen earlier. However, these become more important for implementation.

These special situations may be due to:

(i) Safety requirement

(ii) Pollution control action due to government’s direction

(iii) Administrative requirements

(iv) Natural calamities and rehabilitation needed

(v) Major breakdown/accident resulting in reconstruction activities to be undertaken immediately.

Thus, these are the few special situations necessitating to take investment decisions for new projects.

Appraisal and Evaluation: Parameter # 7.

Options and Flexibilities:

When investment proposals are examined, various alternatives and flexibilities are also kept under consideration, while taking the final decision. There may be various alternatives, with cost differentials, time differentials, with different advantages and disadvantages, etc. All these options are examined and reviewed to facilitate the appropriate investment decision.

Appraisal and Evaluation: Parameter # 8.

Qualitative Analysis:

Various parameters to be examined and evaluated involve quantitative as well as qualitative improvements. Quantitative improvements may be towards increase in the volume of production, increase in efficiency, reduction in operating costs, etc.

Whereas, qualitative improvements may result in improvement in quality of product or services benefiting the organisation indirectly, improving the safety conditions, improving the working conditions, improving the customer’s satisfaction, etc. Thus, all these aspects are reviewed and report given to the management for finalizing the investment decision.

Appraisal and Evaluation: Parameter # 9.

Tax Burden and Appraisal of Project:

Tax burden may be in the form of excise duty, customs duty, sales-tax, or value added tax entry tax, service tax, works contract tax and income tax.

Tax burden may be affected by the following factors:

(i) Place/State where project is being set up. There may be various concessions, besides the differential rates in various States.

(ii) Certain projects carry concessional duties and taxes, such as infrastructural projects, hundred per cent export oriented projects, Special Economic Tax (SET) projects being set up in hill areas and backward areas.

(iii) Tax impact due to financing mix of the project, i.e., more equity internal resources or more debt. If project is financed more by debt, interest impact would be more and tax impact would be less. Similarly, when financing is done more by equity capital and internal resource, there will be less interest impact and hence, higher impact of income tax.

Thus, these aspects in assessing the tax burden in the project are examined, while making the appraisal and evaluation of project.

Appraisal and Evaluation: Parameter # 10.

International Project Appraisal:

Foreign investors would also like to know about the following aspects:

(i) Political condition in the country, where project is being set up by foreign investors. Memorandum of Undertaking (MoU) and Memorandum of Agreement (MoA) with the State and Central Government.

(ii) Working conditions in the country, where project is being set up.

(iii) Availability of suitable labour and other categories of manpower required for the project during construction and after construction to operate the unit.

(iv) To ensure the repayment of loans together with the interest

(v) To ensure the continuous demand of the product either at home or abroad.

All these aspects are examined before the investment decisions are taken in respect of such projects.

Appraisal and Evaluation: Parameter # 11.

Project Appraisal and Lending Decisions:

Methods and techniques adopted by banks and financial institutions:

Similar to the owner of the project, banks and financial institutions also do the appraisal and evaluation of the project considering the same parameters such as:

a. Technical

b. Financial

c. Commercial

d. Economic

e. Managerial

f. Organisational, etc.

The objective of appraisal and evaluation of the project by its owner is to select a viable project so as to earn sufficient profit on capital employed.

Similarly, the objective of the banks and financial institutions is to finance a viable project, so as to ensure the repayment of loan together with interest by the project owner and at the same time fulfilling its constitutional objective of financing and term loans lending to the corporate and others in the country.

Market and Demand Analysis:

Now, market and demand analysis together with analysis of firm and market risk is being discussed in more detail.

For the project appraisal and evaluation, analysis of market demand and supply together with analysis of firm and market risk is very important and necessary.

For assessing the demand and supply of a product proposed to be produced from the project, following steps are taken:

(i) First of all, list of producers already existing should be made

(ii) Production capacity of existing producers

(iii) New capacity already under installation/commissioning

(iv) Total capacity and availability of products

(v) Possibility of imports as well as dumping by the foreign suppliers

(vi) Total supply available.

Demand study will be made on the basis of data available from various sources from home/abroad, institutions, organisations, press news, economic bulletins, financial papers, magazines, economic information bureaus, National Planning Commission (Central as well as States), international information bureaus, etc.

Demand and supply position is studied to ascertain the gap between the demand and supply. This is done to fix the capacity of the proposed project. Capacity of the proposed project shall be fixed depending upon the share, the owner of the project is thinking to have in the market.

While studying the demand and supply position, it would also be necessary to examine the following aspects:

(i) Availability of products abroad

(ii) Government policy for imports

(iii) If the imports become cheaper

(iv) Landed cost of import

(v) Quality of products at home and also abroad

(vi) Possibility of exporting the product.