CHAPTER 3

GENERATION AND SCREENING OF PROJECT IDEAS

Abstract

The search for promising project ideas is the first step towards establishing a successful venture. The chapter would discuss certain broad considerations and guidelines helpful in generation and screening of project ideas. The objective is to identify investment opportunities which are prima facie feasible and promising.

OUTLINE
Generation of ideas
Monitoring the environment

Corporate appraisal
Profit potential of industries : Porter model Scouting for project ideas Preliminary screening Project rating index Sources of positive net present value On being an entrepreneur

Generation of Ideas
To stimulate the flow of ideas, the following are helpful

SWOT analysis
Clear articulation of objectives Cost reduction Productivity improvement Increase in capacity utilization

Expansion in promising fields

Fostering a conducive environment

Business Environment

Competitor

Corporate Appraisal

Marketing and distribution

Production and operations

Research and development Corporate resources and personnel Finance and accounting

Tools for Identifying Investment Opportunities

There are several tools or frameworks that are helpful in identifying promising investment opportunities. The more popular ones are: Porter model Life cycle approach Experience Curve

Porter Model
According to Michael Porter the profit potential of an industry depends on the combined strength of the five basic competitive forces as shown below Forces Driving Industry Competition
Potential Entrants Threat of New Entrants Bargaining Power of Suppliers
THE INDUSTRY Rivalry Among Existing Firms

Suppliers

Bargaining Power of Buyers

Buyers

Threat of Substitute Products Substitutes

Rivalry among Existing Firms

The number of competitors in the industry is large The industry growth is sluggish, prodding firms to strive for a higher market share The levels of fixed costs is high , generating strong pressures for all items to achieve a higher capacity utilization level The industry confronts high exit barriers

Pressure from Substitute products

Substitute products may limit profit potential of the industry The risk is high when:
Price performance trade off offered by substitute products is attractive The switching costs for prospective buyers are minimal

Bargaining power of buyers and suppliers

Buyers are a competitive force Buyers can bargain for price cut, ask for superior quality , better service and induce rivalry among competitors Suppliers have strong bargaining power when a few suppliers dominate and hardly any viable substitutes for the products is available

Life Cycle Approach

Many industrial economists believe that most products evolve through a life cycle that has four stages:

Pioneering stage(- NPV)

Rapid growth stage(+ NPV) Maturity and stabilisation stage(neutral NPV)

Decline stage (- NPV)

Investment in the pioneering stage, per se, may have a low return and negative NPV. However, it may create options for participating in growth.

Most products evolve through a life cycle. The broad stages and

the investment returns in these stages are as follows:

Stage

Investment Return

Pioneering

Rapid growth Maturity

May have negative NPV but may create options for participating in growth stage Positive NPV
NPV neutral

Decline

Negative

Experience Curve
The experience curve shows how the cost per unit behaves with respect to the accumulated volume of production

100

80

60 40
10 20 40 80

Accumulated volume of production

The key factors that contribute to decline in unit cost with respect to the accumulated volume of production are learning effects, technological improvements, and economies of scale

Scouting for Project Ideas

Analyse the performance of existing industries Examine the inputs and outputs of various industries Review imports and exports Study plan outlays and governmental guidelines Look at the suggestions of financial institutions and development agencies

Investigate into local materials and resources

Analyse economic and social trends Study new technological developments Draw clues from consumption abroad Explore the possibility of reviving sick units Identify unfulfilled psychological needs Attend trade fairs Stimulate creativity for generating new product ideas Hope the chance factor will favour you

Preliminary Screening
Compatibility with the promoter Consistency with governmental priorities Availability of inputs Adequacy of market Reasonableness of cost

Acceptability of risk level

Project Rating Index

The steps involved in determining the project rating index are
as follows: Identify factors relevant for project rating

Assign weights to these factors ( the weights are supposed to

reflect their relative importance) Rate the project proposal on various factors, using a suitable rating scale (Typically a 5-point scale or a 7-point scale is used for this purpose.)

For each factor, multiply the factor rating with the factor weight to
get the factor score Add all the factor scores to get the overall project rating index

Construction of a Rating Index

Factor Weight VG 5 Input availability Technical know-how Reasonableness of cost Adequacy of market Complementary relationship with other products Stability Dependence on firms strength Consistency with governmental priorities 0.25 0.10 0.05 0.15 0.05 0.10 0.20 0.10 Rating Index 4.00 G 4 A 3 P 2 VP 1 0.75 0.40 0.20 0.75 0.20 0.40 1.00 0.30 Factor Rating Score Factor

Sources of Positive NPV

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

Economies of scale
Product differentiation

Cost advantage
Marketing reach

Technological edge
Government policy

The Questions Every Entrepreneur Must Answer

According to Amar Bhide the following are the question that every entrepreneur must answer: Are my goals well defined?
Personal aspirations Business sustainability and size Tolerance for risk
Clear definition Profitability and potential for growth Durability Rate of growth Resources Organisational infrastructure The founders role

Do I have the right strategy?

Can I executive the strategy

Qualities and Traits of a Successful Entrepreneur

It appears that a successful entrepreneur has the following qualities and traits : Willingness to make sacrifice Leadership Decisiveness

Confidence in the project

Marketing orientation Strong ego

Open-mindedness

On Entrepreneurship
An internationally acknowledged authority on development economics, Nobel Laureate Sir Arthur Lewis commented as follows on the role of entrepreneurship. I have devoted a lifetime to the study of developing economies. I have examined strategies of development, the role of foreign trade, of savings and investment, the most helpful role of government, and a myriad of other factors. I am now convinced that nothing matters more than the work ethic and entrepreneurial spirit of the population.

SUMMARY

Identification of promising investment opportunities requires imagination, sensitivity to environmental changes, and a realistic assessment of what the firm can do. To stimulate the flow of investment ideas, the following are helpful: (i) SWOT analysis, (ii) clear articulation of objectives, and (iii) conducive climate. The business environment which needs to be monitored regularly to identify investment opportunities, may be divided into six broad sectors: economic sector, government sector, technological sector, socio-demographic sector, competition sector, and supplier sector. A realistic appraisal of corporate strengths and weaknesses is essential for identifying investment opportunities which can be profitably exploited. The broad areas of corporate appraisal are: market and distribution, production and operations, research and development, corporate resources and personnel, and finance and accounting. According to Michael Porter the profit potential of an industry depends on the combined strength of the following five basic competitive forces (i) threat of new entrants, (ii) rivalry among existing firms, (iii) pressure from substitute products, (iv) bargaining power of buyers, and (v) bargaining power of sellers. Good project ideas the key to success are elusive. So a wide variety of sources should be tapped to identify them.

It is possible to develop a long list of project ideas. For the preliminary screening of these ideas, the following aspects may be looked into: compatibility with the promoter, consistency with governmental priorities availability of inputs, adequacy of market, reasonableness of cost, and acceptability of risk level. When a firm evaluates a large number of project ideas regularly, it may be helpful to streamline the process of preliminary screening by employing a project rating index. It appears that there are six main entry barriers which result in positive NPV projects: economies of scale, product differentiation, cost advantage, marketing reach, technological edge, and government policy.

Every entrepreneur must answer the following questions: Are my goals well defined? Do I have the right strategy? Can I execute the strategy?
It appears that a successful entrepreneur has the following qualities and traits: willingness to make sacrifices, leadership, decisiveness, confidence in the project, marketing orientation, and a strong ago.