College of Business and Economics

Management Program
Theme 5 Management Science and Financial Management
1. A COURSE GUIDE BOOK FOR OPERATIONS MANAGEMENT

This course guide is prepared to help Debre Berhan University management graduating class
students prepare for the first of its kind exit exam which is set to be administered in June, 2023.
As the exam content comprises of core management courses, operation management is selected
to be included. This course guide book can‘t be used as a sole reading material to prepare for
exams, it only aims at pinpointing the basic contents, core elements of the course to guide you in
your endeavour for acquiring basic knowledge on operations management and take the exam
accordingly.

The course guide book covers the chapters in operations management and puts the basic content
in short and precise form. In the old curriculum the number of chapters for this course was five
but in the new curriculum which is being implemented starting from 2019/20 G.C, the number of
chapters in the course has been increased to nine.

Operation is one of the three basic functions found in every organization, the rest being
marketing and accounting and finance and it is at the center of management education.
Operation/production is the process of converting inputs into outputs/ products/ that are
convenient to use. Operation management is the management of systems or processes that create
goods and/or provide services.

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Chapter one: Operations function

Operation is one of the three basic functions found in every organization, the rest being
marketing and accounting and finance and it is at the center of management education.
Operation/production is the process of converting inputs into outputs/ products/ that are
convenient to use. Operation management is the management of systems or processes that
create goods and/or provide services. Operations management is defined as the design,
operation, and improvement of the production system that creates the firm‗s primary products
(goods and/or services). Operations and production management can be used interchangeably
but operation is can be used for service and production can be used for manufacturing
organizations.

The major decision making areas in operations management are: Cost, quality, capacity and
inventory. The components in operation process are 1: inputs (men, machine, money, material,
method and market) 2: process (combining and transforming inputs, physical and mechanical
change takes place, requires technical and managerial ability) 3: Output (the processed item or
finished good, may be good or service) 4: Feedback (Information used to control the operation
process by adjusting the inputs and transformation process). The basic role of OM is to plan,
organizes, coordinates and controls the resource needed to produce a company‘s goods and service.
Operations management adds value; the price of output should be greater than the cost of inputs

Manufacturing organizations produce tangible goods while service organization provides intangible
service. Good and services can be differentiated using four basic criteria.

Criteria Goods Services

Tangibility Tangible; can be touched, felt.. Intangible

Separable( production and Inseparable ( consumed while
consumption take place at they are provided)
Separability different time and place)
Can be stored and not Can’t be stored or inventoried,
perishable over a specified so highly perishable
Perishability period of time

Variability Not variable Highly variable

*There is no pure service or pure good; most goods contain some service and most services contain
some goods.

Productivity is the measurement of how well inputs are converted into outputs. It is the ratio of outputs
to inputs. Productivity can be improved by ( a) controlling inputs, ( b) improving process so that the
same input yields higher output, and ( c) by improvement of technology.

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Productivity formula

1. Single factor: Output or output …….( considers only one input at a time)
Labour capital
2. Partial: output …..(includes two or more inputs)
Labour plus capital
3. Total productivity: output
All inputs

CHAPTER TWO: OPERATIONS STRATEGY FOR COMPETITIVE ADVANTAGE

Mission: its purpose―what it will contribute to society or the reason for existence.

Vision: aspirations (where the organization wants to go)

Strategy: organization‘s action plan to achieve the mission or plans for achieving goals

Operations strategy: A strategy prepared by the operation department used to guide operation
activities and achieve operation goals. It neutralises treats and exploit opportunities, minimise
weaknesses and build strengths.

Tactics: are the methods and actions used to accomplish strategies

 Operations strategy must be aligned with corporate strategy, mission and vision

To formulate operation strategy, distinctive competencies should be identified and SWOT

analysis should be undertaken. Further, oreder qualifiers (characteristics that potential customers
perceive as minimum standards of acceptability to be considered as a potential for purchase) and order
winners (characteristics of an organization‘s goods or services that cause them to be perceived as better
than the competition) should be identified.

Distinctive competencies are those special attributes or abilities possessed by an organization that give
it a competitive edge. It can include price, quality, time and flexibility. Competitive advantage implies
the creation of a system that has a unique advantage over competitors. Means of competitive
advantage include differentiation, low cost and response. Differentiation is concerned with providing
uniqueness. Low cost is about cutting down production costs to reduce the price of a product to
increase demand. Response is concerned with a quick/timely service delivery and quick order delivery
to save time. these three operation strategies can be further translated into six strategies (1.flexibility
in design and volume 2. low price 3. delivery 4. quality 5. after-sale service, and 6. a broad product
line)

Operations objectives are : cost(include the costs of production, costs of carrying inventory, and any
other costs incurred in using resources and should be reduced) , quality (,value of the product, its
prestige, and its perceived usefulness and has eight dimensions) delivery(the ability of operations to

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deliver the product or service when and where consumer needs it) , and flexibility(either the ability to
make new products or the time that it takes to change the volume)

CHAPTER THREE: PRODUCT AND SERVICE DESIGN

Before products can flow into a market, someone must design and invest in the facilities and
organization to produce them.

Product and/or service design is concerned with the functional and aesthetic requirement necessary to
meet the demand of market the place and at the same time achieve an acceptable rate of return.

The main forces that initiate design or redesign are the following market opportunities and threats.

• Economic (e.g., low demand, excessive warranty claims, the need to reduce costs).

• Social and demographic (e.g., aging baby boomers, population shift).

• Political, liability, or legal (e.g., government changes, safety issues, new regulations).

• Competitive (e.g., new or changed products or services, new advertising/promotions).

• Cost or availability (e.g., of raw materials, components, labor, water, energy).

• Technological (e.g., in product components, processes).

New product design

Ideas for new or redesigned products or services can come from a variety of sources, including
customers, the supply chain, competitors, employees, and research. Reverse engineering, Research and
development (R&D), Basic research, Applied research, Development are methods of developing new
product

Product design considerations

S.N
Considerations Meaning
1.
EGAL AND ETHICAL Producer should be liable for any injury or
CONSIDERATIONS damage caused by a faulty product design
2.
HUMAN FACTORS Safety and liability of employees in the production
process
3. Product designed for global market should
CULTURAL FACTORS consider cultural differences
4. Product should be; echo friendly, sustainable,

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 ENVIRONMENTAL and recyclable. Here cradle- to grave and end-of
FACTORS useful life assessments can be used
5. The extent to which there is absence of variety in a
standardization product, service, or process.
6.
Customization Different variety based on customers choice
7.
Design for quality building product quality in to the product design
8.
Design for Taking in to account the organizations technical
manufacturability ability and capacity to manufacture
9. Designed to perform as designed over a much
Robust design broader range of conditions
10. measure of the ability of a product, a part, a service,
Reliability or an entire system to perform its intended function
under a prescribed set of conditions
11.
Concurrent Bringing together, engineering, finance, marketing,
engineering operation professionals in the designing process
12. CAD The use computers and softwares to design
products to reduce costand time and increase
quality
13. Value analysis Focus on the function of a product to increase its
economic value and reduce cost
14. Design for assembly Using the minimum possible number of parts to
avoid complexity during assembly

Product design process

Feasibility analysis

1. Feasibility analysis. Feasibility analysis entails market analysis (demand), economic analysis
m(development cost and production cost, profit potential), and technical analysis (capacity
requirements and availability, and the skills needed).

2. Product specifications. This involves detailed descriptions of what is needed to meet (or
exceed) customer wants, and requires collaboration between legal, marketing, and operations.

3. Process specifications. Once product specifications have been set, attention turns to
specifications for the process that will be needed to produce the product.

4. Prototype development. With product and process specifications complete, one (or a few)

5. Design review. At this stage, any necessary changes are made or the project is abandoned.

6. Market test. A market test is used to determine the extent of consumer acceptance

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7. Product introduction. The new product is promoted. This phase is handled by marketing.

8. Follow-up evaluation. Based on user feedback, changes may be made or forecasts refined.

CHAPTER FOUR: PROCESS SELECTION AND CAPACITY PLANNING

Types of Processes

All processes can be grouped into two broad categories: intermittent operations and repetitive
operations. These two categories differ in almost every way. Once we understand these
differences we can easily identify organizations based on the category of process they use.

Project processes are used to make one-of-a-kind products exactly to customer specifications.

Job shop process A system that renders unit or small lot production or service with varying
specifications according to customer needs.

Batch processes are used to produce small quantities of products in groups or batches based on
customer orders or product specifications.

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Line processes are designed to produce a large volume of a standardized product for mass
production.

Continuous processes operate continually to produce a very high volume of a fully standardized
product. Examples include oil refineries, water treatment plants, and certain paint facilities.

CAPACITY PLANNING

Capacity can be defined as ability to produce certain output within aspecified time period or the
rate of output that can be achieved from a process
Types of capacity
A. Design Capacity: the maximum output that can be achieved in a specific time period under it.
B. Effective Capacity
Effective capacity represents the maximum output per unit time given a particular product mix,
labour skills, super vision, product quality level, material quality, available maintenance, and
time between setups. Effective capacity is rarely equivalent to design capacity and is frequently
much lower deal condition
C. Actual or Operating Capacity
Operating capacity is defined as the average output per unit of time over a preceding time period
adjusted to reflect actual reject levels and scheduling and maintenance losses.
D. Capacity Measures
Though, there is no single measure of capacity, the two measures frequently cited to justify
investments in equipment and processes are
Design capacity> Effective capacity> Actual capacity

Efficiency is a measure of the use of effective capacity in producing a particular result. It is given

Efficiency = actual output per time period

Effective capacity per time period
Utilization is a measure relating design capacity to output. It is calculated as follows:

Utilization = actual output per time period

Design capacity per time period
Ways of changing long range capacity

Expansion: through subcontracting, merger and acquisition, developing site, reactivate facility

Reduction: selling, shutting down….

CHAPTER FIVE: FACILITY LOCATION

Plant location may be understood as the function of determining where the plant should be
located for maximum operating economy and effectiveness.
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Importance of facility location

 Are closely tied to an organization‗s strategies,

 Effect capacity and flexibility,
 Represent a long-term commitment of resources/costs,
 Impact competitive advantage,
 Importance to supply chains,
 Impact on investments, revenues, and operations

Factors affecting facility location

Steps of making location decisions

Step 1: Identify Dominant Location Factors: In this step managers identify the location factors
that are dominant for the company.

Step 2: Develop Location Alternatives: once managers know what factors are dominant, they can
identify location alternatives that satisfy the selected factors.

Step 3: Evaluate Location Alternatives: After a set of location alternatives have been identified,
managers evaluate them and make a final selection

Step 4: Select the best location

Step5: Implement/ locate the facility/

Procedures for Evaluating Location Alternatives

A. Factor rating method: ? Refer the steps

B. The Center of Gravity Approach: ? Refer the steps

C. Cost-profit volume analysis: ? Refer the steps

D. Break-even point analysis: ? Refer the steps

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CHAPTER SIX: FACILITY LAYOUT

Facility layout deals with the arrangement of work areas and equipment. Plant layout is related to
a number of aspects of production and operations management. Facility layout considers
available space, final product, safety of users and facility and convenience of operations. Layout
planning is deciding on the best physical arrangement of all resources that consume space within
a facility

Facility Layout Objectives

 To provide optimum space to organize equipment and facilitate movement of goods and
to create safe and comfortable work environment,
 To promote order in production towards a single objective,
 To reduce movement of workers, raw material and equipment,
 To promote safety of plant as well as its workers,
 To facilitate extension or change in the layout to accommodate new product line or
technology up-gradation and
 To increase production capacity of the organization

Design Layout Techniques

There are three techniques of design layout, and they are as follows:

1. Two or Three Dimensional Templates: This technique utilizes development of a scaled-

down model based on approved drawings.

2. Sequence Analysis: This technique utilizes computer technology in designing the facility
layout by sequencing out all activities and then arranging them in circular or in a straight line.

3. Line Balancing: This kind of technique is used for assembly line.

Types of layout

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Hybrid Layouts: Hybrid layouts combine aspects of both process and product layouts

Fixed-Position Layouts: used when the product is large and cannot be moved due to its size

Line balancing: is the process of assigning tasks to workstations in a product layout in order to
achieve a desired output and balance the workload among stations.

Cycle time: is the maximum time allowed at each work station to perform assigned task a before
the work moves on.

Output capacity = Operating time

Cycle time

CHAPTER SEVEN: QUALITY MANAGEMENT AND CONTROL

Quality management is the act of managing different activities and tasks within an organization
to ensure that products and services offered, as well as the means used to provide them are
consistent.

Quality is fitness for use. Quality is value for money. Quality is conformance to requirement or
specifications.

Quality management consists of four key components, which include the following:

 Quality Planning – it is the process of identifying the quality standards relevant to the
project and deciding how to meet them.
 Quality Improvement – it is the purposeful change of a process to improve the confidence
or reliability of the outcome.
 Quality Control – it is the continuing effort to uphold a process‗s integrity and reliability
in achieving an outcome.
 Quality Assurance – it is the systematic or planned actions necessary to offer sufficient
reliability so that a particular service or product will meet the specified requirements

TQM is an integrated effort designed to improve quality performance at every level of the
organization. As per Feigebaum, ―Total Quality Management is an effective system of
integrating the quality development, quality maintenance and quality improvement efforts of
various groups in an organization so as to enable marketing, engineering, production and service
at the most economical levels which allow for full customer satisfaction‘.

Benefits of TQM

1. Customer satisfaction oriented benefits.

2. Economic improvements oriented benefits

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Quality recognition and prizes: International prizes and awards for companies that excelm is
quality of product and service

1. The Malcolm Baldrige National Quality Award

2. The Deming Prize

3. ISO 9000 Standards

Statistical Process Control

The term used to describe the set of statistical tools used by quality professionals and has three
categories.

1.Descriptive statistics: are used to describe quality characteristics and relation- ships.

2.Statistical process control (SPC): involves inspecting a random sample of the output from a
process and deciding whether the process is producing products with characteristics that fall
within a predetermined range.

3.Acceptance sampling: Is the process of randomly inspecting a sample of goods and deciding
whether to accept the entire lot based on the results.

Developing Control Charts

A control chart (also called process chart or quality control chart) is a graph that shows whether a
sample of data falls within the common or normal range of variation.

Control charts for variables monitor characteristics that can be measured and have a
continuous scale, such as height, weight, volume, or width. When an item is inspected, the
variable being monitored is measured and recorded.

Mean (x-Bar) Charts A mean control chart is often referred to as an x-bar chart. It is used to
monitor changes in the mean of a process. To construct a mean chart, we first need to construct
the center line of the chart.

Range (R) charts are another type of control chart for variables. Whereas x-bar charts measure a
shift in the central tendency of the process, range charts monitor the dispersion or variability of
the process

Control Charts for Attributes

Control charts for attributes are used for quality characteristics that are counted rather than
measured

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P- Charts: Used when observations are placed in either of two groups. Examples:

●Defective or not defective

●Good or bad

●Broken or not broken

C-Charts: Used when defects can be counted per unit of measure. Examples:

●Number of dents per item

●Number of complaints per unit of time (e.g., hour, month, year)

●Number of tears per unit of area (e.g., square foot, square meter

CHAPTER EIGHT: AGGREGATE PLANNING

Aggregate planning is the matching of the plant capacity with demand in such a way that
production costs are minimized.

Aggregate planning strategies

Demand Options: Demand management is proactive strategy

1.Influencing demand

 Using advertising or promotion to increase demand in low periods

 Using pricing differentials to shift demand from peak periods to off-peak periods
 Attempt to shift demand to slow periods
 May not be sufficient to balance demand and capacity

2.Back ordering during high- demand periods

3.Counter seasonal product and service mixing/New demand

Capacity/Supply Options

1. Changing inventory levels: Demand fluctuations can be met by large amount of inventory

2. Varying workforce size by hiring or layoffs: Output is controlled by hiring or laying off
workers in proportion to changes in demand.

3. Varying production rate through overtime or idle time

4. Subcontracting: Upward shift in demand from low level

5. Using part-time workers

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Techniques for Aggregate Planning:

1. Graphical Techniques/Trial-and-Error Techniques

2. Mathematical Techniques

CHAPTER NINE: SCHEDULING OPERATIONS

Scheduling is establishing the timing of the use of equipment, facilities and human activities in
an organization.

Scheduling activities differ in:

(a) High-volume system

(b) Intermediate-volume system, and
(c) Low-volume Systems

Principles of Scheduling

1. The principle of optimum task size: Scheduling tends to achieve maximum efficiency when
the task sizes are small, and all tasks of same order of magnitude.

2. Principle of optimum production plan: The planning should be such that it imposes anequal
load on all plants.

3. Principle of optimum sequence: Scheduling tends to achieve the maximum efficiency when
the work is planned so that work hours are normally used in the same sequence.
Scheduling Strategies

1. Detailed scheduling: Detailed scheduling for specific jobs that are arrived from customers is
impracticable in actual manufacturing situation. Changes in orders, equipment breakdown, and
unforeseen events deviate the plans.

2. Cumulative scheduling: Cumulative scheduling of total work load is useful especially for long
range planning of capacity needs. This may load the current period excessively and under load
future periods.

3. Cumulative detailed: Cumulative detailed combination is both feasible and practical approach
if master schedule has fixed and flexible portions.

4. Priority decision rules: Priority decision rules are scheduling guides that are used
independently and in conjunction with one of the above strategies, i.e., first come first serve.

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Techniques of Scheduling

(a) Master Scheduling (MS): It shows the dates on which important production items are to be
completed

(b) Shop Manufacturing Schedule: After preparing the MS, shops schedules (SS) are prepared. It
assigns a definite period of time to a particular shop for manufacturing products in required
quantity.

(c) Backward or Reverse Scheduling: Backward scheduling determines the start and finish times
for waiting jobs by assigning them to the latest available time slot that will enable each job to be
completed just when it is due, but done before.

(d) Forward Scheduling: is commonly used in job shops where customers place their orders on
―needed as soon as possible basis

(e) Optimized Production Technique (OPT): Recognizes the existence of bottlenecks through
which the flow gets restricted. It consists of modules that contain data on products, customer
orders, work center capacities, etc., as well as algorithms to do the actual scheduling

Loading: assignment of tasks to process centers

1. Finite loading/ tasks are assigned based the capability of the process center

2. Infinite loading/ without taking into account the capability of the process center

Assignment Methods

? Refer the process and steps

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 DEBRE BERHAN UNIVERSITY

COLLGE OF BUSINESS AND ECONOMICS

DEPARTMENT OF MANAGEMENT

OPERATION MANAGEMENT CHOICE TYPE QUESTIONS AS A MODEL FOR EXIT

EXAM

1. Among the basic decisions regarding operation management, which one of the following is
related with cost?

A. Maintaining inventory level at economic order quantity and economic production quantity

B. Optimizing process, achieving efficiency and lean organization

C. Meeting standard, conformance and providing value for money

D. Matching demand with production ability or supply

2. How does operations management add value?

A. It combines factors of production to produce a less useful output

B. The cost of input should always be greater than the price of output

C. It processes inputs to produce a higher value output

D. It creates goods and services that are inconvenient to use

3. Which one of the following operation strategy is correctly matched?

A. Differentiation—Better C. Focus—cheaper

B. Cost leadership—response D. Cost-leadership—better

4. Factors that necessitates product design or redesign includes the following, except?

A. Economic C. New technology

B. Social D. A monopolistic market

5. Which product design consideration deals with reducing cost and increasing the economic
value of a product?

A. Value analysis C. Robust design

B. Concurrent engineering D. Design for assembly

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6. In product development phase, which step deals with determining quality standards, and
detailed description of what is needed to meet or excel customer demand?

A. Prototype development C. Process specification

B. Product specification D. Feasibility analysis

7. The type of process that is used to produce variety of products with low degree of
standardization is called_______?

A. Intermittent C. Continuous

B. Repetitive D. Project

8. All of the following capacity relations are incorrects except?

A. Design capacity< effective capacity C. Effective capacity< design capacity

B. Design capacity< actual output D. Actaul output> design capacity

9. Facility location decision can be affected by several factors. Which one of these factors can be
uncontrollable factor?

A. Capital C. Proximity to raw material

B. Proximity to market D. Government policy

10. Which one of the following statement is true about location alternative evaluation methods?

A. Under factor rating method, the location that gets the highest composite score is the best

B. The break even analysis method assumes that fixed costs are constant and variable costs are
non linear

C. The centre of gravity technique helps to locate a location that is increases distribution cost

D. The break -even point method is a subjective location decision making procedure

11. All of the following are facility layout objectives, except?

A. To provide optimum space to organize equipment and facilitate movement of goods

B. To promote order in production towards a single objective

C. To decrease production capacity of the organization

D. To promote safety of plant as well as its workers

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12. Quality has several definitions. Which definition refers providing customers with a product
worthy of for what they pay?

A. Value for money C. Fitness for purpose

B. Meeting standards D. Conformance

13. Demand option aggregate production strategy works by increasing or decreasing the level of
demand to match with capacity. Which of the following option can be used to achieve this
objective?

A. Changing inventory level C. Back ordering

B. Varying work force size D. Level demand strategy

14. Which one of the following scheduling models can be used to show the sequence of
operations for a project and the precedence relation between the activities to be completed?

A. Critical path method C. Loading

B. Assignment method D. Scheduling

15. Among the several functions of an organization, which one of the following are considered
as basic or core?

A. Human resource, operation and finance C. Operation, marketing and finance

B. Operation, marketing and procurement D. Marketing, human resource and operation

ANSWER KEY

1) B 2) C 3) A

4) A 5) A 6) B

7) A 8) C 9) D

10) A 11) C 12) A

13) C 14) A 15) C

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 2. COURSE GUIDE BOOK FOR FINANCIAL MANAGEMENT-I (MGMT-4181)

CHAPTER ONE: INTRODUCTION TO FINANCIAL MANAGEMENT

The subject financial management has undergone many changes due to the continuous resealed
in western countries. The traditional concept is concerned with the provision of funds only. The
modern concept trials finance as an integral part of the overall management rather than mere
mobilization of funds.

Finance is a study of money management and deals with the wages in which business men,

investors, governments, individuals and financial institutions deal/ handle their money. There are

various types of finance Viz. proprietor finance, partnership finance, business finance, public

finance etc. The finance functions include a) investment decisions b) financing decisions and c)
dividend decisions. The quality of these decisions is very crucial in terms of maximizing the
value of firms.

The business unit requires capital for two kinds of needs namely long term requirement and

short-term requirement and this finance can be found from either external and or internal

sources. The external sources of finance are share capital, bonds, borrowings, public deposits,

trade credits and foreign capital whereas the internal sources of finance are retained earnings,

provisions depreciation etc.

Financial market, instruments and institutions

1. Financial market
Financial market is a place where the business houses can raise their long and short-term

financial requirements. These markets help promotion of investment activities; encourage

entrepreneurship and development of a country. The financial markets are broadly divided as:

I. Capital market and

II. Money market

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 I. Capital market

Capital market is defined as a place where all buyers and sellers of capital funds

as well as the entire mechanism for facilitating and effecting long term funds. Further the capital

markets are divided into two categories one is primary market other one is secondary market.

Primary market – In the primary market only new securities are issued to the public. It is a place

where borrowers exchange financial securities for long-term funds.

Secondary market – The shares subsequent to the allotment are traded in the secondary market.

Anybody can either buy or sell the securities in the market. Secondary market consists of stock

exchange.
II. Money Market

Money market generally is a market where there is buying and selling of short term liquid debt
instruments. (Short term means one year or less). Liquid means something which is easily en-
cashable; an instrument that can be easily exchanged for cash.

2. Financial Instruments

A financial instrument/security is a document that gives the owner a claim on future cash flows.

A security may represent an ownership claim on an asset (such as a share of stock) or a claim on

the repayment of borrowed funds, with interest (such as a bond). The document may be a piece

of paper (such as a stock certificate or a bond) or an entry in a register (which may, in turn, be a

computer record).

Securities are mainly classified into two, namely ownership securities (Equity) and loan

securities. Further ownership securities are classified into two (a) common stock and (b)

preference stock. These securities or instruments are being traded in capital markets.

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Ratio analysis is widely used tool of financial analysis. Ratio analysis is useful when it is
compared against established standards. Past ratios, competitors‘ ratios, industry ratios and
projected ratios are useful standards for comparison.
3. Financial Institutions
The financial institutions include banks, development banks, investing institutions at national

and international level that provide financial services to the business organizations.

These financial institutions provide long-term, short-term finances and extend under writing,

promotional and merchant banking services.

Objective of financial management

Respective to the objectives of financial management, the wealth maximization is considered

superior than profit maximization. In corporate firms, there are agency relationships between
owners and managers, owners and creditors. And, firms always incur agency costs in their
attempt to align the interest of managers and owners.

CHAPTER TWO: FINANCIAL ANALYSIS

This unit aims at presenting the meaning and importance of financial analysis, sources of

financial data, approaches to financial analysis and interpretation.

Financial analysis is the process of identifying the financial strength and weakness of the firm by
properly establishing relationship b/n the items of the balance sheet and the profit and loss
account. Financial analysis is the vital concern to corporate managers, security analysts,
investors and lenders, all of them analyze the financial statements for a variety of purpose.

The focus of any financial analysis depends on its purpose, which may range from complete
analysis of all the firm's strengths and weaknesses to a relatively simple analysis of its short -
term liquidity.

The sources of financial data are financial statements such as the income statements, the balance
sheet, the statement of retained earnings, the statement of cash flows and other financial
statements.

Financial statement analysis is interpreted mainly to determine the financial and operational
performance of the business concern. A number of methods or techniques are used to analyse the
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Ratio analysis is widely used tool of financial analysis. Ratio analysis is useful when it is
compared against established standards. Past ratios, competitors‘ ratios, industry ratios and
projected ratios are useful standards for comparison.
financial statement of the business concern. The common methods or techniques, which are
widely used by the business concern, are Ratio Analysis, Trend Analysis, Common Size
Analysis and index analysis.

Ratio analysis is widely used tool of financial analysis. Ratio analysis is useful when it is
compared against established standards. Past ratios, competitors‘ ratios, industry ratios and
projected ratios are useful standards for comparison. There are four different and commonly used
ratios. These categories are:

I. Liquidity Ratios:
Liquidity ratio measures the ability of a firm to meet is current obligation. Analysis of liquidity
demands preparation of cash budget and cash flow statements; but liquidity ratios can be
calculated, by establishing relationship between current liabilities and current assets.

This ratio includes:

 Current ratio
 Quick or Acid test ratio

II. Asset Management ratios:

Asset management ratios or activity ratio, measures the degree of efficiency the firm displays
in managing/using its assets. These ratios are designed to answer this question: Does the total
amount of each type of asset as reported on the balance sheet seem reasonable, too high, or too
low in view of current and projected sales levels?

This ratio includes:

 Receivable turn over

 Daily sales Outstanding (DSO)/Average collection period
 Inventory turn over
 Fixed Asset turn over
 Total Asset turn over

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 III. Debt Management Ratios:
Debt management ratio is also called Leverage ratios or long-term solvency, which
measure the company‘s ability to meet its long-term obligations as they become due.

It includes:

 Debt ratio
 Ratio of debt to total equity
 Ratio of times interest earned
 Fixed charge coverage ratio

IV. Profitability ratios:

Profitability is the net result of a number of policies and decisions. The ratios examined thus far
provide useful clues as to the effectiveness of a firm‘s operations, but the profitability ratios
show the combined effects of liquidity, asset management, and debt on operating results.

Ratios in this group are:

 Profit margin ratio

 Return on investment (Assets)
 Return on Equity
V. The market value ratios:

Market value ratios, relates the firm‘s stock price to its earnings, cash flow, and book value per
share. These ratios give management an indication of what investors think of the company‘s past
performance and future prospects. If the liquidity, asset management, debt management, and
profitability ratios all look good, then the market value ratios will be high, and the stock price
will probably be as high as can be expected.

 Price/Earnings ratio
 Price/cash flow ratio
 Market/Book ratio
Common size analysis: A common size statement expresses each item in the balance sheet as
percentage of total asset (net) and each item in income statement as percentage of total sales
(net). When statements are expressed in terms of percentages of total assets and total sales, these
statements are called common size statements.
22
CHAPTER THREE: TIME VALUE OF MONEY

In our day-to-day life we prefer possession of a given amount of cash now, rather than the same

amount at future time. This is time value of money or time preference for money, which arises

because of (a) uncertainty of cash flows (b) subjective preference for consumption and

Availability of investments. The last justification is the most sensible justification for the time

value of money. Interest rate or time preference rate gives money its value and facilitates the

comparison of cash flows accounting at different time periods. Interest can be simple interest or

compound interest.
Simple interest is the interest computed only on the principal amount. The interest of one
period does not bear interest for subsequent periods. Simple interest is given by the formula:

I = Prt

Where P= principal amount/ original amount borrowed or invested

r = Simple interest rate per year (expressed in decimal)
t= duration of the loan or investment in years
I = amount of interest in Birr.

Compound interest is a return on the principal amount under which the interest each time

period is added to the principal amount at the end of each period and earns in all

subsequent The difference between compound amount and the original principal is the

Compound interest.

r  tm n
A = P (1 +  = P (1 + r)
m

Where:
A = compound amount, after n conversion periods.
P = principal
r = stated annual rate of interest
m = number of conversion periods a year

23
 t = total number of years
I = r/m = interest rate per conversion period
n = mt = Total number of conversion periods.

Two alternative procedures can be used to find the value of cash flows: compounding and

discounting. In compounding, future values of cash flows at a given interest rate at the end of a

given period of time are found. The future value (F) of a lump sum today (p) for ‗n‘ period at ‗i‘

rate of interest. Business decisions often involve receiving cash or other assets now in

exchange for promise to make payments after one or more periods. It can be calculated as

follow:

Fvn=PV(1+i)n

The other group may involve cash now in order to receive cash, goods or services

in future periods. Cash payments receipt may be in the form of lump sum or series of

payments or receipts over periods. P r e s e n t v a l u e c a n b e c a l c u l a t e d a s f o l l o w :

Formula Fv=PV (1+i/m) m*n

series of payments or receipts can have nature of equal or uneven flow over periods. If

flows are equal over equal interval periods, they are considered as annuity. Included

the category of annuity are: the ordinary annuity, annuity due and deferred

Ordinary annuity occurs when payments are paid or received at the end of each period

the total amount on deposit is determined at the time the final payment or receipt is

 (1  i ) n  1
A = R 
 i 

Annuity due is the one in which payments or receipts occur at the beginning of each

Deferred annuity occurs when the amount of an ordinary annuity remains on deposit for

number of periods beyond the final cash flow or there is a grace period (which is beyond

period) before the start of the periodic payment or

24
Amortization means retiring a debt in a given length of time by equal periodic payments that
include compound interest. After the last payment, the obligation ceases to exist-it is dead-and it
is said to have been amortized by the payments. It is one of the most important applications of
compound interest is loan that is paid-off in equal installment overtime.

We obtain the following amortization formula:

 i 
R  P n 
1 1 i  

Where:

R = periodic payment
P = PV of loan
i= interest rate per period
n = number of payment periods

Whereas, Mortgage transaction is similar to amortization where borrower pays the loan within

specified period of time. Mortgage payment associated with purchase of house, machine, car or

other fixed asset. The buyer pays part of the cost in cash/ down payment and amortizes the

remaining part/amount as mortgage.

CHAPTER FOUR: BOND AND STOCK VALUATION AND THE COST OF CAPITAL

Valuation is the process of determining the present value of asset, liabilities, & owner‘s equity.
Value refers to different things for different individuals and there are different types of values
such as Liquidation values, Going concern value, Replacement value, Book value, Market value,
Redemption value, and intrinsic value.
The valuation approach, which is to be used in valuation of securities, is one of determining a
security‘s intrinsic value. Intrinsic value is, therefore, the present value of the cash flow stream
provided to the investor, discounted at a required rate of return appropriate for the risk involved.

General valuation model

1. Estimate the future cash out flows (interest dividend, principal) & determine the risk of
the cash flows.
25
 2. Determine the required rate of return that compensates risk & real return.
RRR = real rate of return + risk premium
RRR is the minimum rate of return required by investors to undertake an investment.
3. Determine the present value of the future cash flows.
4. Sum up the present values.

V= ∑

Where; V: Value of asset/claims.

CFt: cash flow for time t
r: RRR
Whereas, the cost of capital is the rate of return required by investors in the firm‘s securities: the
debt, preferred stock, common stock, and/or retained earnings. Cost of capital can also be
thought of as the minimum rate of return required on new investments of average risk undertaken
by the firm to maximize its value.

This cost of capital or required return on any security investment consists of a risk-free rate of
return plus a premium for the risk of that security. The risk-free rate varies over time and is
influenced by the expected rate of inflation and the supply and demand of funds in the overall
economy.

The risk premium on a specific security is influenced by the business risk and financial risk of
the firm, the marketability risk of the security, and the time to maturity of the security.

The higher the risk of a security, the higher is the return required by investors. In general,
common stock is more risky than preferred stock; preferred stock is more risky than corporate
debt securities; and corporate debt securities are more-risky than government debt securities.

For capital budgeting purposes, the cost of each capital source needs to be calculated and here
are two ways to calculate the cost of capital sources: measurement of specific costs and
measurement of weighted average cost of capital. In measurement of specific costs; the after-tax
costs of debt, the after-tax cost of a perpetual preferred stock, the cost of internal equity capital
as well as the cost of external equity capital are computed using different valuation methods and
models. Weighted Average Cost of Capital is also the discount rate appropriate for cash flows
that are similar in risk to those of the overall firm over the long run found by weighting the cost
of each specific type of capital by its proportion in the firm‘s capital structure.

26
CHAPTER FIVE: CAPITAL BUDGETING/INVESTMENT DECISION MAKING.

The investment decisions of a firm are generally known as the capital budgeting, or capital
expenditure decisions. A capital budgeting decisions may be defined as the firm‘s decisions to
invest its current funds most efficiently in the long-term assets in anticipation of an expected
flow of benefits over a series years.

The terms in financial management like investment decisions, investment projects, and
investment proposals are generally associated with application of long-term resources. What is
long-term? There is no hard and fast rule to define it, but by common practice and accordance
with the financing policies, practices and regulations of the financial institutions and banks a
period of ten years and above may be treated as long period.

The decisions related to long-term investment is also known as capital budgeting techniques.

It is important because of the following reasons:

1) The investment decisions are the vehicles of a company to reach the desired destiny of
the company. An appropriate decision would yield spectacular results whereas a wrong
decision may upset the whole financial plan and endanger the very survival of the firm.
Even firm may be forced into bankruptcy.
2) Capital budgeting techniques involve huge amounts of funds and imply permanent
commitment. Once you invest in the form of fixed assets it is not easy to reverse the
decision unless you incur heavy loss.
3) A capital expenditure decision has its effect over a long period of time span and
inevitably affects the company‘s future cost.
4) Investment decisions are among the firm‘s most difficult decisions. They are the
predictors of future events which are difficult to predict. It is a complex problem
investment. The cash flow uncertainty is caused by economic, political, social and
technological forces.
To evaluate the worth of investment projects, the first step is to compute the relevant cash flows
over the life of the project. Once the relevant cash flows is computed, the attractiveness of the
proposal can be determined by using different investment evaluation techniques, proper
estimation of cash flows in the life of the project is very critical as the quality of decision making

27
is highly affected by reasonable estimation of cash flows. Then after, there are important
investment decision criteria that can be applied to select projects. These criteria are broadly
classified as non-discounted cash flow and discounted cash flow criteria.Those are
1) Traditional/ Non- discounting cash flow techniques
 Payback period
The payback period is the number of years that is required for the business firm to recover from
the project the amount of the initial investment in total. There are two methods in use to calculate
the payback period: (1) where the annual cash flow are uniform (2) where annual cash flows are
not consistent vary from year to year.

i. When the cash flows from the project are uniform, the payback period can easily be
determined by dividing the initial investment by the annual cash flow in the annuity.

payback period =

ii. When the cash flows from the project are not in an annuity, the payback period is
computed as follows:

payback period = year before full recovery +

 Accounting rate of return (ARR)

The accounting rate of return (ARR) is the rate of return that is calculated by dividing the
projects expected annual net profit by the average investment outlays. The average investment
outlay, on the other hand, is computed by dividing the sum of original cost of the project & the
salvage value of return (ARR) can be expressed with the algebraic equation as follows.

ARR =

2) Discounted cash flow (DCF) techniques

The Discounting cash flow (DCF) techniques are other methods of evaluating & ranking
investment project proposals. These techniques employ the time value of money concept; unlike
the traditional methods. Four DCF techniques are discussed in the section that follows.

28
  Discounted Payback period
Discounting payback period in computed in the same manner as that of the regular payback
period except the discounted cash flows are used in the case of the former one. The expected
future cash flows are discounted by the project‘s cost of capital.

 Net present value (NPV)

The net present value (NPV) method is an investment project proposals evaluating & ranking
method using the net present value, which is the difference between the present values of future
cash inflows & the present values of future cash out flows, discounted at the given cost of
capital. In order to use this method properly, the following procedures are followed.

1. Find the present values of each cash flow, including both inflows & out flows using the cost of
capital of the project for discounting.
2. Sum the discounted cash outflows & the discounted cash outflows separately.
3. Obtain the difference b/n the sum of the cash inflows & the sum of cash out flows.

n
CFt Sn  Wn
 (1  K ) t

(1  K ) n
 Co
NPV =

where; NPV = Net present value

CFt = Cash inflows at different periods

Wn = Working capital adjustments
Co = Cash outflow in the beginning
K = Cost of capital
Sn = Salvage value at the end
Decision rule for the net present value (NPV) Method

The decision rule here is to accept a project if the NPV is positive and reject if it is negative

NPV > Zero; accept

NPV = Zero; accept
NPV < Zero; reject
If the projects are independent, the projects with positive net present values are the ones whose
implementation maximizes the wealth of shareholders. Hence, such projects should be accepted
for implementation. If the projects, on the other hand, are mutually exclusive, the one with the

29
higher positive NPV should be accepted leading to the rejection of the projects with thee lower
positive NPV. Projects with negative NPV should not be considered for acceptance in the first
place.
 Profitability Index method / Benefit cost Ratio

Profitability index is the ratio of the present value of the expected net cash flow of the project &
its initial investment outlay.
PI = PV/IO
Where, PV = Present value of expected net cash flows
IO = initial investment outlay
PI = profitability index

Profitability index provides or measure of profitability in a more readily understandable terms. It

simply converts the NPV criteria into a relative measure.

 Internal Rate of Return (IRR)

The internal rate of return is the discount rate which equates the present value the expected cash
flows with the initial investment outlays. In other words, IRR is a method of ranking investment
projects proposals using the rate of return on an asset (investment). At IRR, the sum of the
present values of all cash inflows is equal to the sum of the present values of all cash out flows.
That is: PV (cash inflows) =PV (cash out flows). Hence, the net present value of any project at a
discount rate that is equal to the IRR is zero.
I. Computing IRR when there is Uniform cash inflows over the life of the project:
In this case, the present value table of an annuity can be used to calculate the IRR since the cash
inflows are in annuity form. The following steps can be followed to calculate IRR for constant
cash inflows.
Step 1: find the critical value of discount factor

Discount factor =

30
Step 2: find the IRR by looking along the appropriate line (year) of the present value of annuity
table until the column which contains the critical discount factor (i.e. the discount factor
computed under step 1) is located.

II: Computation of IRR when there is Fluctuating cash inflow over the life of the
project
When the cash inflows from the project are not in annuity form, IRR is calculated through an
interactive process or through ―trial & error‖. It may be difficult to identify from which discount
rate to start. A good first guess can be made by estimating the discount factor.
In general, the following formula are used to calculate the IRR of the non-uniform net cash
flows.
Step 1: find the critical value of discount factor. In fact, if the fluctuations I the cash inflows is
very large, the estimated discount factor doesn‘t help you much in locating the IRR in the present
value of annuity table.

Estimated discount factor =

Step 2: look at the present value of annuity table to obtain the nearest discount rate for the
estimated discount factor determined in step 1.
Step 3: calculate the NPV using the discount rate identified in step 2.
Step 4: If the resulting NPV is positive, choose the higher discount rate & repeat the procedure.
Choose the lower discount rate if the NPV is negative, & repeat the same procedure until you
find the discount rate that equates the NPV to zero.
Therefore, discounted cash flow criteria are more relevant as they consider the time value of
money in their valuation of cash flows at different times in the life of the projects.
CHAPTER SIX: LEVERAGE AND LONG TERM FINANCING

Capital structure is nothing but determining the mix of various sources of finances. A firm has to
choose the mix in such a way that the firm is neither over capitalized nor undercapitalized. The
traditional approach to capital structure indicates that the optimal capital structure for the firm is
one in which the overall cost of capital is minimized and the share value is maximized.

Operating leverage is the use of fixed costs (e.g., debt or preference share) to increase the returns
to the shareholders. Financial leverage is the ability of the firm to use fixed financial costs to
enhance the effects of changes in earnings before interest and taxes on earnings per share. The
31
higher the interest and preference dividends, which are fixed costs, the greater is the financial
leverage.

Firms have different alternative sources of long term finance including equity, debt and lease.
Equity financing could simply mean raising long term funds by selling common or preferred
stock. Debt financing can be through the issuance of debt securities like bonds. In lease
financing, the lessee agrees to pay the lessor periodically for the use of lessor‘s assets. Because
of this contractual obligation, leasing is regarded as a method of financing similar to borrowing.
There are two types of lease agreements. These are operating lease and capital (or financial
lease).

The principal factor affecting the decision to use equity or bond financing is tax. Dividend on
equity is not tax deductible whereas interest on debt is deductible. This raises the relative cost of
equity compared to debt.

REFERENCES

Block, stanly B. Hirt and Geottrey A. (2000) Foundation of financial management, 10th ed

Brigham, E.F. and Houston, J.F., Fundamentals of Financial Management, 9th Edition, South-
Western, USA, 2001.
Brigham, E.F. and Houston, J.F.(2007), Fundamentals of financial management, 12th edition,
South-Western Cengage Learning,
Eugene F.Brigham and Joel F.Houston(2012). Fundamentals of financial management 10th ed.
Eugene F.Brigham and Philip R. Daves. (2001). Intermediate financial management.7th ed

Fabozzi, F.J. and Peterson, P.P.,(2007). Financial management and Analysis, 2nd edition, John
Wiley & Sons, Inc,

Gitman, L.J., Principles of Managerial Finance, 12th edition, Harper Collins, USA, 2009.
James C. Van Horne& John M. Wachowicz, Jr. (2009). Fundamentals of Financial
Management, 13th edition, Pearson Education Limited.
Kuchhal S.C., Financial management, Chaitanya Publishing House Allahabad.
Nevue, R.P.(1985), Fundamentals of Managerial Finance, 2nd edition, South-Western
Publishing Co., Ohio.

32
Pandey(2001). Financial management 8th ed. Vikas publishing house, New Delhi.
Paramasivan and T. Subramanian. New Age Financial Management Press International (P)
Limited Publishers, New Delhi.
Petty & et. A.(1993). Basic Financial Management, 6th edition, Prentice-Hall, Inc.
Prasanny Chandra, Financial Management Theory and Practice Tata McGraw Hill, New Delhi.
R. Charles Moyer; James R. McGuigan and William J. Kretlow.(2006), Contemporary Financial
Management 10th Edition South-Western, Thomson.
Ross, S.A., Westerfield, R.W. and Jordan, B.D.(2013), Fundamentals of Corporate finance, 10th
edition, McGraw-Hill/Irwin,USA.
Ross, S.A., Westerfield,R.W. and Jordan, B.D.(1993), Fundamentals of Corporate Finance, 2nd
edition, Richard D. IrwinInc.,USA.
S.A. Ross, R.W. Westerfield, and B.D. Jordan. (2006). Fundamental of corporate finance, 7th ed
(alternative edition), McGraw-Hill.
Scott Besley and Brigham E. F.(2008), Essentials of Managerial Finance, 14th edition, Thomson
South-Western, USA.
Stephen A. Ross, Randolph W. Westerfield, and Bradford D. Jordan (2008). Fundamental of
corporate Finance, 8th ed (standard edition), McGraw-Hill Boston.

Van Horn (1999). Fundamentals of financial management, 10th ed. Prentices hall on India, New
Delhi,

Model questions

Multiple choice questions

1. One of the following is not the concern of financial management?

A. Personal finance C. Public finance

B. Business finance D. All of the above
2. Which one of the following is money market securities?

A. Treasury bill C. Equity

B. Debentures D. None
3. One of the following is not among the disadvantages of proprietorship types of business
A. Unlimited liability C. Double taxation
B. Short life of the business D. None
33
4. Which one of the following securities does not give ownership right?
A. Bond D. All
B. Common stock E. None
C. Preferred stock
5. Which one of the following is not capital market securities
A. Common stock
B. Preferred stock
C. Bond
D. Bankers acceptance
E. none

34
6. which one of the following statement is correct
A. Common stockholders have two preferential rights than preferred stockholder.
B. Preferred stockholders are regarded as the real owners of the corporation.
C. Bond has no maturity dates
D. All are correct
E. None of the above

7. Identify the wrong statement about the limitation of ratio analysis

A. The standard of comparison does not consider the different technological, social, market, etc.,
conditions of firms.
B. The change in the general price level makes the analysis invalid (problem of inflation)
C. The greatest constraint to meaning full analysis comes from different accounting treatments
reflected in annual financial statements.
D. The ratios calculated at a point of time are less informative and are defective as they suffer from
short run changes.
E. The ratios are calculated from past data and are not representative of the current which cannot
be used as indicator of the future.
F. None of the above
8. One of the following is not the purpose of undertaking financial analysis:

A. It provides an adequate financing plan for the proposed investment

B. It determines the profitability of a project

C. It assists in planning the operation and control of the project by providing management

information to both internal and external users

D. It advises on methods of improving the financial viability of a project entity

E. It illustrates the financial structure of the project and its existing and potential financial

viability.

F. None of the above

9. The payback period method of appraising projects
A. May lead to excessive investment in long-term projects
B. Is unable to distinguish between projects with the same payback period
C. Takes into account the time value of money
D. Is a measure of the project‘s profitability, not capital recovery,

35
 E. Gives considerations to cash proceeds earned after the payback date
F. All
10. Non-Discounted measures of project worth include
A. Payback period
B. Internal rate of return
C. Net Present Value
D. Benefit-Cost ratio
E. All
11. The value obtained by discounting the difference of all annual cash outflows and inflows
occurring throughout the life of a project, calculated for each year at a fixed interest rate is termed
as
A. Internal rate of return
B. Payback period
C. Net present value
D. Benefit-cost ratio
E. None
12. Which of the following is not the limitation of divisional organization
a. May entail on inefficient use of resources of the firm.
b. May result in an unnecessary duplication of specialist in the company.
c. May difficulty to achieve higher degree of specialization.
d. It facilitate the process of planning and control
e. None of the above
13. Leverages magnifies profit as sales decreases and magnifies loses as the sales increases.
A. True
B. False
14. Leverage associated with the use of fixed financing cost is __________.
A. Operating leverage D. Risk leverage
B. Financial leverage E. None of the above
C. Combined leverage
15. Increased use of financial leverage causes_________
A. Increased financial risk
B. Increased business risk
C. Decreased business risk
D. Decreased financial risk
E. A&B

36
3. COURSE GUIDE BOOK FOR OPERATIONS RESEARCH

CHAPTER ONE: Introduction to Operations Research

Content: This chapter addresses The History of Operations Research, Nature and significance
of operations research, Features of Operations Research and Model and modeling in Operations
Research.
The first formal activity of operations research were initiated during world war II when team of
scientists set out to make scientifically based decision regarding the best utilization of war
material. After the war, the ideas advanced in military operation were adapted to improve
efficiency and productivity in the civilian sector.
Operations research is the application of the methods of science to complex problems in the
direction and management of large systems of men, machines, materials and money in industry,
business, government and defense.
Defining Operations Research the British/Europeans refer to "operational research", the
Americans to "Operations research" - but both are often shortened to just "OR" (which is the
term we will use). Another term which is used for this field is "management science" ("MS").
The Americans sometimes combine the terms OR and MS together and say "OR/MS" or
"ORMS". Yet other terms sometimes used are "industrial engineering" ("IE"), "Decision
Science" ("DS‖) and ―problem solving‖. In recent years there has been a move towards a
standardization upon a single term for the field, namely the term "OR".

Nature and significance of operations research the Operations research approach is particularly
useful in balancing conflicting objectives (goals or interests), where there are many alternative
courses of action available to the decision-makers. In a theoretical sense, the optimum decision
must be one that is best for the organization as a whole. It is often called global optimum. A
decision that is best for one or more sections of the organization is usually called suboptimum
decision. The OR approach attempts to find global optimum by analyzing inter-relationships
among the system components involved in the problem. In other words, operations research
attempts to resolve the conflicts of interest among various sections of the organization and seeks
the optimal solution which may not be acceptable to one department but is in the interest of the
organization as a whole.

37 | P a g e
Features of Operations Research Approach there are important features or characteristics OR to
any decision and control problems these are: Inter-disciplinary approach, Methodological
Approach, Wholistic Approach or Systems Orientation, Objectivistic Approach , Decision
Making, Use of Computers and Human factors.

Model and modeling in Operations Research both simple and complex systems can easily be
studied by concentrating on some portion or key features instead of concentrating on every detail
of it. This approximation or abstraction, maintaining only the essential elements of the system,
which may be constructed in various forms by establishing relationships among specified
variables and parameters of the system, is called a model. In general, models attempt to describe
the essence of a situation or activity by abstracting from reality so that the decision- maker can
study the relationship among relevant variables in isolation. There are many ways to classify
models. These are:

i). Classification Based on Structure a) Physical Models: b) Symbolic Models:

ii) Classification Based on Function or Purpose a) Descriptive Models: b) Predictive Models:

c) Normative (Optimization) models:

iii) Classification Based on Time Reference a) Static Models: b) Dynamic Models:

iv) Classification Based on Degree of Certainty a) Deterministic Models: b) Probabilistic

(Stochastic) models:

v) Classification Based on Method of solution or Quantification a) Heuristic Model: b)

Analytical Models:.

CHAPTER TWO: Linear Programming

Content: This chapter deals with meaning of Linear Programming, Structure of Linear
Programming Model, Application Area of LP, Graphical Solutions of LPP, Special Case in LPP,
The Simplex Method, Some complication and their Resolution, Duality in LPP, Sensitivity
Analysis.

The term linear programming refers to a family of mathematical techniques for determining the
optimum allocation of resources and obtaining a particular objective when there are alternative
uses of the limited or constrained resources.

38 | P a g e
The linear programming models exhibit certain common characteristics: An objective function to
be maximized or minimized, a set of constraints, decision variables for measuring the level of
activity, and linearity among all constraint relationships and the objective function.
The graphic approach to the solution LP problems is not efficient means of solving problems.
For one thing, drawing accurate graphs is tedious. More over the graphic approach is limited to
models with only two decision variables.
Special cases that one face solving a problem graphically include: unbounded solution,
infeasibility, redundancy, multiple solution.
The simplex method is an algebraic procedure that starts with a feasible solution that is not
optimal and systematically moves from one feasible solution to another until an optimal solution
is found.
The variations described in general simplex approach include; maximization and minimization
problems, mixed constraint problems, problems with multiple optimal solution, problems with no
feasible solution, undounded problems, tied pivot columns and rows.
Every linear programming problem can have two forms. The original formulation of a problem is
referred to as its Primal form. The other form is referred to as its dual LP problem or in short
dual form.
Sensitivity analysis is the study of sensitivity of the optimal solution of an LP problem due to
discrete variations (changes) in its parameters. The degree of sensitivity of the solution due to
these changes can range from no change to all to a substantial change in the optimal solution of
the given LP problem.
The purpose of sensitivity analysis is to explore how changes in any of the parameters of a
problem, such as the coefficients of the constraints, coefficients of the objective function, or the
right hand side values; would affect the solution.

CHAPTER THREE: Transportation and Assignment Problems

Content: this chapter deal with the concept of Transportation and Assignment Problems,
Methods for Finding Initial Solution, Test for Optimality, Variation in Transportation,
Maximization Transportation problems, Solution method for Assignment problem and Special
case in Assignment Problems.

39 | P a g e
The transportation problem is a special case of linear programming problem in which the
objective is to transport a homogeneous commodity from various origins or factories to different
destinations or markets at a total minimum cost.
The purpose of using an LP model for transportation problems is to minimize transportation
costs, taking into account the origin supplies, the destination demands, and the transportation
costs.
For allocation to be feasible, two conditions must be fulfilled:
A feasible solution is one in which assignments are made in such a way that all supply and
demand requirements are satisfied.
The number of nonzero (occupied) cells should equal one less than the sum of the number
of rows and the number of columns in a transportation table.
A number of different approaches can be used to find an initial feasible solution. Which
include?
The Northwest-Corner Method (NWCR).
The Least Cost Method (LCM).
Vogel‘s Approximation Method / Penalty Method (VAM).
The test for optimality for a feasible solution involves a cost evaluation of empty cells (i.e.,
routes to which no units have been allocated) to see if an improved solution is possible. Two
methods for cell evaluation:
The Stepping-stone method
The MODI method
The Assignment Problem(AP) refers to the class of linear programing problem that involves
determining the most efficient assignment of people to projects, salespeople to territories,
contracts to bidders ,jobs to machines, and so on. The objective is to assign a number of
resources to an equal number of activities so as to minimize total costs or total time or maximize
total profit of allocation. Hence, the assignment should be made on the basis of 1:1.

CHAPTER FOUR: Decision Theory

Content: Under this chapter `you are going to have a clear understanding about the Decision
Making Environment and Types of Decision Making Environment.

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Making decision is an integral and continuous aspect of human life. For child or adult, man or
woman, government official or business executive, worker or supervisor, participation in the
process of decision making is a common feature of everyday life.

Decision-making involves all that is necessary to identify the most preferred choice to satisfy the
desired goal or objective. Hence decision-making process must involve a set of goals or
objectives, a system of priorities, methods of enumerating the alternative courses of feasible and
viable courses and a system of identifying the most favorable alternative.

Decision theory problems are characterized by, list of alternatives, states of nature, payoffs,
degree of certainty, decision criteria.

Decision situations can be categorized in to three classes: Situation of certainty, Situations where
probabilities can not be assigned to future occurrences and Situations where probabilities can be
assigned to future occurrences

There are several approaches (criteria) to decision making under complete uncertainty. Some of
these discussed in this section include: maximax, maximin,minimax regret, Hurwitz, and equal
likelihood.

Decision making under risk (with probabilities) involves several decision criteria including
Expected Monetary Value (EMV), Expected Opportunity Loss (EOL), and Expected Value of
Perfect Information (EVPI).

Decision trees represent an alternative approach to payoff tables; which are used for problems
that involve a series of chronological decisions by portraying sequential decisions graphically.

CHAPTER FIVE: Network Modeling

Content: This chapter going to talk about General network concepts, Basic Difference between
PERT and CPM, Project Scheduling with Uncertain Activity Times and Project cost and
crashing.

A 'network' is defined as a graphic representation with a flow of some type in its branches or is a
practical representation of the various events and interrelated activities. Whereas project can be
defined as being a series of activities designed to achieve a specific objective, and which has a
definite beginning and a definite end.

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PERT and CPM are the two commonly used techniques for developing and monitoring projects.
The two techniques are developed independently and expressly different purposes. Both depict
the sequential relationships that exist among activities and reveal to managers which activity
must be completed on time in order to achieve timely completion of the project. Managers can
use that information to direct their attention towards the most critical activities.

In some cases it may be possible to shorten the length of a project by shortening one or more of
the project activities. Typically such gains are achieved by the use of additional resources,
although in some cases it may be possible to transfer resources among project activities.
Generally, projects are shortened either to the point where the cost of additional reduction would
exceed the benefit of additional reduction or to the point where further improvements, although
desirable, would be physically impossible.

CHAPTER ONE: Game Theory

Content: This chapter addresses the fundamental concepts of Game Theory, Two people Zero-Sum
Game which Explain two people Zero-Sum Game, Pure Strategies, Mixed Strategies and The Rule of
Dominance and The Rule of Dominance.

Game theory may be defined as a body of knowledge that deals with making decisions when two
or more opponents are involved under conditions of conflict and competition. A competitive
situation exists when two or more opposing parties are making decisions involving conflicting
interests and wherein the action of one depends on the action which the opponent takes.

Game theory helps to determine the best course of action for a firm in view of the expected
countermoves from the competitors. The competitors in the game are known as players. Game
theory deals with competitive situations of decision-making under uncertainty.
There can be several types of games, e.g., two person and n person games, zero-sum and non-
zero sum games. Constant sum game, cooperative and non-co-operative games, pure strategy
games and mixed strategy games, etc.

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 SELF EXECERSISE
1. One of the properties of Linear Programming Model is
A. It will not have constraints,
B. It should be easy to solve,
C. It must be able to adopt to solve any type of problem,
D. The relationship between problem variables and constraints must be linear.
2. The constraints of Maximization problem are of
A. Greater than or equal type
B. Less than type
C. Less than or equal type
D. Greater than type
3. In graphical solution of solving Linear Programming problem to convert inequalities into
equations, we
A. Use Slack variables.
B. Use Artificial surplus variables
C. Use Surplus variables
D. Simply assume them to be equations.
4. The number at the intersection of pivot row and pivot column is known as
A. Column number
B. Row number,
C. Pivot number
D. Cross number.
5. If Dual has a solution, then the primal will
A. Not have a solution
B. Have only basic feasible solution,
C. Have a solution
D. None of the above.
6. Which one of the following is a valid objective function for a linear programing problem?
A. Max = 5xy
B. Max = 5x2+6y2
C. Minx = 4x+3y+(2/3)z

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 D. Min = (x1+x2)/x3
7. The corner points for the bounded feasible region determined by the system of linear
inequalities;
X1+2X2
3X1+X2
X1, X2
Are O = (0,0), A = (0,5), B = (4,3) and C = (5,0). If Z = 3X1+5X2.
Determine the conditions that will ensure the maximum value of Z occurs.
A. Only at A
B. Only at C
C. Only at B
D. At both A and B
Problem: ABC factory is engaged in manufacturing two products X and Y which involves
cutting, grinding, and assembling. The cutting, grinding and assembling time required for one
unit of X are 2 ,1 and 1 hours respectively and for one unit of Y are 3,1 and 3 hours respectively
. The profit on each unit of X and Y are $2 and $3 respectively. Assuming that 30 hrs of cutting
time,30hrs of grinding time and 24 hours of assembling time are available.
Consider the above problem for question No 8-10.
8. Identify the objective function for the above LPP.
A. MaxZ = 30X +24Y
B. MaxZ = 2X + 3Y
C. MinZ = 30X +24Y
D. MinZ = 3X + 2Y
9. What will be the feasible solution at the second tableau?
A. X= 0, Y=8, S1=6, S2=22
B. X= 0, Y=0, S1=30, S2=30, and S3= 24
C. X= 8, Y=0, S1=9, S2=23
D. X= 3, Y=8, S1=6, S3=22
10. What will be the optimum level of profit?
A. Br.24
B. Br.30

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 C. Br.72
D. Br.50
11. In Hungarian method of solving assignment problem, the row opportunity cost matrix is
obtained by:
A. Dividing each row by the elements of the row above it.
B. By subtracting the elements of the row from the elements of the row above it.
C. By subtracting the smallest element from all other elements of the row.
D. By subtracting all the elements of the row from the highest element in the matrix.
12. To balance the assignment matrix we have to:
A. Open a Dummy row,
B. Open a Dummy column,
C. Open either a dummy row or column depending on the situation
D. You cannot balance the assignment matrix.
13. The following statement applies to both transportation model and assignment model
A. The inequalities of both problems are related to one type of resource.
B. Both use VAM for getting basic feasible solution
C. Both are tested by MODI method for optimality
D. Both have objective function, structural constraint and non-negativity constraints.
14. A problem where the product of a factory is stored in warehouses and then they are
transported to various demand point as and when the demand arises is known as:
A. Transshipment problem
B. Warehouse problem
C. Storing and transport problem
D. None of the above
15. To solve degeneracy in the transportation problem we have to:
A. Put allocation in one of the empty cell as zero
B. Put a small element epsilon in any one of the empty cell
C. Allocate the smallest element epsilon in such a cell, which will not form a closed loop
with other loaded cells.
D. Allocate the smallest element epsilon in such a cell, which will form a closed loop with
other loaded cells.

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16. In a transportation problem where the demand or requirement is equals to the available
resource is known as
A. Balanced transportation problem.
B. Regular transportation problem.
C. Resource allocation transportation problem.
D. Simple transportation model.
17. A technique that enable complex projects to be scheduled, taking into account the precedence
of each activity.
A. Network analysis
B. Network modeling
C. Network diagram
D. All
18. ___________ is not a basic component of network diagram
A. Succeeding activity
B. Preceding activity
C. Dummy activity
D. None of the above

19. If you have 4, 4 and 10 hours as the optimistic (to), most likely (tm) and pessimistic (tp) time
estimate then what is the expected time for the activity?
A. 10
B. 5
C. 16
D. 30

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Problem: The following table lists the jobs of a network with their time estimates. Answer Q4-
Q7.
Activity Optimistic (to) Most likely (tm) Pessimistic (tp)
1-2 3 6 15
1-6 2 5 14
2-3 6 12 30
2-4 2 5 8
3-5 5 11 17
4-5 3 6 15
6-7 3 9 27
5-8 1 4 7
7-8 4 19 28

20. What is the expected length of the critical path

A. 38 days
B. 35 days
C. 36 days
D. 23 days
21. Which one of the following is the critical path from the given alternatives?
A. 1-6-7-8
B. 1-2-3-5-8
C. 1-2-4-5-8
D. B&C
22. The variance of the projection duration is
A. 25 days
B. 16 days
C. 20 days
D. 24 days

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23. The Standard deviation of the project duration is
A. 4 days
B. 3 days
C. 5 days
D. 2 days

Reference

Taha, Hamdy A. (2007). Operations Research: an introduction, (8 Ed.). Upper saddle river, New

Jersey: Pearson Prentice Hall.

P. Rama Murthy. (2005). Operations Research, (2nd Ed.), New age international PLtd Publishers,
New Delhi.
Frederick S. Hillier, Gerald J. Lieberman, (1990). Introduction to Operations Research, (7th Ed.),
McGraw-Hill, New York.
Frederick S. Hillier, (2006). International Series in operations Research & Management Science,
Springer Science + Business Media, New York.
Operations Research Handouts, Virtual University of Pakistan
Stevenson, William J. (2007). Introduction to management science, (7th Ed.), McGraw-Hill, New
York
H.S. Kasan, K.D. Kuman, (2007). Introductory operations research, theory and application,
spring international edition.
J.K. Sharma.(2007). Quantitative technique (3rd Ed.), trinity press
Frederick.S. Hiller& Gerald J. Lieberman, (2010). Introduction to Operations Research (9th Ed.),
McGraw-Hill, New York
R.B. Khanna (2007). Quantitative technique for managerial decision making, prentice hall, new
delihi.

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