Transcript Document

FINANCIAL
ANALYSIS
1
GOVERNMENT vs. PRIVATE PROJECTS
PROJECTS
GOVERNMENT
PRIVATE
PROFITABILITY
NO OR RARELY
YES
YES
SUSTAINABILITY
YES
YES
2
GOVERNMENT vs. PRIVATE PROJECTS
GOVERNMENT
PROJECTS IS
MORE FOCUS
ON SERVICE
PRIVATE PROJECTS
IS MORE FOCUS
ON PROFIT
3
WHAT IS FINANCIAL ANALYSIS?
 Usually done after the market and
technical studies
 To quantify or put costings to the
various inputs in the technical and
market studies as basis in pursuing
the project
 Entails the preparation of the
financial statements which are
prepared, analyzed and forecasted
4
WHAT IS FINANCIAL ANALYSIS?
•It is concerned with determining
the income that the project
would generate for the projectoperating entity;
e.g. water supply
•If there is no income, how to
finance and sustain its operation
e.g. FMR
5
WHY THE NEED FOR FINANCIAL STUDY?
•Government does not have
enough money to pursue all
projects.
•Government can only afford
only the best project proposals.
•For private projects, there is a
need to recover investments.
6
WHY FINANCIAL STUDY FOR
GOVERNMENT PROJECT?
•To ensure financial sustainability
– Availability of funds to finance
investment up to operation stage
– Projects with high economic returns
may still fail when funds to finance its
operation is not enough (water supply,
irrigation and public transport)
7
WHY FINANCIAL STUDY FOR
GOVERNMENT PROJECT?
•To determine project’s financial
profitability
– Government approaches a project like a
private sector does, especially when
privatization is considered.
– To estimate true value of the project
– To know if project is profitable or not
8
PROFITABILITY AND SUSTAINABILITY
• Sustainability- a project can
continue to pay its bills
throughout its entire life, whether
these funds come from user
charges or from regular budget
sources.
• Profitability- a project can
generate more than enough
revenues to cover annual
expenditures and service
obligations and still post profit
9
IMPORTANT VARIABLES IN
FINANCIAL ANALYSIS
•Revenues and cost items
•Sources of financing
•Financial viability
10
FINANCIAL STATEMENTS
1. Cash Flow Statement;
2. Income or Profit
and Loss
Statement;
3. Balance Sheet Statement.
11
1. CASH FLOW STATEMENT
Profile of project’s receipts
and expenditures overtime
Shows the expected annual
movement of cash into
(receipts) or out
(expenditures) of the project
12
TWO MAJOR SECTIONS
1.Cash inflows- detail the
expected financial receipts
generated by the projects
2.Cash outflows- shows the
expected financial
expenditures to be
incurred to generate the
cash inflows of the project.
13
NET CASH
FLOW
=
Cash
inflows
-
Cash
outflows
14
15
Different Financial Project Profiles
(+)
Operating Stage
Initial Investment Period
RECEIPTS
LESS
EXPENDITURES
0
1
2
3
4
5
6
7
8
9
10
11 12 13 14 15 16 17 18 19 20 21
Cessation
Stage
(-)
YEAR OF PROJECT LIFE
16
STEPS IN CASH FLOW
STATEMENT
A. Formulation of an
Investment Plan
B. Formulation of an
Operating Plan
C. Formulation of End of
Project Operations Plan
17
A. FORMULATION OF AN
INVESTMENT PLAN
Combines information from the market and
technical analysis to establish a detailed plan for
annual incremental expected capital expenditures
during project’s investment phase:
Land
Buildings
Machinery
Equipment
Building materials and construction
Management labor
18
A. FORMULATION OF AN
INVESTMENT PLAN
2 sections of the Investment Plan
a.Expenditure on new
acquisition of assets (e.g.
equipment)
b.Financing aspect of
Proposed Investment
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20
AMORTIZATION
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AMORTIZATION
Loan Balance – Rate (R)
Previous Loan Balance- Principal
Amortization-Interest
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AMORTIZATION
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B. DEVELOPMENT OF AN
OPERATING PLAN
Combines information from the market and
technical analysis to establish a detailed
plan for the project’s operating phase
Provides projection of expected sales
revenues and expected operating costs
(i.e. operating material inputs and operating
labor) for each year during the operations
phase;
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B. DEVELOPMENT OF AN
OPERATING PLAN
 To determine the flow of
cash in the operation of the
project.
 The plans include all cash
receipts generated from the
operations of the
business/project and all
operating expenditures.
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2. INCOME OR PROFIT AND
LOSS STATEMENT
It shows the financial operation
of a project for a given period.
Various items of expected
revenues/income and
expenses are determined
thereby permitting calculation
of the project’s or firm’s net
profit on a periodic basis
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2. INCOME OR PROFIT AND
LOSS STATEMENT
1. Income/Revenue
 total sales/receipts (cash and
credit basis) earned in a given
period
 For sales of goods (e.g.
commodity products), the cost of
the goods should be deducted
from the gross sales to get the net
sales.
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2. INCOME OR PROFIT AND
LOSS STATEMENT
2. Expenses
 total expenses (cash and
credit) incurred during the year
 Profit - the excess of revenues
over expenses
 Loss - the excess of expenses
over revenues
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A. DISCOUNTING AND ALTERNATIVE
INVESTMENT CRITERIA
 It is not correct to simply add
the total annual net revenues
from year 1 to year 20 to get
the total returns from project.
 Money that is worth a peso
today is less than a peso in
the future
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Time Value of Money
The essence of this concept
is that money received or
consumed at a particular
time has greater value than
the same money received or
consumed at some future
time.
39
Explanations / Reasons
• Normal preference for
present versus future
consumption
• Resources on hand may be
invested during the
intervening period to
generate income or earn
interest
• Risk of uncertainty factor of
the future
40
What is discounting?
•Allows comparison of
revenues/costs occurring in
different time periods in the future,
at the initial year of the project.
•It is a process of translating future
values into their present worth
41
Why discounting is done?
• The nature of a project is such that
benefits and costs occur at different
points in time
• A given sum of money now is
considered more valuable than the
same amount received in a future
period.
42
Concept of Discounting
Ao = An x 1/(1+r)n
where:
Ao = present value of An
An = expected amount at year n
r = discount rate
n = no. of years between year 0
and year n, i.e., discounting
period
43
THE DISCOUNT RATE
The discount rate could
be the weighted average
cost of capital (WACC) or
the prevailing market
interest rate
44
Weighted average
cost of capital (WACC)
• Usually used for most public sector projects
since these projects have multiple sources of
financing, which have varying interest rates.
• Cost of borrowing, for borrowed capital
(i.e., interest rate of loan)
• The yield of alternative opportunities, for equity
capital
(i.e., interest rate of savings, other investments)
45
Weighted average
cost of capital (WACC)
Example:
Total project cost
P100,000
Fund 1: (Loan-60%)
60,000
Cost of capital (10%)
Fund 2: (Equity-40%)
40,000
Cost of capital (5%)
WACC = (60%x10%)+(40%x5%)
= (0.06)+(0.02) = 8%
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Weighted average
cost of capital (WACC)
Example:
Total project cost
P500,000
Fund 1: (Loan-50%)
250,000
Cost of capital (15%)
Fund 2: (loan-40%)
200,000
Cost of capital (18%)
Fund 3: (Equity-10%)
50,000
Cost of capital (10%)
WACC = (50%x15%)+(40%x18%)+(10%x10%)
= (0.075)+(0.072)+(0.01) = 15.7%
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EXAMPLE OF DISCOUNTING
A revenue of P85 is expected 2
years from now. Assuming a discount
rate (WACC) of 10 percent, the
present value is:
Ao = 85 x 1/(1+0.10)2
= 85 x 1/(1.21)
= 85 (0.826)
= 70.2
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B. MEASURES OF PROJECT WORTH
• Net Present Value (NPV)
• Benefit-Cost Ratio (BCR)
• Internal rate of return (FIRR)
49
Net Present Value (NPV)
The difference between the present
values of project benefits and project
costs
n
n
NPV = ∑ bi /(1+r)i - ∑ ci /(1+r)i
i =0
i=0
where bi= benefits in period i
ci= costs in period i
r = discount rate
n= discounting period
NPV=B-C
50
NPV Decision Rule
If NPV >
0
If NPV <
0
ACCEPT PROJECT
REJECT PROJECT
In case of competing projects, select
the project with the highest NPV.
51
Benefit Cost Ratio (BCR)
- the ratio of the present value of gross
benefits to the present value of gross
costs:
n
n
BCR = ∑ bi /(1+r)i / ∑ ci /(1+r)i
i=0
i=0
BCR=B/C
52
BCR Decision Rule
If BCR > 1
If BCR <
1
ACCEPT PROJECT
REJECT PROJECT
- In case of competing
projects,
select project with the highest BCR.
53
EXERCISES
Compute and compare the BCR, NPV,
and IRR using 15% discount factor and
recommend the better project.
• Project A
Year
1
2
3
4
5
• Project B
1
2
3
4
5
Costs
1,400
100
100
100
100
Benefits
700
600
500
400
300
1,400
100
100
100
100
300
400
500
600
700
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Computations: (Project A)
Year
1
2
3
4
5
Costs
Benefits
1400
700
100
600
100
500
100
400
100
300
NPV = 1769 - 1466 = P303
DF (15%)
0.869565
0.756144
0.657516
0.571753
0.497177
TOTAL
PVc
1217
76
66
57
50
1466
PVb
609
454
329
229
149
1769
BCR = 1769 / 1466 = 1.21
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Computations: (Project B)
Year
1
2
3
4
5
Costs
Benefits DF (15%)
1400
300
100
400
100
500
100
600
100
700
TOTAL
NPV = PVb - PVc = P_____
PVc
PVb
BCR = PVb/ PVc = ____
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P
R
O
J
E
C
T
Year
1
2
3
4
5
A
Costs
Benefits
1400
700
100
600
100
500
100
400
100
300
NPV = 1769 - 1466 = P303
P
R
O
J
E
C
T
B
Year
1
2
3
4
5
DF (15%)
0.869565
0.756144
0.657516
0.571753
0.497177
TOTAL
PVb
609
454
329
229
149
1769
BCR = 1769 / 1466 = 1.21
Costs
Benefits DF (15%)
1400
300
0.870
100
400
0.756
100
500
0.658
100
600
0.572
100
700
0.497
TOTAL
NPV = 1583 - 1466 = P117
PVc
1217
76
66
57
50
1466
PVc
1217
76
66
57
50
1466
PVb
261
302
329
343
348
1583
BCR = 1583 / 1466 = 1.08
In case of competing projects, select the project with the
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HIGHEST NPV and/or the HIGHEST BCR
THEREFORE:
WE
RECOMMEND
PROJECT A
THAN PROJECT B
70
D. SENSITIVITY ANALYSIS
•It means testing how
sensitive a project’s
outcomes (cash flows, NPV,
IRR) are to changes in key
variable at a time.
•“What if” analysis
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D. SENSITIVITY ANALYSIS
GIVEN: WACC=5.6%
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D. SENSITIVITY ANALYSIS
GIVEN: WACC=5.6%
IRR
75
ECONOMIC
ANALYSIS
77
WHAT IS ECONOMIC ANALYSIS?
• It is closely related to other phases of
project development:
• Much of the data required in the
identification and valuation of
economic costs and benefits are
derived from the market, technical
and financial aspects of the project
study.
78
WHAT IS ECONOMIC ANALYSIS?
•It is directed towards establishing
the net returns that the project
would generate for the
economy/society as a whole.
•Determines a project’s viability in
terms of its net contribution to the
economic and social welfare of
the country
79
WHAT IS ECONOMIC ANALYSIS?
• A method by which the net effect
(whether favorable or unfavorable)
of a project maybe determined.
• It can also be undertaken to rank
projects in their order of importance
with respect to the development
goals. Its outcome is a solid basis for
accepting, rejecting or modifying
projects.
80
FINANCIAL vs. ECONOMIC
ANALYSIS?
FINANCIAL/BUDGETARY ANALYSIS
• Deals with the costs and benefits
measured from the viewpoint of the
person/proponent, expressed in current
or nominal terms.
ECONOMIC ANALYSIS
• Deals with the Costs and benefits from
the viewpoint of the economy or the
country as a whole in constant or real
terms.
81
FINANCIAL vs. ECONOMIC
ANALYSIS?
• Financial and Economic prices of outputs and
inputs are the same in an economy where
there are no distortions. Distortions or market
imperfections include taxes, tariffs, subsidies,
market power and externalities.
• These distortions and imperfections, however,
exist in the real market. Economic externalities
exist when economic values of inputs or
outputs differ from the financial prices of inputs
or outputs.
82
FINANCIAL vs. ECONOMIC
ANALYSIS?
Results of the
financial analysis
are major inputs to
economic analysis
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ECONOMIC EVALUATION
TECHNIQUES
• Forms of Economic Evaluation
– Cost-benefit analysis – it sums all costs and
benefits in monetary terms and compares
them. The project with the largest net
benefit yields the most benefit to society.
• Measures of Project worth
– BCR
– NPV
– IRR
84
STEPS IN ECONOMIC ANALYSIS
•Definition of the set of
development objectives against
which project feasibility is to be
assessed
•Translation of development.
variables into a common
denominator (e.g., money
indices) by which project
benefits maybe measured
85
STEPS IN ECONOMIC ANALYSIS
• Identification and (where possible)
valuation of project costs and
benefits
• Comparison of costs and benefits
• Recommendation on the selection
of projects, i.e., accept, reject,
defer, or modify the project
86
DEFINITION OF
COSTS AND BENEFITS
•Cost
– anything that affects the
project’s objectives negatively
•Benefit
– anything that promotes a
project’s objectives
87
IDENTIFICATION OF
COST AND BENEFITS
• “WITH-WITHOUT” APPROACH
– Identifying and evaluating cost
and benefits that would arise with
the proposed investment and
comparing these with a situation
that would have existed without the
project
88
IDENTIFICATION OF
COST AND BENEFITS
• Identification of direct costs
• Identification of direct benefits
• Identification of externalities,
secondary benefits and intangibles
• Adjustments to inputs from financial
statements
• Comparing the “with” from the
“without” the project situation
89
IDENTIFYING DIRECT COST
•These are activities that involve
use of real resources
•The components are identified in
the technical study
•TWO TYPES
– Capital Costs
– Operating and maintenance costs
90
CAPITAL COSTS
• Land;
• Detailed engineering and design
• Equipment, raw materials and
supplies for construction;
• Building and auxiliary installation;
• Organization costs
• Contingencies
91
OPERATING AND
MAINTENANCE COSTS
•Raw materials and other
supplies,
•Energy and fuel;
•Labor,
•Rent
92
DIRECT BENEFITS
Benefits directly attributed to the project
• Examples:
– Irrigation Project: Increase in agricultural
production
– Flood Control: Reduction in flood
damage; improved health
– Health Projects: Decrease in mortality
rate; better preventive healthcare
– Farm-to-Market Road: Reduction in
vehicle operating costs; increased
economic activities
93
EXTERNALITIES
Effects of the project that do not
impose costs or confer benefits within
the confines of the project itself.
• Examples:
– Airport Construction: noise pollution
– Reforestation in upstream land area: Less
flooding for people living downstream
94
SECONDARY BENEFITS AND
INTANGIBLES
• Secondary benefits – beneficial
effects which are linked to project
users either forward or backward
linkages
• Intangibles – increased comfort
and convenience
95
ECONOMIC SITUATIONS WHERE AN
ECONOMIC EXTERNALITY MAY ARISE
• Environmental externality (pollution,
congestion)
• Monopoly externality
• Tax and subsidy (excluded)
• Foreign exchange externality (demandand-supply of forex)
• Labor externality (divergence between
market wage rate (minimum wage) and
cost of employment)
96
SHADOW PRICES
•Foreign exchange – 1.20
•Labor – 0.60
•Tax and subsidy –
excluded from economic
costs
97
OPPORTUNITY COST OF CAPITAL
•Also known as social
discount rate (SDR) which
is 15 % (used in the
computation of NPV, BCR,
IRR)
98
ECONOMIC COST AND BENEFIT FLOWS
Water Supply System
Year
Total
Cost
Economic
Water
Revenue1
Reductio Reduction
n in
in
2
Mortality Morbidity3
Savings in
Medical
Expenses4
Time
Saving
s5
Total
Benefits
Incremental
Benefits
1
2
3
4
5
Notes:
1/ (Served popn/average hh size) X Water fee per hh x 12 months
2/ (Served popn X mortality rate X LFPR X Annual Wage x 60%)
3/ (Served popn X morbidity rate X LFPR X Daily Wage Rate X days inactive X 60%)
4/ (Served popn X morbidity rate x LFPR X Medical Expense x 60%)
5/ (Served popn/average hh size) X LFPR X (Hours fetching water w/o proj – Hours
fetching water with proj) X Wage rate per hour
99
ECONOMIC COST AND BENEFIT FLOWS
Rural Road Project
Yea
r
(1)
Investment
Cost
(2)
O&M
Cost
WIP
(3)
Total
Outflow
(4)=2+3
Vehicle Operating Costs
WOP Volume
Savings
Freight
(5)
Passengers
(6)
Generated Benefits
Freight
(7)
Passengers
(8)
O&M
Cost
WOP
(9)
Total
Inflow
(10)
Net
Inflow
(11)
1
2
3
4
5
2/ Inv cost = ave eco road cost X road length X % of Total Project Cost disbursed
3/ O&M WIP=annual eco maint cost WIP X road length
5/ VOC WOP Vol Savings Frt = total Frt WOP X VOC savings for Frt X ave journey length X 365 days
6/ VOC WOP Vol Savings Pax = Total Pax X VOC savings for Pax X ave journey length X 365 days
7/ VOC Gen Benefits Frt = (Total Frt WIP-Total Frt WOP) X VOC savings for Frt X ave journey length X
365 days X 50%
8/ VOC Gen Benefits Pax = (Total Pax WIP-Total Pax WOP) X VOC savings for Pax X ave journey length X
365 days X 50%
9/ O&M Cost WOP = annual econ maint cost WOP X road length
10/ Total Inflow = 5 + 6 + 7 + 8 + 9
11/ Net Inflow = 10 - 4
100
WATER SUPPLY
PROJECT
101
SAMPLE PARAMETERS
102
SAMPLE PARAMETERS
103
SAMPLE PARAMETERS
104
FINANCIAL ANALYSIS
105
FINANCIAL ANALYSIS
106
ECONOMIC ANALYSIS
107
108
109
110
111
112
113
114
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