The following aspects need to be considered when assessing the financial structure and statements:

Debt to equity ratio – A good project would ideally have a low debt-equity ratio which helps in
reducing the cost of the debt, thereby increasing the net cash accruals. Higher net cash accruals
enable the company to build up sufficient cash reserves for principal repayment and provide a
cushion to the lenders.

Principal repayment schedule – The lender endeavors to match the principal repayment schedule
with the cash flow projections while leaving sufficient cushion in the cash flow projections. One way
of safeguarding lenders’ interests is to negotiate the creation of a sinking fund for this purpose

Sinking fund build-up – Build-up of a sinking fund or Debt Service Reserve Account is usually
established in order to safeguard the lenders’ interests. Such a fund entails deposit of a certain
amount in a designated reserve account which is used towards debt servicing in the event of a
shortfall in any year/quarter of the debt repayment period.

Trust and retention mechanism – In projects, a trust and retention mechanism is often incorporated
in order to safeguard the lenders’ interest. The mechanism entails all revenues from the company to
be routed to a designated account. The proceeds thus credited to the account are utilized towards
payment of various dues in a predefined order of priority. Generally, the following waterfall of
payments is established: statutory payments including tax payments, operating expenditure
payments, capital expenditure payments, debt servicing, dividends, and other restricted payments.

A project financial evaluation tells you whether a project will contribute to your company's overall
goals or be a drain on your resources. While complicated analysis techniques and computer
programs can perform high-level calculations and provide you with advanced financial ratios and
rates of return, you can carry out a few simple calculations to determine whether the project makes
financial sense. You can then decide whether to perform a more detailed analysis.

Goals

For a financial evaluation to help you decide whether to proceed with a project, you have to first
establish your overall goals. Decide whether the project has to immediately make a contribution to
the bottom line or whether you are taking a longer-term view. Decide how profitable it has to be
compared with other attractive projects you could undertake or whether a marginally profitable
project makes sense because it achieves other positive goals. The financial evaluation gives you a
financial result, but you have to decide whether that result is attractive enough to proceed with the
project.

Financing

Although you may be able to pay for the project with funding from your company, the financial
evaluation assumes the project stands on its own and has to finance itself. To get the total financing
costs, you have to take the projected costs of the project as you would incur them and add them to a
theoretical loan at the current interest rate for such financing. As the project adds more costs, add
the interest on the amounts already paid out to the total financing amount. Upon completion of the
project, it has a financing cost equal to the total cost of the project plus the interest charges for the
construction period.

Cash Flow

Once in operation, the project generates revenue and pays out its operating costs. For each year of
operation, you have to estimate how much revenue you predict for the project and what you think
the operating costs will be. The difference is the cash flow available for debt servicing. For a
complete financial evaluation, these calculations are required for every year of the expected life of
the project, but you can start your evaluation with the calculations for the first few years.

Evaluation

From the total financing cost, you can get the annual payments required to service the debt. From
the cash flow calculations you have the amounts available for debt servicing. Your overall goals tell
you how to structure the evaluation. If you want immediate profit, you can stretch out debt
repayment and determine how much money is left over in the early years of operation. If you want a
steady income, you can make equal payments on the debt and calculate what the steady profit
would be. If you want high future income, you can use all the cash flow to retire the debt quickly and
calculate how much money you will make a few years down the road. This process lets you tailor
your financial evaluation to your goals and decide whether the project meets your specific
requirements.

Residential Building

Revenue Build Up

The first step in calculating revenues is to find out the townhome absorption and closings.
Absorption is the number of available homes being sold during a given time period, while closings
are the number of homes closed once the construction is complete.

Now we can build up the revenue using the absorption and closings information.

Townhomes sales = Sales Price/Unit x Townhome Closings

First 50% Commissions (charged when homes are sold) = – Townhome absorption x Sales Price/Unit
x (Commission% /2)

Second 50% Commissions (charged when homes are closed) = – Townhome closings x Sales
Price/Unit x (Commission% /2)

Warranty = – Warranty cost/Unit x Townhome closings

Total Net Revenue = SUM(Townhome sales + 50% Commissions + 50% Commissions + Warranty)
(*Note that commissions and warranty are in negative amounts.)