Lecture II: Analysis of Project Viability

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Lecture II Analysis of Project Viability
ACADEMY OF ECONOMIC STUDIES FACULTY OF
INTERNATIONAL BUSINESS AND ECONOMICS

• Lect. Cristian PAUN

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Prefeasibility study
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Prefeasibility Study

• Written part of P.S. includes
• a) General data
• b) Projected expenses with initiation of the
  project
• c) Technical data about investments
• d) Data about project finance.

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A. General data

• Has the role to present the general objective of
  the project
• Project description
• - Name of the PSs author (consultant)
• - Main responsible with the project (SPV)
• - Main investors (sponsors, beneficiaries)
• - Location
• - Project opportunity.

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B. Projected expenses with initiation of the
project

• Will take into consideration
• Total estimated value for the project
• - Expenses allocated for PS and FS
• - Expenses allocated for approvals
• - Expenses with preparation of projects
  documentation and organization of auction
  (instructions, publication).

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C. Technical data about the project

• Technical data about the project will take into
  consideration
• - Land (surfaces, juridical aspects)
• - Geographical characteristics of the location
  (seismic forces, water supply)
• - Main characteristics for constructions
• - For buildings constructed area, total area,
  number of floors etc.
• - For networks lengths, diameters.
• - Main equipments
• - Required utilities.

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D. Aspecte legate de finantarea investitiei

• Capitolul finantarea investitiei cuprinde date
  referitoare la
• Valoarea totala (estimativa) a investitiei, din
  care
• acoperit din surse proprii
• din credite bancare
• din fondurile bugetului de stat
• din fondurile bugetelor locale
• din fondurile special constituite prin lege
  în afara acestor bugete
• din credite externe garantate de stat.

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Feasibility study
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A. Technical feasibility

• In the initial phase, the project sponsor (s)
  must undertake extensive efforts to verify the
  technological process and proposed facilities
• If the project is based on new or unproven
  technology, a test or a pilot project should be
  constructed in order to test the feasibility of
  the project and to try to optimize the processes
  involved
• A well executed project will ensure future
  expansion of it
• The technical feasibility is very important when
  the project will be constructed in extreme
  environmental conditions (Artic pipelines or
  North Sea Oil production facilities)
• Project sponsors often contact outside
  independent engineering consultants to assist at
  the design work and to provide an independent
  opinion about projects technical feasibility
• Long term lenders can require a confirming
  opinion from independent experts concerning the
  following aspects
• The project can be constructed within the time
  schedule proposed
• Upon completion of construction, the facilities
  will be capable of operating as planned
• The construction cost estimates are adequate for
  completion of the project.

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Project construction cost

• the detailed design plans provide the basis for
  estimating the total construction costs for the
  project gt technical feasibility is the base for
  construction cost analysis
• the total construction cost of a project can be
  diminished with the cost of additional
  infrastructure that can be supported by others
  (host government with some form of international
  financial assistance)
• the estimations for construction costs should
  also include
• additional infrastructure costs (if the host
  government does not support them
• additional costs generated by the evolution of
  prices for production factors (especially when we
  have projects with a long term construction
  period)
• additional amounts for possible design errors or
  unforeseen costs (usually 10 of direct costs)
• working capital requirements (especially for
  interest payments during construction period).

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The time schedule

• Project sponsors or their advisers should
  prepare time schedule detailing the activities
  that must be accomplished before and during the
  construction period.
• The time schedule should specify
• The time expected to be required to obtain
  regulatory or environmental approvals and permits
  for construction
• The time expected to be required to procure all
  the equipments you need
• The time allocated for preconstruction activities
  (design work, ordering the equipments, preparing
  the site, hiring the necessary manpower)
• The sponsor should examine the critical path of
  the construction schedule in order to minimize
  the project time-cost and risk of delay.

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B. Economic viability

• The critical issue concerning economic viability
  is whether the net present value of the project
  is positive
• NPV will be positive only if the expected
  present value of the future free cash flow
  exceeds the expected present value of the
  projects construction costs
• If the we assume that the project is constructed
  on schedule and within the budget, the economic
  viability of the project depends primarily on the
  values of the future project outputs
• To evaluate the marketability of the project
  outputs the sponsor can realize the following
  studies
• a projection for demand and supply conditions
  over the project life
• a marketing study on the competitive products
  and their cost of production
• an analysis of the expected life-cycle for
  project output, sales volume and projected
  prices
• an analysis of the potential impact of the
  technical obsolescence.
• Another important analysis is about the cost of
  production that affect the price of the projects
  outputs operating costs cost of capital
  other costs (delaying costs, fluctuations in
  product price).

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C. Creditworthiness for the project

• A project has no operating history at the time
  of its initial debt financing
• The amount of debt that the project can raise is
  a function of the projects expected capacity to
  support the debt service from the project future
  cash flows
• A project credit strength derives from
• The inherent value of the assets included in the
  project
• The expected profitability of the project
• The amount of equity project sponsor have at
  risk
• The creditworthiness of the third parties or
  sponsors involved in the project.

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