High School

The following data is generated from the income and expenditure statements of a contracting firm on a particular project which includes foreign collaboration:

Total Project cost: 4000 crores/-
1st R.A bill: 800 crores/-
2nd R.A bill: 900 crores/-
Every Running Account bill will be paid in INR
Cost of materials: 50%
Cost of labour: 15%
Cost of equipment/machinery/plants: 20%
Indirect costs: 10%
Net profit: 15%
Fluctuating exchange rate is to be considered for billing considerations:
Material payment is 50% Saudi Riyal, 20% Euro, 15% Yen, 10% USD & 5% in INR
Labour payment is 25% Bangladeshi Takka, 15% Sri Lankan Rupee & 60% in INR
Equipment payment is 45% Chinese Yuan, 20% Yen, 10% British Pound, 10% USD & 15% in INR
When the bid was awarded in Jan 2023, and in the subsequent half-yearly periods, the exchange rates were as follows:

| Currency | No. of Units | Dec 2022 | June 2023 | Dec 2023 |
|---|---|---|---|---|
| USD | 1 | 81.8 | 82.4 | 83.5 |
| Euro | 1 | 85 | 88.5 | 92.1 |
| Yen | 1 | 0.58 | 0.59 | 0.56 |
| Saudi Riyal | 1 | 21.7 | 21.9 | 22.3 |
| British Pound | 1 | 97.4 | 102.4 | 104.2 |
| Sri Lankan Rupee | 1 | 0.22 | 0.28 | 0.25 |
| Chinese Yuan | 1 | 11.4 | 11.5 | 11.65 |
| Bangladeshi Taka | 1 | 0.81 | 0.76 | 0.75 |

Based on the above tender conditions, workout the impact of the above exchange rate fluctuations on the total project direct cost and net profit considering one year from December 2022 to December 2023. Ignore effect of exchange rate fluctuations on indirect costs.

Answer :

To solve this problem, we must calculate the impact of currency exchange rate fluctuations on the direct costs of the project and how that affects the net profit for the year from December 2022 to December 2023.

Direct Cost Components:

  1. Materials Cost: 50% of total project cost.
  2. Labour Cost: 15% of total project cost.
  3. Equipment Cost: 20% of total project cost.

The indirect costs are given as 10% and do not fluctuate due to exchange rates, so they can be ignored for fluctuations.

The total project cost is ₹4000 crores.

Step-by-Step Calculation:

  1. Materials Cost:

    • Total cost for materials is 50% of ₹4000 crores = ₹2000 crores.
    • Currency distribution for materials:
      • 50% Saudi Riyal: ₹1000 crores converted to Saudi Riyal
      • 20% Euro: ₹400 crores converted to Euro
      • 15% Yen: ₹300 crores converted to Yen
      • 10% USD: ₹200 crores converted to USD
      • 5% INR: ₹100 crores (no exchange needed)

  2. Labour Cost:

    • Total cost for labour is 15% of ₹4000 crores = ₹600 crores.
    • Currency distribution for labour:
      • 25% Bangladeshi Taka: ₹150 crores converted to Taka
      • 15% Sri Lankan Rupee: ₹90 crores converted to Sri Lankan Rupee
      • 60% INR: ₹360 crores (no exchange needed)

  3. Equipment Cost:

    • Total cost for equipment is 20% of ₹4000 crores = ₹800 crores.
    • Currency distribution for equipment:
      • 45% Chinese Yuan: ₹360 crores converted to Yuan
      • 20% Yen: ₹160 crores converted to Yen
      • 10% British Pound: ₹80 crores converted to British Pound
      • 10% USD: ₹80 crores converted to USD
      • 15% INR: ₹120 crores (no exchange needed)

Exchange Rate Fluctuations:

Use the exchange rates at Dec 2022 and Dec 2023 to work out the changes:

  • USD Fluctuation:

    • Initial from ₹81.8 to ₹83.5
    • Impact: Increase in cost

  • Euro Fluctuation:

    • Initial from ₹85 to ₹92.1
    • Impact: Increase in cost

  • Yen Fluctuation:

    • Initial from ₹0.58 to ₹0.56
    • Impact: Decrease in cost

  • Saudi Riyal Fluctuation:

    • Initial from ₹21.7 to ₹22.3
    • Impact: Increase in cost

  • British Pound Fluctuation:

    • Initial from ₹97.4 to ₹104.2
    • Impact: Increase in cost

  • Sri Lankan Rupee Fluctuation:

    • Initial from ₹0.22 to ₹0.25
    • Impact: Increase in cost

  • Chinese Yuan Fluctuation:

    • Initial from ₹11.4 to ₹11.65
    • Impact: Increase in cost

  • Bangladeshi Taka Fluctuation:

    • Initial from ₹0.81 to ₹0.75
    • Impact: Decrease in cost

Calculating Total Change in Direct Costs:
For each currency, calculate the increased or decreased cost based on the initial cost percentage, and then multiply it by the change in the rate. Sum all the impacts.

Net Profit Impact:
Net profit is 15% of ₹4000 crores = ₹600 crores.
Consider the additional cost due to currency fluctuations, and subtract this from the net profit to find the new net profit level.

This calculation shows how exchange rate fluctuations impact the cost, and thereby the profit margin of the project. Making adjustments in payment currency or hedging strategies might help stabilize costs against such fluctuations.

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