Project Management-1006

Question Paper Project Management (MB271) : October 2006 Section A : Basic Concepts (30 Marks) • • • •

1.

Asian Industries Ltd. has a division, which is entirely dedicated to manufacturing of industrial paints and < Answer > chemicals. To forecast the demand of such products, which forecasting model/method will you apply? (a) (b) (c) (d) (e)

2.

(b) (c) (d) (e)

< Answer >

IRR is the discount rate, which equates the present value of future cash flows of a project to its initial outlay required IRR is the rate earned on the unrecovered investment balances of a project IRR is the rate of return earned on the initial investment IRR is not uniquely defined and a project will have multiple IRR’s as there would be changes in the signs of the cash flows IRR figure does distinguish between lending and borrowing and hence a high IRR need not be a desirable feature.

The main stages in the capital budgeting cycle are given below. Which of the following represents < Answer > correct sequence? 1. 2. 3. 4. 5. 6. (a) (b) (c) (d) (e)

4.

Consumption Level Method Regression Model Delphi Method End Use Method Econometric Model.

Which of the following is false in the context of Internal Rate of Return (IRR)? (a)

3.

This section consists of questions with serial number 1 - 30. Answer all questions. Each question carries one mark. Maximum time for answering Section A is 30 Minutes.

Identifying project(s) to meet needs. Forecasting investment needs. Selecting the best alternatives. Appraising the alternatives. Monitoring project(s). Making the expenditure. 1–3–2–4–5–6 1–3–4–2–6–5 2–1–3–4–6–5 2–1–4–3–6–5 1 – 2 – 3 – 4 – 5 – 6.

A company’s cost of capital is (a) (b) (c) (d) (e)

Sum of the costs of all sources of finance Geometric average cost of all sources of finance Simple arithmetic average cost of all sources of finance Weighted arithmetic average cost of all sources of finance Harmonic average cost of all sources of finance.

< Answer >

(e) 5.

A firm has an expected return on equity of 14% and after tax cost of debt of 9%. What debt equity ratio < Answer > should be used in order to keep the weighted average cost of capital at 12%? (a) (b) (c) (d) (e)

6.

< Answer >

Equity capital Preference capital Debenture capital Commercial paper Reserves and surplus.

For measuring certain important features of the project team, such as their morale, speed of reaction to < Answer > changes, attitude towards the project etc. data is to be collected in which of the following forms? (a) (b) (c) (d) (e)

9.

< Answer >

Both the projects cannot be accepted at the same time The total risk increases if both projects are accepted simultaneously The total risk decreases if both projects are accepted simultaneously The total risk reduces to zero under all circumstance if both projects are accepted simultaneously The combined net present value will be zero.

Which of the following is not a source of long-term finance? (a) (b) (c) (d) (e)

8.

1:1 1:2 2:1 2:3 4:3.

When the cash flows of two projects are negatively correlated (a) (b) (c) (d) (e)

7.

Harmonic average cost of all sources of finance.

Frequency Numbers Subjective rankings Indicators Qualitative measures.

Which of the following does not contribute to project cost overrun? (a) (b) (c) (d) (e)

< Answer >

Lack of proper planning Budget deficits Deflation Depreciation of home currency Poor quality of inputs.

10. Project managers need to be aware of the cultural, organizational and socioeconomic influences on the < Answer > projects. Which among the following statements is/are true with regards to environment in which project managers has to function? I.

The project management team should try to identify the stakeholders, determine their needs and expectations, and manage those expectations to ensure a successful project completion. II. Organizational culture and management styles have a direct impact on the functioning of the project team. III. A functional organization structure is better suited to handle a project compared to matrix organization structure. (a) (b) (c) (d) (e)

Only (I) above Only (II) above Both (I) and (II) above Both (II) and (III) above All (I), (II) and (III) above.

(e)

All (I), (II) and (III) above.

11. After a pool of ideas has been generated, the project manager must screen them. The ideas that have < Answer > limited commercial potential or do not match the firm’s objective are rejected. Which among the following is not true while screening the ideas for project? (a) (b) (c) (d) (e)

Assessment of the level of risk associated with selected ideas is a factor considered during initial screening The project manager should ensure that the costs involved for implementation of the project are reasonable and provides an acceptable level of profits The project idea should be compatible with the interests and abilities of the person who is promoting the project The project manager should consider the input requirements, their availability and cost while screening project ideas It is not necessary to estimate the present and future market demand for screening the project ideas.

12. Which of the following methods is the most suitable for estimating the demand for intermediate < Answer > products? (a) (b) (c) (d) (e)

Econometric method Consumption method Lead indicator method Consumption coefficient method Trend projection method.

13. Project selection is a systematic process of choosing a project idea for implementation from the < Answer > available alternative project ideas. Which among the following is not a characteristic of a good project selection model? (a) (b) (c) (d) (e)

The model should explicitly state the objectives of the project manager and the firm in selecting a particular project The selection model should have the capability to evaluate future project proposals based on the expected returns of each project without subjectivity The various costs incurred in obtaining the right selection model should be kept at minimum The model should not be flexible The selection model should be convenient to implement and easy to communicate.

14. The scope of a project is documented in the “Project Overview Statement”. A good scope statement < Answer > would identify the goal of the project and describe how that goal can be achieved. Which among the following is not true for POS? (a) (b) (c) (d) (e)

The first part of a POS states the Problem or Opportunities that the project is going to address The Project Goal, which forms the second part of POS, provides guidance to the entire project team The third part of the POS defines the Objectives of the project The fourth part of the POS is the Success Criteria, which identifies the exact benefits that the project can bring to the firm The fifth section of the POS contains Risk Analysis and Financial Analysis of the project.

15. Project reviews conducted at various stages of project implementation play a major role in the success of < Answer > a project. Reviews ensure that the project utilizes the available funds to gain business advantage. Which among the following are true for project reviews? I.

A review helps the project manager to determine the appropriateness of the project activities from time to time. II. It helps the project manager to verify the completion of the project. III. It doesn’t evaluate the cost of the project. IV. It also helps the managers to understand the project requirements. (a) (b) (c) (d) (e)

Both (I) and (II) above Both (II) and (III) above Both (III) and (IV) above (I), (II) and (IV) above (I), (III) and (IV) above.

(e)

(I), (III) and (IV) above.

16. Which of the following is/are not part of the business risk of the firm? I. II. III. (a) (b) (c) (d) (e)

< Answer >

Variability in profits due to increase in debt employed. Variability in profits carried by improper diversification. Variability in profits caused by failure of capital investments. Only (I) above Only (II) above Only (III) above Both (I) and (II) above Both (II) and (III) above.

17. A project comes to a close after it accomplishes its objectives or when it is terminated due to other < Answer > reasons. Which among the following is not true about project closing? (a) (b) (c) (d) (e)

A successful project can be closed either by extinction or by addition or by integration; whereas an unsuccessful project can be terminated by starvation The projects are not to be closed by way of extinction when they are successful in accomplishing the goals A final report contains all the knowledge gained from the processes of the project A final project report contains a section on the performance of the project wherein the delivered output is compared with the planned output The basic purpose of a final project report is to improve the way in which future projects are to be handled.

18. Which of the following criteria of a project appraisal ignores the time value of money? (a) (b) (c) (d) (e)

< Answer >

NPV IRR BCR ARR PI.

19. A project manager who adopts this approach of resolving conflicts is committed to his position and < Answer > considers relationships as secondary. This approach may be called (a) (b) (c) (d) (e)

Avoiding Accommodating Competing Collaborating Compromising.

20. Budget cuts to the ongoing projects are common during periods of recession and they are also used as a < Answer > supporting reason to terminate a project. This way of closing a project is called (a) (b) (c) (d) (e)

Closing by extinction Closing by starvation Closing by addition Closing by inclusion Closing by integration.

21. Which one of the following is the most significant task in a software project? (a) (b) (c) (d) (e)

Implementation Controlling Closing Planning Monitoring.

< Answer >

(e)

Monitoring.

22. Which of the following is/are not relevant for social cost and benefit analysis? I. II. III. (a) (b) (c) (d) (e)

< Answer >

Externalities. Taxes and subsidies. Market imperfections. Only (I) above Only (II) above Only (III) above Both (I) and (II) above Both (II) and (III) above.

23. Three estimates of time for completion of an activity are: Optimistic estimate of time Most likely time Pessimistic estimate of time

: :

< Answer >

12 hours : 16 hours 21 hours

The value of standard deviation of the expected time in hours (a) (b) (c) (d) (e)

1.5 1.75 2.00 2.25 2.50.

24. Goenka group of industries is planning to invest Rs.50 Crore in a project for the production of < Answer > pneumatic valves. They are also planning to sell-off this production unit after running it for five years. They expect a price of Rs.20 Crore for this production unit during sell-off. If the cost of capital to the company is 15%, then the minimum annual cash inflow, beginning from the end of the second year, the company should expect from this project would be (a) (b) (c) (d) (e)

Rs.6.00 Crore Rs.8.32 Crore Rs.11.95 Crore Rs.13.11 Crore Rs.16.12 Crore.

25. Srikakulam is a backward area in Andhra Pradesh. Presently per capita income in that area is Rs.15,000 < Answer > per year. Due to sudden spurt of industrialization it is believed that per capita income will rise by Rs.5,000 in next year. Current annual consumption of meat in that area is 12 kg. If the income elasticity of demand for meat is 1.40, then the expected level of consumption of meat in that area in next year would be (a) (b) (c) (d) (e)

15 kg 16 kg 17 kg 18 kg 19 kg.

26. In which of the following stage(s) of creativity process, an individual does not consciously focus on the < Answer > problem, but allows the subconscious mind to look for a solution? I. II. III. (a) (b) (c) (d) (e)

Preparation. Incubation. Illumination. Only (I) above Only (II) above Only (III) above Both (I) and (II) above Both (II) and (III) above.

(e)

Both (II) and (III) above.

27. Which of the following analyses show how robust or vulnerable a project is to changes in the underlying < Answer > variables? (a) (b) (c) (d) (e)

Decision-Tree Analysis Scenario Analysis Simulation Approach Sensitivity Analysis Break-even Analysis.

28. The Production manager of a rolling mill is worried about the specifications of its outputs. The customer has set a specification of ± 0.045 cm of variation in the diagonal differences. The supplier of the equipment states that the standard deviation of output from same type of machine is 0.010 cm. The process capability of the machine is (a) (b) (c) (d) (e)

0.80 1.15 1.50 1.75 1.95.

29. A loan of Rs.20 million along with interest is to be repaid in sixty equal monthly installments. If the loan carries an effective rate of interest of 12% p.a., then the amount of each installment would be approximately (a) (b) (c) (d) (e)

< Answer >

Rs.2.00 lakh Rs.3.23 lakh Rs.4.45 lakh Rs.5.87 lakh Rs.6.15 lakh. < Answer >

30. Time estimates for different activities are as shown below: Activity 1–2 1–3 2–4 3–4

Time Estimates (in weeks) Optimistic Most likely 1 2 1 2.5 1 3.5 1 3

Pessimistic 3 4 5 8

The duration of this project is (a) (b) (c) (d) (e)

< Answer >

5.33 weeks 5.50 weeks 5.83 weeks 6.00 weeks 6.83 weeks.

END OF SECTION A

Section B : Problems / Caselets(50 Marks) • • • • •

This section consists of questions with serial number 1 – 7. Answer all questions. Marks are indicated against each question. Detailed workings / explanations should form part of your answer. Do not spend more than 110 - 120 minutes on Section B.

1.

Govardan Dairy, a Jaipur-based producer of toned milk, wanted to expand its production considering the market demand for milk. The management assumed that the per capita consumption of milk increases due to increase in income of people. It conducted a market survey and the survey revealed that the consumption of milk was 200 ml and 280 ml per head per day for 2004 and 2005. The per capita income of a person in Jaipur was Rs.14,000 and Rs.18,000 for 2004 and 2005. What is the income elasticity of demand and calculate it in the current situation. Suppose the projected income of the people in Jaipur is Rs.20,000 for 2006; calculate the total demand for milk in Jaipur assuming that the population of Jaipur in 2006 is 20 lakhs.

< Answer >

(6 marks)

Caselet 1 Read the caselet carefully and answer the following questions: 2.

What were the rankings given by Guru Ranganathan as per the net present value criterion used by him?

< Answer >

(12 marks) 3.

< Answer >

What were the ranks given to each of the projects by Raghu Ranganathan? (4 marks)

4.

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What is the likely final option for Ranganathan Textiles Ltd. in this situation? (6 marks)

Ranganathan Textiles Ltd., a Chennai based textiles and garments manufacturing company has its factory at Tambaram, about 15 km from the city. The company was started as a 100 percent export – oriented unit in 1995 by Guru Ranganathan and Raghu Ranganathan with a capital of Rs.8 crore. Since its inception, the company performed well in the international market. The revenue of the company was increasing at a rate of 35 percent every year. Considering the growth of the domestic textile market, the company management started its own showrooms in all major cities in the country in 2005. The public’s response was more than what was expected by the company. In its l5 annual board meeting in August 2006, the company management decided to set up small-scale textile units to meet the domestic market demand. The management allocated Rs.1.1 crore for this project. Ranga Rajan, Senior Manger, marketing conducted a market survey and chose Ahmedabad, Bangalore, Kolkata, and Delhi as the feasible areas to start the new projects. The survey also revealed the following facts: •

The investment required for the projects in Ahmedabad, Bangalore, Kolkata and Delhi was Rs.50 lakh, Rs.55 lakh, Rs.65 lakh and Rs.1 crore respectively.

•

The expected life period for each of these projects was 6, 4, 5 and 5 years respectively.

•

The likely annual cash inflow generated by each of these projects was Rs.13 lakh, Rs.18 lakh, Rs.19 lakh and Rs.28 lakh respectively.

•

The salvage value of each of these units was estimated as Rs.2 lakh, Rs.6 lakh Rs.1 lakh and Rs.7 lakh respectively.

Based on the above information, Guru Ranganathan and Raghu Ranganathan attempted at evaluating the projects assuming the cost of capital as 12%. Guru Ranganathan used the criterion of net present value and Raghu Ranganathan used the criterion of profitability index to rank the projects. Later, they realized that their ranks were not the same.

Caselet 2 Read the caselet carefully and answer the following questions: 5.

How far are profitability models relevant as a sole selection model to select a highly technical project?

< Answer >

(6 marks) 6.

List the other factors that Bhargava should consider before choosing a project.

< Answer >

6.

List the other factors that Bhargava should consider before choosing a project. (8 marks)

7.

If Bhargava considers the profitability index method as his selection model, which project should he select?

< Answer >

(8 marks) The Kakatiya Thermal Power Station (KTPS) is a public sector power generation unit of 180 MW capacity located near Warangal in Andhra Pradesh. The unit was commissioned in 1978 and has been performing well and returning the highest plant load factor in the country. But the unit was getting marginal returns, because of heavy transmission losses and bad debts. The government’s actions did not help control the transmission losses and prevent people from using the power through illegal means. As part of the power reforms initiated by the Central government, it was decided to privatize the unit in 1999. Scindia Investments Ltd, a reputed finance and investments company, took over KTPS in 2000 for Rs.375 crore. Ranjit Bhargava, vice-president, finance, was appointed as the new managing director of KTPS. The new management of KTPS, in its first meeting, headed by Bhargava, decided to increase capacity as it likely become obsolete in the next 10 years. The management wanted to construct a 420 MW unit considering the increased demand for power. They proposed to either construct a thermal power unit or nuclear power unit. Bhargava appointed Kumar Rajan as senior manager, finance. Bhargava felt that Rajan, who was his colleague in Scindia Investments Ltd., was well-experienced in making project cash flow estimates and testing the financial viability of a project. Rajan used the profitability models as his selection criteria and gave the following information: •

The pay back period of a thermal unit is 12 years and that of a nuclear unit is 18 years.

•

The net present value associated with a thermal unit is Rs.178 crore and the net present value associated with a nuclear unit is Rs.201 crore.

•

The initial outlay required for a thermal unit is Rs.750 crore and that of a nuclear unit is Rs.1050 crore.

•

The expected life of a thermal unit and a nuclear unit was estimated as 25 years and 40 years respectively.

Bhargava was in a dilemma over which project the company should take up. He felt that a thermal unit was better than a nuclear unit if the company looked for short-run gains, since the thermal unit recovers the invested money faster than the nuclear unit. If the firm was looking for long-run gains, a nuclear unit was preferred to a thermal unit as the net present value of a nuclear plant is more than that of a thermal unit. Bhargava prepared his analysis based on these points and presented it in the next meeting. The other senior managers, mostly technocrats, were skeptical about Bhargava’s analysis based on the profitability models. END OF SECTION B

Section C : Applied Theory (20 Marks) • • • •

8.

This section consists of questions with serial number 8 - 9. Answer all questions. Marks are indicated against each question. Do not spend more than 25 -30 minutes on section C.

Mr. Ravi Chandra has vast experience in the execution of projects. He has handled various kinds of projects across the country. Recently he has been appointed as a manager for appraising project by a financial institution. What are the various aspects he should look into while appraising the project proposal submitted by Jyothi Corporation for a new project?

< Answer >

(10 marks) 9.

Ms. Aruna has joined an IT company as a Project Manager. She is entrusted with a new upcoming project. What are the business requirements that are to be analysed before proceeding further with the project? (10 marks)

< Answer >

END OF SECTION C END OF QUESTION PAPER

Suggested Answers Project Management (MB271) : October 2006 Section A : Basic Concepts 1.

Answer : (d) Reason : (a) Consumption Level Method: Primarily to forecast the volume of consumption of goods, particularly consumer goods which depends directly on the income levels of the consumers and changes in price. (b) Regression Model : A statistical model which is used when there is only one or more than one factors that effects the changes in the variable. (c) Delphi Method : Estimates are called from a group of people considered to be experts in their field. (d) End Use Method : Demand of products in industries such as auto components, industrial paints, industrial chemicals depends on the demand condition of the industry which uses these products. In such cases, the demand will have to be estimated basing on the demand condition of the user industry and the market share targeted. Thus the answer is (d). (e) Econometric Model : It is used when demand is estimated for products such as steel, cement, power, etc. which depend highly on the general economic activity of the concerned country.

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2.

Answer : (e) Reason : (a) IRR is the discount rate, which equates the present value of future cash flows of a project to its initial outlay required. (b) IRR is the rate earned on the unrecovered investment balances of a project. Unrecovered investment balance at the end of a particular year is the balance of funds committed to the project. At the end of a project the unrecovered investment balance does become nil. If IRR is applied to the unrecovered investment balances the balance in the project reduces to zero. (c) IRR is the rate of return earned on the initial investment As per the PVIFA principle, the present value of future cash flows is equal to the discounted value of the intermediate cash flows reinvested at the rate equal to the discount rate. (d) IRR is not uniquely defined and a project will have as many IRRs as there would be changes in the signs of the cash flows. This is one of the limitations of IRR. (e) IRR figure does not distinguish between lending and borrowing and hence a high IRR need not be a desirable feature.

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3.

Answer : (d) Reason : 1. The sequential order should be 2. Forecasting investment needs. 3. Identifying project(s) to meet needs. 4. Appraising the alternatives. 5. Selecting the best alternatives. 6. Making the expenditure. 7. Monitoring project(s). Thus the correct answer should be 2 – 1 – 4 – 3 – 6 – 5 , hence option (d) is the right

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answer. 4.

Answer : (d) Reason : A companies cost of capital is nothing but the weighted arithmetic average of the cost of the various sources of finance. So the correct answer is (d) only.

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5.

Answer : (d) Reason : 12% =14E/(E+D)+9D/(E+D) 12(E+D)=14E+9D 12D-9D=14E-12E 3D=2E D/E=2/3.

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6.

Answer : (c) Reason : If two projects are negatively correlated, then accepting both will result in risk reduction.

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7.

Answer : (d) Reason : Commercial papers are instruments for raising short term finance. All other alternatives represent sources/instruments of long term finance.

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8.

Answer : (e) Reason : Frequency is normally used for things such as number of complaints etc. Numbers are used for things such as man hours spent on a job, cost incurred so far in a job etc. Subjective rankings are used for performance evaluation, etc. Where it is difficult to lay down objective criteria. When the performance of a system cannot be measured directly, another indirect measure is used. For example, the effectiveness of the project team can be measured indirectly through the number of days it takes to bring in a change in a schedule. For measuring certain important features of the project team, such as their morale, speed of reaction to changes, attitude towards the project etc, qualitative descriptions may have to be used. So, the alternative (e) is the answer.

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9.

Answer : (c) Reason : Deflation means fall in prices, so it will not lead to cost over-run.

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10.

Answer : (c) Reason : A functional organization has a strict hierarchical structure. The employees are grouped into departments according to their area of specialization. The level of coordination between various functions is low. In a matrix organization project managers and functional managers are jointly responsible for assigning priorities and for directing the work of individuals assigned to projects. The level of coordination is very high in the matrix organizations. Therefore it is more suitable for the project management. Statement I and II are correct for the project management environment. The correct answer is (c).

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11.

Answer : (e) Reason : The project manager should estimate the potential for growth and the return on investment for the proposed project ideas. When screening the project ideas, the project manager should consider factors like present domestic market demand, expected future demand, number of competitors and their market shares, and entry barriers for the new entrants. All other alternatives are true for the screening of project ideas. Hence the correct alternative is (e).

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12.

Answer : (d) Reason : The consumption coefficient method is most suitable for estimating the demand for intermediate products.

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13.

Answer : (d) Reason : The selection model should provide the desired results within the given conditions and taking into account the firm’s interests. The model should be easy to modify and should be capable of adjusting on its own to the changes in the firm’s environment. Other statements are true for a selection model. Therefore the correct answer is (d).

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14.

Answer : (e) Reason : The fifth section of the POS consists of Assumption, Risks and Obstacles. It mentions all organizational or environmental factors that may affect the outcome of the project. The project manager uses this section of the POS to alert senior management about the risks or obstacles that may influence the project activities. This part of the POS also mentions the contingency plans to be prepared to reduce the impact of the above risks on the project. However Risk Analysis and Financial Analysis report is also give sometimes with the POS but it is presented as an attachment to the main document. All other alternatives are true for POS, so the correct answer is (e).

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15.

Answer : (d) Reason : A project review help the project manager to evaluate the cost of project. The cost incurred at various stages of project is evaluated which helps in keeping track of the expenditures done. It helps in keeping the overall cost of the project in control. Other statements are true for project review. Therefore the correct answer is (d).

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16.

Answer : (a) Reason : Risk arises for change in debt equity ratio is called financial risk, not business risk.

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17.

Answer : (b) Reason : A project can be said to be closed successfully only when it has a proper final report in place. The steps involved in terminating a project can be described as follows: Getting client’s acceptance Installing the project’s delivered output Documenting the project and Signing and submitting the final report Therefore correct answer is (b).

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18.

Answer : (d) Reason : The non-discounting criterion does not consider the time value of money. Following are the methods in non-discounting criteria:

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•

Average rate of return (ARR)

• Payback period So, the answer is alternative (d). The discounting methods of project appraisal are – Net Present Value (NPV), Internal Rate of Return (IRR) and Profitability Index (PI) or Benefit-Cost Ratio (BCR). So, the alternatives (a), (b), (c) and (e) are not the answer. 19.

Answer : (c) Reason : A competing conflict resolving approach does generate ill will that is costly and unpleasant; it does have its advantages in the situations like – in emergencies, during announcing unpopular decisions etc. A person who adopts this approach is committed to his position or perspective and considers relationships as secondary issues. So, the alternative (c) is the answer. Avoiding approach focuses away from the conflict altogether. So, the alternative (a) is not the answer. While avoiders shut themselves out, accommodators neglect their own concerns in order to satisfy the concerns of others. So, the alternative (b) is also not the answer. The collaborating approach focuses on satisfying both parties to the greatest degree. It is

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cooperative in nature. So, the alternative (d) is not the answer. Though compromising approach is also cooperative in nature but here the cooperation is dictated by self interest. So, the alternative (e) is not the answer. 20.

Answer : (b) Reason : Closing by starvation cannot be considered a closing in the strict sense, because here the project’s existence comes to an end as a result of declining budgets. Under this method the budget of the project is cut to a level at which progress of any activity of the project is hindered. So the answer is alternative (b). Projects are closed by way of extinction either when they are successful in accomplishing the goals or when they fail to deliver within the budgeted time and cost. So, the alternative (a) can not be the answer. When a project is closed or terminated and then it is made part of the parent firm then that method of closing a project is called – Closing by addition or closing by inclusion. So, both alternative (c) and (d) are not the answer. The integration way of closing a project is used for technically complex projects which on completion will form a part of the operating system of the parent organization or the client. So, the alternative (e) can not be the answer.

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21.

Answer : (d) Reason : Planning in software project is extremely significant. Primarily it revolves around the decomposition of project into smaller tasks. So the alternative (d) is the answer. The importance of monitoring, controlling, implementation and closing are same as that of any other project. These do not have much special in software project. So, the alternatives (a), (b), (c) and (e) are not the answer.

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22.

Answer : (b) Reason : The input of the taxes and subsidies is not included in the social cost benefit analysis.

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23.

Answer : (a)

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t p − to 21 − 12 9 = = = 1.5 6 6 6 Reason : S.D = 24.

Answer : (e) Reason : Let the minimum annual cash inflow be Rs x Crore.

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∴ x PVIFA (15, 4) PVIF(15, 1) + 20 PVIF (15, 5) = 50

25.

or,

2.855 × 0.870x + 20 × 0.497 = 50

or,

50 − 9.94 x = 2.48385 = 16.12 < TOP >

Answer : (d)

Reason :

(Q 2 − Q1 ) (Q1 + Q 2 ) / 2 (I 2 − I1 ) (I1 + I 2 ) / 2

Income elasticity of demand = Where, Q1 is the demand before the change in income Q2

is the demand after the change in income

I1

is the level of income before the change

I2

is the level of income after the change

Let say demand after the change in income is x, then

     x − 12   (15, 000 + 20, 000)    × 2   (x + 12)    2   (20, 000 − 15, 000) 

= 1.40

x − 12 x or, + 12 = 0.20 or, x = 18 kg.

26.

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Answer : (b) Reason :

An individual comes out with unusual alternatives because of subconscious mental activity coupled with divergent thinking. In incubation stage, an individual does not consciously focus on the problem, but allows the subconscious mind to look for a solution. So, alternative (b) is the answer. In the preparation stage an individual gathers necessary information, defines the problem precisely, analyzes the data and generates a number of alternatives. So, alternative (a) is not the answer. In illumination stage, an individual gets an insight into a problem while he is thinking several alternatives. So, alternative (c) and (e) can not be the answer. In verification stage, the feasibility of the alternative ideas is examined. The ideas for which the solutions are not feasible are rejected. So, alternative (d) and (e) can not be the answer.

27.

Answer : (d) Reason : Sensitivity analysis is used to find out how sensitive the results of a particular financial model (i.e. NPV of a project) are to changes in input variables.

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28.

Answer : (c)

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Reason : The process capability Cp =

(USL − LSL) 6×σ

{0.045 − (−0.045)} = = 29.

6 × 0.010 1.50. < TOP >

Answer : (c) Reason : Principal loan amount = Rs.200 lakhs or Rs.20 million. Repayment : in sixty equated monthly installments. Implicit interest rate = 12% p.a. or 1% per month. ∴ Equated monthly installments are of the size 200 PVIFA (1%, 60)

200 = 44.955 = So, alternative (c) is the answer.

30.

Answer : (d) Reason :

Rs.4.44899 lakhs

≅

Rs.4.45 lakhs. < TOP >

Time estimates Activity

t0

tm

tp

Expected time

1–2

1.0

2.0

3.0

2.0

1–3

1.0

2.5

4.0

2.5

2–4

1.0

3.5

5.0

3.33

3–4

1.0

3.0

8.0

3.5

Path

Time Estimates

1-2-4

2.0 + 3.33 =

5.33 weeks

1-3-4

2.5 + 3.5

6.00 weeks

=

Duration is the longest path i.e., 6 weeks. So, alternative (d) is the answer.

Section B : Problems/Caselets 1.

The effect of the change in the demand as a proportion to the change in the income is called income elasticity of demand. It is calculated as:

Income elasticity = =

(Q 2 − Q1 ) (I 2 + I1 ) × (Q 2 + Q1 ) (I 2 − I1 )

(280 - 200) (18, 000 + 14, 000) × (280 + 200) (18, 000 -14, 000)

= 1.33

Rs.20,000-Rs.18,000 Rs.20,000+Rs.18,000 Change in per capita income = = 0.0526 Projected per capita demand = [present per capita demand] [1 + (per capita income level) × (income elasticity of demand)] = 280[1 + (0.0526)(1.33)] = 300 ml Total demand in the city = estimated population × projected per capita demand = 20 lakh × 300 ml = 6,00,000 litres So, the management can increase its capacity depending on this total market demand for milk. 2.

The net present value associated i4th a project = – Initial outlay + Present value of all cash flows + Present

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2.

The net present value associated i4th a project = – Initial outlay + Present value of all cash flows + Present value of salvage value. Therefore,  (1+r) n -1   1  NPV = -I+A  +S   n   r(1+r)   (1+r) 

n

Where, I Initial outlay A = Annual cash inflow r = Cost of capital n = Useful life of the unit S = Salvage value of the unit Guru Ranganathan calculations are as follows: Project in Ahmedabad: Initial outlay = Rs.50 lakh, Annual cash inflow = Rs.13 lakh, Useful life of the unit = 6 years, Salvage value of the unit = Rs.2 lakh, 6

 (1+0.12)6 -1    1 NPV=-50+13  +2   6  (1+0.12) (0.12)(1+0.12)  = – 50 + 53.45 + 1.01    = Rs.4.46 lakh. Project in Bangalore: Initial outlay = Rs.55 lakh, Annual cash inflow = Rs.18 lakh, Useful life of the unit = 4 years, Salvage value of the unit = Rs.6 lakh, 4

 (1+0.12) 4 -1    1 NPV=-55+18  +6   4  (1+0.12) (0.12)(1+0.12)  = –55 + 54.67 + 3.81    = Rs.3.48 lakh. Project in Kolkata: Initial outlay = Rs.65 lakh, Annual cash inflow = Rs.19 lakh, Useful life = 5 years, Salvage value = Rs.1 lakh,  (1+0.12)5 -1 NPV=-65+19  5  (0.12)(1+0.12)

5

   1  +1   (1+0.12)  = – 65 + 68.49 + 0.567  

= Rs.4.06 lakh. Project in Delhi: Initial outlay = Rs.1.0 crore, Annual cash inflow = Rs.28 lakh, Useful life of the unit = 5 years, Salvage value of the unit = Rs.7 lakh. The NPV of the project is  (1+0.12)5 -1    1 =-100+28  +7   5  (1+0.12) (0.12)(1+0.12)    

5

= –100 + 100.93 + 3.97 = Rs.4.9 lakh. The net present value associated with the projects in Ahmedabad, Bangalore, Kolkata and Delhi are

The net present value associated with the projects in Ahmedabad, Bangalore, Kolkata and Delhi are Rs.4.46 lakh, Rs.3.48 lakh, Rs.4.06 lakh and Rs.4.9 lakh. Hence Guru Ranganathan would have ranked the projects as follows: Project in Delhi, Project in Ahmedabad, Project in Kolkata and Project in Bangalore. 3.

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Raghu Ranganathan considered the profitability index method in ranking the projects. The profitability ratio of a project is the ratio of present value of cash flows generated by the project including present value of salvage to the initial outlay. Project in Ahmedabad: 53.45+1.01 50 Profitability Index = = 1.089 Project in Bangalore: 54.67+3.81 55 Profitability Index = = 1.063 Project in Kolkata: 68.49+0.567 65 Profitability Index = = 1.062 Project in Delhi:

4.

5.

6.

100.93+3.97 100 Profitability Index = = 1.049 The projects in descending order, according to their profitability index is as follows: Project in Ahmedabad, Project in Bangalore, Project in Kolkata, and Project in Delhi.

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The NPV and the profitability criterion do not provide the same rankings. The project in Delhi which was in the first place according to the NPV criterion is in the last place according to the profitability index criterion. Since the capital available with the firm is only Rs.1.10 crore, the company can accept either the project in Delhi or the projects in Ahmedabad and Bangalore. If the project in Delhi is accepted, the net present value associated with it is Rs.4.90 lakh and the firm will have a surplus fund of Rs.20 lakh. If the projects in Ahmedabad and Bangalore are accepted, the sum of the net present value associated with these two projects is Rs.4.46 Rs.3.48 = Rs.7.94 lakh and the firm will have a surplus fund of Rs.15 lakh. Hence, the company can accept the projects in Ahmedabad, and Bangalore provided it does not get any other project that has a net present value more than its 3.04 lakh (Rs.7.94 – Rs.4.90)with an initial outlay of Rs.5 lakh (Rs.20 – Rs.15).

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In the case of technical projects like setting up of power units, the technical evaluation of a project idea is more important than financial evaluation. Bhargava should have considered the technical feasibility of the project rather than use the profitability models as a selection model. Since the existing unit is a thermal unit, the key point here is to continue with the same type or shift to a nuclear unit. The profitability models forecast a project’s profits. However, a project cannot be taken up based only on its profitability. Technical feasibility of the project comes before its profitability. Bhargava should analyze the operational feasibility of a nuclear plant in Warangal and its impact. Therefore, profitability models can be better employed only after testing a project’s technical feasibility.

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Following are the factors that Bhargava should consider before choosing a nuclear project: •

Chances of getting the approval from the authorities concerned in Warangal.

•

Availability of appropriate technology to start a nuclear power unit.

•

Availability of nuclear fuels.

•

Availability of highly technical personnel to operate and maintain the nuclear unit.

• Disposal of nuclear wastes so that the surrounding environment will not be affected by the unit. Following are the factors that Bhargava should consider before choosing a thermal project: •

The feasibility to increase the firm’s current capacity from 180MW to 420MW.

•

The additional requirements (land, water resources, and permission from authorities concerned) needed to construct a thermal unit.

needed to construct a thermal unit.

7.

•

Availability of technical people with requisite skills

•

Levels of pollution that likely arise

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The estimated net present value of the thermal unit is Rs.178 crore and the initial outlay is Rs.750 crore. NPV is the net difference between the present value of cash flows generated by the plant and the initial investment. Therefore, the present value of the cash flows generated by the project becomes the sum of the NPV and initial investment of the project. Therefore, the present value of the cash flows generated by the thermal plant is, Rs.178 + Rs.750 – Rs. 928 crore. The profitability index of a project is the ratio of the present value of cash flows to the initial outlay of the project. Therefore, the profitability index of a thermal power unit is.

Rs.928 / Rs.750 = 1.24; For the nuclear unit, The net present value is Rs.201 crore and the initial outlay is Rs.1050 crore. Therefore, the present value of the cash flows generated by it is, Rs.201+ Rs.1050 = Rs.1251 crore. The profitability index of a nuclear power unit is Rs.1251 / P.s. 1050 = 1.19. Therefore, by using the profitability index model, Bhargava would has chosen the thermal power unit project.

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Section C: Applied Theory 8.

AREAS OF CORPORATE APPRAISAL Production and Operations

•

Capacity of the overall plant and individual plants, condition of the machinery

• Availability of latest equipment and machinery required inputs like power, water and skilled labor. Research and Development •

Research facilities, laboratories and equipment, modeling and testing facilities

•

Capability of the firm to invest in R&D

•

Presence of well known researchers and scientists

• Coordination between research and operations Human Resources •

Dynamics of top management

•

Competence and commitment of employees

• Right persons in the right jobs Finance and Accounting •

Cost of capital, cash flows and liquidity

•

Financial leverage and borrowing capacity

• Proper accounting and control system Marketing and Distribution •

Market demand and market share

•

Product line

•

Advertising

•

Distribution network and effective sales personnel

• After sales service Corporate Resources

9.

•

Corporate image

•

Clout with governmental and regulatory agencies

•

State of industrial relations and good employee base

Analysis Phase This phase involves analysis of business requirements by the project manager. This analysis describes the

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This phase involves analysis of business requirements by the project manager. This analysis describes the problem that is to be solved by the software application. The analysis is conducted from the client’s perspective. It is advantageous to analyse in a manner that is more inclined towards the business angle and less towards the technical angle. This analysis phase is further divided into three stages, i) Preanalysis, ii) Partitioning analysis iii) Post analysis. Preanalysis is the initial stage in the analysis. In this stage, the confidence level of the project team members may be low, they may not know each other, the client may fail to state his business requirements clearly and the project manager may even find the project to be totally out of control. Another major problem in this phase is to identify the key stakeholders of the project. This phase of the project should be driven by priorities that are accepted by both the client and the project organization. The pre analysis phase is the result of attempts to get a comprehensive view of the clients business requirements. This phase tries to discover and solve the problems before the analysis and design phases. Identifying functional features and procedures is essential to finish tasks successfully. Preanalysis also helps eliminate issues that may become obstacles in the future. Most of the existing software specification procedures fail to identify and address questions like who the client is, who is an important client and what his most important requirements are. The most significant aspect of preanalysis is that it helps resolve conflicts in client priorities. Partitioning analysis is used for analyzing large and technically complex projects. Partitioning analysis is further split into high-level analysis, intermediate level analysis and detailed analysis. High level analysis involves understanding the client and his requirements and his priorities. Intermediate-level analysis involves elaborating the high level analysis. It develops a project management contract and the project team tries to get a feel of the project size. Detailed analysis involves a study of the business problems and issues and this results in defining the business requirements with more clarity and gives a detailed specification list to be followed through out the lifecycle of the project. It identifies the factors that make the project a success. Post analysis concludes the decisions on the functions that are to be automated. This analysis also determines the hardware and software components required to automate the functional unit. It specifies the total technical functions to be used for example, whether to use batch or on-line processing, distributed or centralised processing, databases and other related issues. The domain of the analysis is not finalized until the scope of the project is arrived at. Therefore, the scope of the project is not truly specified till all the phases of analysis are complete. < TOP OF THE DOCUMENT >

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