Projects

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Contents

1. Introduction1

2. Acknowledgements7

PART I: Identifying

3. Project Proposal4. Strategy & Capital Allocation5. Screening of Project Ideas

PART II: ANALYSIS

6. Market Analysis & Demand Analysis7. Technical Analysis8. Financial Estimates & Projections

PART III: Selection

9. Investment Criteria

PART IV: Risk Analysis

10. Project Risk11. Firm Risk12. Market Risk

PART V: Financing

13. Notes & References

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Introduction

This section is HEADED Introduction rather than Preface in the hope of decoying habitual skippers into reading for their own comfort.

Before getting into detail discussion of the Capital budgeting & other section a brief introduction about telecommunications sector.

Normally any Financial Research report first contains the Company Profile & then the Industry Profile to facilitate the reader. I have changed the order because it is hard to define Tejas Networks without knowing the Industry.

“Communication has joined food, clothing, housing & transportation as a basic human right.”

Telecommunication is the transmission of signals over a distance for the purpose of communication.

Based on the above definition & as per my understanding of the above definition I have classified the telecom sector into the following categories:

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Telecommunications

Fixed Mobile Telecom Products

Telecom Service Providers/Operators

TelecomEquipments (1)

TelecomCables (2)

Telecom/Networking Infrastructure (3)

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Basic ServicesBSNL & MTNL

Cellular MobileHutch,Airtel

ISPDishnetDSL

Intl. Long DistancesRIL, VSNL

National Long DistancesRailtel

PMRTSArya Offshore

Unified Access ServiceShyam,TTML

VSATServicesBharati televentures

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Telephone InstrumentsCanara Communication Systems

Mobile handsetManufacturesEricsson India

Telecom AccessoriesGupta Telecom

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Twisted PairCable

Co-AxialCable

Fiber OpticSudarshan Telecom

After going through the above classification of Telecom Sector, I give a try to understand Tejas Network.

Basically Tejas is Telecom Infrastructure1 Company whose domain is Optical Infrastructure.

Tejas develops state-of-the-art products that bring the power of intelligent optical networking to optical access.

Before getting into detail discussion of Capital Budgeting, a few words on this Project. The aim of this Project is to “improve my own understanding” on the subject of CAPITAL BUDGETING.This Project should be seen as an “academic project “not as a Professional report.

Capital budgeting also referred to as Capital Investment or Capital project or just project or project valuation.

1 DEFINITION: Organizations, personnel, procedures, facilities and networks employed to transmit and receive information by electrical or electronic means

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Broadband InfrastructureCMTS, Digital Loop Carrier, DSL, CPE, DSLAMs, IMS, IP Services Platform, IPTV(Alcatel-Lucent, Cisco)

Carrier InfrastructureCarrier Core Switch/Routing, Carrier Edge Switch/Routing, Carrier Ethernet, Carrier Ethernet Access & Aggregation Routers, IMS, Mobile Backhaul for Radio Access Networks.(Cisco, ECI, Force 10, Tejas)

Carrier IP Telephony

Application Servers, Hosted Multimedia Application Servers, Switching & Signalling, Class5 Alternatives, IMS, Transport & End-Points, Media Gateways, Session Border Controllers.(Nokia-Siemens)

Optical Infrastructure

Metro Access Systems, Metro Core ROADM, Metro Edge-SDH, Metro Edge-SONET, Mobile Backhaul for Radio Access Networks, Optical Switching Systems, PON systems, WAN DWDM systems.(Huawei, Nortel, ECI, Tejas)

Wireless Infrastructure

CDMA 2000 Network, GSM/UTS Network, IMS, Metroscale, Wi-Fi Infrastructure, Imax Infrastructure.(Cisco, Huawei, Juniper Networks,Nortel)

Organization of the Project

Organized in terms of the broad phases of capital budgeting, this project is divided into five parts:

Part 1: Identifying consists of Topic 3 to 5; Part 1 covers the planning phase of capital budgeting. Topic3 consists of project proposal. Topic 4 discusses the key concepts, models & considerations that are helpful in articulating the capital allocation strategy for this project. Topic 5 looks at the ways of screening the project proposal.

Part 2: Analysis topic 6 to 8. Topic 6 basically focuses on gathering & analyzing the basic information about the project. It discusses the key steps involved in market & demand analysis. Topic 7 dwells on the various facets of Technical analysis. Topic 8 explains how financial estimates & projections relating to a project are developed.

Part 3: Selection focuses extensively the various investment criteria.

Part 4: Risk analysis expounds the techniques for measuring & evaluating the risk of the project. Topic 10 deals with project risk. Topic 11 deals with firm risk & Topic 12 on market risk.

Part 5: Financing discusses how projects may be financed.

I look forward to receiving suggestions from the readers for further improving my knowledge.

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A brief introduction on Capital budgeting:

Capital budgeting is the process of Identifying, analysis & selecting investment projects whose return are expected beyond one year.

Capital budgeting is important to the management due to the following reasons:

Their long-term consequences, significantly impact the company’s future activities

Capital expenditure decisions often involve substantial cash outlays

Decisions once taken become difficult to reverse

Capital budgeting process

The entire capital budgeting process can be divided into the following steps:

1. Identification

The process of capital budgeting begins with identifying potential investment opportunities.

2. Analysis

The focus of this process of capital budgeting is on gathering, preparing, & summarizing relevant information about various project proposal which are begin considered for inclusion in the capital budget.

3. Selection

The focus of this process is judge the worthwhile ness of a project. They are divided into two broad categories viz. non-discounting criteria & the discounting criteria. The details of this process will be discussed later.Since the selection process considers the worthwhile ness of the project we are supposed to consider the risk factors that are associated with the project.The details of the risk analysis are considered in the later sections.

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PART 1

PLANNING

Nobody can really guarantee the future. The best we can do is to size up the chances, calculate the risks involved, estimate our ability to deal with

them and make our plans with confidence. – HENRY FORD II

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1Project Proposal

Needs of Customers through ISP2 are:

High Speed Internet access. A combination of application delivering Voice, Video and data

through Internet. High Bandwidth at low cost. Flexibility for future services & availability regardless of location.

Solution: Ethernet3 over SDH/SONET.

Advantages of Using Ethernet:

It’s flexible, easy to manage & operate. It is capable of handling up to 10Gbs4 with excellent reach via

Optical networks. It’s is the lowest cost network technology on the Market. It provides efficient Ethernet transport with excellent OAM

(Operations, Administration & Maintenance) features. It uses Bandwidth in an efficient manner.

2 ISP means Internet Service Provider.3 Ethernet is a packet based transmission protocol that is primarily used in LANs. Ethernet is the common name for the IEEE 802.3 industry specification and it is often characterized by its data transmission rate and type of transmission medium (e.g., twisted pair is T and fiber is F).4 Gigabits per second.

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2 Strategy & Capital Allocation.

If you look at any organization, which are successful, or failure today is mainly the result of capital allocation decisions made in the past.

Capital is scarce and must be allocated across competing claims very judiciously.

Capital Budgeting may be viewed as a two-stage process. In the first stage, promising growth opportunities are identified through the use of strategic planning techniques and in the second stage; individual investment proposals are analyzed and evaluated in detail to determine there worth.

This topic discusses strategic planning techniques & approaches aimed at promising growth opportunities.

Caution: The strategy discussed here are about the project proposal mentioned in the Topic 1 & it should not be confused or compared with the Company’s strategy.

A strategy is a long term plan of action designed to achieve a particular goal, most often "winning".

To formulate any effective strategy, it's essential to understand two basic questions:What are we doing and what are your competitors doing?

Before answering the second question, let’s discuss about the first question.

Strategy involves matching a firm’s ‘Strengths’ and ‘Weakness’ (Internal-Analysis)-its distinctive competencies- with the ‘opportunities’ and ‘threats’ present in the external environment. Fig 1 shows schematically how strategies are formulated based on the concept.

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Fig 1. Formulation of Strategy

Based on the above analysis of Internal & External environment, we will use SWOT Analysis & TOWS matrix.

SWOT is an acronym for Strength, Weakness, Opportunities & Threats. SWOT Analysis is a powerful technique for understanding our Strengths and Weaknesses, and for looking at the Opportunities and Threats we face.

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External Environmental Analysis

1. Customers: They can bargain for price cut, ask for superior quality & better service.A classic example is BSNL; it wants

prices lower than China, quality of Japan & the most up-to-date technology with the

broadest functionality of U.S.A

2. Competitors: They inflate cost, push prices down & reduce profits.

3. Suppliers: They can rise prices, lower quality & curtail the range of free offers they provide.

4. Regulation: TRAI rules & regulations &IEEE standards.

5. Infrastructure: Has the state of art R&D labs.

6. Political Environment: As far as Political environment is conducive in doing the business.

Internal Environmental Analysis

1. Technical Know-How: A team of highly motivated individuals equipped with latest technology developments.

2. Marketing & Distribution

Capacity: A team of highly motivated individuals.

3. Logistics: No Issues

4. Financial Resource: Always spends 10% of Sales revenue on R&D projects.

5. Resource: Highly skilled employees.

TOWS Analysis is a variant of the classic business tool, SWOT Analysis. TOWS and SWOT are acronyms for different arrangements of the words Strengths, Weaknesses, Opportunities and Threats.By analyzing the external environment (threats and opportunities), and your internal environment (weaknesses and strengths), you can use these techniques to think about the strategy of your whole organization, a department or a team.

At a practical level, the only difference between TOWS and SWOT is that TOWS emphasizes the external environment whilst SWOT emphasizes the internal environment.Note: The word “Weakness” has been changed to “Areas of Improvement”

External Opportunities

(O)1.Demand Variability2. Political Environment.3. Entry barriers.

External Threat(T)

1.Customers2. Compitetors.3. Suppliers.4. Regulation.5.Price6.Substitutes

Internal Strength

(S)1.Technical Know-How2. Financial Resource.3. Resources.4. Marketing & Sales Distribution.5.Infrastrucure

SO “Maxi-Maxi” Strategy

1. Product Differentiation & low cost.2. Create & capture new demand.3. Enter into new developing markets.

ST”Maxi-Mini” Strategy

1. Long-term relationship with suppliers.2. Difficult for competitors to imitate.3. Building a product image.

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Internal Environment

External Environment

Areas of Improvement

(I)1.

IO “Mini-Maxi” strategy

IT “Mini-Mini” strategy

Portfolio Strategy

The business portfolio is the collection of businesses and products that make up the company. The best business portfolio is one that fits the company's strengths and helps exploit the most attractive opportunities.

The aim of a portfolio is:1. Analyze its current business portfolio & decide which SBU’s

should receive more or less investment, and2. Develop growth strategies for adding new products & business to

the portfolio.3. Decide which businesses or product should no longer be

retained.

Mc Kinsey Matrix

McKinsey Matrix has two dimensions, viz, competitive position & industry attractiveness. The criteria or factors used for judging industry attractiveness and competitive position along with suggested weights for them are as follows:

Industry Attractiveness Competitive positionCriteria Weight

Key Success Factors Weight

Industry Size 0.10 Market share 0.15

Industry Growth 0.30 Technological Know-How 0.25

Industry Profitability 0.20 Product Quality 0.15

Capital Intensity 0.05 After-Sales Service 0.20

Technological Stability 0.10 Price Competitveness 0.05

Competitive Intensity 0.20 Low Operating Costs

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0.10Cyclicality 0.05 Productivity

0.10

Applying the above McKinsey Matrix criteria to Tejas Networks:

Strategic Planning & Capital Budgeting

Capital expenditures particularly the major ones are supposed to sub serve the strategy of the Firm. Hence relationship between strategic planning & capital budgeting should be properly recognized. Exhibit 1 presents a way of defining this relationship. As emphasized in this

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Industry Attractiveness

Criteria Weight Rating Weighted Score

Industry Size 0.10 4 0.40Industry Growth 0.30 4 1.20Industry Profitability 0.20 4 0.80Capital Intensity 0.05 4 0.20Technological Stability 0.10 3 0.30Competitive Intensity 0.20 3 0.60Cyclicality 0.05 3 0.15

3.65

Competitive Position

Key Success Factors Weight Rating Weight Score

Market Share 0.15 3 0.45Technological Know-How 0.25 5 1.25Product Quality 0.15 4 0.60After-Sales Service 0.20 3 0.60Price Competitiveness 0.05 4 0.20Low Operating costs 0.10 4 0.40Productivity 0.10 5 0.50

4.00

exhibit Capital budgeting should be squarely related to corporate strategy.

Exhibit1

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Strategy Plan

Capital BudgetingProduct StrategyMarket StrategyProduction StrategyAnd so on

EnvironmentalAssessment

Managerial vision,Values

CorporateAppraisal

This part of the concept is drawn from the book Strategic Management-A Methodological Approach by A.J.Rowe

STRATEGIC POSITION AND ACTION EVALUATION (SPACE)SPACE is an approach to hammer out an appropriate strategic posture for a firm and its individual businesses. An extension of the two-dimensional portfolio analysis, SPACE involves a consideration of four dimensions:

Company’s competitive advantage Company’s financial strength Industry strength Environmental stability

Strategic Postures

The basic strategic postures associated with the SPACE approach are as follows:

Aggressive Posture This is appropriate for a company which Enjoys a competitive advantage and considerable financial

strength and Belongs to an attractive industry that operates in a stable

environment.

Competitive Posture This is suitable for a company which Enjoys a competitive advantage but has limited financial

strength, and Belongs to an attractive industry operating in a relatively

unstable Environment.

Conservative Posture This is appropriate for a company which Enjoys financial strength but has limited competitive advantage,

and

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Belongs to a not-so-attractive industry operating in a relatively stable environment.

Defensive Posture This is suitable for a company which Lacks competitive advantage as well as financial strength,

and Belongs to not-so-attractive industry operating in an unstable

environment.

Applying the SPACE concept to Tejas Networks

Tejas Networks falls under Competitive posture. The key planks of the competitive posture are as follows:

Maintain and enhance competitive advantage by product improvement and differentiation

Widen the product line Improve marketing effectiveness and Augment financial resources.

There is a commonality between competitive posture described here and the generic strategy of product differentiation suggested by Michael Porter.

The generic strategy of Porter and the key options associated with SPACE are shown below for Competitive posture.

Financial Strength

Competitive Industry Strength Strength

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CompetitiveDIFFERENTIATION

Environmental Strength

3Screening of Project Ideas

The search for promising projects ideas is the first step towards establishing a successful venture. As the tradition adage goes the key to success lies in “getting into right business at the right time”. While this advice is simple, its accomplishment is difficult because good business opportunities tend to be elusive. Identification of such

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opportunities requires imagination, sensitivity to the environmental changes and realistic assessment of what the firm can do.

Identification is often the outcome of a triggering process rather than an analytical exercise. While the notion of identification is simple, it is difficult to develop methods or procedures for accomplishing it, as there is no well-defined theory to guide this task. And as Gordon & Pinches observed:” These difficulties more severe as one move up the hierarchy of organizational decision-making levels because of the relative uniqueness of higher level decision as compared to low-level decision.”

With this note of caution, this topic discusses certain broad considerations & guidelines helpful in screening of project ideas. The objective is to identify investment opportunities, which are prima facie feasible & promising & which merit further examination and appraisal. The discussion is divided into six sections as follows:

Monitoring the environment Corporate appraisal Profit potential of industries: Porter Model Preliminary screening Project rating index Sources of positive net present value.

3.1 MONITORING THE ENVIRONMENT

Basically a promising investment idea enables the firm to exploit opportunities in the environment by drawing on its competitive strengths. Hence the firm must systematically monitor the environment & assess its competitive abilities.

3.2 CORPORATE APPRAISAL A realistic appraisal of corporate strengths & weaknesses is essential for identifying investment opportunities, which can be profitably exploited. The broad areas of corporate appraisal & the important aspects to be considered under them as follows:

Marketing & distribution Productions & operations Research & developments Corporate resources & personnel

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Finance & accounting

3.3 TOOLS FOR IDENTIFY PROMISING INVESTMENTS

There are several useful tools or frameworks that are helpful in identifying promising investment opportunities. The most popular ones are the Porter Model, Life Cycle approach & Experience Curve.

In this project we will be discussing only Porter Model.

The model of the Five Competitive Forces was developed by Michael E. Porter in his book “Competitive Strategy: Techniques for Analyzing Industries and Competitors” in 1980. Since that time it has become an important tool for analyzing an organizations industry structure in strategic processes.

Porter’s model is based on the insight that a corporate strategy should meet the opportunities and threats in the organizations external environment. Especially, competitive strategy should base on and understanding of industry structures and the way they change.

Porter has identified five competitive forces that shape every industry and every market. These forces determine the intensity of competition and hence the profitability and attractiveness of an industry. The objective of corporate strategy should be to modify these competitive forces in a way that improves the position of the organization. Porter’s model supports analysis of the driving forces in an industry. Based on the information derived from the Five Forces Analysis, management can decide how to influence or to exploit particular characteristics of their industry.

The five basic competitive forces are:

1. Threat of new Entrants2. Rivalry among the existing firms3. Pressure from the substitute products.4. Bargaining power of buyers5. Bargaining power of sellers.

Fig 2 diagrammatically shows the forces that drive competition & determine the industry profit potential.

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Threat of New entrants

Bargaining Powers Bargaining Power ofOf Suppliers Buyers

Threat of Substitute ProductsPotential Entrants

Threat of New Entrants: New entrants add capacity, inflate costs, push prices down and reduce profitability.

Rivalry between existing firms: If the rivalries between the firms are strong, competitive moves & countermoves dampen the average profitability of the industry.

Pressure from the Substitute: Substitute products may limit the profit potential of the industry by imposing a ceiling on the prices that can charge by the firms in the industry.

Bargaining Power of Buyers: They can bargain for price cut, ask for superior quality & better service and induce rivalry among competitors. If they are powerful, they can depress the profitability of the supplier industry.

Bargaining Power of Suppliers: Suppliers like buyers can exert a competitive force in an industry as they can raise prices, lower quality & curtail the range of free services that they provide.

Applying the above Porter’s Model to Tejas Networks

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THE INDUSTRYRivalry between

existing firmsSuppliers

Substitutes

Buyers

Threat of New Entrants

An overview to overcome the Porter’s Five Forces is:

1. Reducing the Competitive Rivalry between Existing Players Avoid price competition Differentiate your product Focus on different segments

2. Reducing the Treat of New Entrants Create a marketing / brand image Patents Tie up with suppliers Tie up with distributors Customer Loyalty

3. Reducing the Bargaining Power of Suppliers Partnering Increase dependency

4. Reducing the Bargaining Power of Customers Increase loyalty Value added services

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Tejas NetworksRivalry (Competitive)

companies areCisco, ZTE, Force10, Nortel, Orion Networks

Threat of Substitutes

SuppliersFlextronics,

Jabil

BuyersBSNL, ITI,

Airtel

5. Reducing the Threat of Substitutes5

Legal actions Switch costs

3.4 PRELIMINARY SCREENING

Preliminary screening is required to eliminate ideas, which prima facie are not promising.For this purpose the following aspects may be looked into:

Compatibility with the promoter Consistency with governmental priorities Availability of inputs Adequacy of markets Reasonableness of cost Acceptability of risk level

3.5 PROJECT RATING INDEX

A preliminary evaluation may be translated into a project-rating index. The steps involved in determining the project-rating index are as follows:

Identify factors relevant for project rating. Assign weights to these factors. Rate the project proposal on various factors, using a suitable

rating scale. For each factor, multiply the factor rating with the factor

weight to get the factor score. Add all the factor scores to get the overall project-rating

index.

Applying the project-rating index to Ethernet over SDH/SONET.

5 Threat of substitutes in Telecom Infrastructure Company is very rare.

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Factor Factor Rating FactorWeight Score

VG G A P VP 5 4 3 2 1

Input Availability 0.25 * 1.00

Technical Know-How 0.10 * 0.50

Reasonableness of Cost 0.05 * 0.20

Adequacy of market 0.15 * 0.75

Complementary relation-ship with other product 0.05 * 0.20

Stability 0.10 * 0.40

Dependence on firm’sStrength 0.20 * 1.00

Consistency with govern-Mental priorities 0.10 * 0.40

Rating Index 4.45

3.6 SOURCES OF POSITIVE NET PRESENT VALUE

There are six main entry barriers that result in positive NPV projects. They are as follows:

Economies of scale Product differentiation Cost advantage Marketing reach Technological edge Government policy

PART 2ANALYSIS

4.Market and Demand Analysis5.Technical Analysis

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6.Financial Estimates and Projections

Statistics may be defined as "a body of methods for making wise decisions in the face of uncertainty." 

W.A. Wallis

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