Identification and Appraisal Project 2022

Rift Valley University
Project Identification
and Appraisal
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Chala Dechassa, Ph.D. in Management
and Development studies
[e-mail]

Next
Ex-ante Project Analysis
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Contents
 Project analysis Defined
 Situation Analysis
 Market/Demand Analysis
 Technical analysis
 Financial Analysis
 Socio-Economic Analysis
 Environmental Analysis and Environmental
Impact Assessment (EIA)
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Definition
 Project analysis refers to analyzing a project from various
perspectives so as to determine its viability and
sustainability. Project analysis
 Also usually referred as Project Appraisal, Not Project
evaluation!
 Determines the merit and acceptability in accordance
with established criteria;
 Checks a project whether it is feasible against the
situation on the ground that the objectives set remain
appropriate and that costs are reasonable.
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Elements of the project analysis
 Project analysis consists of:
 Situation analysis (SOWT), SPACE Analysis
 Market/demand analysis
 Socio-economic analysis
 Environmental analysis
 financial analysis
 Technical analysis
 Risk analysis
 Operational analysis
 Political legal environment
 Stakeholders analysis
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Situation analysis
 A systematic collection and evaluation of past and
present economical, political, social, and technological
data,
 aimed at: Identification of internal and external forces
that may influence the organization's performance and
choice of strategies, and
 Assessment of the organization's current and future
strengths, weaknesses, opportunities, and threats.
 The situation analysis consists of several methods of
analysis, such as:
 The 5Cs analysis and SWOT analysis.
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The 5 C analysis
 Company
– Goals and Objectives: An analysis on the mission of the
business, the industry of the business and the stated
goals required to achieve the mission.
– Position: An analysis on the Marketing strategy.
– Performance: An analysis on how effectively the
business is achieving their stated mission and goals.
– Product line: An analysis on the products
manufactured by the business and how successful it is
in the market.
7

Cont’d
 Competitors: Identify, assess and predict the nature of
competitors.
 Customers: Needs and wants, market size and
purchasing power.
 Collaborators: Agencies, suppliers, distributors,
partnerships, etc.
 Climate or context: PESTLE ( Political, Economic, Social,
Technological, Legal, Environmental) factors.
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Situation analysis : SOWT Analysis
 SWOT Analysis :- SWOT is an acronym for
strengths, weaknesses, opportunities and
threats.
 It represents deliberate and systematic effort by
an organization to identify opportunities that can
be profitably exploited by it.

It requires identification of opportunities and
threats and knowing strength and weakness.
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Cont;d
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Market/Demand Analysis
 This step in project analysis aims to estimate the potential size of the
market for the product proposed to be manufactured (or service
planned to be offered) and to get an idea about the
 market share that is likely to be captured. Hence, the two broad
issues raised are:
 What is the likely aggregate demand for the product/ service?
 What will be the share of the market for the proposed
product/service? Answers to these two questions call for an in depth
study of various factors like:
 Patterns of consumption growth, Income and price elasticity of
demand,
 Composition of the market, and nature of competition, Availability of
substitutes
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The Purpose of Market/Demand
Analysis
 Market/demand analysis for new/improved products development
should answer the following questions:
 Who are the buyers?
 What is the total current demand for the product? How is demand
distributed geographically?
 What is the demand for the product segmented in di erent sizes?
 What price will the customers be willing to pay for the improved
product?
 How can potential customers be convinced about the superiority of
the new product?
 What price and warranty will ensure its acceptance?
 What channels of distribution are most suited for the product?
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Technical analysis
 Analysis of technical and engineering aspects is done
 continually when a project is being examined and formulated. The
technical analysis is made to identify and evaluate:
 The availability of technology.
 The availability of technical experts. The appropriateness of
technology. The a ordability of technology.
 Technical analysis is concerned primarily with:
 Material inputs and utilities.
 Manufacturing process/ technology. Plant capacity.
 Location and site.
 Machineries and equipments. Structures and civil works.
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Technical analysis: location
 Example: Lets say there are three market areas (S1, S2,
S3).
 The firm's input suppliers are output markets are located
at those three places.
 So the rm is buying from suppliers at all three locations,
and selling its product to customers in all three markets.
 Where does the rm locate?
 Probably, the rm must pick a location (s*) that minimizes
the costs of shipping the inputs from those three markets
to the rm and maximize the demand for its good/service
at those three markets.
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Cont’d
 Let t(s, si ) = cost of transporting one unit of the
good from rm location s to market location si .
 d (s, si ) = d(s,si) = cost of transporting one unit of
input xi
 from market location si to firm location s.
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Cont’d
 With a given objective and constraints, the rm will be
located where it can maximize pro t and minimize cost,
say S*.
 Say, the firm has one input market (M2) and one output
market (M1).
 The question is where does the firm locate? At M2 or M1
or someplace in-between, say s0?
 The answer to this question depends on the total cost of
shipping to the rm (d (s, si )) and shipping from the rm
(t(s, si )).
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Cont’d
 Notice that the transportation cost curves have a positive
intercept, or there are xed costs to transportation.
 The rm incurs some costs before the rst unit is shipped.
 This could be a trucking or rail terminal.
 Trucking has Lower xed costs, but higher marginal costs.
Rail has Higher xed costs, but lower marginal costs17

Cont’d
 In the example, the orange cost line could be shipping by truck, and
the purple line is shipping by rail.
 So, it is cheaper or lower transportation costs to ship to consumers
than to ship inputs to the rm.
 In the cost minimization approach the rm has not necessarily made
its nal decision when it identi es the transportation
 cost minimizing location s*.
 Weight of raw materials
 M =
 Weight of final product
 If M>1, then activity is input-oriented. If M<1, then activity is output-
oriented.

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Other variables to be considered
 Other variables to be considered in the location decision:
 Quality standards, infrastructural status, local laws, and
socio-economic and living conditions.
 Local climate and its impact on operation and inputs.
 Facilities and their cost ( power, water, transport,
telecommunication).
 Availability and quality of labour. Waste disposal sites
and alternatives. Public policies, local laws, taxes etc....
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Financial Analysis
 Financial analysis involves evaluating the viability or the
capability of the project to raise the appropriate funds
needed to implement the proposed project.
 Financial analysis consists determination of the following:
– Cost of project.
– Means of financing.
– Estimates of sales and production.
– Cost of production.
– Working capital requirement and its financing.
– Breakeven point.
– Projected cash flow statements.
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Financial Analysis: Cost of Project
 The cost of project represents the total of all items of
outlay associated with a project.
 It is the sum of the following outlays: Cost of land and site development. Cost of Building and Civil work. Cost of Plant and Machinery. Technical know how Fees (expertise fee). Miscellaneous Fixed Assets. Provision for Contingencies. Initial Cash Losses.
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Financial Analysis: Means of Financing
 In order to finance the project cost, a firm may use
combination of the following sources;
 Share capital (sell of stock).
 Term loan and /or bond capital.
 Deferred credit (Purchase of goods and services on
credit).
 Miscellaneous sources: Eg. unsecured loan, leasing.
 After we understand the monetary policy of the country,
we must select a source of capital with moderate cost
and risk, that allows flexibility in raising additional capital.

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Financial Analysis: Estimates of Sales
and Production
 In estimating sales revenue, note the following considerations:
 It is not advisable to assume a high capacity utilization level in the rst
years of operation. It is sensible to assume that capacity utilization
would be somewhat low in the rst year and rise gradually to reach
the maximum level in the third or fourth year of operation.
 A reasonable assumption with respect to capacity utilization is as
follows: 40 50% of the installed capacity in the rst year,
 50 80% in the second year, and 80 90% from the third year.
 For practical purpose, it may be assumed that production would be
equal to sales ( No inventory of Finished goods or manufactured
good will be sold)
 The selling price considered should be the price realizable by the
company.
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Financial Analysis:Cost of Production
 Given the estimated production, the cost of production
may be worked out.
 The major component of cost of production are:
 Material cost (raw materials, chemicals, components, and
consumables required for production).
 Labor cost (Direct & indirect labor). Utilities Cost (Power,
water, and fuel). Factory overhead cost (repairs and
maintenance, rent, taxes, insurance on factory assets,
etc).

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Working Capital Requirements and Its
Financing
 Working capital is commonly de ned in nancial analysis as
net current assets.
 Consisting of inventories, including goods in process; net
receivables; marketable securities; bank balances; and
cash in hand.
 A certain amount of working capital is normally required
to run project facilities created by investment in xed
assets. The principal sources of working capital nance are:
 Working capital advances provided by commercial banks;
Trade credit; Accruals provisions; and
 Long term sources of nancing
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Financial Analysis:Pro tability of
Projects
 Given the estimates of sales revenue and cost of production, the
next step is to prepare the profitability projections.
 Breakeven Analysis
 In addition to determining the level of profitability, it is helpful to
know what the level of operation would avoid losses.
 For this purpose, the break even point, which refers to the level of
operations at which the project neither makes pro t nor incurs loss is
calculated.
 Breakeven Analysis is often used to determine the sales volume
required for the rm to break even and the total pro ts and losses at
other sales levels.
 The analysis uses a cost-volume-pro t chart in which the TR and TC
curves are represented by straight lines and the break-even point is
determined at their intersection.26

Financial Analysis: Breakeven Analysis
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Financial Analysis: Projected Cash Flow
Statements
 The cash flow statement shows the movement of cash into and out
of the firm and its net impact on the cash balance with the rm.
 There are three basic steps in determining whether a project is
worthwhile or not are:
1. Estimate projected cash flows,
2. Establish the cost of capital, and
3. Apply a suitable decision or appraisal criterion (payback, NPV, IRR) to decide
whether to accept or reject the project.
 Most commonly used decision or appraisal criterion in Financial
Analysis are
 Net Present Value (NPV).
 Internal Rate of Return (IRR).
 Bene t Cost Ratio or
 Pro tability Index (PI).28

Decision Criteria: Net Present Value
(NPV)
 NPV: is the difference between the present values of the future net
cash inflows and the initial investment outlay.
 NPV = Σ Rt − C
 (1 + r )t
 Given Rt =Return (yearly net cash ow) r = Risk-adjusted discount rate
and C0 = Initial cost of project,
 Decision Rule:
 If NPV is positive, accept the project. If NPV is negative, reject the
project. If NPV is zero, be indifferent.

If we are comparing two or more projects, the higher the NPV, the
better the project is
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Example: NPV
 The initial investment of a project is ETB 60,000.
Find the NPV of the project if the discount rate is
10%, and the yearly cash flow is given below.
 Decision: accept the project (NPV>0).
30
Year (t) Cash flow (in Birr) Discount factor
1
(1+r )t
Present Value
(In Birr)
0 -60,000 1 -60,000
1 6,000 0.909 5454
2 20,000 0.826 16520
3 30,000 0.751 22520
4 40,000 0.683 27320
5 4,000 0.621 2484
Total NPV 14,308>0

Decision Criteria: Internal Rate of
Return (IRR)
 IRR: Is the rate of discount that equates the PV of future net cash flows
equal to the initial investment cost of the project.
 It is the discount rate that reduces the NPV to zero. It is the value of r in the
following equation.
 Given Rt =Return (yearly net cash flow), n =Life of the project, r = IRR and C0
= Initial cost of project,
 i =1 0
 ΣnRt = C
 (1+r )t
[IRR is PV(Bene ts) = PV(Costs)]
 Decision Rule for IRR:
 Accept: When IRR is greater than the cost of capital. Reject: When IRR is
less than the cost of capital.
 Indifferent: If IRR is equal to the cost of capital (discounted rate).
 If we are comparing two or more projects, the higher the IRR, the better the31

Example of IRR
 Find IRR of a project with 20000 initial investments, cost of capital of 12%
and with cash ows in the following Table.
 Year 1 2 3 4
 Cash flow 6000 6000 8000 9000
 Compute the NPV with 12% discount rate.
 NPV = 6000 + 6000 + 8000 + 9000 − 20000 = 1603.
 (1.12) (1.12)2 (1.12)3 (1.12)4
 Since the NPV is still positive, (1603), try again with a higher discount rate:
15%.
 NPV = 6000 + 6000 + 8000 + 9000 − 20000 = 167.
 (1.15) (1.15)2 (1.15)3 (1.15)4
 Still the NPV is positive. Try again with a higher discount rate
 i.e. 16%.
 NPV = 6000 + 6000 + 8000 + 9000 − 20000 = −344.
 (1.16) (1.16)2 (1.16)3 (1.16)4
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Cont’d
 Thus, it can be concluded that the IRR is between 15% and 16%
 Draw Back: The calculation of r consists of a process of trial & error by
assuming various values of r.
 If a more re ned estimate of r is needed, we use the following procedure:
1. Determine the NPV of the two closest rates of return. Present value at 15% =
167. Present value at 16% = 344.
2 Find the sum of the absolute values of the NPVs obtained in Step 1. 176+344 =
511.
3 Calculate the ratio of the NPV of the smaller discount rate, identi ed in Step 1,
to the sum obtained in Step 2. 167/511 = 0.33.
4 Add the number in Step 3 to the smallest discount rate. 15+0.33 = 15.33.
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IRR Relationship with Other Methods
 When the NPV (the discounted bene ts are
excess of the discounted costs) is positive, then
the IRR is greater than the rate of discount.
 When the NPV is 0, then the IRR is equal to the
rate of discount and the discounted bene ts are
equal to the discounted costs.
 When the NPV is negative, then the IRR is smaller
than the discount rate and the discounted bene
ts are smaller than the discounted costs.
34

Decision Criteria:Pro tability Index (PI)
or Bene t Cost Ratio
 PI: is the ratio of present value of future net cash ows to the initial cost of
the project.
 Given Rt =Return (yearly net cash ow) k =Risk-adjusted discount rate and C0
= Initial cost of project,
 Σn Rt PV
 PI = 1 (1+k)t
 C0
 Decision Rule for PI:
 When PI > 1, accept the project. When PI < 1, reject the project. When PI = 1,
be indi erent.
 If we compare two or more projects, the higher the PI, the better the project
is.
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Example: PI
 Example: Consider a project with initial
investment of Birr 50,000, discounting rate of
12% and the following Cash in ows.
 12500 + 10000 + 30000 + 25000
PI = (1.12) (1.12)2 (1.12)3 (1.12)4
5000
= 1.13
Decision: Accept.36
Year 1 2 3 4
Cash ow 12500 10000 30000 25000

Payback periods
 The payback period is:
 The length of time required to recover the original/initial
investment cost.
 The length of time from the beginning of the project until
the sum of net incremental benefits of the project equal
to total capital investment.
 It is one of the simplest investment appraisal techniques.
 The formula to calculate the PBP of an investment
depends on whether the periodic cash in flows from the
project are even or uneven.
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Environmental analysis: EIA
 Successful economic development depends on the rational use of
natural resources and on reducing as far as possible the adverse
environmental impacts of development projects.
 Environmental Impact Assessment (EIA) is a primary tool for
achieving this objective, by inserting critical environmental
information into the process of project identi cation, preparation,
and implementation.
 Adverse environmental impacts are part of the costs of a project,
and positive environmental impacts are part of its bene ts (Economic
Analysis).
 Consideration of environmental impacts, therefore, should be
integrated with the other aspects of the project in the
 economic analysis to the extent possible.
38

EIA
 Environmental analysis (EA) is a systematic, interdisciplinary process
used to identify the purpose of a proposed action, develop practical
alternatives to the proposed action, and predict potential
environmental e ects of the action.
 A few examples of proposed actions are road construction, tree
clearing for disease control, reforestation, building a hydroelectric
dam, or etc.
 EA identi es problems, con icts, or resource constraints that may a
ect the natural environment or the viability of a project.

It also examines how a proposed action might a ect people, their
communities, and their livelihoods.
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Environmental analysis: EIA
 EIA is a systematic process to identify, predict and
evaluate the environmental e ects of proposed actions
and projects.
 The main aim of EIA is preventing, mitigating and o
setting the signi cant adverse e ects of proposed
undertakings.
 The assessment should be conducted by an
Interdisciplinary Team consisting a team leader and team
members with a range of skills and disciplines relevant to
the project such as: Engineers, geologists, biologists,
archaeologists, social workers, etc.
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EIA
 The EA process and Interdisciplinary Team studies can
reveal sound environmental, social, or economic reasons
for improving a project.
 After predicting potential issues, the EA identi es
measures to minimize problems and outlines ways to
improve the project's feasibility.
 An EA document can be long and complex for major,
potentially high impact projects, or it may only be a few
pages long for a simple project presents an eight-step
process that is useful for doing Environmental Analysis.

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EIA
 EIA is a tool that is applied:
 Before major decisions are taken and when all
alternatives are still open;
 To inform all stages of decision making, including nal
approval and the establishment of conditions for project
implementation;
 With public participation and consultation; and
 To integrate environmental considerations and
safeguards into all phases of project design, construction
and operation

42

Purposes and Objectives of EIA
 Period: Short-term
Aims To inform the process of
 decision-making by identifying the potential environmental e ects and risks
of development proposals.
 Object. Improve the environmental design;
 Ensure that resources are used
 appropriately and e ciently; and Identify appropriate measures for mitigating
the potential impacts.
 Long-term
To promote sustainable development by ensuring that the proposals do not
undermine critical resource &
 ecological functions or the well being, & livelihood of the people &
communities who depend on them.
 Protect human health and safety;
 Avoid irreversible changes and43

Step in EIA
44

Step 1: Screening
 This step determines:
 whether or not EIA is required for a particular project and what level
of EIA is required.
 Screening Outcomes: Full (comprehensive), Limited or No EIA
required.
 Tools for Screening Project lists:
 Inclusive listed projects must undergo EIA. Exclusive listed projects
exempted from EIA.
 Case-by-case examinations: determine whether projects may have
signi cant environmental e ects. If so, project should undergo EIA.
 Combination of above.
45

Step 2: Scoping
 Begins once screening is completed and is the most important step
in EIA. It establishes the content and scope of an EIA report.
Outcome:
 Identi es key issues and impacts to be considered.
 Lays the foundation of an e ective process, saves time and money,
and reduces con ict.
 Types of Scoping
 Closed scoping: wherein the content and scope of an EIA Report is
pre-determined by law and modi ed through closed consultations
between a developer and the competent authority.
 Open or Public scoping: a transparent process based on public
consultations.
 Actors: proponent, EIA consultant, supervisory authority for
 EIA, other responsible agencies, a ected and interested public.46

The Scoping Process
 Prepare a scope outline
 Develop the outline through informal consultation with
environmental and health
 authorities
 Make the outline available
 Compile an extensive list of concerns
 Evaluate relevant concerns to establish key issues
Organise key issues into impact categories (study list)
 Amend the outline accordingly Develop `Terms of reference'
 (ToR) for impact analysis
 Monitor progress against the ToR, revising as necessary
47

Step 3: Impact Analysis
 No. Lists Impacts
 Type biophysical, social, health or economic
 Nature direct or indirect, cumulative, etc.
 Magnitude/ Severity: high, moderate, low
 Extent local, regional, trans-boundary or global
 Timing immediate/long term
 Duration temporary/permanent
 Uncertainity low likelihood/high probability
 Reversibility reversible/irreversible
 Signifcance unimportant/important
48

Tools for Impact Analysis
 Checklists Matrices Networks
 Overlays and geographical information systems
(GIS) Expert systems
 Professional judgement
49

Step 4: Impact Mitigation
 To avoid, minimize or remedy adverse impacts.
 To ensure that residual impacts are within
acceptable levels.
 To enhance environmental and social benefts.

50

Framework for impact mitigation
51

Step 5: Reporting
 Di erent name of EIA reports
 Environmental Impact Assessment Report (EIA
Report). Environmental Impact Statement (EIS).
 Environmental Statement (ES).
 Environmental Assessment Report (EA Report).
Environmental E ects Statement (EES).
52

Step 6; review
 Review the quality of the EIA report. Take public
comments into account. Determine if the information is
su cient. Identify any de ciencies to be corrected.
 Who Perform the review?
 Environmental agency - Canada (comprehensive studies),
 standing commission - Netherlands, inter- agency
committee - USA, planning authority - UK.
 Independent panel - Canada (public inquiries). Public
comment and input.
53

Srep 7: Decision making
 To provide key input to help determine if a
proposal is acceptable.
 To help establish environmental terms and
conditions for project implementation.

54

Step 8: Monitoring
 Ensure the implementation of conditions attached to a decision.
 Verify that impacts are as predicted or permitted.
 Con rm that mitigation measures are working as expected. Take
action to manage any unforeseen changes.
 Key components of Monitoring Establish baseline conditions.
 Measure impacts of a project as constructed.
 Verify conformity with established with conditions and acceptable
limits.
 Establish links to environmental management plans. Carry out
periodic checks and third-party audits
55

Public Involvement in the EIA Steps
56

Risk analysis (Visit also in Managerial
Economics)
 What is risk?
 Risk: A situation where there is more than one possible outcome to a
decision and the probability of occurrence of each outcome is known
or can be estimated.
 A project risk may be de ned as any event that prevents or limits the
achievement of project objectives.
 Types of Risks
 A project is always appraised by making certain assumptions before
proceeding with it.
 These appraisals always welcome or rather keep in mind various
types of risk- yielding results that may deviate from reality.

57

Types of Risks
 Projects are usually prone to some kind of risk or the other.
 Types Explanations
 Project risk This threatens the operation of a specic project &
thereby a ects the repayment of the lender's plan
 Debtor's credit risk: It is a risk that a particular debtor company will
defaulton its loan, for example, as a result of insolvency, or other
deterioration in its overall nancial condition
 Sovereign credit risk Commercial risk: When the debtor is a country,
the risk of such default is referred to ad sovereign risk. It relates to
technical, nancial, and other concerns that would face a project,
irrespective of location
 Political risk: Relate to those risks presented by a particular country
and its government. This is important when foreign
 investment is involved58

Risk Management Model
 The generally accepted risk management model includes:
 De ne Objectives: De ne what you have to achieve to be successful
and establishes a basis for dealing with risk and
 future decisions.
 Identify Risk: identify areas of risk which may limit or prevent
achievement of objectives.
 Quantify Risk: evaluate and prioritize the level of risk and quantify
frequency of occurrence and impact.
 Develop Response: de ne how we are going to respond to the identi
ed risks; eliminate, mitigate, de ect or accept.
 Document: the risk management plan documents how we propose
to tackle risk on the project.
 Risk Control: the risk control function implements the risk
management plan.59

Next………..
 Project Appraisal and Selection Models
60