DEFINITION

A Capital Project is a non-repetitive scheme/a time bound programme of

action that consumes specified resources on the activities relating to
acquisition, creation/development and installation of capital assets to
achieve certain pre-defined objectives.

Tangible Resources: Money, Material, Machines & equipments

Intangible Resources: Skill Time, efforts & vision

Capital Investment/Expenditure
The sum total of all measurable costs is termed as Capital investment.
Examples:
Installation of a new project such as Thermal Power Station, Steel
Plant, Construction of road, building, hospital, school.
Industrial project, the total capital expenditure may be classified into two
groups.

 Factory Area (which includes production shops, labs and all other
facilities and buildings which are related from and to the operation
of company).
 Non-factory Area (which includes residential buildings for the
employees and other welfare facilities such as school, hospital,
marketing complex, etc. for the residents who are family members
of the employees)
Important characteristics of a capital project

While formulating a project and in respect of any decision making

relating thereto, it is always better to keep in mind the important
characteristics, which are inherent in a capital expenditure
scheme/proposal.

There are briefly explained as follows:

 One time investment (To be incurred in one year or over a
specified period in case of project with longer gestation period).
 Heavy investment in general.
 Specific objectives, which are peculiar to the project itself.
 Irreversible nature of capital commitment once made.
 Benefits from a project to accrue in future over a longer period.
 Risk is involved in the changing socio-economic-political scenario.

Classification of Expenditure based on Objectives

EXPENDITURE

CAPITAL REVENUE

LONG-TERM FUTURE SHORT-TERM

BENEFITS
PRESENT BENEFITS

(FIGURE III)

The main performance parameters in a project are:

 To achieve time targets
  To achieve cost targets
 To achieve desired quality specifications
Any decision to reverse an already concluded project may be
effected only after incurring huge financial losses particularly in respect
of those projects wherein large fund has been invested in the
specific/special-purpose assets created/procured to meet specific
requirements. Besides, in general second-hand machines may not fetch
desirable price. A bad investment decision creates sunk cost and might
eat away even the resources generated through an existing good
investment.
Project Appraisal - 3
Capital Projects - Opportunities and classification

Synopsis
1. Search for investment opportunities by a 6
Entrepreneur
2. Classification of projects in an existing concern 7
3. Expansion Project 8
4. Modernization Project 8
5. Balancing Facilities Project 8
6. Diversification Project 8
(1) Diversification may be undertaken through 9 VERTICAL
INTEGRATION
7. Cost Reduction Project 9
8. Research & Development Project 9
9. Quality Improvement Project 9
10. Employees' Welfare Project 9
11. Statutory Requirement Project 9
12. Pollution Control Project 9
13. Benefits of a capital Project 10

A capital project may be undertaken:

 By a new entrepreneur
 By an existing concern
1. Search for investment opportunities by a new
entrepreneur

A new entrepreneur wants to achieve certain objectives e.g. to encash

opportunity to earn and to grow. He can make a search for investment
opportunities through an in-depth and systematic study in the following
areas:
1. Existing profitable product lines/industries in the market.
2. In case of input requirement of various existing industries:-

 The sources available

 Constraints being faced in procurement of resources
 The financial and qualitative factors involved
 The impact of following decisions on their performance:

Make or buy
Import substitution
Product modification with the existing technology
Modification in layout of specific facilities
Technological improvement

The objective here is to find out any opportunity of undertaking a project

to meet out input requirements of one of more companies in the same
industry of the others.

3. Scope for reprocessing and recycling of existing products.

4. Scope for enlargement of domestic market, and an entry into
the foreign market in respect of different products.
5. The opportunities of take-over, merger, acquisition, joint
venture, etc.
6. Government plans and policies, which may lead to industrial
development, change economic environment and change
consumption behavior.
In this connection, the source of information may be:

1. The suggestions of project consultants, financial institutions and

companies engaged in the banking and financial service.

2. Trade exhibitions.

3. Project profiles prepared by consultancy firm.

4. Survey reports of government and private agencies,

annual research reports of research institutions/agencies and
newspapers.

5. Foreign training visits and survey on foreign nationals staying

in the country in order to understand their traditions,
consumption behavior, style of living.

6. Suggestions from employees, etc.

All these may also throw light on the new technological developments,
availability of resources, new tastes of consumers and also provide some
guidance in respect of assistance available for manufacturing and
marketing. The various regulations and policies of government in
connection with economic, trade, commercial and other social matters
should be gone through in order to ascertain their impact in the
evaluation of opportunities.
2. Classification of projects in an existing concern.

An existing commercial concern is interest in the maximization of

wealth of its shareholders and in seeing that the market price of the
shares is constantly appreciated.

In an existing concern, the projects may be broadly classified as:

 Capacity Expansion/Augmentation
 Modernization (Including replacement)
 Balancing Facilities
 Diversification
 Cost Reduction
 Research & Development
 Employees' Welfare
 Statutory Requirement

Each of the above categories is briefly described as follows:

3. Capacity Expansion/Augmentation Project

The objective here is to increase market share of the company either

through penetration into new market, or improving the share of existing
ones by supplying the product at reduced cost with latest technological
features.

The major benefits of expansion projects are:

 Economies of large scale
 Optimum utilization of existing and new facilities
4. Modernization Project (including Replacement Project)

The objective is to:

 Bridge gap in the existing facilities with the installation of new and
most sophisticated machines.
 Remove production bottlenecks (such as poor material handling
facilities, inadequate storage facilities, etc.)
 Add new features and systems to the existing facilities.
 Replace old/obsolete assets due to high operation cost and lower
productivity.

The major benefits are:

 Increase productivity
 Reduced manufacturing cost
 Elimination of dependence on the external suppliers of
inputs.

5. Balancing Facilities Project

Balance facilities are those which are required to remove

gaps/bottlenecks in the specific operation area to achieve certain targets
and standards in respect of production/capacity utilization, productivity
and quality.
This may help to achieve the following objectives:

 To remove production bottlenecks, thereby

 Increasing capacity utilization.
 To bridge the technology gap.
 To provide for higher flexibility in operation.
 To make a strong infrastructural base.
 To improve cost effectiveness.
 To intensify R&D activities.
6. Diversification Project

The objective of diversification is to enter into new areas (whether

related or unrelated to existing operation) to achieve a higher rate of
growth.

(1) Diversification may be undertaken through VERTICAL

INTEGRATION

This maybe:

(a) Forward Integration

Forward Integration project involves addition of facilities to

commence either manufacture of a new product or a new service
with the use oi7through modification in the existing product.

(b) Backward Integration

Backward integration project involves addition of facilities to

commence self-manufacturing of raw material and components for
the existing product of the company.

The objective is to achieve cost reduction as well as to eliminate

dependence on external suppliers of raw material.

7. Cost Reduction Project

The objective here is to gain cost leadership in the competitive market.
In general, the objective of cost reduction is achieved through
modernization, backward integration projects and so on.