CHAPTER FOUR

Developing Feasibility Studies and Business

Plans

School of Mechanical & Industrial Engineering

 Outline
1. Introduction to feasibility study
2. Important of Feasibility Studies.
3. The Components of a Feasibility Study
4. Reasons Given Not to Do a Feasibility Study
5. Reasons to Do a Feasibility Study
6. Business Plan
7. The Purpose of Business Plan
8. Business Plan Format
9.Feasibility Study vs. Business Plan
10. Strategy Plan(Marketing strategy, Price)
11. financial statements
2
Definition of Feasibility Studies:

Feasibility study is an analysis of the viability of an idea.

The feasibility study focuses on helping answer the essential
question of “should we proceed with the proposed project
idea?” All activities of the study are directed toward helping
answer this question.

3
Definition…
Before you begin writing your business plan you need to identify
how, where, and to whom you intend to sell a service or product.

You also need to assess your competition and figure out how
much money you need to start your business and keep it running
until it is established.

4
 Important of Feasibility Studies
• List in detail all the things you need to make the business work;

• Identify logistical and other business-related problems and solutions;

• Develop marketing strategies to convince a bank or investor that

your business is worth considering as an investment; and

• Serve as a solid foundation for developing your business plan.

• Even if you have a great business idea you still have to find a cost-
effective way to market and sell your products and services. This is
especially important for store-front retail businesses where location
could make or break your business.

5
 Assessing the Feasibility of a New Venture
A feasible business venture is one where the business
will
generate adequate cash-inflow and profits,
withstand the risks it will encounter,
remain viable in the long-term and meet the goals of the
founders.

The venture can be a new start-up business, the purchase

of an existing business, franchise, an expansion of
current business operations or a new enterprise for an
existing business.
Elements in Evaluating New Ventures
Market Opportunity
Industry Trends & Regulatory Matters
Proprietary approach …is the intellectual property stand alone
or platform IP
Technology impact - what is the nature and outgrowth of the
technology?
Financials - is the model articulated for how products will be
sold, who will buy them, how much revenue is projected and by
when?...
Team - does the team have the requisite skills to move all
aspects of the company forward?
SWOT is a series of steps one has to consider in evaluating a
business opportunity and arriving at a decision on starting a
business or not.
The Components of a Feasibility Study
• Market Feasibility:

• Technical Feasibility:

• Financial Feasibility:

• Organizational Feasibility:

• Study Conclusions:

8
1 Market Feasibility:

Includes a description of the industry, current market,

anticipated future market potential, competition, sales
projections, potential buyers, etc.

The primary area that the feasibility study needs to address

is potential market opportunities for the cooperative. If an
adequate level of demand does not exist for the product and
the decision maker does not know how to differentiate its
product so that it can compete with established industry
players, then the proposed venture should not be pursued.
9
 Questions of Market feasibility
• What type of industry is the decision maker planning to enter?
What are its primary features?

• What are the possible target markets for the decision maker ’s
product? What demographic characteristics do they possess? How
large are these markets? Where are they located? Is the market
expected to grow in the future?

• Will the decision maker be competing in a mature industry or a

growth industry?

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Questions of Market feasibility ..…

• Who are the decision maker ’s competitors in this market? How

large are these competitors? How they are established? How do
they price their goods?

• How will the decision maker differentiate its product from those of
its competitors? What are the competitors’ strengths and
weaknesses, and how would the decision maker compare against
them? How does the decision maker plan on gaining market share?

11
2. Technical Feasibility:

• Details how you will deliver a product or service (i.e.,

materials, labor, transportation, where your business will
be located, technology needed, etc.).

• Determine facility needs, Suitability of production

technology, Availability and suitability of site, Raw
materials, HR …

12
Questions of technical feasibility
• What type of equipment and technology will the business need to
produce its product? What are the costs involved? This includes both
the initial purchase and installation costs of the equipment as well as
the operational costs of running the equipment.

• Who are the potential suppliers of this equipment? Where are they
located? What sort of service and warranties do they provide? How
long will it take to acquire the equipment and begin operations?

13
 Questions of technical feasibility…
What are the possible locations for the decision maker ’s facility?
What size of facility is needed? What are the costs of the building?
Does the proposed location have adequate access to infrastructures
and services such as major highways, railways, and utilities? Will the
decision maker build its own facility, or purchase an existing
location?

14
 3.Financial Feasibility:

Projects how much start-up capital is needed, sources of

capital, returns on investment, etc.

Estimate the total capital requirements, Estimate equity

and credit needs and determine sources, Budget expected
costs and returns of various alternatives…

15
When one wants to start a certain business , s/he
has to formulate a financial plan. At this time the
entrepreneur has to answer the following questions:
• How much money is needed?
• Where the money comes from?
• When should the money be available?
These three questions are concerned respectively
with the estimation of financial needs, sources of
finance, and the time of raising funds.
 Questions of financial feasibility:
• What are the total start-up costs required in order to begin
operations? For instance, what are the capital costs of the land, plant
and equipment, and other start-up costs?

• What are the operating costs involved? These include the daily costs
involved in running the business, such as wages, rent, utilities, and
interest payments on outstanding debt. These will determine the
cash flow requirements of the decision maker .

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Questions of financial feasibility…
• Based on the estimated demand, what are the decision maker ’s
revenue projections? How will the decision maker determine its
pricing arrangements?

• What are the possible sources of financing for the decision maker ?
Who are potential lenders? What will be their required terms and
limitations of borrowing?

• Based on the estimated revenues and costs, what is the projected

profit(loss) of the decision maker ? What is the break-even point?

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4.Organizational Feasibility:

Defines the legal and corporate structure of the business (may

also include professional background information about the
founders and what skills they can contribute to the business).

5. Study Conclusions: it contain the information you

will use for deciding whether to proceed or not with
creating the business

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 Generally

Feasibility studies contain comprehensive, detailed

information about your business structure, your products and
services, the market, logistics of how you will actually
deliver a product or service, the resources you need to make
the business run efficiently, as well as other information
about the business.

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Reasons Given Not to Do a Feasibility Study

• Project leaders may find themselves under pressure to skip the

“feasibility analysis” step and go directly to building a business.
Individuals from within and outside of the project may push to skip
this step.
• We know it’s feasible. An existing business is already doing it.
• Why do another feasibility study when one was done just a few years
ago?
• Feasibility studies are just a way for consultants to make money.
• The feasibility analysis has already been done by the business that is
going to sell us the equipment.
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 Conti….

• Why not just hire a general manager who can do the study?

• Feasibility studies are a waste of time. We need to buy the

building, tie up the site and bid on the equipment.

• The reasons given above should not dissuade you from

conducting a meaningful and accurate feasibility study. Once
decisions have been made about proceeding with a proposed
business, they are often very difficult to change. You may need to
live with these decisions for a long time.

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 Reasons to Do a Feasibility Study
• Conducting a feasibility study is a good business practice. If you
examine successful businesses, you will find that they did not go
into a new business venture without first thoroughly examining all
of the issues and assessing the probability of business success.
• Gives focus to the project and outline alternatives
• Narrows business alternatives
• Surfaces new opportunities through the investigative process
• Identifies reasons not to proceed
• Enhances the probability of success by addressing and mitigating
factors early on that could affect the project
• Provides quality information for decision making

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 Conti….

• Helps to increase investment in the company

• Provides documentation that the business venture was thoroughly

investigated

• Helps in securing funding from lending institutions and other

sources

• The feasibility study is a critical step in the business assessment

process. If properly conducted, it may be the best investment you
ever made

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 BUSINESS PLAN

• The business plan is a comprehensively written down document

prepared by the entrepreneur describing formally all the relevant
external and internal elements involved in starting a new venture.
• Preparing a business plan is one of the most useful things that you as
an entrepreneur or potential entrepreneur, can do.

• A business plan is a comprehensive set of guidelines for a new

venture.

• business plan would present your basic business idea and all related
operating, marketing, financial and managerial considerations.

• Every business should have a business plan.

 Generally business plan
A document which spells out the goals and objective
of a business and clearly outlines how and when they
will be achieved.
A structured guideline to achieve a business goal.
A proposal that describes a business opportunity for
financing agencies or investors.
A detailed action plan outlining every conceivable
aspect of the proposed business venture.
It varies according to the type of business
(manufacturing/ service type)
 THE PURPOSE OF BUSINESS PLAN

The business plan is valuable to the entrepreneur,

potential investors, venture capitalists, banks, financial
institutions, new personnel's suppliers, customers, advisors
and others who are trying to familiarize themselves with
the venture, its goals, and objectives.
The business plan :-
a) helps to understand the feasibility and viability of the
proposed venture,
b) facilitates in assessing and making provisions for the
bottlenecks in the progress and implementation of the
idea,
c) It can help the owner/manager set objectives and give him a
yardstick against which to monitor performance.
 Cont….
d) It emphasizes the strengths and recognizes the
weaknesses of the proposed venture.

e) The plan can uncover weakness or alert the entrepreneur

to sources of possible danger

f) discusses the potential for success of the project along

with the risk factors involved.
 Why Write a Business Plan?

Business plan is written to assist in:

 Keeping you focused on your goals and strategies
 Obtaining financing from outside sources
 Guiding the opening of a business
 Guiding the managing of a business
 Communicating clearly with interested parties
 Showing you have the ability to manage the business
 Showing there is a good market for your product or
service
 Comparing how the actual business performance
differs from the forecasted performance
When is a Business Plan Written?

• At the start up of a new business:

• Business purchase:
• On going:
• When updating the business is required
• When new information is obtained
• When new experiences are gained
Who Writes the Business Plan?

• Each prospective business owner/manager writes a

business plan for the business he/she wants to start
• An advice/support agency, or a professional figure
such as an accountant, may assist in writing certain
areas of the business plan for it to look
professional
• A computer programmer providing a model that
can be modified to suit your business can also be
utilized. The internet can also provide examples
How is a Business Plan Written?
• By identifying all the questions that might
be asked relating to the business
• By determining what further information
needs to be gathered to answer all the
questions
• By obtaining all the necessary information
• By comparing various alternatives
• By making a decision on each question
What Are the most common Types of Business Plans?

• For retail businesses

• For wholesale businesses
• For service businesses
• For manufacturing businesses
• For any other type of business
• For the financier
What is Contained in a Business Plan?

• Customers
• Competitors
• Suppliers
• Financiers
• Employees
• Products
• Locations
• Equipment
 Business Plan Outlines

1. Introductory page
2. Executive Summary
3. Industry Analysis
4. Description of Venture/ your company
5. Production Plan or Operations Plan
6. Marketing Plan
7. Organizational plan
8. Assessment of risk
9. Financial Plan
10. Appendices (contains backup material)
1. Introductory page
• Name of the venture/company
• Address of the venture/company
• Nature of business (form of organization)
• Addresses of the principals/partners (phone ,
Email , & date)
• Statement of financing needed
• Names of the principals/partners/owner
• Mission
• Vision
• Goal setting and objectives (for individual,
society and government)
 2.Executive summary
• Name of business
• Brief description of the business
• The legal form of the business will be:
• Reason for choosing this legal form
• Contact address
Tel. ___________________
E-mail_________________
Fax.___________________
• Type of business
􀂉 Manufacturer 􀂉 Service provider/dealer
􀂉 Retailer 􀂉 Wholesaler
• Brief description of the business idea
Products or services
Target Market
• Projects contribution to the economy
• Owner(s)
(Name, Address, Qualification, Function in the business,
relevant experience.)
 Cont…
• Owner(s) profile
 3.Industry Analysis
(a) Future outlook and trends (after 1 year, 2 year or 5 year)
(b) Analysis of competitors -size, operating method (quality,
delivery time, price, ability, packaging, distribution…)
• Strength
• Weakness
(c) Market segmentation (identification of the customers)- who are
your customers
(d) Industry forecasts (SWOT analysis of your company)-
size/amount, operating method (quality, delivery time, price,
ability of personnel , packaging, selling & distribution, payment
method, After sales service & Warranties…)
 4. Description of Venture/ your company

(a) Product(s)/Service(s)
(b) Size of business
(c) Office equipment
(d) Personnel
(e) Background of entrepreneurs
(f) Roles and responsibilities of members of organization
 5. Production Plan or Operations Plan
(a) Manufacturing process (amount subcontracted)
(b) Physical plant
(c) Machinery, equipment and materials
• Raw materials
• Consumables
• Stationery
• Machinery and tools
• Safety materials
• Power and water consumption
 Production process
•List of production steps.
• Prepare working drawing
•Select raw materials
•Transferring the dimension to the work piece
•Cut and develop the pattern
•Join the pattern accordingly
•Assemble the parts according to the drawing
•Apply coating and polishing

Production costs of each item to be produced

Raw materials per month

Direct labor per month

Factory overhead expenses per month

List fixed assets needed and their cost
• Brief description of production capacity of the
project per month:
• Factory/plant location and layout
List of raw materials needed & other Variable costs
Staff cost
Factory overhead expenses
 6. MARKETING PLAN
(a) Sales forecast
(b) Distribution
(c) Promotion
Description of the market
(Geographical area, town, type of customers, size of total market,
description of competitors, market share for the new business, etc.)
Marketing Plan Product
Detailed description of the product or product range or service
Product/service type
• What is special about the product/
• The unique characteristics of the product?
• Specification of the product
• After sales service
 Marketing Plan Price
• How much are customers willing to pay?
Highest _____
Average _____
Lowest _____
• How much are competitors’ price?
Highest _____
Average ____
Lowest _____
• How much is your price?
Highest _____
Average _____
Lowest _____
• What are the reasons for setting your price?
Pricing approaches

“Thumb suck” approach

“Cost driven” approach

“Demand driven” approach

Combination of the “cost- and demand

driven” approaches
METHOD 1: The “thumb suck” approach

• Some SMEs use the following formula:-

Price = 2x cost of raw materials
• The danger in using this approach is that the
price could be too high or too low when
compared to your competitors and/ or what
the customer is willing to pay for your
product.
METHOD 2: The “cost driven” approach
• Other SMEs use the following formula:-
Price= Cost + Profit, Whereby:-
• Add up fixed costs of salary requirement for the month, say
ETB 3000
• Add up other supplies of variable costs for the same period
ETB 4000
• Add (I) and (ii) to arrive at a total cost ETB 7000

• Divide the total cost by your estimated number of sales over the
month (e.g. 350 units) and you have a cost per item (ETB 7000
÷ 350 units) = ETB 20
• Add up the desired profit per unit (say 50% of the cost per item)
to give you a price per item, which would provide for the
unforeseen= ETB 20* 50%= ETB 10
• Total Price= Cost + Profit= ETB 20 +ETB 10= ETB 30
• The same danger still exists. In using this approach the price
could be too high or too law
METHOD 3: The “demand driven” approach

• The demand driven approach recognizes that

customers don’t know or care about your costs or
how much profit or loss you make.
They are interested in other things. For example:
• Perceived Quality-how good it is?
• Whether it will do the job
• Price- too low or too high
• Branding, image, etc
• Availability, etc
 Which approach is best?
• Clearly, the “demand driven” approach takes more account of
the most important element in your business….the customer
• But the “cost driven” approach does make sure that the price
that you set will lead to the profit that you are looking for.
• The best approach is a suitable combination of the cost and the
demand driven approaches.
• Start by using the demand driven approach (there by you will
not set a price too low or too high) and then check that there is
sufficient profit by using the cost driven approach (calculating
the cost involved and the experienced margin for you).
7. Organization and Management Plan
Form of ownership, identification partners, Authority
of principals
 8. Assessment of risk
Evaluation of weakness, new technologies, and contingencies plan
9. Financial Plan
(a)Total costs projection
(b) Financial forecasts – income (profit and loss) statement forecast
(c) Cash flow projections
(d) Break– even analysis
(e) Financial loan
10. Appendices (contains backup material)
(a) Letters
(b) Market research data and survey results
(c) Leases or contracts
(d) Price lists from suppliers
(e) Facility layout
(f) Draft marketing brochure with or without pricing
(g) Structure of marketing thrusts, if any
Feasibility Study vs. Business Plan
• Feasibility study answers the bottom line question. Is this venture
going to make money?
• Feasibility study outlines and analyzes several alternatives or
methods of achieving business success
• Feasibility study is conducted before a business plan
• Business plan is prepared only after the venture has been deemed to
be feasible
• Business plan deals with only one alternative or scenario that is
determined to be the “best” alternative
• Business plan considers the management side—goals and objectives
of the planned business venture
 Business idea selection

The Funnel Method:

Stages of the Funnel Method:
a. Brainstorming
b. Macro screening
c. Micro screening
d. SWOT Analysis

a/ Brainstorming - a technique in which

persons generate a large number of ideas
(about 500)
2. Macro Screening

Things to look for in Macro Screening:

•Marketability,

•Availability of raw material,

•Ease of implementation,

•Financial ability of the entrepreneur

3. Micro Screening
 4. SWOT Analysis

The SWOT approach compels individuals to think

or reason out systematically and analytically the
important factors strengths, weakness, opportunities,
and threats.

Strength: is an inherent capacity, which an

organization can use to gain strategic advantage over
its competitors.
Weakness: is an inherent limitation or constraint,
which creates a strategic disadvantage
Opportunity: refers to any factor that offer promise
or potential for moving closer or more quickly
towards the firms goal
Threat: is any factor that may limit or impede the
business in the pursuit of its goals
 SWOT Analysis Framework
• Result
(STRENGTH + OPPORTUNITY) – (WEAKNESS + THREATS)
 Marketing strategy

•Marketing:
• All the activities involved in the transfer of goods from
the producer to the consumer
• Marketing strategy is defined by David Asker as:

"a process that can allow an organization to concentrate its resources

on the optimal opportunities with the goals of increasing sales and
achieving a sustainable competitive advantage.“

 Marketing strategy includes all basic and long-term activities in the

field of marketing that deal with the analysis of the strategic initial
situation of a company.
 Cont….
A marketing organization has to concentrate on four
important aspects known as the 4P’s of marketing.
1/ Product
2/ Price
3/ Promotion
4/ Place
The marketing manager has to combine these 4 P’s in
such a way that the combination provides satisfaction to
the customer and profit to the manufacturer.
When these elements (4 P’s) are combined together they
are called as “The Marketing Mix”.
 1. THE PRODUCT
Product: Is any commodity that satisfies the needs & wants of
customer.
It is a bundle of tangible & intangible attributes, which satisfy the
needs, & wants of customers.
In today market, a product can be
•A person (soccer players),
•Places (leased land),
•Objects (items),
•Organization (privatized firms),
•Idea (business plans or project proposal),
•Services (medication or barber), or mixes of these elements.
So, a product can be defined as anything, which comprises of
benefits in forms of physical, service, and symbolic attributes to
maximize buyers’ want satisfaction.
 Products/Service
• The product element of the marketing mix is essentially concerned
with the customers’ perceptions and expectations of the goods or
services.

• Describe in detail your product or service

• Describe products or service features
• Explain the core benefits
• Clarify your point of difference
• Unique Selling Proposition (USP)
Brand
 A brand is a design, name, symbol, term or word that
distinguishes and identifies a company products or services.
 A “sum total” of all of the experiences, impressions, and
knowledge customers have about your product, service, or
organization
Brand Elements

Brand
names

Slogans
Brand
Logos
Elements

Characters Symbols
 Cont…
 Brand name
 A brand name is "that part of a brand which can be vocalized
i.e. can be spoken

Generic Name Brand Names

Soft drink Pepsi, Coca-Cola

Pen Lexi5, Bic

Car Toyota, Mercedes,

Refrigerator LG, Hitachi, Samsung

 Cont….
 Qualities of a good brand
• A good brand name should basically possess qualities of
distinctiveness. It should have the capability to stand out
amongst a host of competing names.
• While selecting a brand name, entrepreneur should choose
a name which is :
a.Short, simple and easy to pronounce.
b.Noticeable, easy to recognize and remember.
c.Pleasing, impressive when spoken.
d.Neither obscene, negative, offensive or vulgar.
e.Adaptable to packaging, labeling requirements, to different
advertising media and languages.
f.Linked to product, symbolically eye catching.
g.Contemporary, capable of being registered and protected legally.
2. The price
• Is the amount of money consumers have to pay to
obtain the product.
• Price has operated as the major determinant of user
choice traditionally.
• Although non-price factors have become more
important in recent decades price still remains one
of the most important element determining market
share and profitability.

• Different companies set the price

haphazardly/arbitrarily as based on cost.
The major objectives of pricing are:

•Achievement of target return

•Maximization of profit
•Increase of sales volume
•Maintenance or increase of market
share
•Stabilization of prices &
•Meeting competition
3.PLACE MIX
 Place: Includes company activities that make the
product available to target consumers.
 Physical distribution includes
• Channels of distribution
• Transportation
• Warehousing/ storing goods/
• DEFINITION OF MARKETING CHANNELS
The marketing (or distribution) channels refer to the
activities, parties and channel structure required to
transfer a product from its point of production to its
point of consumption by the end customer
 Direct channel
1.Door-to-door selling  
2.Manufacturers’ sales branches
3.Direct mail
Indirect channel
1.Merchant Middlemen:-
• Whole seller:- E.g. Petram PLC and East Africa Trading are wholesalers of
consumer products.
• Retailer:- E.g. Hadiya supermarket, and several Kiosks are found closer to
sell the items to residential houses.
2. Agent Middlemen
• Commission agent, Brokers, Selling agents,
• E.g. -Sony Glorious, is an agent to Sony Electronics products,
-Equatorial business is agent to Samsung.
 4.PROMOTION MIX
 Is sometimes known as marketing communication.
Means activities that communicate the merits of the
product & persuade target customers to buy it.
Promotional objectives:
• Informing the product
• Increasing sales
• Stabilizing sales / profit
• Positioning the product
• Description of the planned actions to inform customers
about the opening of the new business (e.g. printed
information, brochures, posters, newspaper articles, radio
advertisements, opening ceremony, etc. Also make
inquiries about the costs for the different types of
promotion)
The promotional mix consists of four major tools
• Advertising: such as informative Ad, Persuasive
Ad and Reminder Ad

• Personal selling – Oral presentation in

conversation with one / more consumers for the
purpose of making sale

• Sales promotion – Includes: gifts, games,

sampling, coupons, and window displays.

• Publicity – Any information about the

organization, its personnel or its products that
appears in any medium on a non - paid
 1.Advertising
 Is a communication designed to persuade potential
customers to choose the product or service over that of
a competitor.
 Advertising aims to:
• Make business and product name familiar to the public
• Create goodwill and build a favorable image
• Educate and inform the public
• Offer specific products or services
• Attract customers to find out more about your product
or service
2. Personal selling

It means selling products personally.

Thus a sales person plays three different roles
• Be persuasive
• A service provider
 3.Sales promotion
 Relates to short–term incentives or activities that
encourage the purchase or sale of a product or service.
The major sales promotion activities
 Consumer promotions
• Point of purchase display material
• In-store demonstrations, samplings and celebrity
appearances
• Competitions, coupons and games
• Loyalty reward programs
 Business promotions
• Seminars and workshops
• Conference presentations
• Trade show displays
• Telemarketing and direct mail campaigns
• Newsletters
• Event sponsorship
Trade promotions
• Reward incentives linked to purchases or sales
• Reseller staff incentives
• Competitions
• Corporate entertainment
• Bonus stock
 Sales force promotions
• Commissions
• Sales competitions with prizes or awards
4.Public relations

 It is the deliberate, planned and sustained effort to

establish and maintain mutual understanding
between an organization (or individual) and its (or
their) public.
 MARKET SEGMENTATION
• Market segment is a group of individuals or organizations within
a market that share one or more common characteristics.
• The process of dividing a market in to segments is called market
segmentation. Qn. Why segmentation?
Bases for market segmentation
1.Geographic segmentation:- Region Urban, Suburban, Rural,
Market density, Climate, Terrain (land, topography), City size,
Country size, State size
2.Demographic segmentation:- Age, Gender, Race, Ethnicity,
Income, Education, Occupation, Family size, Family life cycle,
Religion, Social class
3.Psycho graphic segmentation:- Personality, Attributes, Motives,
Lifestyles
4.Behavioral segmentation:- Volume usage, End use, Benefit,
Expectations, Brand loyalty, Price sensitivity
Financial Plan
 BASIC FINANCIAL STATEMENTS
• A written report which quantitatively describes the financial health
of a company.
• help to determine the financial performance/ financial health of a
particular business.
• quantify the financial strength, performance and liquidity of a
company.
• Help to compare current performance with performance in previous
years.
• reflect the financial effects of business transactions
• How well did the business do in terms of total sales?
• What were its expenses?
Elements of A Financial Statement

1.Pricing

2. Costing

3.Profit

4.Break-even

5.Cash flow

6.Tax
 Price
• that we change for our product is obviously very
important to the success of our business.

• A great deal of time and attention needs to be devoted to

our pricing

• If we set it too high, customers are unwilling to buy or

• If too low it may give wrong image to our product or not

making adequate profit.
 COSTING
• When you spend your money to use it for your business,
be it for salaries, services, materials, logistics, promotion,
or other, this is considered as a COST.

• You spend it in order to obtain revenue (turn over), and

you should always be aware of costs, as you need higher
turnover than cost to achieve a profit.

• Costs can be broadly categorized in to Investment costs

and Operational costs.
 Cont….

• Investment costs are the costs incurred for buying

machineries, Land, buildings, etc whose life span is
more than one year.

• Operational costs are the costs incurred during the

operation period of the business.

• Operational costs are further classified in to fixed cost

and variable cost
Types of costs Cont…..
•• Fixed
Fixed and
and Variable
Variable costs.
costs
costs.
costs

•• Fixed
Fixedcosts
costsremain
remainconstant
constantin intotal
total(not
(not
per
perunit)
unit)regardless
regardlessof ofthe
thevolume
volumeof of
production
productionor orsales,
sales,over
overaarelevant
relevantrange
rangeof of
production
productionor orsales.
sales. Remain
Remainthe thesame,
same,no no
matter
matterhow
howmuch
muchoutput
outputaacompany
company
produce
produce
•• Rent
Rentand
andsalaries
salariesare
aretypically
typicallyfixed
fixedcosts
costs
•• Variable
Variablecosts
costsfluctuate
fluctuateinintotal
total(not
(notper
per
unit)
unit)as
asthe
thevolume
volumeof ofproduction
productionor orsales
sales
fluctuates.
fluctuates.Vary
Varywith
withthe
theamount
amount
produced/output
produced/output
 Direct
Direct labour
labour costs,
costs, Direct
Direct material
material costs
costs
used
used in
in production,
production, andand sales
sales commissions
commissions
are
areexamples
examplesof ofvariable
variablecosts.
costs.
 Elements of Cost Examples:
Examples: Indirect
Indirect materials
materials and
and
indirect
indirect labor
labor
le
less
mmpp
x
EExaa
Example:
Example: The tires installed in an
Wages paid to automobile
automobile
assembly workers
Direct
Direct
Materials
Materials
Direct
Direct Manufacturing
Manufacturing
Labor
Labor Overhead
Overhead

Other
Admini Costs
strative
Costs

Selling and
All executive, distribution
organizational,
Rent
and clerical
costs. The Product Utilities
Example
 Cont…

• Calculate:
1. The Variable cost, Fixed costs and total costs per month at full
capacity

2. The profit / loss that the business will make from this order.
 The tailor shop of wro addis - cost structure
Cost (ETB)
  per month

2.5 dresses per day

[(Cloth 2x150ETB)+(Button x 20days= [2*150+20*
Direct material & 20x5ETB) +(Belt 1x50 ETB)] per 50dresses per 5+1*50]*50
expenses unit month = 22500
Variable cost 22,500 68%
Monthly interest [amount x int. rate x years]/month = [ETB 30,000 x 12 % x 1]/12 = 300
Depreciation: ETB 24,000 ÷ 60 months = 400
Auxiliary materials & packaging 700
Maintenance / repairs 200
Administration cost 400
Salaries (regular salaries in production) 2000
Salaries (Wro Addis) 3000
Rent 2500
Utilities 400
Selling expenses 600
Total Fixed Cost 10,500 32%
Total cost (Variable+ fixed) 33,000
 Profit / loss Calculation

Turnover:
50 dresses per month x ETB 700.00 each = ETB 35,000 per month

SALES ETB 35,000

- Cost of production ETB 22,500
= Contribution ETB 12,500
- Overheads (fixed costs) ETB 10,500
= NET PROFIT ETB 2,000
 Cont…
 Contribution rate in % = (Contribution ÷ Revenue) x 100
= (ETB 12,500 ÷ ETB 35,000) x 100
= 35.7 %

 NET PROFIT % = Net Profit ÷ Revenue x 100

= ETB 2,000÷ ETB 35,000 x 100
= 5.7 %
 Profit
Manufacturing Profit And Contribution %
• By reducing production cost from sales, we arrive at an
important figure-our manufacturing profit, commonly called
manufacturing contribution (traders refer to it as gross
profit/GP or margin).
• GROSS PROFIT = SALES - PRODUCTION COST

Exercise 1
• Sales ETB 30,000
• Cost of production (Variable) ETB 18,000
• Manufacturing contribution (Gross) ETB 12,000
 Cont….
• If we divide contribution into sales, we get the
contribution rate in % (percent).

• (ETB 12,000 ÷ ETB 30,000) x 100= 40%

• This is a very useful figure as it monitors the

relationship between selling and manufacturing price
and any strange figure will tell us that something is out
of line.

• It would also be an indicator of stock losses.

 Cont….
• We arrive at net profit by deducting overheads from our
manufacturing profit.
• So if the enterprise overheads (in the form of e.g. rent and salaries)
for the month were ETB 9,000, his net profit would be calculated as
follows:
• SALES ETB 30,000
• Cost of Manufacturing ETB 18,000
• CONTRIBUTION ETB 12,000
• OVERHEADS/fixed cost ETB 9,000
• NET PROFIT ETB 3,000
 Cont……
• If we divide Net profit into sales, we get the Net Profit in
% (percent).

• Net Profit % = (ETB 3,000 ÷ ETB 30,000) × 100=10%

• This is a very useful as it monitors the ability of the

business to generate profit.
 BREAK-EVEN ANALYSIS
• Break-even analysis is a tool to determine the level of
production/ sales at which the business will cover both
fixed and variable costs
• It indicates the minimum amount of revenue that a
business must earn in order to cover the total cost
incurred so that it does not incur any loss i.e.
• “A firm Breaks Even if it doesn’t make a profit or a loss”
• In other words profit = 0
• Total Revenue = Total Costs
• The break-even point is the level of operations at which
a company’s revenues and expenses are equal.
 Uses of break- even analysis

 It enables a business organization to:

• Measure profit and loss at different levels of
production and sales
• To predict the effect of changes in price of
sales
• To analyse the relationship between fixed cost
and variable cost
• To predict the effect on profitability if changes
in cost and efficiency
• The fundamental accounting equation

Profit = Revenues - Costs

Revenue = SP*units sold ,SP = selling
price
Costs = FC + VC(units manufactured)
FC = fixed cost
VC = unit variable costs.
• We are assuming that units manufactured equal
units sold
 What if we want to know how much
product we must sell to break even?

• The breakeven point is the point where profit is

zero,
so Profit /Loss = 0 = Revenue - Cost
= SP*units sold - FC - VC*units sold
= (SP - VC)*units sold - FC

units sold = FC/(SP - VC)

• We will call units sold at Profit /Loss = 0: BE units

 Breakeven revenue
 Breakeven units (BE units) * SP, or
SP * BE units = SP*(FC/CM)

Breakeven revenue = FC/(CM/SP)

•CM= Contribution margin = Revenue - Variable

costs
Some variable costs are manufacturing costs, but
some may be non-manufacturing costs. None are
fixed costs.
Cont…
DIAGRAMATIC PRESENTATION
 CALCULATION OF BREAK-EVEN
 The break-even point can be calculated in terms of:
• Volume of production
• Sales revenue
• Factory Capacity; and
• Sales Price
Break- Even in unit =

Break-Even in Birr =
Example 1
• ABC company is working in the following business environment
Maximum Capacity= 25,000 units per year
Total Fixed Cost = ETB 30,000
Sales Price =ETB 10
Variable Cost = ETB 7

Contribution =Sales Price - Variable Cost = 10-7= 3 ETB

 Calculate the break even point in
a)Volume of Production
b) Sale revenue
c)Capacity utilization
a) Volume of Production

BEP =

= = 10,000 units

 You need to sell 10,000 units to break even

b) sales revenue

sales revenue = Production units X Sales price

• = 10,000 units X 10 ETB= 100,000 ETB

OR = X unit price = X 10 = 100,000 ETB

The result can also be calculated based on the equation that at

break even sales revenue and all costs (fixed and variable) are
the same, i.e.

Sales revenue = total fixed cost + total variable costs

= 30,000 ETB + (10,000 X 7) = 100,000 ETB

 C) Capacity Utilization

• Capacity Utilization=

• =
= 40 %

• This is the most popular method of expressing break-even.

• In this example, if you are able to make use of at least 40%
of your theoretical production capacities ( and sell the
products), then you are break even.
• If you produce more, you make a profit. It is a quick
indicator for steering your business.
 Cont…..
• In this case the margin of safety is 60 % (100%-40%) .

• The wider the margin, the broader is the scope of

operation beyond the break-even point.

• But be careful: keep production & sales in a sound

relation.

• Do not over produce products that later might be

unsellable, but also do not under produce and have
difficulties to deliver.
D) Minimum acceptable price

• The break-even analysis can also be utilized for guiding

the minimum acceptable price to a business at a particular
level of production.
• Using the same data give above, ABC plans to produce
and sell 15,000 units and wishes to know the minimum
price below which it should not sell his product.
• It can be calculated as follows:

• Price = =

• = 9.00 ETB
 Cont…..
• The minimum price will be lower if production is more, say
20,000 units

, i.e. = 8.50ETB

• The reason for reduction in the break-even price is that

the fixed costs are spread over a large number of units;
hence the cost per unit goes down.

• This analysis allows you to determine objectively the

viability of your business.
Exercise 1:
• A small street side café offers fresh traditional coffee to
the general public. Total variable cost per coffee
(including coffee beans, water fire wood, sugar) amount
to be ETB 1.60 per cup. The selling price is ETB 4.00.
The café has fixed costs per week of ETB 360.00, being
the rental of the place.
Capacity = 300 units
Calculate:-
1) Volume of production at break-even point
2) Sales at break-even point
3) Capacity Utilization (%)
4) What is the minimum acceptable price, if the café plans to
produce 250 cups.
5. diagrammatic presentation of the break – even analysis
a) Volume of production
Given
•Sales = 4.00 ETB
•Variable cost = 1.60 ETB
•Fixed cost = 360 ETB
•Capacity = 300 units

Solution

A) Volume of production= , but contribution=4-1.6

=2.4 ETB

= = 150 units
 b/ Sales at break-even point

Sales at BEP= units at BEP X UNIT PRICE

= 150 X 4 = 600 ETB

C) Capacity utilization

• Capacity utilization= X 100

= X 100 = 50 %
d) The cafe plans to produce 250 units. The
minimum break even price will be:

•Min. price =

= 3.04 ETB
e) Diagrammatic presentation
 Margin of Safety (MoS)
•If a firm is producing AND selling more than the break even level of output
then a profit is being made
•This is effectively a “safety net”, and can be calculated as:
•Actual Sales - Break Even Level, From the previous example(coffee house)
•If Actual sales =300 units/week
•Break Even level= 150 units/week , & MoS 300-150=150 units /week
 Calculation of Break-Even

Fixed costs $90,000

Unit selling price $25
Unit variable cost $15
Unit contribution margin $10

Break Even sales (units) = $90,000/10= 9000 units

 Exercise2
• Suppose you are the owner of hollow blocks
manufacturing enterprise. Hollow blocks are sold for
ETB 850 per 100 blocks. The monthly cost structure of
your enterprise looks the following
Salaries (F) ETB 3,000 per month
Production Labor (V) ETB 50 per 100 blocks
Rent (F) ETB 3,000 per month
Cement, sand and stone (V) ETB 500 per 100 blocks
Machine credit payment (F) ETB 1,000 per month
Delivery costs (V) ETB 50 per 100 blocks
Telephone / Communication (F) ETB 500 per month
Capacity = 4000 hollow blocks
 Cont….
Calculate:-
1) Volume of production at break-even point
2) Sales at break-even point
3) Capacity Utilization (%)
4) What is the minimum acceptable price, if the
enterprise plans to produce 5000 hollow blocks.

5 diagrammatic presentation of the break –

even analysis
Cont…
 Break-Even Exercise 3 Bamboo Chair Maker

 Per month data

Selling price per unit ETB 750

Manufacturing cost per unit ETB 450
Maximum capacity (chairs per month) 60 units
Fixed costs (including rent, fixed salaries) ETB 6,000

1/ Compute the number of units to break-even.

2/ What is the break-even revenue
3/ % of capacity utilization?
 Break-Even Exercise:4
New Wave Technology Inc. manufactures and sells two products,
MP3 players and satellite radios. The fixed costs are $300,000, and
the sales mix is 40% MP3 players and 60% satellite radios. The unit
selling price and the unit variable cost for each product are as
follows:

I. Compute the break-even sales (units) for the overall product,

II. How many units of each product, MP3 players and satellite
radios, would be sold at the break-even point?
 Demerits of Break Even analysis
• It is only a forecast!
• Assumes all products are made AND sold
• Assumes that sales prices are constant at all
levels of output
• Costs may change
• It can only apply to single product or single
mix of products
 CASH FLOW
 A lack of cash can arise for a number of reasons,
including:
• unplanned payments, which are to be made (e.g. maintenance);

• poor profit margins (e.g. large overhead cost structure);

• over-trading / growing too fast;

• ineffective debt collection;

• carrying too much raw materials / work in progress / finished goods

stock.
HOW DOES MONEY FLOW THROUGH A
BUSINESS?

• Cash introduced by the owners:- Owners

Capital or Equity
• Cash borrowed from other people:- Third-party
loan
• Cash generated from sales:- Sales revenue
 How does cash flow out of your business?
• Cash is spent buying things we mean to keep running the
businesses. E.g. buying fixed assets

• Cash is spent making things to sell.

• E.g. buying raw materials, payment for workers

• Cash is spent on covering business expenses

• e.g. rent, interest, utility, etc

• Drawings by the owner of the business:

• E.g. pay school fees, feed your family , maintain your lifestyle.

• Cash is spent paying taxes

Cash flowing through a business
 PROFIT FORECAST
E.g. Suppose you are the owner of hollow blocks manufacturing
enterprise. Hollow blocks are sold for ETB 850 per 100 blocks. The
monthly cost structure of your enterprise looks the following

Salaries ETB 3,000 per month

Production Labor ETB 50 per 100 blocks

Rent ETB 3,000 per month

Cement, sand and stone ETB 500 per 100 blocks

Machine credit payment ETB 1,000 per month

Delivery costs ETB 50 per 100 blocks

Telephone / Communication ETB 500 per month

•Capacity = 4000 hollow blocks
 Cont…..
• Prepare a Cash flow forecasts and profit forecasts for

Hollow concrete enterprise

• The enterprise fix budget to produce and sell the following

quantities of blocks:

September October November

• Blocks 5,000 6,500 7,000

• There is lower production in September due to weather

conditions and lower demand.

 Prepare a profit forecast, for the months September,
October and November
Hollow Block Making Enterprise - Profit Forecast
September October November
Income from Sales

- Material Cost
- Production Labor
Contribution
Salaries
Rent
Machine Rent
Delivery Expense
Telephone

-Total Expense
Profit Before Tax (PBT)
 Cont…..
 Fixed cost
• Salary = 3000 ETB
• Rent = 3000 ETB
• Machine credit = 1000 ETB
• Telephone/communication = 500 ETB
• Total Fixed Cost = 7,500 ETB
Variable Cost
 September October December
• Material 25,000 32,000 35,000
• Labor 2,500 3,250 3,500
• Transport/ 2,500 3,250 3,500
Delivery cost
• Total 30,000 39,000 42,000
 Cash flow
Cash flow
Period Description Income (I) Expense (E) Balance (I-E)

August   30,000 0 30,000

42500+30000
September   =( 72,500) 37500 35,000

55250+3500=
October   (90,250 ) 46500 43,750

59500+43750
November   =( 103,250) 49500 53,750
PBT(Profit Before Tax) 53,750
PAT(15%) /Profit After Tax 8,062.50
Net Profit 45,687.50
Projected monthly cash flow statement
 TAX
TAX Payers Category
1/ Category "A" which shall include the following persons and
bodies:
• any other business having an annual turnover of Birr 500,000 (five
hundred thousand Birr) or more;
• 2) Category "B" , unless already classified in category "A", any
business having an annual turnover of over birr 100,000 (one
hundred thousand Birr);
• 3) Category “C”, unless already classified in Categories "A" and "B"
whose annual turnover is estimated by the Tax Authority as being
up to Birr 100,000 (one hundred thousand Birr);
 TAX Proclamations
• There are a number of proclamations and regulations
dealing with taxes in Ethiopia

• Income Tax - Proclamation No. 286/2002

• Value Added Tax - Proclamation No. 285/2002

• Turnover Tax- Proclamation No. 308/2002

• Exercise Tax Proclamation No. 307/2002

 Value Added Tax (VAT)

• This is a sales tax based on the increase in value or price

of product at each stage in its manufacture and
distribution.

• The cost of the tax is added to the final price and is

eventually paid by the consumer.

• The rate of VAT is 15% of the value for every taxable

transaction by a registered person,
Excise Tax
• This is imposed and payable on selected goods, such as,
luxury goods and basic goods which are demand inelastic.
• In addition, it is believed that imposing the tax on goods
that are hazardous to health and which are cause to social
problems will reduce the consumption thereof.
• Excise tax shall be paid on goods mentioned under the
schedule of 'Excise Tax Proclamation No. 307/2002' when
imported and when produced locally at the rate prescribed
in the schedule.
 Turnover Tax

• This is an equalization tax imposed on persons not registered for

VAT to fulfill their obligations and also to enhance fairness in
commercial relations and to complete the coverage of the tax
system.
• Administrative feasibility considerations limit the registration of
persons under the VAT to those with annual transactions to the
total value exceeding 500,000 Birr.
• The rate of turnover tax is 2 % on goods sold locally and 10 % on
others; as provided by the 'Excise Tax Proclamation No. 307/2002'
Income Tax
• Income Tax has four schedules, as follows:
• Schedule 'A,' income from employment
• Schedule 'B,' income from rental of buildings
• Schedule 'C,' income from business
• Schedule 'D', other income including income from
• copyright of literary, artistic or scientific work,
including cinematography films, and films or tapes for
radio or television broadcasting, any patent, trade work,
design or model, plan, secret formula or process, or for
the use or for the right to use of any industrial,
commercial or scientific equipment, or for information
concerning industrial, commercial or scientific
experience
 Project
Group case study

Objective:
• The general objective of this case study is to apply the
theoretical concepts of entrepreneurship course learned in classes
to real business
Case study Deliverables:
• Select any business idea and develop
1. The business plan (use the outline)
• N.B. -- Make reasonable assumption and constraints wherever
necessary
• Work the business plan independently
( Business ideas related to your discipline is encouraged)
• WARINING: Identical woks will not be evaluated!
• Submission date: ______________