assignment solutions winter

8/2/2019 Assignment Solutions Winter

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ASSIGNMENTSMBA2nd SEM

Subject CodeMB0044

Book IDB1133

PRODUCTION & OPERATIONS MANAGEMENT

Set

2Q1. Explain Logical Process Modelling and Physical Process Modelling. What are the

ingredients of business process?

Ans.

Logical Process ModellingLogical Process Modeling is the representation of putting together all the activities ofbusiness process in details and making a representation of them.The initial data collected need to be arrange in a logical manner so that, links are made betweennodes for making for the workflow smooth. The steps to be followed to make the work smootherare given below:1. Capture relevant data in detail to be acted upon.

2. Establish controls and limit access to the data during processes execution3. Determine which task in the process is to be done and also the subsequent task in thatprocess.4. Make sure that all the relevant data is available for all the tasks.5. Make the relevant and appropriate data available for that task.6. Establish a mechanism to indicate acceptance of the results after every task or process. Thisis to have an assurance that flow is going ahead with accomplishments in the desired path.Some of these activities may occur in a sequential order whereas, some of them run parallel.There may even be circular paths, like re-work loops. Complexities arise when the processesactivities are not connected together.Logical processes model consists of only the business activities and shows the connectivity

among them. The process model is a representation of the business activities different from thetechnology dependent ones. Thus, we have a model that is singularly structured only for businessactivities. Computer programmes are also present in the total system. This allows the businessoriented executives to be in control of the inputs, processes and outputs. The logical processmodelimproves, control on the access to data. It also indentifies, who is in possession of data atdifferentnodes in the dataflow network that has been structured.A few of the logical modeling formats are given below.1. Process Descriptions with task sequences and data addresses.2. Flow chart with various activities and relationships

3. Flow diagrams4. Function hierarchies5. Function dependency diagramEvery business activity, when considered as a logical process model, can be represented by adiagram, it can be decomposed and meaningful names can be given to the details. Verb and nounform combinations can be used to describe at each level. Nouns give the name of the activityuniquely and are used for the entire model meaning the same activity.PHYSICAL PROCESS MODELLING


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Physical process modeling is concerned with the actual design of data base meeting therequirement of the business.Physical modeling deals with the conversion of the logical model into a relation model.Object gets defined at the schema level. The objects here are tables created on the basis ofentities

and attributes. A database is defined for the business. All the information is put together to makethe database software specific. This means that the objects during physical modeling vary on thedatabase software being used. The outcomes are server model diagrams showing tables andrelationships with a database.BELOW ARE THE INGREDIENTS OF BUSINESS PROCESS.

The ingredients that might be used in a business process can be briefly outlined as shown below.

The data which accomplishes the desired business objective.

Acquisition, storage, distribution, and control of data which undertakes the process across

tasks.

Persons, teams, and organizational units which helps to perform and achieve the tasks.

Decision which enhances the value of data during the process.

Q.2 Explain Project Management Knowledge Areas. With an example explain work

breakdown structure.

Ans. The knowledge areas of project management are the following:

Project integration management, cost management, communications management.

Project scope management, quality management, risk management.

Project time management, human management, procurement management.

For a project to be successful, it is necessary to understand its relationship with other

management disciplines. Other management supporting disciplines are business legal issues,strategic planning, logistics, human resource management, and domain knowledge.WORK BREAK DOWN STRUCTURE.The entire process of a project may be considered to be made up on number of sub processplaced in different stage called the work breakdown structure (WBS).WBS is the technique to analysis the content of work and cost by breaking it down into itscomponent parts. Projects key stages from the highest level of the WBS, which is then used toshowthe details at the lower levels of the project. Each key stage comprises many tasks identified atthestart of planning and later this list will have to be validated.PROJECT

MANAGEMENT

PROJECT

INTERGRATION

MANAGEMENT

PROJECT COST

MANAGEMENT

PROJECT

COMMUNICATION

PROJECT SCOPE

MANAGEMENT


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PROJECT QUALITY

MANAGEMENT

PROJECT RISK

MANAGEMENT

PROJECT TIME

MANAGEMENT

PROJECT HR

MANAGEMENT

EXECUTING

PROCESSES

WBS is produced by indentifying the key elements, breaking each element down intocomponent parts and continuing to breakdown until manageable work packages have indentified.These can then be allocated to the appropriate person. The WBS does not shown dependenciesother than a grouping under the key stages. It is not time based- there is no timescale on thedrawing. Chart showing the example of work break down structure.A Work Breakdown Structure is a results-oriented family tree that captures all the work of a projectin an organized way. It is often portrayed graphically as a hierarchical tree, however, it can also be atabularlist of "element" categories and tasks or the indented task list that appears in your Gantt chart schedule.

As avery simple example, Figure 1 shows a WBS for a hypothetical banquet.

EXAMPLE 1.

EXAMPLE -2

Q.3 Take an example of any product or project and explain project management life cycle.

Ans. A life cycle of a project consists of the following steps.

Understanding the scope of the project.

Establishing objectives of the projects

Formulating and planning various activities.

Executing the project

Monitoring and controlling the project resources.

Closing and post completion analysis

Phases of Project Management Life Cylce.

Project management life cycle has six phases:1. Analysis and evaluation phase.

2. Marketing phase

3. Design phase

4. Execution phase

5. Control-inspecting, testing, and delivery phase

6. Closure and post completion analysis phase.1. Analysis And Evaluation Phase: Analysis and evaluation phase is the initial phase of anyproject. In this phase, information is collected from the customer pertaining to the project.From the collected information, the requirements of the project are analyzed. According tothe customer requirement, the entire project is planned in a strategic manner. The projectmanager conducts the analysis of the problem and submits a detailed report to the topmanagement.2. Marketing Phase: A project proposal is prepared by a group of people including the project


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manager. This proposal has to contain the strategic adopted to market the product to thecustomer.3. Design Phase: Design phase involves the study of inputs and outputs of the various projectstages.a. Inputs received consist of project feasibility study, preliminary project evaluation

details, project proposal, and customer interviews.b. Outputs produced consist of system design specifications, functional specificationsof the project, design specifications of the project and project plan.4. Execution Phase: In execution phase, the project manager and the term members work onthe project objectives as per the plan. At every stage during the execution, reports areprepared.5. Control- Inspecting Testing and Delivery Phase: During this phase, the project teamsworks under the guidance of the project manager. The project manager has to ensure that theteam working under him is implementing the project designs accurately. The project has tobe tracked or monitored through its cost, manpower, and schedule. The project manager hasto ensure ways of managing the customer and marketing the future work, as well as ways to

perform quality control work6. Closure and Post Completion Analysis Phase: Upon satisfactory completion and deliveryof the intended product or service the staff performance has to be evaluated. The projectmanager has to document the lessons from the project. Reports on project feedback are to beprepared and analyzed. A project execution report is to be prepared.Let us have a quick recap of what is involved in the above phasesa. Analysis and evaluation phase: The preparation stage involves the preparation andapproval of project outline, project plan, and project budget.b. Assigning task to the team members: The next stage involves selecting and briefingthe project team about the proposals, followed by discussions on the roles andresponsibilities of the project member and the organization.c. Feasibility study: The feasibility or research stage establishes whether the project isfeasible or not and establishes the risk factors likely to be faced during the course ofthe project execution and the related key factors to overcome the problemd. Execution phase: A detailed definition and plan for the project and its execution isprepared by the team and coordinated by the project manager.e. Implementation stage: The implementation stage involves the execution of theproject as per the plan, this also involves careful monitoring of the project progressand managing the changes, if any, within the scope of the project framework.7. Closure and post completion analysis phase: The final stage involves satisfactory deliveryof the product/service to the customers. Upon completion, a project review is to beconducted by the project manager along with team member, sponsors, and customer. Aproject review process involves discussions about the progress, performance, hurdles thatwere overcome and problems faced, so that, such instances could be avoided in futureprojects.Example No.1

Example No.2Example No.3

Q.4 Explain PMIS. What Is Difference Between Key Success Factor (Ksf) And Knowledge

(K) Factor ? Explain With Examples.


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Ans.PMIS (Project Management Information System)An information system is mainly aimed at providing the management at different levels withinformation related to the system of the organization. It helps in maintaining discipline in thesystem.

An information system dealing with project management tasks is the project managementinformation system. It helps in decision making in arriving at optimum allocation of resources.Theinformation system is based on a database of the organization. A project managementinformationsystem also holds schedule, scope changes, risk assessment and actual results.The information is communicated to managers at different levels of the organizationdepending upon the need. Let us find how a project management information system is used bydifferent stakeholders.WHO NEEDS INFORMATION AND WHY?

Upper managers To know information on all project regarding

progress, problem, resource usage, costs and projectgoals. This information helps them take decisions onthe projects. They should review the projects at eachmilestone and arrive at appropriate decision.Project manager anddepartment managersTo see each project schedule, priority and use ofresources to determine the most efficient use acrossthe organization.Project team members To see schedule, task lists and specification so thatthey know what needs to be done next.The four majors aspects of a PMIS are:1. Providing information to the major stakeholder.2.Assisting the team members, stakeholders, managers with necessary information andsummary of the information shared to the higher level managers.

3.Assisting the manager in doing what if analysis about project staffing, proposed staffing

changes and total allocation of resources.

4.Helping organizational learning by helping the members of the organizations lean about

project management.Usually, the team members, and not the systems administrators of the company, develop a goodPMIS. Organisations tend to allocate such responsibility by rotation among members with a welldesigned and structured data entry and analytical format.Different Between Key Success Factors (KSF) And Knowledge (K) Factor

Key success factors (KSF) Knowledge (k) factor

The KSF should be evolved based on abasic consensus document (BCD)Knowledge is the most powerful mover of thewheels of progressKSF will also provide an input to effectiveexit strategy (EES)


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Knowledge (k) factor is an index of the extentto which one can manager today withyesterdays knowledge content and also theextent to which todays knowledge will be usedtomorrow.

Broad level of KSF should be available atthe conceptual stage and should be firmedup and detailed out during the planningstage. The easiest way would be for theteam to evaluate each step for chances ofsuccess on a scale of ten.K factor would render the development processmore productive. The k factor of course,undergoes correction through obsolescence,since changes are now phenomenal.KSF should be available to the

management, duly approved by the projectmanager before execution and controlstages.Leaders should recognize the knowledgepotential of the younger managers. Seniority isno more an automate scale for knowledge. It isequally important for younger member notsuppress their knowledge potential from itsapplication.KSF rides normal consideration of time andcost- at the levels encompassing clientexpectation and management perceptiontimeand cost come into play as subservientto these major goal.Here time and cost does not matter, knowledgeis to be updated time to time to get betterresults.In order to provide complete stability tofulfillment of goals, a project managerneeds to constantly evaluate the key successfactor from time to time.As age and experience advance wisdom gains,but knowledge should always be updated andutilized. It is the task of every team members tomaximize the k factor in all directions.

Example of Key success factorAccording to TeachMeFinance.com, a turnkey project is "a project in which a builder/developercontracts to construct a completed facility that includes all items necessary for use and occupancy."Unfortunately, many turnkey businesses never capture the interest of the buyers. Whether you'rebuilding in brick and mortar or building in computer code, there are several factors critical to thesuccess of your turnkey project.


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Know the BusinessSeveral businesses can be set up as turnkey businesses, from food service to copymanagement to telemarketing and sales. Whichever you decide, it is important to have anintimateknowledge of the business you are building. One key factor in a successful turnkey business is

being able to anticipate the needs and desires of the potential owners before they are brought onboard. A salesman, for example, looking to purchase a turnkey sales business will need an officeasa base of operations; but since so much of the sales process is done through phones, computersandother electronic devices, the turnkey developer may want to include additional power outlets intheconstruction of the building, or desks with onboard power strips and surge protectors. Thesesmalladditions can make a turnkey project a success.Know the Area

Internet businesses often have nationwide access to clientele, but brick-and-mortar turnkeyoperations sometimes run into trouble in areas poorly suited to the service they offer. Forexample,an outdoor food service stand opening in Wilkes-Barre, Pennsylvania, will not do as muchbusiness(at least during the winter months) as one opening in an Orlando, Florida, theme park. Knowingthearea where you are constructing your turnkey business includes knowing the weather conditions,the dominant demographic, the current popularity and number of businesses like the one you arecreating and the average income of the public. Planning a turnkey business that uses these factorstoits advantage will make the business more readily sellable.Make ConnectionsTurnkey businesses are designed to be ready to operate as soon as the buyer takesownership. Still, once they are sold, many businesses of this type run into problems when itcomesto resupplying, logistics and advertising. Because of this, many buyers are wary of turnkeyoperations. One way to quell any "down the road" fears is to have this part of the infrastructureaccounted for. Make contact with businesses which help advertise businesses, ship products,supplycopy paper and any other stock the owner might require. Obtain discounts from as many aspossibleExample of Knowledge (k) factorABSTRACTMost organisations are aware that in todays highly competitive environment managingeffectively their knowledge is the only way to achieve a sustainable competitive advantage. Oneofthe primary areas to which knowledge management can be applied is the field of projectmanagement. An increasing number of business sectors are adopting a project approach to carryout


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a range of essential activities where valuable knowledge is gained. Knowledge from projects isanimportant resource for further projects, because projects solve innovative and interdisciplinarytasks. However, the majority of organisations do not manage the information gained through pastprojects. Failure to transfer knowledge from past to future projects leads to wasted activity and

unnecessary expenses by reinventing the wheel. Therefore, knowledge management is a criticalsuccess factor for many projects.The purpose of this Management Report is to approach knowledge management from theperspective of project management. The main objective is to define how knowledge managementcan be enhanced within a project by analysing suitable tools and relevant theories. The researchisbased on the high-speed train project XY of the company XXX. This project is an importantmilestone for XXX to improve its market position in Spain. The knowledge gained through theXYproject will be the key factor for the success of the further high-speed train projects.The main finding of the case study highlights that there is a lack of formal knowledge

management activities at the project. The project team focuses mainly on personal interaction fortransferring knowledge and information technology is not used to its full potential. A hybridapproach to knowledge management for project environments is suggested, taking into accounttechnical as well as human-specific aspects. The main recommendation is to determine aknowledgemanagement strategy, which preferably focuses on transferring tacit knowledge and givesinformation technology a support function. Other areas of improvement are creating an open andconstructive project culture, including knowledge initiatives in reward systems and fosteringdocumented project review sessions. Finally, general conclusions are provided to answer themainresearch question of this management report.Q.5 Explain the seven principal of supply chain management. Take an example of any

product in the market and explain the scenario of Bullwhip effect.Ans:

Seven Principles Of SCM are:1. Group customer by needs: Effective SCM groups customers by distinct service needs,regardless of industry and then tailors services to those particular segments.2. Customize the logistics networks: In designing their logistic network, companies need tofocus on the service requirement and profit potential of the customer segments identified.3. Listen to signals of market demand and plan accordingly: sales and operations plannersmust monitor the entire supply chain to detect early warning signals of changing customersdemand and needs. This demand driven approach leads to more consistent forecast andoptimal resource allocation.4. Differentiate the product closer to the customer: companies today no longer can afford tostockpile inventory to compensate for possible forecasting errors. Instead, they need topostpone product differentiation in the manufacturing process closer to actual consumerdemand. This strategy allows the supply chain to respond quickly and cost effectively tochanges in customer needs.5. Strategically manage the sources of supply: By working closely with their key suppliers toreduce the overall costs of owning materials and services, SCM maximizes profit margins


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both for themselves and their suppliers.6. Develop a supply chain wide technology strategy: As one of the cornerstones of successfulSCM, information technology must be able to support multiple levels of decisions making.It also should afford a clear view and ability to measure the flow of products, services andinformation.

7. Adopt channel spanning performance measures: Excellent supply chain performancemeasurement systems do more than just monitor internal functions. They apply performancecriteria to every link in the supply chain-criteria that both service and financial metrics.BULLWHIP EFFECT IN SCMAn organization will always have up and downs. It is necessary that the managers of theorganization keep track of the market conditions and analyze the changes. They must takedecisions on the resources and make necessary changes within the organization to meet themarket demands. Failing to do so may results in wild swings in the orders. This may adverselyaffect the functioning of the organization resulting in lack of coordination and trust amongsupply chain members. The changes may affect the information and may led to demandamplification in the supply chain. The Bullwhip effect is the uncertainty caused from distorted

information flowing up and down the supply chain. This has its affect on almost all theindustries, poses a risk to firms that experience large variations in demand, and also those firmwhich are dependent on suppliers, distributors and retailers. A bullwhip effect may arisebecause of:

Increase in the lead time of the project due to increase in variability of demand

Increase in the stocks to accommodate the increase demand arising out of complicated

demand models and forecasting techniques.

Reduced service levels in the organization.

Inefficient allocation of resources.

Increased transportation cost.How to prevent it ?Bullwhip effect may be avoided by one or more of the following measures:

Avoid multiple demand forecasting.

Breaking the single order into number of batches of orders.

Stabilize the prices, avoid the risk involved in overstocking by maintaining a proper stock

Reduce the variability and uncertainty in point of sale (POS) and sharing information

Reduce the lead time in the stages of the project

Always keep analyzing the past figures and track current and future levels of requirement.

Enhance the operational efficiency and outsourcing logistics to a capable and efficient

agency

Example of one product the effect Bullwhip theory.The beer game was developed at MIT by the Systems Dynamic Group in the 1960s. Thegame involves a simple production/distribution system for a single brand of beer. There are threeplayers in the game including a retailer, a wholesaler, and a marketing director at the brewery.


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Each player's goal is to maximize profit.A truck driver delivers beer once each week to the retailer. Then the retailer places an orderwith the trucker who returns the order to the wholesaler. There's a four week lag betweenorderingand receiving the beer.

The retailer and wholesaler do not communicate directly. The retailer sells hundreds ofproducts and the wholesaler distributes many products to a large number of customers.The following represents the results of a typical beer game:-3.1 The RetailerWeek 1: Lover's Beer is not very popular but the retailer sells four cases per week on average.Because the lead time is four weeks, the retailer attempts to keep twelve cases in the store byordering four cases each Monday when the trucker makes a delivery.Week 2: The retailer's sales of Lover's beer doubles to eight cases, so on Monday, he orders 8cases.Week 3: The retailer sells 8 cases. The trucker delivers four cases. To be safe, the retailer decidesto

order 12 cases of Lover's beer.Week 4: The retailer learns from some of his younger customers that a music video appearing onTV shows a group singing "I'll take on last sip of Lover's beer and run into the sun." The retailerassumes that this explains the increased demand for the product. The trucker delivers 5 cases.Theretailer is nearly sold out, so he orders 16 cases.Week 5: The retailer sells the last case, but receives 7 cases. All 7 cases are sold by the end of theweek. So again on Monday the retailer orders 16 cases.Week 6: Customers are looking for Lover's beer. Some put their names on a list to be calledwhenthe beer comes in. The trucker delivers only 6 cases and all are sold by the weekend. The retailerorders another 16 cases.Week 7: The trucker delivers 7 cases. The retailer is frustrated, but orders another 16 cases.Week 8: The trucker delivers 5 cases and tells the retailer the beer is backlogged. The retailer isreally getting irritated with the wholesaler, but orders 24 cases.3.2 The WholesalerThe wholesaler distributes many brands of beer to a large number of retailers, but he is theonly distributor of Lover's beer. The wholesaler orders 4 truckloads from the brewery truckdrivereach week and receives the beer after a 4 week lag. The wholesaler's policy is to keep 12truckloadsin inventory on a continuous basis.Week 6: By week 6 the wholesaler is out of Lover's beer and responds by ordering 30 truckloadsfrom the brewery.Week 8: By the 8th week most stores are ordering 3 or 4 times more Lovers' beer than theirregularamounts.Week 9: The wholesaler orders more Lover's beer, but gets only 6 truckloads.Week 10: Only 8 truckloads are delivered, so the wholesaler orders 40.


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Week 11: Only 12 truckloads are received, and there are 77 truckloads in backlog, so thewholesalerorders 40 more truckloads.Week 12: The wholesaler orders 60 more truckloads of Lover's beer. It appears that the beer isbecoming more popular from week to week.

Week 13: There is still a huge backlog.Weeks 14-15: The wholesaler receives larger shipments from the brewery, but orders fromretailersbegin to drop off.Week 16: The trucker delivers 55 truckloads from the brewery, but the wholesaler gets zeroordersfrom retailers. So he stops ordering from the brewery.Week 17: The wholesaler receives another 60 truckloads. Retailers order zero. The wholesalerorders zero.The brewery keeps sending beer.3.3 The Brewery

The brewery is small but has a reputation for producing high quality beer. Lover's beer isonly one of several products produced at the brewery.Week 6: New orders come in for 40 gross. It takes two weeks to brew the beer.Week 14: Orders continue to come in and the brewery has not been able to catch up on thebacklogged orders. The marketing manager begins to wonder how much bonus he will get forincreasing sales so dramatically.Week 16: The brewery catches up on the backlog, but orders begin to drop off.Week 18: By week 18 there are no new orders for Lover's beer.Week 19: The brewery has 100 gross of Lover's beer in stock, but no orders. So the brewerystopsproducing Lover's beer.Weeks 20-23. No orders.At this point all the players blame each other for the excess inventory. Conversations withwholesale and retailer reveal an inventory of 93 cases at the retailer and 220 truckloads at thewholesaler. The marketing manager figures it will take the wholesaler a year to sell the Lover'sbeerhe has in stock. The retailers must be the problem. The retailer explains that demand increasedfrom4 cases per week to 8 cases. The wholesaler and marketing manager think demand mushroomedafter that, and then fell off, but the retailer explains that didn't happen.Demand stayed at 8 cases per week. Since he didn't get the beer he ordered, he kept orderingmore in an attempt to keep up with the demand. The marketing manager plans his resignation.3.4 Lessons from the Beer Game1. The structure of a system influences behavior. Systems cause their own problems, not external

forces or individual errors.

2. Human systems include the way in which people make decisions.

3. People tend to focus on their own decisions and ignore how these decisions affect others.

3.5 Lessons Related to the Learning Disabilities1. People do not understand how their actions affect others.

2. So they tend to blame each other for problems.


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3. Becoming proactive causes more problems.

4. The problems build gradually, so people don't realize there is a problem until its too late.

5. People don't learn from their experience because the effects of their actions occur somewhere

else in the system.

Stock variability amplification in a supply chain due to Bullwhip Effect

Q6. Time taken by three machines on five jobs in a factory is tabulated below in tablebelow.

Find out the optimal sequence to be followed to minimize the idle time taken by the jobs

on the machines.

Ans. Consider M1 and M3Job Machine 1 (M1) Machine 3 (M3)

A 6 7B 4 3C 5 7D 3 6E 4 4

JOB = D E C A B

ASSIGNMENTSMBA2nd SEM

Subject CodeMB0045

Book IDB1134

FINANCIAL MANAGEMENT

Set2

Q.1 Discuss the objective of Profit Maximization vs Wealth Maximization.Ans. The financial management comes a long way by shifting its focus from traditionalapproach to modern approach. The modern approach focuses on wealth maximization rather thanmaximization. This gives a longer term horizon for assessment, making way for sustainableperformance by businesses.A myopic person or business is mostly concerned about short term benefits. A short termhorizon can fulfill objective of earning profit but may not help in creating wealth. It is becausewealth creation needs a longer term horizon Therefore, Finance Management or FinancialManagement emphasizes on wealth maximization rather than maximization. For a business, it isnotnecessary that profit should be the only objective; it may concentrate on various other aspectslikeincreasing sales, capturing more market share etc, which will take care of profitability. So, wecansay that maximization is a subset of wealth and being a subset, it will facilitate wealth creation.Giving priority to value creation, and managers has now shifted from traditional approach tomodern approach of financial management that focuses on wealth maximization. This leads tobetter and true evaluation of business. For e.g., under wealth maximization, more importance isgiven to cash flows rather than profitability. As it is said that profit is a relative term, it can be afigure in some currency, it can be in percentage etc. For e.g. a profit of say $10,000 cannot bejudged as good or bad for a business, till it is compared with investment, sales etc. Similarly,duration of earning the profit is also important i.e. whether it is earned in short term or long term.


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In wealth maximization, major emphasizes is on cash flows rather than profit. So, toevaluate various alternatives for decision making, cash flows are taken under consideration. Fore.g.to measure the worth of a project, criteria like:Present Value Of Its Cash Inflowpresent value of cash outflows (net present value) is

taken. This approach considers cash flows rather than profits into consideration and also usediscounting technique to find out worth of a project. Thus, maximization of wealth approachbelieves that money has time value.An obvious question that arises now is that how can we measure wealth. Well, a basicprinciple is that ultimately wealth maximization should be discovered in increased net worth orvalue of business. So, to measure the same, value of business is said to be a function of twofactors- earnings per share and capitalization rate. And it can be measured by adopting followingrelation:Value of business = EPS / Capitalization rate

At times, wealth maximization may create conflict, known as agency problem. This

describes conflict between the owners and managers of firm. As, managers are the agentsappointedby owners, a strategic investor or the owner of the firm would be majorly concerned about thelonger term performance of the business that can lead to maximization of shareholders wealth.Whereas, a manager might focus on taking such decisions that can bring quick result, so thathe/shecan get credit for good performance.However, in course of fulfilling the same, a manager might opt for risky decisions whichcan put-on stake the owners objectives.Hence, a manager should align his/her objective to broad objective of organization andachieve a tradeoff between risk and return while making decision; keeping in mind the ultimategoal of financial management i.e. to maximize the wealth of its current shareholder sheobjectionsare:-(i) Profit cannot be ascertained well in advance to express the probability of return as futureis uncertain. It is not at possible to maximize what cannot be known.(ii) The executive or the decision maker may not have enough confidence in the estimatesof future returns so that he does not attempt future to maximize. It is argued that firm's goalcannotbe to maximize profits but to attain a certain level or rate of profit holding certain share of themarket or certain level of sales. Firms should try to 'satisfy' rather than to 'maximize'(iii) There must be a balance between expected return and risk. The possibilities of higherexpectedyields are associated with greater risk to recognise such a balance and wealthMaximization is brought in to the analysis. In such cases, higher capitalization rate involves.Suchcombination of expected returns with risk variations and related capitalization rate cannot beconsidered in the concept of profit maximization.(iv) The goal of Maximization of profits is considered to be a narrow outlook. Evidentlywhen profit maximization becomes the basis of financial decisions of the concern, it ignores theinterests of the community on the one hand and that of the government, workers and other


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concerned persons in the enterprise on the other hand.Keeping the above objections in view, most of the thinkers on the subject have come to theconclusion that the aim of an enterprise should be wealth Maximization and not the profitMaximization. Prof. Soloman of Stanford University has handled the issued very logically. Heargues that it is useful to make a distinction between profit and 'profitability'. Maximization

of profits with a view to maximising the wealth of shareholders is clearly an unreal motive.On the other hand, profitability Maximization with a view to using resources to yieldeconomic values higher than the joint values of inputs required is a useful goal. Thus the propergoal of financial management is wealth maximization.Q2. Explain the Net Operating Approach to Capital Structure.Ans. Net operating income approach examines the effects of changes in capital structure in termsofnet operating income. In the net income approach discussed above net income available toshareholders is obtained by deducting interest on debentures form net operating income. Thenoverall value of the firm is calculated through capitalization rate of equities obtained on the basisof

net operating income, it is called net income approach. In the second approach, on the other handoverall value of the firm is assessed on the basis of net operating income not on the basis of netincome. Hence this second approach is known as net operating income approach.The NOI approach implies that :(i) Whatever may be the change in capital structure the overall value of the firm isnot affected. Thus the overall value of the firm is independent of the degree ofleverage in capital structure.(ii) (ii) Similarly the overall cost of capital is not affected by any change in thedegree of leverage in capital structure. The overall cost of capital is independentof leverage.If the cost of debt is less than that of equity capital the overall cost of capital must decreasewith the increase in debts whereas it is assumed under this method that overall cost of capital isunaffected and hence it remains constant irrespective of the change in the ratio of debts to equitycapital. How can this assumption be justified? The advocates of this method are of the opinionthatthe degree of risk of business increases with the increase in the amount of debts. Consequentlytherate of equity over investment in equity shares thus on the one hand cost of capital decreaseswiththe increase in the volume of debts; on the other hand cost of equity capital increases to the sameextent.Hence the benefit of leverage is wiped out and overall cost of capital remains at the samelevel as before. Let us illustrate this point. If follows that with the increase in debts rate of equitycapitalization also increases and consequently the overall cost of capital remains constant; it doesnot decline.To put the same in other words there are two parts of the cost of capital. One is the explicitcost which is expressed in terms of interest charges on debentures. The other is implicit costwhichrefers to the increase in the rate of equity capitalization resulting from the increase in risk ofbusiness due to higher level of debts.


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Optimum capital structureThis approach suggests that whatever may be the degree of leverage the market value of thefirm remains constant. In spite of the change in the ratio of debts to equity the market value of itsequity shares remains constant. This means there does not exist an optimum capital structure.Every

capital structure is optimum according to net operating income approach.Q.3 What do you understand by Operating Cycle.Ans. An operating cycle is the length of time between the acquisition ofinventory and the sale ofthat inventory and subsequent generation of a profit. The shorter the operating cycle, the faster abusiness gets a return on investment (ROI) for the inventory it stocks. As a general rule,companieswant to keep their operating cycles short for a number of reasons, but in certain industries, a longoperating cycle is actually the norm. Operating cycles are not tied to accounting periods, but arerather calculated in terms of how long goods sit in inventory before sale.When a business buys inventory, it ties up money in the inventory until it can be sold. Thismoney may be borrowed or paid up front, but in either case, once the business has purchased

inventory, those funds are not available for other uses. The business views this as an acceptabletradeoff because the inventory is an investment that will hopefully generate returns, but keepingtheoperating cycle short is still a goal for most businesses so they can keep their liquidity high.Keeping inventory during a long operating cycle does not just tie up funds. Inventory mustbe stored and this can become costly, especially with items that require special handling, such ashumidity controls or security. Furthermore, inventory can depreciate if it is kept in a store toolong.In the case of perishable goods, it can even be rendered unsalable. Inventory must also be insuredand managed by staff members who need to be paid, and this adds to overall operating expenses.There are cases where a long operating cycle in unavoidable. Wineries and distilleries, forexample, keep inventory on hand for years before it is sold, because of the nature of the business.Inthese industries, the return on investment happens in the long term, rather than the short term.Suchcompanies are usually structured in a way that allows them to borrow against existing inventoryorland if funds are needed to finance short-term operations.Operating cycles can fluctuate. During periods of economic stagnation, inventory tends tosit around longer, while periods of growth may be marked by more rapid turnover. Certainproductscan be consistent sellers that move in and out of inventory quickly. Others, like big ticket items,may be purchased less frequently. All of these issues must be accounted for when makingdecisionsabout ordering and pricing items for inventory.Q4. What is the implication of Operating Leverage for a firm.

Ans.Operating leverage: Operating leverage is the extent to which a firm uses fixed costs inproducing its goods or offering its services. Fixed costs include advertising expenses,administrative


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costs, equipment and technology, depreciation, and taxes, but not interest on debt, which is partoffinancial leverage. By using fixed production costs, a company can increase its profits. If acompany has a large percentage of fixed costs, it has a high degree of operating leverage.Automated and high-tech companies, utility companies, and airlines generally have high degrees

ofoperating leverage.As an illustration of operating leverage, assume two firms, A and B, produce and sellwidgets. Firm A uses a highly automated production process with robotic machines, whereasfirm Bassembles the widgets using primarily semiskilled labor. Table 1 shows both firms operatingcoststructures.Highly automated firm A has fixed costs of $35,000 per year and variable costs of only$1.00 per unit, whereas labor-intensive firm B has fixed costs of only $15,000 per year, but itsvariable cost per unit is much higher at $3.00 per unit. Both firms produce and sell 10,000

widgetsper year at a price of $5.00 per widget.Firm A has a higher amount of operating leverage because of its higher fixed costs, but firmA also has a higher breakeven pointthe point at which total costs equal total sales.Nevertheless, achange of 1 percent in sales causes more than a 1 percent change in operating profits for firm A,butnot for firm B. The degree of operating leverage measures this effect. The following simplified equation demonstrates the type of equation used to compute the degree of operating leverage,although to calculate this figure the equation would require several additional factors such as thequantity produced, variable cost per unit, and the price per unit, which are used to determinechanges in profits and sales:Operating leverage is a double-edged sword, however. If firm As sales decrease by 1 percent, itsprofits will decrease by more than 1 percent, too. Hence, the degree of operating leverage showstheresponsiveness of profits to a given change in sales.Implications:Total risk can be divided into two parts: business risk and financial risk. Business risk refersto the stability of a companys assets if it uses no debt or preferred stock financing. Business riskstems from the unpredictable nature of doing business, i.e., the unpredictability of consumerdemand for products and services. As a result, it also involves the uncertainty of long-termprofitability. When a company uses debt or preferred stock financing, additional riskfinancialriskis placed on the companys common shareholders. They demand a higher expected returnforassuming this additional risk, which in turn, raises a companys costs. Consequently, companieswith high degrees of business risk tend to be financed with relatively low amounts of debt. Theopposite also holds: companies with low amounts of business risk can afford to use more debtfinancing while keeping total risk at tolerable levels. Moreover, using debt as leverage is asuccessful tool during periods of inflation. Debt fails, however, to provide leverage duringperiods


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of deflation, such as the period during the late 1990s brought on by the Asian financial crisis.Q5. A company is considering a capital project with the following information:

The cost of the project is Rs.200 million, which consists of Rs. 150 million in plant a

machinery and Rs.50 million on net working capital. The entire outlay will be incurred

in the beginning. The life of the project is expected to be 5 years. At the end of 5 years,

the fixed assets will fetch a net salvage value of Rs. 48 million ad the net workingcapital will be liquidated at par. The project will increase revenues of the firm by Rs.

250 million per year. The increase in costs will be Rs.100 million per year. The

depreciation rate applicable will be 25% as per written down value method. The tax

rate is 30%. If the cost of capital is 10%what is the net present value of the project.Ans. Total outflow Rs. 150 Million + Rs. 50 Million = Rs. 200 MillionIncremental approachRevenueCostRs. 250 MillionRs. 100 Million = 150 MillionPr factor @10% for 5 years = 3.790

150 X 3.790 = Rs. 568.62Calculation of depreciation:

150

25%

Year Dep Tax saving PV@10% Tax saving

1 37.5 11.25 0.909 10.226

2 28.125 8.4375 0.826 6.969

3 21.09 6.327 0.751 4.751

4 15.82 4.746 0.683 3.241

5 11.87 3.561 0.621 2.21127.398

Total inflow: 568.62 + 27.398= 596.018+ Inflow in 5th year50+48 = 9860.858 x 0.621 = 656.876Net Present Value = 656.876 -200= 456.876 (Ans)Q.6 Given the following information, what will be the price per share using the Walter

model.

Earnings per share Rs. 40Rate of return on investments 18%

Rate of return required by shareholders 12%

Payout ratio being 40%, 50%, or 60%.

Ans.

D = 40 %EPS = 40DPS=16


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1. (for40%) = 16 / 12% + (40-16) /12% x 18 %= 169.332. (for 50%) = 20 / 12% + (40-20) /12% x 18 %= 196.663. (for 60%) = 24 / 12% + (40-24) /12% x 18 %

= 224

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