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Capital Budgeting Processes and “Small Projects”:
A study within Exxaro Resources
A Research Report Presented to
The Graduate School of Business
University of Cape Town
In partial fulfilment
of the requirements for the
Masters of Business Administration Degree
By Mapikwa S. Mobwano
December 2008
Supervisor: Professor Colin Firer
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Dedication
Albert Athende e Mapikwa Mobwano
1946-2008
For encouraging learning and emphasizing that education is the road to success.
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ACKNOWLEDGEMENTS
This report is not confidential. It may be used freely by the Graduate School of Business.
I wish to thank Mr. Frikkie Els, Capital Strategy Manager at Exxaro Corporate Finance and
Treasury department, for providing valuable background on the development of the Exxaro
Capital Management System. I am grateful to Leon Groenewald and Mellis Walker, Financial
Managers, Exxaro Coal and Exxaro Sand and Base Metal for their support and facilitation to
access project databases. I would also like to thank Dirk Van Staden, Exxaro Chief Financial
Officer, for allowing me to conduct the study in the company.
I also wish to thank my supervisor, Professor Colin Firer, for guidance during this process.
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DECLARATION
1. I know that plagiarism is wrong. Plagiarism is to use another’s work and pretend that it is
one’s own.
2. I have used a recognised convention for citation and referencing. Each significant
contribution and quotation from the works of other people has been attributed, cited and
referenced.
3. I certify that this submission is all my own work.
4. I have not allowed and will not allow anyone to copy this essay with the intention of
passing it off as his or her own work.
Modular:
Mapikwa Sam Mobwano
Signature: ______________________ Student Number: mbwmap001
Date: ________12th of December, 2008__________________
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ABSTRACT
Capital Budgeting Processes and “Small Projects”:
A study within Exxaro Resources
“Small projects” are not given the necessary attention in relation to capital budgeting, yet
possibly represent the bulk of capital expenditure of a company.
This research seeks to establish the adherence of “small projects” to the capital budgeting
process in Exxaro. The research first establishes the value of “small projects” relative to the
company total capital expenditure and, the knowledge of the corporate capital budgeting
processes at business units. The stages of capital budgeting process followed by “small projects”
are then assessed as well as the adherence to the post investment review and measure of value.
The research found that “small projects” did not represent the bulk of capital expenditure in
Exxaro in 2006 and that there was a good understanding of Exxaro’s capital management system
at business units. The research also found that there was not enough evidence to conclude that
the corporate capital budgeting processes were not followed when dealing with the majority of
“small projects”. This conclusion is weakened by the strong biases and inconsistencies
established in the study.
KEY WORDS: Small projects, Capital Budgeting process, Capital
Expenditure, Post Investment Review, Measure of value
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GLOSSARY OF TERMS
BEE : Black Economic Empowerment
BOARD: Board of Directors
BU : Business unit
EVA : Economic Value Add
EXCO : Executive Committee
EGM : Executive General Manager
FEL : Front End Loading
IRR : Internal rate of return
NPV : Net present value
PIR : Post Investment Review
PBP : Pay Back Period
SBU : Strategic Business Unit (Commodity business)
SHEQ: Safety Health Environment and Quality
VBM : Value-Based Management
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TABLE OF CONTENTS
ACKNOWLEDGEMENTS ....................................................................................................... III
DECLARATION......................................................................................................................... IV
ABSTRACT .................................................................................................................................. V
GLOSSARY OF TERMS ........................................................................................................... VI
TABLE OF CONTENTS ......................................................................................................... VII
1. INTRODUCTION................................................................................................................. 1
2. AREA OF STUDY ................................................................................................................ 4
2.1. Project Classification and Value ..................................................................................... 4
2.2. “Small projects” and Capital Budgeting Process ............................................................ 5
2.3. Value Drivers of “Small projects” .................................................................................. 6
2.4. “Small projects” and Post Investment Review ............................................................... 7
3. LITERATURE REVIEW .................................................................................................... 9
3.1. Introduction ..................................................................................................................... 9
3.2. Capital Investment Classification ................................................................................... 9
3.3. Capital Budgeting Techniques ...................................................................................... 10
3.3.1. The Traditional method: The Non DCF Methods................................................. 11
3.3.2. The Discounted Cash Flow Method ..................................................................... 12
3.3.3. Other methods of Investment appraisal ................................................................ 13
3.4. Capital Budgeting Process ............................................................................................ 13
3.4.1. Identification of investment opportunities ............................................................ 14
3.4.2. Development and Preliminary Screening ............................................................. 16
3.4.3. Capital Project Evaluation and Selection .............................................................. 16
3.4.4. Authorization ........................................................................................................ 17
3.4.5. Implementation, Monitoring and control .............................................................. 17
3.4.6. Post Investment Audit ........................................................................................... 18
3.5. Capital Budgeting Sophistication ................................................................................. 19
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3.6. Non Financial techniques and Influence activities in Capital budgeting process ......... 21
3.6.1. Non Financial Techniques: Value Based Management ........................................ 21
3.6.2. Influence activities ................................................................................................ 22
3.7. Capital Budgeting Excellence and Best practice .......................................................... 22
4. EXXARO’S CAPITAL BUDGETING PROCESS .......................................................... 24
4.1. Background ................................................................................................................... 24
4.2. Exxaro Capital management process ............................................................................ 26
4.2.1. Project Development Model ................................................................................. 26
4.2.2. Post Investment Review (PIR) .............................................................................. 29
4.3. Conclusion .................................................................................................................... 30
5. RESEARCH HYPOTHESES ............................................................................................ 31
5.1. Proportion of “small projects” capital expenditure ....................................................... 32
5.2. Knowledge of corporate capital management system .................................................. 32
5.3. Capital Budgeting process followed by “small projects” in Exxaro ............................. 32
5.4. Post Investment review and “small projects” ............................................................... 33
5.5. Measure of Value for “Small Projects” ........................................................................ 34
6. RESEARCH METHODOLOGY ...................................................................................... 35
6.1. Preliminary Interviews and Discussion ........................................................................ 35
6.2. Research Questionnaire ................................................................................................ 36
6.3. Sample size and Target Population ............................................................................... 36
6.4. Data Collection ............................................................................................................. 37
6.5. Analysis of Results and Hypothesis Testing ................................................................. 38
7. RESEARCH FINDINGS .................................................................................................... 41
7.1. proportion of “Small projects” Capital Expenditure ..................................................... 41
7.2. knowledge of corporate capital management system ................................................... 42
7.3. Capital Budgeting process followed by small project in Exxaro .................................. 44
7.3.1. “Small projects” at Potential study phase ............................................................. 45
7.3.2. “Small projects” at Pre-feasibility phase .............................................................. 47
7.3.3. “Small projects” at Feasibility phase .................................................................... 50
7.3.4. “Small projects” at Implementation phase ............................................................ 52
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7.4. Post Investment review and “Small projects” ............................................................... 53
7.5. Measure of Value for Small Projects ............................................................................ 57
8. DISCUSSION ...................................................................................................................... 59
8.1. Interpretation of the data ............................................................................................... 59
8.2. Limitations and Biases of the research ......................................................................... 61
8.2.1. Sample and results biases...................................................................................... 61
8.2.2. Low response rate ................................................................................................. 62
8.2.3. Inconsistency of Answers ..................................................................................... 62
8.3. Area of further research ................................................................................................ 63
9. CONCLUSION ................................................................................................................... 64
10. BIBLIOGRAPHY ........................................................................................................... 66
11. APPENDIX ...................................................................................................................... 70
A. Preliminary Interviews and Discussions .............................................................................. 70
A.1 Interviewees Details ....................................................................................................... 70
A.2 Request for Permission .................................................................................................. 71
A.3 e-mail discussion ............................................................................................................ 72
B. Exxaro Capital management models .................................................................................... 73
B.1 Governance during each phase ....................................................................................... 73
B.2 Project Development Model /Road Map ........................................................................ 74
B.3 Project Development Model /Road Map Guidelines: Objectives, Deliverable and focus
items ...................................................................................................................................... 75
C. Exxaro Post Investment Review Guidelines ........................................................................ 76
D. Research Questionnaire ........................................................................................................ 78
E. Detailed Results .................................................................................................................... 88
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LIST OF FIGURES
Figure 3-1: Capital Budgeting Process (Adapted from Dayananda et al 2002; Brink and
Marokane, 2004) ........................................................................................................................... 15
Figure 3-2: The Capital Planning Decision Process .................................................................... 19
Figure 4-1: Project development desired outcome ................................................................... 24
Figure 4-2Distribution of project size ................................................................................... 25
Figure 4-3: Project Development Model (Road Map) ........................................................... 26
Figure 6-1: Respondents profile per Business units ..................................................................... 38
Figure 7-1: Results of the knowledge and alignment of the corporate Capital Management ....... 43
Figure 7-2: Results of the Use of Corporate Financial Parameter ................................................ 44
Figure 7-3: Results of “small projects” at Potential Study Phase ................................................. 45
Figure 7-4: Results of the consistency trends on Potential studies responses .............................. 46
Figure 7-5: Results of “small projects” at Pre-feasibility phase ................................................... 48
Figure 7-6: Results of consistency trends on pre- feasibility ........................................................ 49
Figure 7-7: Results of “small projects” at Feasibility stage .......................................................... 50
Figure 7-8: Results of “small projects” at Implementation phase ................................................ 53
Figure 7-9: Histogram of “small projects” at Post Investment Review ........................................ 54
Figure 7-10: Result of process followed during Post investment review ..................................... 55
Figure 7-11: Analysis of key performance areas .......................................................................... 56
Figure 7-12: Results of variance analysis of financial parameters ............................................... 56
Figure 7-13: Results on the measure of value for “small projects” .............................................. 57
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LIST OF TABLES
Table 2-1: Exxaro Approval Framework Summary ....................................................................... 4
Table 2-2: Post Investment Review Register of approved Capital Projects ................................... 7
Table 4-1: Decision Gate Management ........................................................................................ 27
Table 7-1: Results of Proportion of total Small Capital Expenditure ........................................... 41
Table 7-2: Result on the necessity of a detailed feasibility for “small projects” .......................... 51
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1. INTRODUCTION
Companies do not generally have unlimited capital to invest in all projects proposed in the
company. A project is considered as any proposal that will result in the use of a firm’s scarce
resources (Damodaran 2001). Projects classified as “big” or “small”, depending on their capital
requirements, have to compete for the same scarce resources. Whether it is a multibillion
acquisition or small purchase, projects should be able to generate additional revenue or reduce
costs. Therefore, to qualify for a share of the scarce resources, projects must go through a
selection process, meet certain criteria, and demonstrate value-creation. Block (2005:59)
highlights the finding by Stanley and Block (1984), that maximizing return on equity,
maximizing growth in earnings per share and maximizing shareholder value were considered as
primary goals of managers. It can therefore be argued that managers should ensure that all
projects (big and small) that make use of the company’s scarce resources, create or increase
shareholders value by meeting criteria set as part of corporate strategy.
Exxaro Resources, formerly Kumba resources, acknowledged in its 2002 annual report that
effective investment of its capital is of crucial importance in optimizing shareholders value.
Exxaro Resources (Pty) Ltd is a diversified mining company born out of what was known as the
biggest BEE transaction in the history of the South African mining industry. The newly formed
company combined the unbundled coal assets of Kumba Resources from its iron ore assets and
the coal assets of Eyesizwe coal, a BEE company born out a previous BEE deal. The company is
divided into commodity businesses of coal, base metal and heavy minerals. The commodity
businesses are also known as strategic business units (SBU’s). A strategic business unit is made
up of several business units (BU’s) or operations.
The new company, 51% owned by black investors, was required from inception to generate
dividends to allow for the servicing of the financing of the transaction. The structure of the BEE
transaction limits the company to a certain extent from raising funds in the market by issuing
additional share offers.
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Capital budgeting and capital expenditure, an area that was always under scrutiny, received
renewed attention due to limited available capital.
Exxaro is at the stage where it needs to grow to generate value for its shareholders and service its
debts. The company should not necessarily limit its capital expansion especially on the big
projects, but needs to ensure that its capital is used wisely and specifically on projects that will
create value.
Exxaro Resources introduced a capital management system (capital budgeting process) in 2003
to govern capital expenditure. The aim of the process was to develop projects in a structured
way, improve the quality of the projects through their life cycles and, ensure that capital is spent
only on projects that have met criteria set in the capital management system. A project that has
passed all the hurdles in the process, and has been approved, will have a high probability of
creating value. However, the capital management system seemed to have worked mainly for the
assessment of “big projects” and it appears that “small projects” are not subjected to the same
scrutiny and do not adhere to the capital budgeting process. Very often, managers do not realize
that “small projects” that are not given proper attention are potentially the biggest value
destroyers. These projects not only waste capital that could have been used in other value-
creating projects, but also increase the financial strain on the company. These concerns were
also shared by SBU financial managers as well as the chief financial officer during preliminary
interviews and the researcher’s request for permission to conduct the study. In the current
context of capital rationalization, and focus on value-creation, it was also their view that a better
understanding of the approval processes and capital expenditure of “small projects” was required
in the company to ensure a better capital expenditure discipline.
The purpose of this research, conducted in Exxaro, is therefore to:
Determine the importance of “small projects” in terms of proportion of total capital
expenditure allocated to “small projects” in the company;
Investigate the approval process followed by “small projects” within Exxaro and, assess
whether the guidelines set in the capital management system are adhered to.
Evaluate if Post investment reviews are generally conducted on “small projects”.
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The main objectives of post investment reviews are to determine the value-creation of a project
and to capture the “lessons learned” for future reference. This study, however, will not seek to
determine the value-creation or destruction of “small projects”, as this will require detailed study
into the performance of each project.
Permission to conduct the study was requested and granted by the chief financial officer on
condition that sensitive project details are not discussed in the report. (Appendix A.2).
The other constraint anticipated was the reluctance of project managers or project engineers to
disclose information or answer the questionnaire in an objective manner. This could bring a
certain level of bias into the results of the survey. The fact that only 22% project managers
surveyed responded to the questionnaire might be an indication of such reluctance.
The research begins by providing detailed description of the problem that is being researched in
the “area of study”. This is followed by the review of the literature on capital budgeting
processes then by the capital budgeting processes as applied in Exxaro. The method of data
collection and analyses used as well as the hypothesis test used are described under research
methodology. The findings and related analysis are detailed under the research finding section.
The research is concluded with recommendations and the identification of areas for further
research.
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2. AREA OF STUDY
2.1. PROJECT CLASSIFICATION AND VALUE
The classification of projects by companies into “small” or “big” is probably relative to company
size, turnover and, most likely, the capital expenditure. For the purpose of this study it will be
important to clearly define what can be classified as a “big” or “small” project in the Exxaro
context. Exxaro’s approval framework as summarized in Table 2-1 will be used as the guideline
to categorize the size of projects according to the capital expenditure.
From Table 2-1, it can be concluded that projects that require the approval of the executive
director and above, can be classified as “big projects”. Where the approval of the executive
general manager is required i.e. projects of less than R20 million, such projects will be
considered as “medium” sized. Projects with capital expenditure of less than R5 million will be
considered as “small projects” and will be the focus of this research. For practical reasons,
projects with capital expenditure of less than R100 000 will be excluded as subjecting such small
expenditure to full capital budgeting, in the mining industry context, would be time consuming.
Table 2-1: Exxaro Approval Framework Summary Partnerships and
Joint Ventures
R mil
Approval of Capital Projects
Authority to
initiate projects1
R mil
Included in the
budget
R mil
Not included
in budget
R mil
Board > 50 >50 >50 >30
Exco <50 >30 <50 >30 <50 >20 <30
Executive Director >20 <30 >20 <30 >10 <20
Executive General Managers <20 <20 <10
Source: Exxaro
Between the 2006 and 2007 financial year, more than 320 projects of less than R5 million were
expensed in Exxaro. This clearly indicates that “small projects” are very important in terms
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magnitude. It will also be important to determine the total value of the “small capital projects” in
Exxaro, using the categorization presented above. The purpose of this exercise will be to
determine the proportion of “small projects” relative to the total capital expenditure of Exxaro.
The total capital expenditure of “small projects” in Exxaro will emphasize the importance of this
group of projects and, observe whether Copeland’s (2000:156) assertion that “small projects”
represent up to 80% of capital expenditure of a company, is also applicable to Exxaro.
2.2. SMALL PROJECTS AND CAPITAL BUDGETING PROCESS
There is very little literature on capital budgeting of “small projects”. This could be because
“small projects” are often considered as negligible or perhaps because the sizes of the capital
investments do not require as much resources as “big projects”. In times of capital rationing, the
focus is normally directed to shelving big capital expenditure. According to Copeland
(2000:156), “eliminating or postponing big capital spending which represents only 20% of the
capital of most big companies, will not create sustainable value for the companies. However,
rigorous and disciplined evaluation of “small items that often get rubber stamped” will ensure
sustainable value-creation in companies. This certainly implies that “small projects” whilst
collectively amounting to substantial value, are not subjected to proper capital budgeting
processes. The lack of research and literature in the area of “small projects” and capital
budgeting process indicates that this is still a grey area and emphasises the relevance of this
study. This research will therefore try to establish the behaviour of “small projects” relative to
capital budgeting by determining whether, in the case of Exxaro, “small capital projects” escape
the scrutiny of the capital budgeting process, and if this is proved to be true, understand the
reasons therefore.
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2.3. VALUE DRIVERS OF “SMALL PROJECTS”
The drivers of value are essential parts of any process which is genuinely focused on value-
creation (Copeland and Ostrowski, 1993:55). Projects are accepted or rejected based on the
perceived or promised value-creation. Although most projects will be accepted based on their
ability to demonstrate positive cash flow returns over a period of time, other projects may need
to be evaluated based on the risk that they are intended to mitigate and could therefore
demonstrate a negative cash flow. It is therefore important to include relevant non financial data
and forecasts that support the projects (Adams, Bourne and Neely, 2004:30).
Angus (2006:17-18) presents South African Breweries (SAB)’ categorization of capital
investment into: Safety Health Environment and Quality (SHEQ), Policy Replacement, Capacity
Maintenance, Expansion, and Financial. Capital investment opportunities are required to be
classified in one of the categories prior to the evaluation of the attractiveness of the project.
Exxaro uses a similar method where all projects (“big” and “small”) are classified into:
Expansion or New, Sustaining or Replacement and SHEQ. As in the case of SAB, this
categorization is performed prior to the evaluation of the projects. Projects under SHEQ will
clearly have value drivers that are non- financial. Angus (2006:22) notes that SHEQ and
replacement projects in SAB were not evaluated using financial analysis techniques and that, the
main driver for policy replacement investment was the “asset refreshment policy”.
Similarly, a project with a capital expenditure of less than R1 million might not have the same
drivers of value as a project of R20 million. Angus (2006:26) concludes that there is a
proportional increase of formal financial analysis techniques employed by managers as the risk
of capital investment increases.
In introducing the concept of “value-based management”, Copeland and Ostrowski (1993:55)
suggest that detailed NPV method should be used in determining value of “large projects” and
that the method does not work for “small projects” because “the scale is wrong.” They argue that
value drivers, such as specific easily tracked metrics, are the most appropriate way of
determining value for “small projects”.
It is therefore important to determine the measure of value used when dealing with “small
projects” in Exxaro. The research will therefore seek to determine if the value for “small
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projects” in Exxaro is evaluated in terms of NPV, IRR, PBP and EVA or “the value-based
management” approach which evaluates specific value drivers is used.
2.4. SMALL PROJECTS AND POST INVESTMENT REVIEW
The post implementation review is critical in determining the value-creation of projects. Exxaro
has put in place a detailed guideline on conducting a post investment review with the aim of
understanding the successful and unsuccessful aspects of previous investments in order to
improve the quality of new investments. The process is supposed to be applicable to all capital
projects including “small projects”. The preliminary interviews and research seem to indicate
that post investment reviews were, however, not widely conducted on “small projects”. There
was thus no data base or information sharing on lessons learned. There is evidence that suggests
that projects approved mainly at board level are scheduled for post investment reviews. Table 1
highlights the schedule dates of post investment reviews at Exxaro for 2008.
Table 2-2: Post Investment Review Register of approved Capital Projects SBU BU Description Date
Approved
Date
Commissioned
Date Post
Investment
Review
Coal Leeuwpan Road deviation 17-Feb-03 End 2004 Q2-2008
Coal Leeuwpan Jig Plant 07-Jun-04 Aug-05 Q3-2008
Coal Grootegeluk GG6 Plant 07-Jun-04 Jun-06 Q4-2008
Mineral
Sands
Ticor Indian Rim
Mar-2008
Source: Exxaro
Copeland (2000:156) argues that the small items are often “gold plates” or duplicates of other
capital requests. This is probably because “small projects” are not evaluated in the context of
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“the big picture” or the audit review is not applied rigorously enough to identify the duplication
or the “gold plating”. Scherrer (2003:52) suggests that timely capital expenditure can save and
help a business grow but unnecessary assets can become a liability for the company.
It appears that small capital projects, which potentially represent the bulk of the capital spend of
a company, are not subjected to the same process as “big projects”. The question that arises from
this assumption is: How is the value-creation of “small projects” assessed after implementation if
they are not subjected to a post investment audit?
This study will also aim to establish if “small projects” in particular are subjected to post
investment reviews. If “small projects” potentially represent the bulk of the capital spend, up to
80% according to Copeland (2000:156), are not subjected to post investment reviews, the risk
foreseen in this area is that the achievement of the proposed value cannot be ascertained and this
could possibly lead to value destruction for the company.
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3. LITERATURE REVIEW
3.1. INTRODUCTION
Capital budgeting and capital rationing, where budgets are constrained, are problems that
managers have to face on a regular basis, especially when dealing with strategic budget
allocation (Kachani & Langella 2005:196). Capital budgeting can be defined as a process of
evaluating and selecting long term projects that are consistent with the firm’s goal of maximizing
wealth (Gitman 2003:356 in Fouche 2006:8).
There is very limited literature dealing specifically with capital budgeting and “small projects”.
This literature review will start by briefly reviewing the general capital investment classification
and the capital budgeting techniques used in project appraisals. A detailed review is then
conducted on the capital budgeting processes. The concept of capital budgeting sophistication is
discussed and the capital budgeting excellence principles or “best practice” concludes this
section.
3.2. CAPITAL INVESTMENT CLASSIFICATION
Project classification is important and could have a direct impact on the application of the capital
budgeting. Maccarrone (1996:46) identifies four parameters of classification, namely; the
objective, the dimension, the interdependence and the urgency of the project. Peterson and
Fabozzi (2002:7) classify project according to the life of the project, the risk and the dependence
on other projects. Dayananda, et al (2002:8), classify the capital investment as independent
projects, mutually exclusive projects and contingent projects. This classification is based on how
these projects influence the investment decision process.
Maccarrone (1996:46) sub- categorizes investment by objective into:
Compulsory investment, guided by regulatory framework;
Investment in existing business which includes: replacement investments, expansion, new
products and investments aimed at improving the firm competitiveness;
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Investment in new business areas;
Acquisition; and
Research and development investments.
Peterson and Fabozzi (2002:9) use the same subdivision but relate them to the classification
under risk. Maccarrone (1996:46) on the other hand relates risk to the classification under
dimension classification. The risk in this case refers to the absolute variance of the outcomes.
It appears that investment projects are seldom explicitly classified according to the size of the
capital investment. However classification based on the size is often confused with what is
considered as the risk level of the project. Projects involving small amounts of capital are
considered less risky than projects which involve high capital exposure. (Brink and Marokane,
2006:27).
The classification based on the size of investment has direct impact on the capital budgeting
process followed by these projects. Brink and Marokane (2006:28) found that five out of seven
companies surveyed only used formal capital budgeting for projects that must be approved by the
board, despite the fact that projects at business units run into millions.
Although the basic elements of the investment appraisal process are the same for high and low capital investments, all seven companies indicate that their rigour of the appraisal process is proportional to the size of the capital exposure. For high capital exposure, more effort and resources are dedicated to validating assumptions and undertaking sensitivities. (Brink and Marokane, 2006:28).
This is an indication of how the investment size influences the application of capital budgeting
process.
3.3. CAPITAL BUDGETING TECHNIQUES
Capital budgeting literature has mainly focused on capital budgeting techniques (Dobbins and
Pike, 1980). Although this is considered as an over -researched area (Adams et al, 2004:23), it is
important to highlight the techniques used because they form an integral part of a capital
budgeting process.
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According to Pogue (2004:565), the two main methods that are still most widely used are:
The traditional method of accounting that does not make any adjustment for the time
value of money ( rate of return and payback); and
The discounted cash flow (DCF) techniques of net present value (NPV) and internal rate
of return (IRR) which progressively reduce the value of cash flows received in the future.
3.3.1. The Traditional method: The Non DCF Methods
3.3.1.1 Pay Back Period(PBP)
This method is probably the simplest method of evaluation used in capital budgeting. The
payback period computes the numbers of years required to recover the initial investment. The
method places emphasis on the liquidity and risk position of the project (Akalu 2001:375). The
major pitfall of this method is that it does not take into account the time value of money. Akalu
(2001:376) referring to Longmore (1989), present the discounted payback period, as variation of
the payback period. This method was introduced to address the shortfall of the payback period,
by discounting the cash flow of the project.
3.3.1.2 Rate of return
The accounting or average rate of return utilises accounting profit to determine the expected
return of the project, thereby measuring the benefit of the project. As with the pay back period
method, the rate of return also ignores the time value of money, as well as the timing and pattern
of the profit of the project (Akalu 2001:376).
The variation of this method according to Akalu (2001:376) includes the return on investment
(ROI) and return on capital employed (ROCE).
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3.3.2. The Discounted Cash Flow Method
3.3.2.1 The Net Present Value (NPV)
The net present value basically nets the present value of the investment from the present value of
the revenue of the investment (Akalu, 2001: 377).
“A well established rational economic process used for budgeting capital investments applies
cost benefit analysis using the net present value (NPV) model. This process consists of
estimating and comparing the risk adjusted discounted present value of expected benefits with
expected costs. It should be noted that the use of the risk adjusted discounted cash flow
techniques does not guarantee higher firm performance (Gordon and Loeb, 2006:122, referring
to Haka, Gordon and Pinches, 1985). However Gordon and Loeb (2006:122) go on to argue that
the use of NPV should at least assist organizations in efficient allocation of resources. Despite its
drawback, Gilbert (2003:11) summarizes finance theorists by suggesting that the application of a
positive NPV criterion is the optimal approach to evaluating capital investment. This is valid
provided that the discount rate has been adjusted for risk.
3.3.2.2 The Internal Rate of Return (IRR)
Akalu (2001:377) suggests that the internal rate of return can be considered as the rate that
equates the cost and benefits of a project in terms of present value, and the cut-off rate that
should be used to evaluate the benefit of a project. Akalu (2001:377) also argues that the IRR is
easy to interpret because it shows the percentage benefit of the project, and is more convenient to
use than other DCF methods because the discount rate does not have to be computed.
In summary, although DCF methods are considered as growing in popularity, they are still not
used universally (Hodgkinson and Skinner, 2004:8). Gilbert (2003:17) presents evidence that
suggests a shift in behaviour from the traditional corporate finance theory. From the surveyed
manufacturing companies in South Africa, he concluded that a significant proportion of firms do
not use DCF methods to evaluate projects and when used, they are used in conjunction “with
other theoretically inferior techniques”.
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3.3.3. Other methods of investment appraisal
Other alternatives to the DCF based methods have been proposed to address the problems
associated with DCF methods. They are to a certain extent extensions of the DCF method (Akalu
2001:378). The alternative methods used include:
Option pricing;
Adjusted present value; and
Equity cash flow.
3.4. CAPITAL BUDGETING PROCESS
Capital budgeting processes should not primarily be concerned with the selection of an
appropriate evaluation technique, although many authors have concentrated on the comparisons
of evaluation techniques, determining hurdle rates of return and incorporating risk into the
equations (Dobbins and Pike, 1980:13). They further argue that the evaluation techniques should
be incorporated within the whole capital investment process from the conception of an
investment opportunity to its completion.
Maccaronne (1996:43) in referring to the work by Marsh, Barwise, Thomas and Wensley (1988),
Mukherjee and Henderson (1987) as well as Pinches (1982), identifies six phases of capital
budgeting which include:
Identification of investment opportunities
Development and evaluation
Selection
Authorization
Implementation and control
Post investment audit
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Fouche (2006:9) presents five distinct but interrelated steps of capital budgeting as proposed by
Gitman (2003) being: proposal generation, review and analysis, decision making,
implementation and follow up. The model however excludes the post investment review.
Dayananda, et al (2002:5), present a model with twelve steps as illustrated in Figure 3-1 below.
The colour coding of the same model by Brink and Marokane (2004:20) synthesize the process
into six phases. The researcher has grouped them further to correlate with Maccarrone’s
(1996:44) model and Dayananda, et al (2002:5).
3.4.1. Identification of investment opportunities
This is one of the most important phases in capital budgeting (Dayananda et al 2002:6). This
phase is critical in determining the overall quality and effectiveness of the capital budgeting
process, but can not easily be formalized (Maccarrone, 1996:46). This phase ensures that project
proposals fit with the company mission and vision as well as the long term strategic plan
(Dayananda et al 2002:6).
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Figure 3-1: Capital Budgeting Process (Adapted from Dayananda et al 2002; Brink and Marokane, 2004)
Corporate goal
Strategic planning
Investment opportunities
Preliminary screening
Financial appraisal, quantitative analysis, project evaluation or project analysis
Qualitative factors: judgments and gut feeling
Post implementation audit
Continue expand or abandon project
Facilitation, monitoring, control and review
Implementation
Reject Accept
Accept/reject decisions on the projects
Strategic planning and
identification of investment
opportunities
Preliminary
Authorization/ acceptance or
rejection of decision
Implementation, monitoring and review
Post implementation
audit
Capital project evaluation
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3.4.2. Development and Preliminary Screening
This phase involves some preliminary analysis, quantitative or otherwise, in order to narrow the
number of projects that will need more accurate analysis (Dayananda et al 2002:6-7). This phase
also initiates development of the proposal by collecting relevant and detailed information for
each alternative, thus evaluating their profitability and global attractiveness (Maccarrone,
1996:43). The attractiveness of the alternative will be based on how each affects the future cash
flow, and hence the value of the firm.
3.4.3. Capital Project Evaluation and Selection
The selection at this stage is based on detailed financial appraisal of the project and strategic
factors (Maccarrone, 1996:43). These factors are referred to as qualitative factors by Dayananda
et al (2002:7). The detailed financial appraisal at this stage is also referred to as project
quantitative analyses, since it involves the prediction of the cash flow, the risk associated with
the cash flow, and development sensitivity analysis (Dayananda et al 2002:7). As the investment
decision clearly depends on the results of the quantitative analyses, it is critical to focus on this
complex analytical phase of the capital budgeting process (Dayananda et al 2002:7).
Qualitative factors such as the positive or negative impact in terms of environment, society,
company reputation and possible legal difficulties, are factors that are not easy to measure but
which could have a serious impact on a project that has been proven viable by quantitative
analysis. It is therefore important to take these factors into account at this phase of capital
budgeting (Dayananda et al 2002:8). Depending on the results of both quantitative as well as
qualitative analyses, some projects might go ahead at this stage, or be cancelled or postponed to
another planning period, despite having met the strategic intent of the company (Maccarrone,
1996:43).
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3.4.4. Authorization
Projects that have shown strong fundamentals in the previous phase must still be approved by
either line management or the appropriate investment committees before implementation
(Maccarrone, 1996:43). Dayananda et al (2002:8) argue that management still has the
responsibility of making the final decision of accepting or rejecting a proposed investment
despite the fact that the project might have positive quantitative (NPV) and qualitative attributes.
Although these attributes form the basis of decision support information, managers or the
investment committee must still use their experience, expertise, prior knowledge, “gut feel” and
judgment to make a decision.
Peterson and Fabozzi (2002:7) distinguish between authorization which relates to the gathering
of further information and approval which relates to allowing the capital expenditure. They
recognize that some firms would authorize and approve a project at the same time, while others
will first authorize then later approve.
3.4.5. Implementation, Monitoring and control
The logical step after the formal authorization of a project will be its implementation. During the
implementation phase, it will be critical to have follow-up procedures that will ensure adherence
to budgeted costs and deadlines (Maccarrone, 1996:43).
Dayananda et al (2002:8) emphasize that constant monitoring is an integral part of the project
implementation and, should aim at identifying potential bottlenecks to allow proactive
intervention. The tracking of cash flow on a regular basis is very important and corrective action
should be taken on any deviation when needed.
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3.4.6. Post Investment Audit
“The post-audit (PA) of investments is the control process aimed at making an overall revision of all those activities concerning the management of an investment proposal, from its definition, to its implementation, up to the end of its life” (Azzone and Maccarrone, 2001:73).
The post investment audit concludes the capital budgeting process but does not form part of the
decision process. “It deals with the post mortem of already implemented projects” (Dayananda
et al 2002:8).
In this phase, the actual targets versus the budgeted targets of each project are compared in order
to assess forecast accuracy and identify error patterns. Feedback from this process should then
positively influence the whole decision process (Maccarrone, 1996:43). This view is supported
by Dayananda et al (2002:8) who suggest that analysis of past rights and wrongs can improve
current decision making. Although Dayananda et al (2002:8) suggest that the post audit be
conducted only at the end of the project, Azzone and Maccarrone (2001:73) propose three
categories of post investment audit that relate to the timing. An early post investment audit is
suggested at start up, an intermediate post investment audit during the operational phase and a
final post investment audit at the end of the investment life cycle.
Peterson and Fabozzi (2002:7) suggest that detailed post investment audits are normally
performed mainly on “large projects”. This suggests that “small projects” are normally
overlooked and the question posed is whether the errors on “small projects” will be captured and
positively influence current decision making?
The review of the capital budgeting process indicates that the process is a fairly complex one.
Different authors seem to have different divisions of the phases of this process. It is critical to
have a simpler model that would be applicable to all types of projects. Adams et al (2004:29)
concludes that most organizations surveyed were not satisfied with their capital planning process
despite the fact that some of the dissatisfaction relates to issues that are difficult to change. There
was however, a clear willingness to improve the process.
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Adams et al (2004:24) present a simpler “ideal model” of the capital planning process. The
model as illustrated in Figure 3.2 below also indicates the possible short-cuts that some projects,
particularly “small capital expenditure”, do go through.
Figure 3-2: The Capital Planning Decision Process (Adams et al 2004)
3.5. CAPITAL BUDGETING SOPHISTICATION
Farragher, Kleiman and Sahu (2001:301-302) present the concept of Capital Budgeting
Sophistication as introduced by Klammer (1973) which was expanded on by Kim and Farragher
(1982) and later analyzed by Pike (1984). In these studies large corporations based in the United
Kingdom were analysed.
Farragher et al (2001:301) highlight that while the Klammer (1973) definition of sophistication
was limited to a discounted cash flow analysis and an industry adjusted rate of return, Kim and
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Farragher (1982) include a metric that encompass the entire range of activities associated with
allocating resources to investments. These include:
Preparation of a long term capital budget;
Employment of a full time capital investment staff;
Undertaking a systematic search for investment opportunities;
The use of a formal screening committee;
Formal incorporation of risk analysis;
Monitoring the implementation of accepted proposals; and
Conducting a post audit of operating investments.
According to Farragher et al (2001:301), the Kim and Farragher (1982) study finds a positive
relationship between capital budgeting sophistication and the above mentioned activities. On the
other hand, Farragher et al (2001:302) report that the metric used in the study of large
corporations in the United Kingdom by Pike (1984), which includes twelve procedural activities
(planning, administration, and control) and sixteen quantitative techniques (evaluation measures,
risk analysis process and management science techniques), show that better performing
companies are less likely to use a sophisticated capital budgeting process than are poorer
performing companies.
Farragher et al (2001:307) also agrees with Pike (1984) and rejects the hypothesis that
“companies with high performance employ more sophisticated capital budgeting process than do
companies with lower performance.”
Clearly, the level of sophistication is not about the use of different techniques, but about the
integration of different steps in ensuring proper selection and the value-creation of the project. It
can therefore be argued that the latter is really the basis of an effective capital budgeting process.
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3.6. NON FINANCIAL TECHNIQUES AND INFLUENCE ACTIVITIES IN CAPITAL
BUDGETING PROCESS
3.6.1. Non Financial Techniques: Value-Based Management
It is important to understand whether there are factors and other non financial techniques that
influence the appraisal of projects and decision making.
Angus (2006:8), referring to Gilbert (2005) and Erasmus (2005), highlights the fact that many
capital investments are done with little consideration of formal appraisal techniques. Angus
(2006:8) presents the findings of Du Toit and Erasmus (2005) which indicate that more than 15%
of companies who responded to the survey did not use discounted cash flow techniques at all to
appraise capital investment.
While Copeland and Ostrowski (1993:55) agree that DCF methods should be used for the
analysis of “large projects”, they suggest a different and less complicated method for evaluating
“small projects”. Copeland and Ostrowski (1993:55) introduce the concept of “value-based
management” (VBM) that focuses on value drivers.
“Value drivers are the specific, easily tracked metrics that link micro-level
decisions to capital efficiency” (Copeland and Ostrowski 1993:55).
They further argue that focusing on value drivers can unlock many hidden sources of
improvement in capital efficiency.
Copeland and Ostrowski (1993:55) suggest fives fundamental steps behind VBM, namely:
Diagnosis and assessment of the potential for capital efficiency improvement, as well as
the validity of the current performance metrics;
Development of new processes that focuses on grass roots activities. This should include
careful identification of value drivers that are easily monitored;
Change of mindset, by ensuring participation of grass roots in the identification of value
drivers and suggestion of new ideas;
Implementation of new guidelines and incentives; and
Follow through to capture lessons learned and continuously improve on the value drivers.
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3.6.2. Influence activities
Gallagher (2007:6) quoting Hammond et al (2006) puts forward the notion that sometimes the
problem does not lie with the decision process (capital budgeting process) but rather in the mind
of the decision maker. It can be argued that capital budgeting processes are often influenced by
factors that are non objective and as such make the process less than perfect. These factors are
presented by Laux (2006), as “influence activities” and by Gallagher (2007), as “biases”.
The non objectives factors presented above will not be the focus of this research. However, they
are factors that are present in decision making processes and it is important to understand their
impact in capital budgeting processes and the bias that they can bring into the process, as well as
their impact on the results of the survey. Certainly, these non objectives factors will have a much
greater impact on “small projects”, than on “big projects”, especially if it can be proven that
“small projects” are not subjected to rigorous capital budgeting processes.
3.7. CAPITAL BUDGETING EXCELLENCE AND BEST PRACTICE
The recommendation by Adams et al (2004:29-30) based on the survey conducted, present eight
points which can be considered as fundamental principles toward achieving best practice in
capital budgeting. The principles are that:
Capital decisions must be guided and closely integrated with strategy execution.
Capital proposals must be subjected to rigorous assessment before final investment
decisions are taken.
Project proposals must demonstrate positive cash flow returns over a given period of time
(ideally over the life of the project) and cost of capital and time value of money must be
included consistently in the financial modelling calculation.
Some projects might be evaluated on the basis of the risks that they could attract if not
implemented. The negative cash flow in this case could be less important than the
company reputation.
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Capital budgeting processes need to address multiple stakeholders’ point of view.
Proposal should then be supported by relevant non financial data.
For larger investments, the alternative options for capital spending, timing and project
implementation stages need proper evaluation.
All capital plans should have measurable outcomes, to track progress and value
realization over time, both during and after implementation.
Continuous process improvement and learning from past mistakes is not optional. It is a
necessity. This knowledge is to be documented and, where appropriate, included as part
of staff training.
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4. EXXARO’S CAPITAL BUDGETING PROCESS
4.1. BACKGROUND
Exxaro Resources introduced a capital budgeting process in order to improve the value-creation
of projects. The company realized that the maximization of value in the business depended
heavily on the quality of the decision made, to ensure that only the right opportunities progress to
the next stage by dealing with all challenges before the business case is finalized. This will
ensure the quality of execution by challenging the project in terms of “value improving
practices” and benchmarking to match best performance. The desired outcome as intended is
illustrated in Figure 4.1 below.
Figure 4-1: Project development desired outcome (Source: Exxaro internal presentation)
The company focused on the concept of Benefit Management to ensure high decision quality and
high execution quality. To ensure its effectiveness, the benefit management system developed
was based on three pillars, namely:
Governance structure;
Business case based decision making; and
Modified capital management process.
“Best in class”Performance
AveragePerformance
AveragePerformance
Failure
Poor Best
Best
Execution Quality
Dec
isio
n Q
ual
ity “Best in class”
Performance
AveragePerformance
AveragePerformance
Failure
Poor Best
Best
Execution Quality
Dec
isio
n Q
ual
ity
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These principles are the foundation of Exxaro’s capital management process.
Governance in this case refers to the layer of control that is exercised on behalf of project
sponsors. The aim of the governance structure was to establish a culture of mutual co-operation
between line management and the project team, to clearly define the responsibilities (of project
sponsors, steering committees, and project managers) and to facilitate appropriate management
of all stake holders.
Business case based decision making is intended to ensure that there is a link between project
deliverables and corporate strategy. This phase was also intended to assess whether the
company’s strategic priorities were reflected in the total portfolio of the project, and conducts
regular reviews throughout the project life.
The modification to the capital management process is the third leg of the benefit management
philosophy and had to incorporate benefit planning into the project planning process, develop
appropriate metrics to assess the projected benefits and integrate risk management principles.
Exxaro developed the assumption that a few “large projects” commanded most of the resources
in terms of project focus and the large number of “small projects” did not enjoy as much focus.
The Capital Management process was developed to ensure that all projects in the spectrum as
illustrated in Figure 4.2 were subjected to the same process.
Figure 4-2 Distribution of project size source: Exxaro 2003, internal presentation
Small number of
“big” capital investment
Large number of“small” capital
investment
Sm
all
100%
Lar
ge
Resources allocation
Inv
estm
ent
size
0%
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4.2. EXXARO CAPITAL MANAGEMENT PROCESS
4.2.1. Project Development Model
Exxaro has developed a capital management process model that is embedded in the project life
cycle. The project development model or “road map” (Figure 4-3) as it is known, was developed
to bring excellence in decision-making and execution. The model applies the traditional steps of
capital budgeting process (screening, evaluation, selection, authorization, and implementation) at
each stage of project life cycle. This is to ensure that there is sufficient “front end loading”,
which is the practice of taking sufficient time in the earlier phases of the project to properly
assess an opportunity, identify value levers, risks, uncertainties, and achieve quality deliverable
before committing capital expenditure (Els 2003a).
Detailed model and guidelines are attached in appendix A2 and A3.
Figure 4-3: Project development model (road map) (source: Exxaro 2003, internal presentation)
The amalgamation of capital budgeting processes with the project life cycle ensures that there is
a “staged approval” approach in the capital management system. The staged approvals, managed
by “decision gates” at each phase, depend on the independent functional reviews (technical,
Decision Makers
Project Team
Decision Gates
Documentation
Deliverable /Recommendation
Phase POTENTIAL(Assess)
PRE-FEASIBILITY(Select)
IMPLEMENT OPERATE
Timeline
FEASIBILITY(Develop)
EXIT, RECYCLE EXIT, RECYCLENew Opportunities
(to Assess)
PerformanceAssessment
Doc
EvaluationReport
Doc
Pre-feasibilityStudy
Doc
EXIT, RECYCLE
FeasibilityStudy
Doc
FunctionalAsset(s)
OpportunityValue
EnhancingProject
Commit resources
to pre-feasibilitystudy
Commit resources
to feasibilitystudy
Commitresourcesto Optimi-
sation
Assethandover
Doc
PeerReview
Peer Review
PeerReview
PeerReview
Close out Review
Decision Makers
Project Team
Decision Gates
Documentation
Deliverable /Recommendation
Phase POTENTIAL(Assess)
PRE-FEASIBILITY(Select)
IMPLEMENT OPERATE
Timeline
FEASIBILITY(Develop)
EXIT, RECYCLE EXIT, RECYCLENew Opportunities
(to Assess)
PerformanceAssessment
Doc
EvaluationReport
Doc
Pre-feasibilityStudy
Doc
EXIT, RECYCLE
FeasibilityStudy
Doc
FunctionalAsset(s)
OpportunityValue
EnhancingProject
Commit resources
to pre-feasibilitystudy
Commit resources
to feasibilitystudy
Commitresourcesto Optimi-
sation
Assethandover
Doc
PeerReview
Peer Review
PeerReview
PeerReview
Close out Review
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marketing, financial, and optimization). The purpose of the project review is to ensure that
critical decisions and project parameters are addressed before committing funds to the project.
The decision gate management process is detailed in table 4-1 below
Table 4-1: Decision Gate Management Phase 1: Potential
study
Phase 2: Pre-
feasibility
Phase 3:
Feasibility
Phase 4: Implement
Objectives Test for strategic
alignment
Ensure strategic
alignment and
challenge
assumptions
Resource
allocation, review
of critical risks and
recommendation
for approval
Final approval
Gate keeper
Strategic
coordinating forum
(SCF)
Steering Committee
(Steercom)
Investment Review
Committees (IRC)
Executive
Committee/ Board
(EXCO/Board)
Functional
review
Peer Review Peer Review Peer Review Close out Review
Documentation Evaluation Report Pre-feasibility study Feasibility study Functional asset
document
The model illustrated in Figure 4-3 indicates that demonstrating the feasibility of a project
generally occurs in phases which follow a logical progression (Fouche 2006:13). Each phase has
key deliverables and items that it needs to be focussed on.
Phase1: Potential Study
The objective of the potential study phase is to clearly frame the goal of the project by
determining the potential value of the opportunity and ensure alignment with business strategy.
The key deliverables for this phase includes a detailed valuation report and planning for the
subsequent phases. The main items that need to be focussed on are:
Test for strategic fit
Preliminary assessment (e.g. technical, market, etc)
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Determine regulatory approval required
Plan for phase 2
Report on cost and other performance for current phase
The project at this stage is presented to the “strategic coordinating forum” (SCF) for approval to
the next phase.
Phase 2: Pre- feasibility
The main objective of this phase is to produce and select the best alternative for the project. The
key deliverable for this phase is a pre-feasibility study with a 70-85% accuracy level. The study
should include a preliminary design as well as a refined business case.
The items of focus should include:
Preliminary development of alternatives
Calculated expected value
Identification of preferred alternatives
Regulatory approval
Planning for Phase 3 (including funding approval and resource requirements)
Reporting on cost and other performance for current phase
The Steering Committee approves and recommends the project for a full feasibility study
Phase 3: Feasibility
The major deliverable for this phase of the study is a bankable feasibility study which should
include the final design, final project specification, and final business case. The feasibility study
should focus on:
Fully defining the scope of the project;
Refining estimates and assumptions;
Calculating final expected value;
Regulatory approval; and
Develop detailed implementation plan for phase 4.
The investment review committee is the responsible decision-making body at this phase of the
project. The decision of this committee will recommend final approval to the General Manager,
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Executive Director, Exco or Board of Directors depending on the magnitude of the capital
requirement. The approval framework is described in table 2-1 above.
Phase 5: Implementation
The objective of this phase is to produce an operating asset consistent with the final scope of the
project as described in the bankable feasibility study, by implementing the execution plan. The
outcome of this phase is to ensure that the asset is ready for hand-over to the operation.
The main focus is therefore:
Implement execution plan
Finalise operations plan
Business plan for phase 5 project review
Regulatory compliance
Phase 6: Operation
The operation phase deals with the start-up, operation and evaluation of assets to ensure
performance specifications. The focus of this phase is to monitor and evaluate performance for
the post investment review.
4.2.2. Post Investment Review (PIR)
The purpose of the post investment review (PIR) is to improve the quality of investment
decisions by analysing and understanding the successful and unsuccessful aspects of previous
investments. The objective therefore is to determine to what extent the assumptions used in the
original motivation actually materialized in practice and to analyse why these variances
occurred.
Exxaro’s intention is to share information from the post investment review as widely as possible
to create improvement in the capital investment. The company recommends two types of PIR
namely, the independent PIR conducted by a team appointed by the investment review
committee and a self managed PIR conducted by each business unit. Both PIR’s must be based
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on the same principles. The company should conduct a PIR between 12 to 18 months after
commissioning. Short life projects should have a review done 3 months after commissioning and
long life and complex investment projects can be reviewed up to 2 years after commissioning.
A detailed guideline on how to conduct post investment review is attached in Appendix C.
4.3. CONCLUSION
“The project development model” defines the “Exxaro way” of developing and realizing value
from opportunities. It provides a structured approach and promotes systematic thinking. The
“road map” represents a high-level project success plan and enables improved decision-making
and execution of a specific opportunity.
The Exxaro capital budgeting process is consistent with most theories as presented in the
literature review, especially in terms of “best practices” and capital budgeting sophistication as
proposed by Adams et al (2004:29).
The company capital budgeting process as described above is certainly detailed and quite
rigorous. The process was designed to cater for all capital investment projects.
The research questionnaire was developed based on the company approved processes to test
whether “small project” were subjected to this process.
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5. RESEARCH HYPOTHESES
The limited literature on “small projects” has indicated that this category is very important and
can represent the bulk of capital expenditure of a company (Copeland, 2000:156). The literature
has also indicated that this group of projects is not given proper attention and does not always
follow the capital budgeting process (Copeland, 2000:156; Brink and Marokane, 2004:28).
The general review on capital budgeting processes clearly indicates how they have become
sophisticated processes. The Exxaro process is an example of a sophisticated process. The
importance of Post investment review has been highlighted by Azzone and Maccarrone
(2001:86) and by the Exxaro guidelines on PIR.
These areas of literature review have raised questions about the importance of “small projects” in
terms of value and the processes followed by these projects in Exxaro. This research will attempt
to answer the following questions relating to capital expenditure of “small projects”:
Do “small projects” represent the bulk of capital expenditure in Exxaro?
Are “small projects” in Exxaro subjected to the same rigorous capital budgeting process
as “big projects”?
What is the level of knowledge at BU level of Exxaro corporate guidelines on capital
budgeting? Is there alignment between the BU’s and the corporate process?
Is the measure of value used for “small projects” appropriate and comparable to the
measure of value of “big projects”?
Are the proposed values of “small projects” evaluated after the implementation phase?
The hypotheses that seek to address these research questions, will be based on the literature
review and Exxaro guidelines on capital budgeting. This will essentially be an “audit” on the
applicability of Exxaro’s own processes.
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5.1. PROPORTION OF “SMALL PROJECTS” CAPITAL EXPENDITURE
Hypothesis 1: “Small projects” represent 80% of capital expenditure in Exxaro.
Hypothesis 1 relates to the assertion by Copeland (2000:156) that small capital expenditures
represent 80% of capital expenditure. The results of this test will seek to confirm or reject this
hypothesis.
5.2. KNOWLEDGE OF CORPORATE CAPITAL MANAGEMENT SYSTEM
Hypothesis 2: Exxaro corporate capital management system has not been rolled out
throughout the company.
Before testing whether “small projects” are subjected to detailed capital budgeting processes, it
was deemed necessary to test the knowledge of the corporate guidelines on capital budgeting at
business units. Although business units can draw up their own processes, they must strictly
follow Exxaro corporate guidelines. The rolling out of the corporate guidelines will ensure that
there is knowledge and alignment at business units. This hypothesis is based on the assumption
that “small projects” at BU’s are not subjected to capital budgeting process perhaps due to lack
of appreciation of the corporate guidelines.
5.3. CAPITAL BUDGETING PROCESS FOLLOWED BY “SMALL PROJECTS” IN
EXXARO
Hypothesis 3: The majority of “small projects” are not subjected to all the stages of capital
budgeting processes.
This hypothesis relates to the views of Copeland (2000:156), Brink and Marokane (2004:28) as
well as to the concerns raised by SBU financial managers during the preliminary interviews and
discussions. The Exxaro capital budgeting process as detailed in the review is used as the basis
for testing this hypothesis.
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Due to the depth of detail required in each phase of the capital budgeting process, sub hypotheses
are developed to test the adherence to the requirements of all steps. The following sub-
hypotheses are suggested:
Hypothesis 3a: The majority of “small projects” are not subjected to full potential
studies;
Hypothesis 3b: The majority of “small projects” are not subjected to detailed pre-
feasibility studies;
Hypothesis 3c: The majority of “small projects” are not subjected to detailed feasibility
studies; and
Hypothesis 3d: The majority of “small projects” are not subjected to a formal
implementation studies.
It is the assumption of the researcher that “small projects” do not follow all the prescribed
processes.
5.4. POST INVESTMENT REVIEW AND “SMALL PROJECTS”
Hypothesis 4: The majority of “small projects” are not subjected to post investment reviews
This hypothesis emanates from the suggestion by Peterson and Fabozzi (2002:7) that detailed
post investments reviews are performed mainly on “large projects”. The implication of this view
is that “small projects” are not subjected to the same process. The experience of the researcher in
the company also led to the assumption that PIR’s are not conducted on “small projects”.
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5.5. MEASURE OF VALUE FOR “SMALL PROJECTS”
Hypothesis 5: The value of the majority of “small projects” is not measured in terms of NPV,
IRR, EVA and PBP.
This hypothesis emanates from the Copeland and Ostrowski (1993:55) suggestion that value
drivers, which are specific metrics that can be easily measured, are the best way of determining
the value of “small projects”.
Angus (2006:26) concludes that the use of formal financial analysis tools increases with the risk
of the project. Brink and Marokane (2004:28) link risk to the size of the project and Adams, et al
(2004:30) insist on the inclusion of non financial data to support a project. These conclusions
lead to the assumption that, for “small projects”, non financial measures will be used to
determine value.
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6. RESEARCH METHODOLOGY
This research will focus on assessing the approval process that “small projects” in Exxaro follow
by determining if the approved “capital management system” of the company is adhered to. The
methodology used to complete this study is detailed in the following sections.
6.1. PRELIMINARY INTERVIEWS AND DISCUSSION
In finalizing the research topic for this study, unstructured interviews were conducted with the
Financial Manager of the Coal SBU. The result of this interview assisted in narrowing the area of
the study. The Financial Manager as a member of various investment review committees,
confirmed with certainty that projects which were approved by the Executive General Managers,
Executive Committee and, the board of the company, strictly followed the company capital
budgeting process. However, the Financial Manager of the coal SBU seemed to have a view that
“small projects” approved at business units, probably did not go through the same process. In
trying to understand the capital budgeting process at Exxaro the researcher was referred to the
Capital Strategy Manager, from the company corporate finance and treasury department, with
whom he conducted his second unstructured interview. The interview provided the background
to the development of the capital management in the company as detailed in chapter 4 of this
report. The Capital Strategy Manager further confirmed the strict processes followed by the “big
projects” in the company. Further discussions were held with the Financial Manager of heavy
mineral and base metal. He agreed with the assertion that not enough attention was given to
“small projects”. (See appendix A).
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6.2. RESEARCH QUESTIONNAIRE
The research questionnaire was developed based on Exxaro guidelines on capital budgeting
processes. The full questionnaire is attached in Appendix B. The questionnaire is divided into 7
main areas. The introductory section is designed to assess the knowledge of the capital budgeting
process within Exxaro. The questions from section 2 to 6 inclusive relate to the different phases
of capital budgeting with section 6 focusing on post investment review and, section 7 concluding
with general questions.
The questions in each phase deal with three critical areas, namely; stage approval, detailed
guidelines and peer review. These are fundamental principles of Exxaro capital management that
must be adhered to before a project could proceed to the next phase.
The questionnaire was designed to query the process followed by each selected project. The
recipients of the questionnaire were asked not to answer the questions in a general manner, or
according to the process that was supposed to be followed. However, due the sensitive nature of
capital budgeting, the researcher anticipated a certain degree of bias from the respondents in
answering the questionnaires. This could be the case if the survey was seen as a form of audit on
project managers. A set of questions were therefore inserted to “countercheck” the consistency of
the answers provided (Leedy and Ormrod, 2005). A question such as: “Do you usually conduct
pre-feasibility studies on “small projects”?” was inserted to check the consistency of the answer
obtained where it was indicated that the specific project was subjected to a pre-feasibility study.
6.3. SAMPLE SIZE AND TARGET POPULATION
The population size of ‘small projects” or small capital expenditure in 2006 was 320 projects.
This population included capital expenditure of less than R 200,000. It was deemed appropriate
to limit the sample size to 100, because of the homogeneous nature of the population (Leedy and
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Ormrod, 2005:207). This means that the process followed by 100 “small projects” will be very
similar to the rest of the “small projects”. The secondary reason for limiting the selection to 100
projects was to reduce the likelihood of sending more than two questionnaires to the same
project manager. However, there were still cases where the random selection of projects resulted
in some project managers being recipients of more than two questionnaires.
The research questionnaires were sent mainly to project managers and chief engineers who
worked on the randomly selected projects. The questionnaire was not sent to all engineers in
order to minimize the bias of answering the questions in a general manner. By answering the
questions based on the work done on the selected projects, the researcher hoped to get good
insight into the process followed by “small projects”.
6.4. DATA COLLECTION
The first phase of data collection involved the collation of the capital expenditure database from
each commodity business. The data bases were provided by commodity business financial
managers in excel format and included capital expenditure of all business units within the
specific SBU or commodity business. The capital expenditures were categorized into SHEQ,
sustaining capital and expansion and ad-hoc capital expenditure (i.e. capital expenditure not
foreseen during the planning phase of capital that should be included in the budget). The first
task was to randomly select projects with capital expenditure of less than R5 million. The
database did not have a record of the approval process that took place at the business units. 100
questionnaires were sent electronically to the responsible people whose name appeared on the
list. The responses were sent back to the researcher by e-mail. The slow pace of responses
prompted follow ups by e-mail, telephone calls and visits. The resistance experienced was the
first indication of how the questionnaire was received. It was generally seen as an audit on
project managers instead of an academic research.
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6.5. ANALYSIS OF RESULTS AND HYPOTHESIS TESTING
A total of 100 questionnaires were originally sent out, and five e-mails were returned as
“undelivered” as the recipients had left the company since 2006 and their e-mail addresses had
been cancelled. Therefore 95 questionnaires were considered sent, but only 21 responses were
received back, representing a response rate of 22%.
The response distribution is illustrated in Figure 6-1 below.
Respondents Profile
0
5
10
15
20
25
30
35
Zincor
Glen D
ougla
s
Ferro
allo
y
KZN Sand
s
Groot
egelu
kNBC
NCC
Leuw
pan
Nu
mb
er o
f q
ues
tio
nn
aire
s
0%
10%
20%
30%
40%
50%
60%
% o
f re
spo
nd
ents
sample Responses Respondents (%)
Figure 6-1: Respondents profile per Business units
A response rate of 22% can be considered a low return and places a limitation on the study, as
the results could not strongly be inferred to hold true for the company. The highest response
came from Grootegeluk with 10 responses, followed by KZN Sands with 5 and Zincor with 3.
These are the biggest business units in Exxaro and it can be expected that there will be a strong
bias toward the big 3.
Responses were collated in an Excel spread sheet. A score of 1 was given for question where
there was an answer. (Tick or cross). Where there was no answer a score of 1 was given to a “no
response”. The total of “yes”, “no”, “not sure” and “no responses” were calculated per question
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and per business unit. All the scores, per question, were added together to determine the
proportions. The scores are not presented per business unit because the aim of the research was
not to determine whether one business unit followed the process better than the other, but rather
to get a sense of the process followed in the whole of Exxaro.
The results of the questionnaires under a specific “Hypothesis” start by presenting the proportion
of 21 projects that obtained approval at a specific stage. This is followed by presenting the
proportion the respondents who followed the specified steps and the proportion of projects
submitted for peer review. The proportion of projects that followed the detailed process is then
computed in order to be used in the hypothesis testing.
The z-test is considered as the appropriate statistical test when the parameter of interest is the
population proportion (Utts and Heckard, 2007:511). The results of the questionnaire are
presented as one sample from Exxaro; the test selected for this research is the “One sample z-
test”.
The aim of this research is to validate the hypotheses proposed in chapter 5, namely that the
majority (more than 50%) of “small projects” do not follow the detailed steps of the capital
budgeting process. The researcher will seek to reject the null hypothesis (H0) in favour of the
hypothesis (Ha) (Utts and Heckard, 2007:503). The null hypotheses and the alternative
hypotheses will be written as follow:
H0: p≥ 50% (indicating that the majority of “small projects” follow the process/steps).
This is a one-sided test and the null hypothesis (Utts and Heckard, 2007:498).
Ha: p<50% (indicating that the majority of “small projects” do not follow the
process/steps).
In order to conduct the z-test, Utts and Heckard (2007:512) suggest that the following two
conditions must be met:
The sample should be a random sample from the population, and
The quantities np0 and n(1- p0) must be greater than 10.
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Both conditions were tested and met with this research. The projects were randomly selected, as
mentioned earlier, and the sample size (n=21) was sufficient to meet the second condition. Utts
and Heckard (2007:512) argue that, testing a null hypothesis that H0: p≥ 50% (p=50%), a sample
size of at least n=20 would be needed to meet the second condition.
The p-value is computed using the statistical function for z-test in excel. Since the answer
provided by the excel function is a two tailed p-value, we divide the value by 2 to obtain the one-
tailed p-value. This value is then compared to the level of significance of 0.05 or 5%, which is
the level of significance conventionally used by most researchers (Utts and Heckard, 2007:503).
The conclusion of the test is then presented depending on the rejection or non rejection of the
null hypothesis.
The second section of results under a specific “hypothesis”, presents the results of the
countercheck questions as well as some comments from respondents. These results are presented
in terms of proportion and no statistical test was conducted on these sets of questions.
The research findings are presented in chapter 7 and the contrast between the conclusions of the
hypotheses testing and the results of the countercheck questions are discussed in chapter 8.
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7. RESEARCH FINDINGS
The findings of this research are presented in five important areas:
The proportion of “small projects” capital expenditure;
Knowledge of Exxaro’s capital management system, the availability and alignment of
BU’s capital budgeting process to Exxaro’s capital management system;
The capital budgeting process followed by “small projects” up to the implementation
phase;
The post investment review; and
The appropriate measure of value for “small capital projects”.
These essential areas address the research questions and hypotheses derived from the research
questions are tested.
The presentation of findings starts with the results of the survey, followed by observations to test
the consistency of the survey results. The conclusions of the hypotheses and sub hypotheses are
then presented based on the results of the z-test.
7.1. PROPORTION OF “SMALL PROJECTS” CAPITAL EXPENDITURE
Hypothesis 1: “Small projects” represent 80% of capital expenditure in Exxaro.
Table 7-1: Results of Proportion of total Small Capital Expenditure
Small Capex(<R5m) 2006
Total Exxaro Capex 2006
Sustaining and environmental R 130,242,434 R 640,000,000
Expansion Coal R 23,162,002 R 235,000,000 Mineral sands R 4,969,416 R 29,000,000 Base metals R 6,497,241 R 8,000,000
Industrial minerals R 6,901,671 R 11,000,000
Total R 171,772,763 R 923,000,000
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The value of the 320 small capital expenditure (less than R 5 million) collected from all BUs
amounted to R171 million, against a total capital expenditure of R 923 million as presented in
the Exxaro 2007 Annual Report. The small Capex therefore represented only 19% of the total
capital expenditure in 2006. A hypothesis testing is not required in this case, because the total
population of “small projects” has been taken into account.
Based on the classification of “small projects” in Exxaro, this group of projects represents the
bulk in terms of the numbers. However this group of projects did not represent 80% of the total
capital expenditure in Exxaro in 2006. The hypothesis is therefore rejected.
7.2. KNOWLEDGE OF CORPORATE CAPITAL MANAGEMENT SYSTEM
Hypothesis 2: Corporate capital management system has not been rolled out effectively
throughout the company.
(H0: Corporate capital management system has been rolled out effectively in the
company)
The researcher considered the testing of the knowledge of the corporate capital management as
an important step before testing the process followed by project managers and chief engineers
when dealing with “small” capital expenditures. The knowledge of the corporate capital
management at business units’ level will be a demonstration of an effective roll out. The
researcher assumed that the capital budgeting process was not adhered to because the corporate
capital management system had not been rolled out effectively.
The results of the survey indicate that, out of 21 respondents, 95% indicated that they had a good
knowledge of Exxaro’s corporate guidelines on the capital management system. 100% of the
respondents confirmed that the business units had formal capital approval processes and 71%
indicated that the business units’ approval processes were aligned to the corporate guidelines. An
average of 80% of the respondents broadly indicated that the project that they worked on went
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through all the phases of capital budgeting, while 71% confirmed that the results of the financial
valuations of the project that they worked on were reviewed and signed off by a financial analyst
at the BU.
Knowledge and Roll out Capital Management system
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Knowledge of ExxaroCorporate Capital
Management processand Project
developmentframework
Formal approvalprocess at yourBusiness Unit
Differencebetween BUand Corporate CapitalManagement process
All the steps of capitalmanagement process
and projectdevelopment phases
followed with theproject
Results of the financialvaluations reviewedand signed off by a
financial analyst at thebusiness unit
Yes No Not sure n=21
Figure 7-1: Results of the knowledge and alignment of the corporate capital management system
The computed one-tailed p-value for this data was 0.486 (or 49%). This is not small considering
a significance level of 0.05 (or 5%). There is therefore not enough evidence to reject the null
hypothesis (H0) and conclude that corporate capital management was not rolled out effectively in
the company.
However, to test the consistency of the result above, a question was asked to determine if
specific recommended financial parameters were used at different stages of the approval process.
The results as illustrated in Figure 7-2 indicates a worrying trend with an increase of “no
responses” of 8, 7 and 5 at the potential study phase, pre-feasibility phase and feasibility phase
respectively.
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use of Corporate financial guidelines
0
5
10
15
20
25
Potential study: Hurdle rate(19.79%) IRR ( >27%)
Pre feasibility: Hurdlerate(17.79%) IRR (>26%)
Feasibility: Hurdlerate(15.79%) IRR(>25%)
project phase
No
of
pro
ject
s
Yes no not sure No response
Figure 7-2: Results of the use of corporate financial parameter
5 respondents out of 21 consistently indicated that they did not use the corporate financial
guidelines.
This inconsistency is the first indication of the bias in the results of this survey. The possible
impact of the bias is discussed under the section on limitations of the research.
7.3. CAPITAL BUDGETING PROCESS FOLLOWED BY SMALL PROJECT IN
EXXARO
Hypothesis 3: The majority “small projects” are normally not subjected to all the
stages of capital budgeting processes
The full capital budgeting process is divided into phases. Each phase has specific guidelines that
must be adhered to before the project is reviewed and approved for the next stage. Therefore, to
test this hypothesis, sub-hypotheses had to deal with each phase separately.
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7.3.1. “Small projects” at potential study phase
Hypothesis 3a: The majority of “small projects” are not subjected to detailed potential
studies.
(H0: The majority of “small projects” are subjected to detailed potential studies).
The results of the survey as presented in Figure 7-3 indicate that 62% of the respondents confirm
that “small projects” were completed and approved at this stage. Although not all the projects
were formally completed and approved for the next phase, 86% of the respondents still clearly
framed the goal of the project at this stage. 67% tested the project for strategic fit, 81% produced
a valuation report at this phase, and 67% planned for the subsequent phase in terms of capital and
value assurance. A total of 71% of the respondents confirmed that the project was subjected to
review before approval.
Potential study phase
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Peer review (Technical, marketing financial etc...) before approval
Step4:Planning for subsequent phases (including capital,resources and value assurance requirements)
step 3Valuation report( including known cases, and identificationof a range of options)
Step2:Test for strategic fit ( alignment with business strategy)
Step1:Clearly framed goal (indicating potential value of theproject/ business case)
Potential study completed and approved
Yes No Not sure No response
Figure 7-3: Results of “small projects” at potential study phase
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The data suggests that on average, 71% of the “small projects” are subjected to a full potential
study.
The computed one-tailed value p-value for this data set was 0.499 (or 49.9%). This is not small
considering the significance level of 5%. Statistically, there is not enough evidence to reject the
null hypothesis and conclude that “small projects” are not subjected detailed potential studies.
When checking the consistency of the responses as presented in Figure 7-3, project managers
were asked questions designed to determine whether they usually conduct detailed potential
studies on “small projects” and whether detailed potential studies were necessary for “small
projects”?
Potential study trends
0%
20%
40%
60%
80%
100%
Usually conduct a detailed potential studyon small projects
Detailed potential study is necessary forsmall projects
Yes No Not sure No response n=21
Figure 7-4: Results of the consistency trends on potential studies responses
The results as illustrated in Figure 7-4 reveal that 48% of respondents usually conduct a detailed
potential study on small projects. An equal proportion of respondents indicated that they do not
usually conduct a detailed potential studies. 62% of the respondents thought that a detailed
potential study was not necessary for “small projects”. These results are not consistent with the
responses presented in Figure 7-3.
The inconsistency is further demonstrated by comments from some of the respondents:
“As per our policy followed a value of 250 000 is set as a cut off line. Other wise it will become an exercise that will cost more to evaluate than what the project is worth.” (Respondent 2008)
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“The level of detail information required for small projects is normally easily accessible and accurate to a feasibility level, referring to cost of project. Also resources does not allow for time spend on “small projects.” (Respondent 2008)
“…maintenance, replacement and, rebuilt of equipment if equipment strategy has been approved, a potential study is not needed” “Potential study should be incorporated with the pre-feasibility without necessarily doing separate studies” (Respondents2008).
These comments indicate that although some parts of the potential study were addressed in other
aspects of the project development, not all steps of the potential study are followed.
7.3.2. “Small projects” at pre-feasibility phase
Hypothesis 3b: The majority of “small projects” are not subjected to detailed pre-
feasibility studies.
(H0: The majority of “small projects” are subjected to detailed pre-feasibility studies).
The results from the 21 respondents indicate that 57% of the projects were approved at this stage.
Considering the focus items of the pre-feasibility phase, 71% of the 21 respondents developed
alternatives and determined the expected value of the project with 70 to 80% accuracy. At this
stage, 62% identified the preferred alternative, refined the business case and planned for the next
phase. The worrying factor is that only 48% of the projects went through an independent peer
review. This result is mainly influenced by 29% of the respondents who chose not to respond to
this question. On average 63% of “small projects” that respondents worked on, adhered to all the
steps prescribed for projects at this level of capital budgeting.
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Pre-feasibility phase
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Enough time spent at this stage of the project
Peer/ independent review before approval
Step5: Updated Planning for subsequent phases (including moreaccurate capital, resources and value assurance requirements)
Step4: Refined Business case
Step3: Identification of preferred alternative
Step2: Determination of expected value with 70-85% accuracy ofestimates
Step1: Generation and preliminary development of alternatives
Pre feasibility study approved for this project?
Yes No Not sure No response
Figure 7-5: Results of “small projects” at pre-feasibility phase Computing the one-tailed p-value for the z-test at a significance level of 5% provided a value of
0.4985 (or 49.8%). The null hypothesis that small project are subjected to detailed pre-feasibility
cannot be reject. There is not enough evidence to reject the null hypothesis (H0) and conclude
that “small projects” are not subjected to detailed pre-feasibility studies.
As with the countercheck questions for potential study, respondents were asked to indicate if
they usually conducted a detailed pre-feasibility study on “small projects” and whether they
considered this phase as necessary. The results presented in Figure 7-6 reveal that 52% of the
respondents do not usually conduct detailed pre-feasibility studies on “small projects”. While
43% thought it was necessary to conduct detailed pre-feasibility studies, 48% did not concur and
10% of the 21 respondents were “not sure”. These results demonstrate a high degree of
inconsistency in the responses on steps followed.
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Pre-feasibility trends
0%
20%
40%
60%
80%
100%
Usually conduct a detailed pre feasibilitystudy on small projects
Detailed pre feasibility study is necessaryfor small projects
Yes No Not sure No response
Figure 7-6: Results of consistency trends on pre-feasibility
The following are two samples of comments by respondents:
“Depending on the nature of the project and impact on business unit it might be required; once again I feel enough information is available in a replacement project to only perform a feasibility study” (Respondent 2008).
“The cost of full potential studies and pre-feasibility makes them not worth for small project (up to 20% of the small project definition); furthermore the difference between estimation at 20% accuracy and 10% accuracy (between pre-feasibility and feasibility) is insignificant for “small projects”.” (Respondent 2008)
Most of the respondents expressed similar views. These comments further emphasize
inconsistencies in the manner the questionnaires were answered and confirm the findings
presented in Figure 7-6; namely, that detailed pre-feasibility studies are usually not conducted on
“small projects”.
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7.3.3. “Small projects” at feasibility phase
Hypothesis 3c: The majority of “small projects” are not subjected to detailed feasibility
studies.
(H0: The majority of “small projects” are subjected to detailed feasibility studies).
The aim of this hypothesis was not to demonstrate that “small projects” do not go through
feasibility studies but rather to verify that all the detailed steps were followed. The funds release
process at Exxaro dictates that proof of approval at feasibility phase must be submitted before
expensing the capital. Since all the selected projects were expensed, it will be safe to conclude
that all selected projects were approved at this stage. The objective of this hypothesis is to assess
whether “small projects” rigorously followed the steps by addressing all the focus items of the
feasibility phase as prescribed in the corporate guidelines.
Feasibilty phase
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Peer/ independent review before final capital approval
Step6: Execution plan with schedule
Step5: finalized Planning for subsequent phases (including finalcapital, resources and value assurance requirements)
Step4: Final business case
Step3 Determination of final expected value with 90% accuracy inestimates
Step2: Final project specification and engineering
Step1: Fully defined scope
Feasibility study approved
Yes No Not sure No response
Figure 7-7: Results of “small projects” at feasibility stage
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Although the feasibility phase is a stage where all projects must be approved, two respondents
either answered that they did not get approval or that they were not sure if the project was
approved. This is confusing considering the fact that no funds are released without proof of
approval at feasibility stage. However these two answers could not be discarded because they did
not consistently answer “no” to all questions.
Although the results presented in Figure 7-7 indicate that 90% of the respondents confirmed
approval of the project at feasibility stage, only 52% indicated that the project went through a
peer review and had fully defined scope. 81% of the respondents had final project specification
and engineering. 95% of the respondents determined the final expected value with 90%
accuracy. The results also indicate that 62% of the respondents finalized planning for the
subsequent phase, and 67% of the respondents indicated the finalization of the execution plan
with a schedule of the project.
The computed one-tailed p-value for this z-test was 0.49925 (or 50%). At a statistical
significance level of 5%, this p-value is not small and therefore the null hypothesis cannot be
rejected. There is not enough evidence to conclude that “small projects” do not go through
detailed feasibility phase.
The fact that only 76% of the respondents finalized the business and 52% fully defined the scope
of the project, while 90% of the projects were approved and all selected projects were expensed,
is a clear sign of some inconsistencies in the way the questionnaires were answered.
To further check for consistency the researcher asked whether a detailed feasibility study was
necessary for “small projects”. 13 out of 21 or 62% respondents indicated that it was necessary.
Table 7-2: Result on the necessity of a detailed feasibility for “small projects” Yes No Not sure No response
Detailed feasibility study is necessary for “small projects” 13 6 1 1
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At feasibility stage it would have been expected to have consistency with all the steps. Although
this was not case, there seemed to be consistency between respondents of the majority of projects
that went through the detailed feasibility phase and the majority of respondents who thought that
detailed feasibility studies are necessary for “small projects”.
7.3.4. “Small projects” at implementation phase
Hypothesis 3d: The majority of “small projects” are not subjected to formal
implementation studies.
(H0: The majority of “small projects” are subjected to formal implementation studies).
The aim of this hypothesis was to confirm whether “small projects” were taken through the
implementation phase in a formal manner and the execution plans were implemented as
proposed in the feasibility phase. The results illustrated in Figure 7-8 indicates that 81% of the
respondents confirmed that the “asset hand over” was conducted formally and was approved.
71% of the respondents confirmed the implementation of the execution plan as proposed in the
feasibility. On the other hand, only 38% of the respondents indicated that a close out review was
conducted after the asset hand over.
The computed p-value for this z-test was 0.498791 (or 49.87%). At a significance level of 0.05
(or 5%) the p-value is large and therefore the null hypothesis cannot be rejected. Statistically,
there is not enough evidence to reject the null hypothesis and conclude that the majority of
“small projects” are not subjected to a formal implementation phase.
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Implementation phase
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Execution plan implementedas proposed in the feasibility
study
Close out review conductedafter the asset handover
Asset hand over formallyconducted and approved
Yes No Not sure No response
Figure 7-8: Results of “small projects” at implementation phase
The results of the sub hypotheses 3a, 3b, 3c, and 3d, indicate that there is insufficient statistical
evidence to suggest that the majority of “small projects” in Exxaro are not subjected to all the
stages of capital budgeting process. Hypothesis 3 can therefore be rejected.
7.4. POST INVESTMENT REVIEW AND “SMALL PROJECTS”
Hypothesis 4: The majority of “small projects” are not subjected to detailed post
investment reviews.
(H0: The majority of “small projects” are subjected to detailed post investment reviews).
The results of the responses are presented in Figure 7-9. As anticipated, the majority of the
respondents did not take “small projects” through post investment reviews. Only 38% of the
respondents indicated that a post investment review was conducted on the project that they
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worked on. 48% indicated that the project was not subjected to a post investment review and
10% indicated that they were not sure.
Small projects and Post investment review
0
2
4
6
8
10
12
Yes No Not sure No response
Nu
mb
er o
f re
spo
nse
s
0%
10%
20%
30%
40%
50%
(%)
6.1 Was a post investment review conducted on this project? (%)
Figure 7-9: Histogram of “small projects” at post investment review
The computed one-tailed p-value for the z-test was 0.4465 (or 44.65%). We can therefore not
reject the null hypothesis. Although there was a trend towards less projects (38%) being
submitted for Post investment reviews, there is not sufficient statistical evidence to conclude that
the majority of “small projects” in Exxaro are not submitted to a detailed Post investment
reviews
As a result of the conclusion reported above, and in the light of those respondents who had
answered “yes”, the researcher decided to investigate further to get insight into the manner in
which the post investment reviews were conducted. Further analyses of the PIR process, the key
performance areas and variance analysis of financial parameters were conducted on the 38% of
respondents who indicated that post investment reviews were done on “small projects” that they
worked on.
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Figure 7-10 indicates that the post investment review identified the factors that positively
influenced the decision to invest in the project in 63% of the cases. The same proportion also
confirmed that PIR revealed a full adherence to the prescribed investment review process.
However, only 25% of this group of respondents confirmed that lessons learned from the phases
of the project development were summarized during the post investment review.
Completed Post investment review
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Post investment reviewrevealed a full adherence to
prescribed investment reviewprocesses
Post Investment Reviewdetermined w hich factorspositively influenced the
decision to invest in the project
lessons learned from eachphase of the project
development captured orsummarized during the psot
investment review
Yes No Not sure No response n=8
Figure 7-10: Result of process followed during PIR
The key performance analysis during PIR should be conducted in the areas of finance,
marketing, and technical performance. Taking into account the number of projects that went
through a performance review, 75% focused mainly on finance and technical performance. Only
13% indicated a focus on marketing performance. (See Figure 7-11). This is understandable
because a small project will less likely impact the BU’s bottom line and the product produced by
the company.
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Key Performance Areas
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Analysis of Technicalperformance
Analyis of marketperformace
Analysis Financialperfomance
Yes No Not sure No response n=8
Figure 7-11: Analysis of key performance areas
A further analysis of 75% of the post investment reviews that focused on the analysis of the
financial performance, revealed that 83% of the post investment analyzed the variance in terms
of start up capital, revenue and, timing. 67% considered the variance of NPV and IRR.
Only 33% considered the variance of the operating costs. (Figure7-12)
Variance analysis of Financial parameters
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Variance analysis of Timing (start up/ commissioning)
Variance analysis of NPV andIRR of the project
Variance analysis of OperatingCost
Variance analysis of Revenue (volume, price, exchange rate)
Variance analysis of Start upcapital
Yes No Not sure No response
Figure 7-12: Results of variance analysis of financial parameters
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7.5. MEASURE OF VALUE FOR “SMALL PROJECTS”
Hypothesis 5: The value of the majority of “small projects” is not measured in terms of
NPV, IRR, EVA and PBP.
(H0: The value of the majority of “small projects” is measured in terms of NPV, IRR,
EVA and PBP).
The assumption in testing this hypothesis is that the primary measures of value for “big projects”
are factors such as NPV, IRR and, PBP. The expectation was that because the NPV or IRR of
“small projects” in most cases have little impact on the business bottom line, the focus of value
should be on value drivers as suggested by Copeland and Ostrowski (1993:55).
Measure of Value for small projects
0
2
4
6
8
10
12
14
16
Yes No Not sure No response
Nu
mb
er o
f re
spo
nse
s
0%
10%
20%
30%
40%
50%
60%
70%
80%
% o
f re
spo
nse
s
NPV, IRR, Pay Back, are necessarily appropriate measures of value for small projects
(%)
Figure 7-13: Results on the measure of value for “small projects”
The results as presented in Figure 7-13 suggest that out of the 21 responses received, 71%
thought that NPV, IRR and, payback period were still the best way of measuring the possible
value to be created by “small projects”.
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The computed one-tailed p-value for this z-test was 0.4993 (or 49.93%). The null hypothesis
cannot be rejected as there is not sufficient statistical evidence to conclude that the value of the
majority of “small projects” is not measured in terms of NPV, IRR, EVA and payback period.
This conclusion is consistent with the comments made by respondents.
“These are basic financial tools to check feasibility and compare projects” (Respondent 2008). “Those measures are not always appropriate because they can not always be measured. They are nevertheless necessary because they at least give an idea on the influence of the project on the bottom line (positive or negative).”(Respondent 2008)
The above comments suggest that respondents were generally aware that value drivers were the
best way of measuring the value of “small projects” but they still preferred to focus on NPV,
IRR, and PBP.
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8. DISCUSSION
8.1. INTERPRETATION OF THE DATA
The suggestion by Copeland (2000:156) that small capital represents up to 80% of capital
expenditure highlights the importance of this group of projects. The first finding of this study
revealed that “small projects” did not represent the bulk of capital expenditure of Exxaro in
2006. This finding should not be construed as reducing the importance of “small projects” in
Exxaro. The finding should be considered in relation to the maturity and size of the company.
Exxaro is a relatively new BEE company that it is still in the growth stage. Mining investments
are usually capital intensive and a company that is busy expanding will have the bulk of its
capital expenditure leaning toward “big projects”. Mature companies on the other hand will most
probably focus on the improvement of their processes and therefore will have the bulk of their
capital expenditure leaning toward “small projects”. The size of the company can also influence
the classification of “big” and “small projects”. The cut-off point of what can be considered as a
“small project” for big companies will be much higher than what is considered as “small project”
for small or medium sized companies. In the global context, Exxaro can be considered as a
medium sized company and therefore its cut-off will be much lower.
The background on the development of Exxaro’s capital management system indicated the
company’s intention to ensure effective management of its capital. This was to be done by
ensuring the spread of the capital management system knowledge company-wide. The second
finding of this research strongly and clearly supports this objective. This finding was crucial as it
effectively negated the possible assumption that the process was not followed because of lack of
knowledge of the company process on capital budgeting.
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The findings associated with hypothesis 3, did not support the researcher’s prediction that the
steps of the company’s capital budgeting process were not followed. Although the conclusion of
the hypothesis testing seemed to suggest that the majority of “small projects” do go through all
the steps of capital budgeting, the results of the consistency check (i.e. countercheck) questions,
as well as the comments provided by respondents, to a large extent weakened these conclusions.
This is due to the contradictions between the two set of answers given. However the conclusions
cannot be nullified even though the contradictions are very strong. This is because statistical tests
were not conducted on the countercheck questions.
The results of the various steps certainly indicate that some “focus items” are covered at different
phases; they are not always addresses at the stage prescribed in the corporate capital management
system. This has probably influenced the respondents in thinking that they followed all the
prescribed steps.
Although there was insufficient statistical evidence to conclude that the majority of “small
projects” were not subjected to post investment reviews, the trend indicated that “small projects”
were not subjected to this important step. The results also indicated that the post investment
review of those projects that went through this process, focused on evaluating aspects that do not
directly show the positive impact of the “small project”. Key areas such as the capturing of the
lessons learned and the focus on operating costs were neglected in the process. The number of
projects that went through this process is so negligible that no inference can be made about the
practice in the company. However the trends still indicate that a need exists for improving the
post investment review for “small projects”.
The finding on the appropriate measure of value for “small projects” was also contradictory.
While most respondents admitted using NPV, IRR, EVA and PBP, to value “small projects”,
they also commented that that these DCF measures were not appropriate for “small projects” as
they could not always be measured, especially if the project is only a small part of a bigger
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process. It can be concluded that the focus on using DCF measures is one born out of habit, and
does not necessarily aim at demonstrating the real value of “small projects”.
8.2. LIMITATIONS AND BIASES OF THE RESEARCH
The intention of this research was to understand the process followed by “small projects” and
thereby contribute to the limited literature on capital budgeting, by first considering the Exxaro
case. However, the research encountered serious constraints that placed serious limitations on the
interpretation of data and consequently on the applicability of the findings in Exxaro. The biases
were anticipated due to the sample distribution between business units, and the possible
perception and interpretation of the survey. It was further influenced by the low response return
rate.
8.2.1. Sample and results biases
The sample and consequently the results were always going to be biased toward the big
operations. The sample distribution is illustrated in Figure 6-1. The “big 3” operations
(Grootegeluk, Zincor, and KZN Sands) handle the bulk of the capital expenditure. The results
were going to be affected on how the “big 3” generally handled “small projects”. Leeuwpan,
being a medium sized operation was allocated slightly more questionnaires than Zincor, to try
and balance the results. Unfortunately out of 15 “small projects” selected from Leeuwpan, only
one respondent completed the questionnaire. The smaller business units that did not respond to
the questionnaire also shifted the biases toward the “big” operations. The low return from KZN
Sands also meant that the results were going to be biased towards Grootegeluk responses. This
was evident from the fact that while most of KZN Sands insisted that they conducted post
investment reviews on all “small projects”, the response from Grootegeluk indicated that, in
general, post investment reviews were not conducted. Consequently, the overall result for this
question was low at 38%.
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8.2.2. Low response rate
Although the researcher expected a high response rate because of the support provided by
financial managers, the return rate was quite low at 22%. Leedy & Ormrod (2005) argue that low
return rate is one of the major drawbacks of using questionnaires. The researcher tried to counter
the risk of low return by making telephone call follow-ups, resending e-mail and conducting sites
visits. The result was ultimately still relatively low. This was mainly due, as anticipated by the
researcher, to the fact that the questionnaires were probably received as an audit on project
managers. The company’s tightening on capital requests certainly fuelled this perception.
The impact of this low return rate is that the p-values were large, thus indicating insufficient
statistical evidence. This is especially illustrated by the fact whilst only 38% of respondents
admitted to subjecting “small projects” to post investment review, the z-test indicated insufficient
statistical evidence to reject the null hypothesis.
8.2.3. Inconsistency of Answers
The inconsistent manner in the way questions were answered could be directly linked to the
perception of being audited. The research anticipated this sort of bias and inserted countercheck
questions for consistency. The results of countercheck questions are presented under hypothesis
2 and, sub hypotheses 3a, 3b, 3c and, illustrated by Figures: 7-2, 7-4, 7-6 and Table 7-2.
As an example, it is less likely for a respondent to reply “yes” to all steps of pre-feasibility when
referring to the particular project and respond “no” when asked if they usually conduct pre-
feasibility on all “small projects”. Comments provided by respondents were also meant to check
the thinking of respondents in certain areas. In general, the comments which were provided
further emphasized the inconsistencies in the data.
The strong inconsistencies at the potential study and pre-feasibility phases are an indication that
the principle of front end loading, which is the practice of taking sufficient time in earlier phase
of the project to properly assess an opportunity, identify value levers, risks, uncertainty, and
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achieve quality deliverable before committing capital expenditure, (Els 2003a), was not being
adhered to in the company.
8.3. AREA OF FURTHER RESEARCH
The treatment of small capital expenditure in the context of capital budgeting is an area that
needs further research. The scope of this study was limited to Exxaro and its business units. This
study used Exxaro as a starting point. However understanding the treatment of “small projects”
in a much wider context could certainly advance learning and improvement of the process in this
area of capital budgeting.
The researcher acknowledges that the biases shown by respondents have seriously limited the
applicability of this study. Therefore a much refined study in the form of case studies, evaluating
specific projects in terms the process followed and post investment review, will significantly
advance learning in this area.
This study did not test the significance of the results of the countercheck questions. Further
studies in this area should consider conducting paired tests, to determine the significance of the
difference between the results of the main questions and the countercheck questions. This would
assist the researcher in making deductions that are more conclusive.
This study focussed on showing that “small projects” do not follow the capital budgeting
processes. It is important to understand that the processes were designed primarily to deal with
“big projects”. Copeland and Ostrowski (1993:55) imply that the scale used to evaluate “big
projects” is wrong for “small projects”. They also insist on a “consistent but less cumbersome”
way of evaluating “small projects” and introduced the concept of “value-based management” to
address this anomaly.
A key area of further research will be to test the applicability of VBM as a form of capital
budgeting process for “small projects”. The ultimate goal is to research and a design a capital
budgeting process that will effectively and consistently evaluate “small projects”.
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9. CONCLUSION
“Small projects” are an important part of any company capital expenditure yet capital budgeting
of “small projects” is an area that is often neglected. The literature reviews and preliminary
interviews have certainly proven the case for this study. Although the literature review
highlighted the process followed by “big projects”, it also offered the principles of capital
budgeting process that “small projects” should adhere to.
The assertion by Copeland (2000:156) that “small projects” can represent up to 80% of capital
expenditure was not observed in the case of Exxaro. The hypothesis was not supported in this
case possibly because the definition of “small project” was probably not clear in the assertion by
Copeland (2000:156). It may be possible that “small” in the Copeland (2000:156) context, could
include “medium” in the Exxaro context.
Exxaro capital budgeting processes and the principles behind them are described in details in
chapter 4. The assessment of the knowledge of the company’s capital budgeting processes at
business units was an important hypothesis to test. Although the findings did not support the
hypothesis, they discounted the possible justification that lack of adherence could be due to lack
of knowledge of the process.
This study has attempted to demonstrate that “small projects” do not follow Exxaro’s capital
budgeting processes by investigating the process followed by this group of projects.
Brink and Marokane (2004:28) have presented some evidence of “small projects” not following
the normal process because they are not considered as risky investments and Copeland
(2000:156) argues that they merely get “rubber stamped”. The findings of this research could not
conclude that “small projects” in Exxaro did not follow the capital budgeting process. However
the findings indicated that some key principles such as front end loading, and independent
reviews were not adhered to.
Although the trends of the results also indicated that “small projects” did not go through the post
investment reviews, there was not enough evidence to accept hypothesis 4. In the few cases
where a post investment reviews were conducted, the analyses focussed on elements that are not
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easily measurable for “small projects”. An effective post investment review is needed to ensure
the capturing of lessons learned and to improve the capital budgeting process of “small projects”.
The findings of this research also rejected the final hypothesis that the value of the majority of
“small projects” is not measured in terms of NPV, IRR, EVA and PBP. It was found that these
measures of value were mainly used out of habit. Most respondents commented that these
measures were not appropriate for “small projects”.
Overall, all the hypotheses of this research were not supported by the findings of the study. The
low return rate, strong biases and inconsistencies in answering the questions have influenced the
outcome of this research. Although the findings did not support the researcher’s initial
predictions, the study should at least provide new focus into “small projects”. Further research on
understanding and improving the capital budgeting process of “small projects” can improve on
the work of this research.
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11. APPENDIX
A. PRELIMINARY INTERVIEWS AND DISCUSSIONS
A.1 Interviewees Details
Name Leon Groenewald
Position Financial manager Exxaro coal
Date
One-on-one interview
Name Frikkie Els
Position Manager Capital Strategy,Exxaro coal
Date
Name Elaine Fouche
Position Optimization Engineer , Exxaro Technology
Date
One on one interview
Name Mellis Walker
Position Financial manager, Exxaro Sand & Base Metal
Date
e-mail discussion
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A.2 Request for Permission
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A.3 e-mail discussion
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B. EXXARO CAPITAL MANAGEMENT MODELS
B.1 Governance during each phase
Phase# #
Plan Do Review
Execute
Business Case Framing / Optimisation
• Business success • Project execution objectives
Project Definition / kick off• Project Charter, scope of work,
project plan• Working procedures &
communication protocols• Work Breakdown Structures (WBS)• Project team structure
• Completeness• Risk areas• Potential future
problems• Guidance• Recommendation
Gate Readiness (Independent
review)
Sponsor, Steercom, PM / team) facilitated by
Optimisation / TechnologyProject team
Optimisation/Technology
Framing / Kick-off
IRC:Technology / Marketing /
Finance
Process Optimisation
Develop project within mandate according to charter to provide
expected deliverables
Ad hoc: technology selection /project status review)
Phase# #
Plan Do Review
Execute
Business Case Framing / Optimisation
• Business success • Project execution objectives
Project Definition / kick off• Project Charter, scope of work,
project plan• Working procedures &
communication protocols• Work Breakdown Structures (WBS)• Project team structure
• Completeness• Risk areas• Potential future
problems• Guidance• Recommendation
Gate Readiness (Independent
review)
Sponsor, Steercom, PM / team) facilitated by
Optimisation / TechnologyProject team
Optimisation/Technology
Framing / Kick-off
IRC:Technology / Marketing /
Finance
Process Optimisation
Develop project within mandate according to charter to provide
expected deliverables
Ad hoc: technology selection /project status review)
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B.2 Project Development Model /Road Map
Phase
Decision Makers
Project Team
Decision Gates (DG)
Decision Maker(s)
PHASE 1POTENTIAL
PHASE 2PRE-FEASIBILITY
PHASE 3FEASIBILITY PHASE 4
IMPLEMENTPHASE 5OPERATE
Project Team
Decision Maker(s)
Project Team
Decision Maker(s)
Project Team
Decision Maker(s)
Project Team
Decision Maker(s)
Asset Team
EXIT, RECYCLE EXIT, RECYCLE EXIT, RECYCLE New Opportunities(to Phase 1)
Opportunity
Focus Items
ValueEnhancing
Project
FocusItems
Documentation
PerformanceAssessment
Deliverable /Recommendation
Timeline
FocusItems
FocusItems
FocusItems
Value Identification Value Realisation
FocusItemsO
ptim
isa
tion
Op
timis
atio
n
Val
ue E
ng
inee
erin
g
DG 1Commit resources
to pre-feasibilitystudy
DG 2Commit resources
to feasibilitystudy
DG 3 bCommit to
implementation
Doc
EvaluationReport
Doc Doc
Pre-feasibilityStudy
Va
lue
En
gin
eeri
ng
DG 4Asset handover
Doc
3 a F/ Study 3 b Value Eng
EXIT, RECYCLE
FocusItems
FeasibilityStudy
Doc
BankableFeasibility
Study
FunctionalAsset(s)
DG 2 aCommit resources
to ValueEngineering
Phase
Decision Makers
Project Team
Decision Gates (DG)
Decision Maker(s)
PHASE 1POTENTIAL
PHASE 2PRE-FEASIBILITY
PHASE 3FEASIBILITY PHASE 4
IMPLEMENTPHASE 5OPERATE
Project Team
Decision Maker(s)
Project Team
Decision Maker(s)
Project Team
Decision Maker(s)
Project Team
Decision Maker(s)
Asset Team
EXIT, RECYCLE EXIT, RECYCLE EXIT, RECYCLE New Opportunities(to Phase 1)
Opportunity
Focus Items
ValueEnhancing
Project
FocusItems
Documentation
PerformanceAssessment
Deliverable /Recommendation
TimelineTimeline
FocusItems
FocusItems
FocusItems
Value Identification Value Realisation
FocusItemsO
ptim
isa
tion
Op
timis
atio
n
Val
ue E
ng
inee
erin
g
DG 1Commit resources
to pre-feasibilitystudy
DG 2Commit resources
to feasibilitystudy
DG 3 bCommit to
implementation
Doc
EvaluationReport
Doc Doc
Pre-feasibilityStudy
Va
lue
En
gin
eeri
ng
DG 4Asset handover
Doc
3 a F/ Study 3 b Value Eng
EXIT, RECYCLE
FocusItems
FeasibilityStudy
Doc
BankableFeasibility
Study
FunctionalAsset(s)
DG 2 aCommit resources
to ValueEngineering
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B.3 Project Development Model /Road Map Guidelines: Objectives, Deliverable and focus item
Focus Items • Clearly frame goal • Test for strategic fit • Preliminary assessment
(eg technical, market, etc) • Determine regulatory
approval required • Plan for Phase 2 • Report on cost and other
performance for current phase
• Other focus items…….
• Generate alternatives • Preliminary development
of alternatives • Calculate expected value • Identify preferred
alternatives • Regulatory approval • Plan for Phase 3 (incl
funding approval and resource requirements)
• Report on cost and other performance for current phase
• Other focus items…….
• Fully define scope • Refine estimates and
assumptions • Calculate final expected
value • Regulatory approval • Develop detailed
implementation plan for phase 4
• Other focus items…….
• Implement execution plan • Finalise operations plan • Business plan for phase 5
Project review • Regulatory approval • Other focus items……
• Operate asset • Monitor and evaluate
performance • Identify new opportunities • Regulatory approval • Other focus items……
PHASE 1
POTENTIAL PHASE 2
PRE-FEASIBILITY PHASE 3
FEASIBILITY PHASE 4
IMPLEMENT PHASE 5
OPERATE Phase
Clearly frame the goal Determine potential value of the opportunity and alignment with business strategy
Objective Generate alternatives Generate and select the preferred project alternative
Fully define scope Finalise scope, cost and schedule and arrange project funding
Implement execution plan Produce an operating asset consistent with scope, cost and schedule
Monitor performance Start-up, operate and evaluate asset to ensure performance specifications and maximum returns to shareholders
• A valuation report including formulation of a reference case, documenting known data and identifying a range of options aligned with business strategy ranked by cost and uncertainty
• Plan for next and subsequent phases including funding, resource requirements and value assurance requirements
• A development plan - definition of a preferred option with 70 – 85% accuracy in estimates
• Preliminary basis of design
• Refined business case • Updated plan for next
and subsequent phases including funding, resource requirements and value assurance requirements
• Final basis of design • Project specification –
completed engineering definition, 85 – 90% accuracy in estimates, implementation plan and schedule
• Final business case • Finalised plan for next
and subsequent phases including funding, resource requirements and value assurance requirements
• Asset completed and ready for handover
• Post investment review • Extract maximum value
from operating the asset
Key
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C. EXXARO POST INVESTMENT REVIEW GUIDE LINES
(Source Exxaro)
The PIR should cover all aspects of the authorisation and will compare actual achievements and performance and future results now expected with those that were projected in the original capital submission (“performance v/s promise”). All key business drivers (technical, marketing and financial) should receive attention.
The PIR report should address the following issues (where appropriate): • An introduction explaining the background to the project and the review methodology • A discussion of significant issues that influenced both the successful and unsuccessful
aspects of the project. In the original capital motivation the key drivers that will be monitored and tracked for purposes of the PIR, should be listed (as addendum).
• A discussion of the direct causes of the issues identified with recommendations for future investments
• Adherence to the prescribed investment review process • A discussion, if warranted, of the root or system causes which positively or
negatively influenced the investment decision-making process. • A discussion of “performance v/s promise” in terms of technical, marketing and
financial parameters • A financial analysis comparing the value delivered by the project and that forecast in
the approved submission (in terms of financial results and other measures of success)
The financial analysis should include a variance analysis between the original capital authorisation and the review. The variance analysis should be appropriately segmented, eg:
- Start-up Capital - Revenue (volumes, prices and exchange rates) - Operating Costs - NPV and IRR of the project as specified in the capital authorisation. - Timing and “Other” as appropriate for each project - Include information regarding the major differences. - Other appropriate information
• Lessons learned and best practices are deliverables from each phase of the project
development model and should also be captured during the PIR
Specific learning points should be highlighted, eg
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• What was meant to have happened • What actually did happen • What worked well • What did not work well • What would we do differently next time? • etc
These learning points should be captured in a database for review and use at initiation meetings of new projects
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D. RESEARCH QUESTIONNAIRE
University Of Cape Town, Graduate School of Business MBA Research Questionnaire
By Mapi Mobwano Thank you for taking time to complete this questionnaire. Filling this questionnaire will not take more than 10 minutes of your time. The aim of this questionnaire is to understand and possibly improve the capital budgeting as well as the approval process followed by “Small Projects” in Exxaro. In the context of this study Small Project is defined as any project requiring a capital of less than R 5 million and not requiring the approval of the commodity Executive General Manager (EGM). Small project are therefore projects that can be approved by the Business Unit Manager. The questionnaire should be answered in relation to the specific project that you worked on as indicated on the e-mail. The project was selected randomly from the projects undertaken by each business units during 2006 and 2007. This is an anonymous survey and, the names of the project managers, nor the specific project will not be reflected in the final report. This is research is mainly for academic purposes. However the results will be shared in the company in order to improve the capital budgeting processes relating to small projects 1. Introduction 1.1 Are you familiar with the Exxaro Corporate Capital Management process and Project development framework?
Yes No Not sure 1.2 Is there a formal approval process at your Business Unit?
Yes No Not sure 1.3 If yes please describe briefly: ________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________
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1.4 Does the Business unit capital approval process differ from the Corporate Capital Management process?
Yes No Not sure If yes please describe how: ________________________________________________________________________________________________________________________________________________________________________________________________________________________ 1.5 Were all the steps of capital management process and project development phases (as listed in the table below) followed with this particular project?
(Please tick where appropriate) Yes No Not Sure Potential study Pre feasibility Feasibility Implementation Operation
1.6 Were the results of the financial valuations reviewed and signed off by a financial analyst at the business unit?
Yes No Not sure 1.7 Were the following corporate guidelines (in terms financial parameters) used at the different stages of project development?
(Please tick where appropriate)
Hurdle rate ( nominal)
IRR ()
Potential study 19.79% >27% Pre feasibility 17.79% >26% Feasibility 15.79% >25% Implementation Operation
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2. Potential study 2.1 Was a potential study completed and approved for this project?
Yes No Not sure 2.2. Were the following aspects covered in the potential study?
(Tick where appropriate) Yes No Not
sure Clearly framed goal (indicating potential value of the project/ business case)
Test for strategic fit ( alignment with business strategy) Valuation report( including known cases, and identification of a range of options)
Planning for subsequent phases (including capital, resources and value assurance requirements)
2.3 Was the potential study subjected to a peer review (Technical, marketing financial etc...) before approval?
Yes No Not sure 2.4 If a full potential study was not conducted, please indicate the reasons: ________________________________________________________________________________________________________________________________________________ 2.5 Do you usually conduct a detailed potential study on small projects?
Yes No Not sure ________________________________________________________________________ 2.6 Do you think a detailed potential study is necessary for small projects?
Yes No Not sure If no please describe why:
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________________________________________________________________________________________________________________________________________________ 2.7 What will be the best way of evaluating small project at potential study stage? (Please comment) ________________________________________________________________________________________________________________________________________________ 3. Pre Feasibility 3.1 Was the pre feasibility study approved for this project?
Yes No Not sure 3.2 Were the following aspects covered in the Pre feasibility study?
(Tick where appropriate) Generation and preliminary development of alternatives Determination of expected value with 70-85% accuracy of estimates Identification of preferred alternative Refined Business case Updated Planning for subsequent phases (including more accurate capital, resources and value assurance requirements)
3.3 Was the pre feasibility study subjected to a peer/ independent review before approval? 3.4. Was enough time spent at this stage of the project?
Yes No Not sure 3.5 Do you usually conduct a detailed pre feasibility study on small projects?
Yes No Not sure ________________________________________________________________________ 3.6. Do you think a detailed pre feasibility study is necessary for small projects?
Yes No Not sure If no please describe why:
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________________________________________________________________________________________________________________________________________________ 3.7 What will be the best way of evaluating small project at pre feasibility stage? (Please comment) ________________________________________________________________________________________________________________________________________________ 4. Feasibility 4.1 Was the feasibility study approved for this project?
Yes No Not sure 4.2. Were the following aspects covered in the potential study?
(Please tick where appropriate) Fully defined scope Yes No Not sure Final project specification and engineering Determination of final expected value with 90% accuracy in estimates
Final business case finalized Planning for subsequent phases (including final capital, resources and value assurance requirements)
Execution plan with schedule 4.3 Was the feasibility study subjected to a peer/ independent review before final capital approval? 4.4. Do you think a detailed feasibility study is necessary for small projects?
Yes No Not sure If no please describe why: ________________________________________________________________________________________________________________________________________________
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4.5 What will be the best way of evaluating small project at feasibility stage? (Please comment) ________________________________________________________________________________________________________________________________________________ 5. Implementation 5.1 Was the asset hand over formally conducted and approved?
Yes No not sure 5.2 Was close out review conducted after the asset handover?
Yes No Not sure 5.3 Was the execution plan implemented as proposed in the feasibility study?
Yes No Not sure
5.4 What is the best way of handling the implementation phase of small projects? ________________________________________________________________________________________________________________________________________________________________________________________________________________________
6. Post Investment Review 6.1 Was a Post investment review conducted on this project?
Yes No Not sure (If no move to question 6.9, if yes proceed with the next question) 6.2 Did the Post investment review reveal a full adherence to prescribed investment review processes?
Yes No Not sure
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6.3 Did Post investment review determine which factors positively influenced the decision to invest in this project?
Yes No Not sure If yes please list at least two of these factors ________________________________________________________________________________________________________________________________________________ 6.4 Was an analysis of “actual performance Vs promised” conducted in these areas? (Please tick where appropriate)
Parameter () Technical marketing Financial
6.5 Did the financial analysis cover a variance analysis of the following parameter? (Please tick where appropriate)
() Start up capital Revenue ( volume, price, exchange rate) Operating Cost NPV and IRR of the project Timing ( start up/ commissioning)
6.6 Were lessons learned from each phase of the project development captured or summarized during the Post investment review? Yes No Not sure
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6.7 Was the forecasted “overall project value” (in term of financials and other measures of success) delivered during implementation?
Yes No Not sure 6.8 How did the actual value compare with the forecasted value as approved in the submission of the feasibility study?
() Greater Equal Smaller
Can you offer an explanation for the difference? ________________________________________________________________________________________________________________________________________________ 6.9 If the Post investment review was not conducted, how was the project value been assessed after implementation? (Please describe) ________________________________________________________________________________________________________________________________________________ 6.10. Do you think a detailed feasibility study is necessary for small projects?
Yes No Not sure 6.11 What will you suggest as the best way of conducting Post investment review for small projects? ________________________________________________________________________________________________________________________________________________
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7. General 7.1 To your knowledge, is there a data base where lessons learned from Post investment reviews can be captured for reviews and use at initiation of new projects? Yes No Not sure 7.2 Do you think that financial measures such as NPV, IRR, Pay Back, necessarily appropriate measures of value for small projects?
Yes No Not sure If yes please comment: ________________________________________________________________________________________________________________________________________________ If No, please indicate what other measures (key performance indicators) should be used to assess small projects: ________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________ 7.3 Should small Projects (less than R 5 million) strictly follow the following process? 7.4 When should small projects ignore some of the steps of capital budgeting as listed above? ________________________________________________________________________________________________________________________________________________
Yes No Not Sure Potential study Pre feasibility Feasibility Implementation Operation
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7.5 Please comment on what you consider as best capital budgeting process for small projects. ( projects of less than R 5 million)
________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________
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E. DETAILED RESULTS
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Results
yes No Not sure Total
1.1 Are you familiar with the Exxaro Corporate Capital Management process and Project developme 20 1 0 21
1.2 Is there a formal approval process at your Business Unit? 21 0 0 21
1.4 Does the Business unit capital approval process differ from the Corporate Capital Management pr 3 15 3 21
1.5 Were all the steps of capital management process and project development phases (as listed in the table below) followed with this particular project?
Yes No Not SurePotential study 14 7 0 21
Pre feasibility 13 8 0 21
Feasibility 18 3 0 21
Implementation 19 1 1 21
Operation 20 0 1 21
1.6 Were the results of the financial valuations reviewed and signed off by a financial analyst at the bu 15 5 1 21
1.7 Were the following corporate guidelines (in terms financial parameters) used at the different stages of project development?(Please tick where appropriate)
Hurdle rate ( nominal)
IRR yesno not sure
Potential study 19.79% >27% 7 5 1 13
Pre feasibility 17.79% >26% 8 5 1 14
Feasibility 15.79% >25% 10 5 1 16
Implementation 0
Operation 0
2. Potential study
2.1 Was a potential study completed and approved for this project? 13 4 2 19
2.2. Were the following aspects covered in the potential study?Yes No Not sure 0
Clearly framed goal (indicating potential value of the project/ business case) 18 2 1 21
Test for strategic fit ( alignment with business strategy) 14 4 3 21
Valuation report( including known cases, and identification of a range of options) 17 4 0 21
Planning for subsequent phases (including capital, resources and value assurance requirements) 14 5 2 21
2.3 Was the potential study subjected to a peer review (Technical, marketing financial etc...) before ap 15 5 1 21
2.4 If a full potential study was not conducted, please indicate the reasons:
2.5 Do you usually conduct a detailed potential study on small projects? 10 10 0 20
2.6 Do you think a detailed potential study is necessary for small projects? 7 13 0 20
If no please describe why:
2.7 What will be the best way of evaluating small project at potential study stage? (Please comment)
3. Pre Feasibility
3.1 Was the pre feasibility study approved for this project? 12 9 0 21
3.2 Were the following aspects covered in the Pre feasibility study?Generation and preliminary development of alternatives 15 5 0 20
Determination of expected value with 70-85% accuracy of estimates 15 5 0 20
Identification of preferred alternative 13 5 0 18
Refined Business case 13 5 0 18
Updated Planning for subsequent phases (including more accurate capital, resources and value assurance requirements)
13 5 018
3.3 Was the pre feasibility study subjected to a peer/ independent review before approval? 10 5 0 15
3.4. Was enough time spent at this stage of the project? 14 6 1 21
3.5 Do you usually conduct a detailed pre feasibility study on small projects? 10 11 0 21
3.6. Do you think a detailed pre feasibility study is necessary for small projects? 9 10 2 21
If no please describe why:
3.7 What will be the best way of evaluating small project at pre feasibility stage? (Please comment)
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4. Feasibility
4.1 Was the feasibility study approved for this project? 19 1 1 21
4.2. Were the following aspects covered in the potential study? Yes No Not sureFully defined scope 11 6 0 0
Final project specification and engineering 17 3 0 20
Determination of final expected value with 90% accuracy in estimates 20 0 0 20
Final business case 16 2 2 20
finalized Planning for subsequent phases (including final capital, resources and value assurance 13 4 1 18
Execution plan with schedule 14 4 1 19
4.3 Was the feasibility study subjected to a peer/ independent review before final capital approval? 11 2 0 13
4.4. Do you think a detailed feasibility study is necessary for small projects? 13 6 1 20
If no please describe why:4.5 What will be the best way of evaluating small project at feasibility stage? (Please comment)
5. Implementation
5.1 Was the asset hand over formally conducted and approved? 17 1 2 20
5.2 Was close out review conducted after the asset handover? 8 10 2 20
5.3 Was the execution plan implemented as proposed in the feasibility study? 15 5 0 20
5.4 What is the best way of handling the implementation phase of small projects?
6. Post investment review
6.1 Was a post investment review conducted on this project? 8 10 2 20
(If no move to question 6.9, if yes proceed with the next question)6.2 Did the post investment review reveal a full adherence to prescribed investment review processes 6 3 1 10
6.3 Did Post Investment Review determine which factors positively influenced the decision to invest 6 2 2 10
If yes please list at least two of these factors
6.4 Was an analysis of “actual performance Vs promised” conducted in these areas? 2 1 1 4
(Please tick where appropriate)
Parameter ()Technical 8 1 1 10
marketing 1 3 1 5
Financial 8 1 1 10
6.5 Did the financial analysis cover a variance analysis of the following parameter?(Please tick where appropriate)
()Start up capital 8 0 1 9
Revenue ( volume, price, exchange rate) 9 1 0 10
Operating Cost 5 2 1 8
NPV and IRR of the project 5 3 1 9
Timing ( start up/ commissioning) 8 1 0 9
6.6 Were lessons learned from each phase of the project development captured or summarized during the Post investment Review? 2 2 0 4
6.7 Was the forecasted “overall project value” (in term of financials and other measures of success) delivered during implementation? 2 2 0 4
6.8 How did the actual value compare with the forecasted value as approved in the submission of the feasibility study? ()
Greater 2 5 0 7
Equal 6 1 0 7
Smaller 0 6 0 6
Can you offer an explanation for the difference?
6.9 If the Post Investment review was not conducted, how was the project value been assessed after implementation? (Please describe)
6.10. Do you think a detailed Post investment review is necessary for small projects? 9 8 1 18
6.11 What will you suggest as the best way of conducting post investment review for small projects?
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7. General
7.1 To your knowledge, is there a data base where lessons learned from post investment reviews can be captured for reviews and use at initiation of new projects? 5 12 3 20
7.2 Do you think that financial measures such as NPV, IRR, Pay Back, necessarily appropriate measures of value for small projects? 15 2 2 19
If yes please comment:
If No, please indicate what other measures (key performance indicators) should be used to assess small projects:
7.3 Should small Projects (less than R 5 milllion) strictly follow the following process?Yes No Not Sure
Potential study 11 7 2 20
Pre feasibility 10 7 2 19
Feasibility 18 0 2 20
Implementation 18 0 2 20
Operation 18 1 1 20
7.4 When should small projects ignore some of the steps of capital budgeting as listed above? 0
7.5 Please comment on what you consider as best capital budgeting process for small projects. ( projects of less than R 5 million) 0
Results per Business unit
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Zincor Glen D KZN sands Grootegeluk NBC LeuwpanTotal yes No Not sure yes No Not sure yes No Not sure yes No Not s yes No Not sureyes No Not sure
21 3 1 4 1 10 1 1
21 3 1 5 10 1 1
21 3 1 1 2 2 1 8 1 1 1
1
21 3 1 3 2 6 4 1 1
21 3 1 3 2 5 5 1 1
21 3 1 4 1 8 2 1 1
21 2 1 1 4 1 10 1 1
21 2 1 1 5 10 1 1
21 3 1 2 3 8 1 1 1 1
13 2 1 1 1 1 3 3 1
14 3 1 1 4 3 1 1
16 3 1 1 1 5 3 1 1
0 1 1 1
0 1 1
19 2 1 3 1 1 7 2 1 1
1
0
21 3 1 5 7 2 1 1 1
21 3 1 2 1 2 8 2 1 1
21 3 1 5 8 2 1 1
21 3 1 4 1 6 3 1 1 1
21 3 1 5 6 3 1 1 1
20 2 1 1 3 2 4 5 1 1
20 1 2 1 1 4 4 5 1 1
21 3 1 3 2 5 5 1 1
1
20 3 1 4 6 4 1 1
20 3 1 4 6 4 1 1
18 3 1 3 5 4 1 1
18 3 1 3 5 4 1 1
18 3 1 4 5 4 1
15 3 1 3 2 4 1 1
21 3 1 3 2 6 4 1 1
21 3 1 1 4 5 5 1 1
21 3 1 2 3 3 5 2 1 1
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21 3 1 4 1 9 1 1 1
0 3 1 1 7 3 1 1
20 3 1 3 1 10 1 1
20 3 1 4 10 1 1
20 3 1 1 1 2 9 1 1 1
18 3 1 2 1 7 2 1 1
19 3 1 3 1 7 2 1 1
13 3 1 1 5 2 1
20 3 3 2 5 4 1 1 1
20 3 1 5 6 1 2 1 1
20 2 1 1 3 2 2 5 2 1 1
20 3 1 4 1 6 3 1 1
20 1 1 1 1 5 1 8 1 1
1
10 1 1 1 1 4 1 1
10 1 1 1 1 3 1 1 1
4 1 1 1 1
1
10 1 1 1 1 5 1
5 1 1 1 1 1
10 1 1 1 1 5 1
9 2 1 1 4 1
10 2 1 1 5 1
8 2 1 1 3 1
9 2 1 1 4 1
9 2 1 1 4 1
1 4 1
4 1 2 1
1 5
4 1 2 1
7 1 1 4 1
7 1 1 1 4
6 2 4
18 1 1 1 3 1 3 5 1 1 1
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20 2 1 1 3 2 8 1 1 1
19 3 1 5 5 2 2 1
1
20 2 1 1 4 1 4 4 1 1 1
19 3 1 3 1 2 5 2 1 1
20 3 1 5 7 2 1 1
20 3 1 5 7 2 1 1
20 3 1 5 7 1 1 1 1
0
0