Chapter 1

Pre-investment studies in the small

industrial business sector

Main characteristics of small industrial

business

1. Decentralized production and local markets

2. Products and services for different demand

3. The central role of the entrepreneur

4. Entrepreneur owner and manger of the business

5. Collective entrepreneurship and family business

1. Strengths of family business

2. Weakness of family business

6. Cooperation strategies

7. Subcontracting

Decentralized production and local markets

Small industrial business are characterized by their decentralized manufacturing

operations and their reliance on local markets

The small industrial business that benefited from decentralized operations are those

that process agricultural products and bulky or heavy raw materials or small catering

business

Small industrial business are located close to their sources of supply and seller markets

They usually have a good knowledge of the markets

Their transportation costs are lower than those of their large scale competitors.

Small firms, unlike large scale enterprises are not burned with complex and costly

marketing research and marketing operations

Products and services for different demand

Important characteristic and potential strength of small industrial business is their ability

to cater to high differentiated, individual demand by offering custom made products e.g.

built-in furniture or handmade shoes.

Catering to individual demand is an essential function of the small business sector in both

developing and industrialized countries e.g. handicrafts

Small business has high degree of flexibility

Free from bureaucratic procedures

Catering for individual demand entail developing innovative products

The central role of the entrepreneur

The most important function of entrepreneurship are bearing the business risk (capital risk)

and coordinating (managing ) the business i.e. making things happen

Small industrial business remain dominated by labour intensive and personal elements

Entrepreneur comprises a number of managerial tasks:

Determining the main business objectives

Setting priorities

Identifying basic strengths and weakness

Procuring and coordinating the required resources

Entrepreneur owner and manger of the

business

In small industrial business required management and capital risk is bared by one

person

One person become the center of activity

In small business it is important that owner entrepreneur should possess

managerial skills

For successful business the personal management and leadership aspects are more

important than the financing and liability aspects

Collective entrepreneurship and family business

The sharing of entrepreneurship and managerial functions, particularly in so called family

business is common in the small business sector probably because it offers various

advantages over individual entrepreneurship

The partners in a family business have no legally binding agreements or contracts

Cont.

Strengths of family business

Good position to cope with social change and challenges

Owing to their flexibility

Ability to combine entrepreneurial drive and efficiency

Highly motivated

good Ethical standards

Weakness of family business

Overwhelming amount of work

Long working hours as compared to enterprise

Workload causes other important spheres of life e.g. cultural, social, personal and spiritual

Overcome these weakness

Clearly defines and appropriate public policies and actions

Emphasis on indirect economic and fiscal policies

Greater attention should be given to inter and intra firm cooperation

Cooperation strategies

Cooperation with other firms may also offer some opportunities to small business

that have grown so rapidly that the entrepreneur can no longer take on all the

professional tasks

Traditional examples of cooperation strategies are export, purchasing and storage

cooperatives; production cooperatives

Joint ventures are another form of cooperation and ecpectations for this strategy

are high especially for joint ventures between small industrial enterprises.

Subcontracting

Subcontracting may be strategic for ensuring the survival of an enterprises

Goods or services might be produced e.g. for a customer who would be responsible for selling

them

Reasons for the growing role of subcontracting are:

Better capacity utilization in those parts of the production process that are irregular or not not

standardized

Fewer labour conflicts in times of recession

Avoidance of high labour costs in those categories where wages are subject to government regulation

or influenced by pressure groups

Wages are significantly lower in small firms than in large firms in developing countries

Definition of small industrial business projects

Small enterprise is defined as: if the entrepreneur is involved in the production process as

well as in administrative and commercial task, which is frequently carried out by family

members

Distinction by value of assets and number of employees

Worldwide statisticians and economists refer to criteria that are easy to measure e.g.

number of employees, sales and capital investment.

If firm has fewer than 500 employees it is considered small enterprise

If company has investment between $50,.000 - $500,000 it is considered small enterprise

Formal and informal sector

There are often no statistics to register activities in the manufacturing, trade and service sector that is

known as the informal sector

These activities are specially important in many developing countries.

The informal sector in developing countries can be compared to the “shadow economy”

60 percent of the entire estimated domestic production is manufactured by the informal

sector

The formal sector consists of the businesses, enterprises and economic activities that are monitored,

protected and taxed by the government

Even small business which have fewer then 10 – 20 employees may be registered and

operate legally these industry is called cottage industry

Definition is adopted for this manual

An investment in a small to medium scale manufacturing enterprise is considered to be small industrial

business project if the following are true:

The entrepreneur and his or her family or partner play a central role by making things happen

Production is mainly for local markets and differentiated demand

The value of assets or of total initial investment in the case of a new enterprise is less than $2

million but more than $50,000

The number of employees, unless defined otherwise in a country is in the range of 20 – 100 or it

part timers or apprentices are employed 20 – 100 full time equivalents

The manual does not, there, take into account the following categories of business

Very small or so- called small small business with fewer than 10 employees

Medium sized enterprises(firms with 100-500 employees)

Large corporations (firms with more than 500 employees)

The environment of small business investment

projects

1. Impact of sociocultural environment

2. Impact of sectoral and regional development policies

3. Competition and cooperation

4. Small business dependence on institutional infrastructure

5. Resource requirement

6. Market potential for small industrial businesses

7. Strategic orientation of small industrial businesses

Impact of sociocultural environment

1. Sociocultural climate and entrepreneurship

The central and vital role of the entrepreneur is one of the main characteristics of small business

and there is no doubt that entrepreneurial potential of a country or place is one of the key success

factor for small business investment

2. Entrepreneurial culture and image

Tradition is in many ways an important factor particular for the development of small enterprises.

The success of entrepreneurship activities is strongly linked with the image of entrepreneurship.

Ethical principals for entrepreneurial behavior which in some countries are explicitly formulated

and laid down in subsector specific codes

3. Sociocultural environment and investment projects

In small business tribal allegiance, customs, religion, art, law, know-how and ethics have a

significant impact on the success of an investment.

Traditional values, norms and attitudes also impact on the success of small business

Impact of sectoral and regional development

policies

Promotional polices have been adopted for the small business sector to offset the weakness and strengths that

are typical for this sector of the economy:

The equal vestment of small and large enterprises in administrative matters often leads to discrimination against

the former particularly in bureaucratic procedures such as tax and customs regulations, in access to public

utilities and in access to financing and factory inputs

Development of the small business sector depends to a considerable extent on the appropriateness of the socio-

economic infrastructure

There is a strong case that the small industrial business sector has a greater employment generation effect than

the large scale sector

The more successful small firms are likely to grow larger and in the process they serve as incubators,

contributing to economic development

Small industrial business use and development predominantly domestic technologies and skills

Promotional measures

Typical measures for promoting industrial investment projects are long-term tax and tariff

reductions, generous subsidies and free sites or premises.

The most important administrative measures in business policy and promotion at this

intermediate level of the economy are as follows:

Providing incentives for investment, such as accelerated depreciation of assets, financing

guarantees, grants and subsidized interest

Promoting innovation, including research and development of new or improved products

and/or procedures, by, for instance, transforming, loans into grants in case of failure

Creating and subsidizing socio-economic and natural science research institutions

Creating decentralized industrial and technological advisory boards and institutions

Creating and supporting cooperative ventures, in particular financing, marketing and

purchasing cooperatives

Competition and cooperation

For small business generally, cutthroat competition is not necessarily

the most desirable environment.

The promotion of cooperative elements and related institutionalization

within a basically competitive setting has been shown to lead to an

environment that is favorable for small business.

Competition to be economy beneficial equitable starting conditions

must prevail and must be guaranteed and regulated by appropriate

rules.

Small business dependence on institutional

infrastructure

1. Decentralized institutional support

Most measures to promote the development of a decentralized small industrial business would

never reach their target without a decentralized institutional infrastructure.

The so-called corps intermediaries, represented by various forms of professional associations,

including chambers of industry and commerce

The entrepreneur in a small firm is frequently his own designer, finance manger, engineer,

Forman, quality controller, assembler and service man

2. Consulting services

Due to limited ability of an entrepreneur to solve all the economic and technical problems of the

business, he or she must frequently turn to outside experts, for instance, when typing to improve

training, production processes, organizational patterns and quality control

Resource requirement

Small industrial business in most cases draw on indigenous resources for materials input, human

resources and finance. The volume of resources required by individual small firms is, in general,

considerably lower than that required by large industrial operations

1. Human resource requirements:

For small enterprises, human capital is more essential for business than other forms of capital

The smaller an enterprise, the less emphasis there is on physical capital e.g. investment in

professional education and training

The assessment of something as complex as human capital requires the analysis of factor such

as the values and behavior of key persons are the forms of organization

2. Financial resource requirements:

Access to financing is one of the more serious constraints to the development of small

business.

While it is generally accepted that specialized small business credit facilities and appropriate

credit guarantee systems are needed to cope with the problems of lending to small firms.

Market potential for small industrial businesses

Small enterprises do not need large markets to be successful

They can operate in markets with only limited potentials

To achieve their marketing objectives despite limited marketing capabilities,

small enterprises need competitive advantages, such advantages will be

easier to come by in home markets.

Easier access to other than local markets may in some cases open up new

business opportunities

Strategic orientation of small industrial

businesses

Strategic orientation means thinking in terms of long- range

objectives and then planning measures to achieve these objectives,

while taking into account internal strengths and weakness as well as

external opportunities, in particular markets opportunities and threats.

Often mangers and planners think that in small business strategic

orientation is not desirable, assuming it diminishes flexibility.

One of the strongest arguments against formalized strategic planning

in small business is that its costs greater than its benefits.

Project identification, preparation and

promotion

The principal arguments for pre-investment studies for small

industrial business are as follows

Optimal allocation of resources

Reduction in the failure rates of young enterprises

Avoidance of unbalanced growth

Project promotion with information for potential investor and

financiers

Identification of business opportunities

The identification of business opportunities starts with the exploration of markets to determine

potentials

Import substitution as a means of developing domestic capacities also has its limitations:

1. Consumer be4haviour e.g. traditional product preferences and demand patterns, is hard to change

2. Trading patterns may be entrenched

3. The necessary resources (raw materials, energy, skills) may not be available

4. Trade liberalization, regional integration and exposure to larger markets increase competitive pressures

Additional opportunities and market potentials for small industrial businesses can be identified by

taking stock of the following:

1. Unsatisfied local demand (local supply concept)

2. Entrepreneurial potentials (personal capabilities)

3. Possibilities for the introduction or adaption of new technologies (technologies transfer)

4. Chances of exploiting personal contacts

5. Benefits of business agglomerations or sector- specific industry clusters

Project preparation and analysis at the subsector

level

Once an idea for small business investment project has been born by

analyzing external trade with a view to possible import substitution

by monitoring technical journals or by identifying customer demand

The next step in preparation the project are usually taken at the

sectorial level or a limited geographical area

Pre-investment studies consist of the following

components

Opportunity studies

Pre-feasibility studies

Feasibility studies

Support studies

Opportunity Studies

The main instrument used to quantify the parameters, information and data

required to develop a project idea into a proposal is the opportunity

study. Depending on the prevailing conditions under investigation, either a

general opportunity study (sector approach) or specific project opportunity study

(enterprise approach), or both, have to be undertaken.

General opportunity studies may be divided into the following three categories

Area studies designed to identify opportunities in a given area

Industry studies designed to identify opportunities in a delimited industrial branch

Resource-based studies designed to reveal opportunities based on utilization of natural,

agricultural or industrial products

Pre-feasibility StudiesAfter an opportunity study, a project idea must be elaborated in a more detailed study,

All possible project alternatives have been examined;

The project concept justifies a detailed analysis by a feasibility study;

Any aspects for the project are critical to its feasibility and necessitate in-depth

investigation through functional or support studies such as market studies,

laboratory or pilot-plants tests;

The project idea, on the basis of the available information, should be considered

either non-viable or attractive enough for a particular investor or investor group;

The environmental situation at the planned site and the potential impact of the

projected production process are in line with national standards.

Feasibility studies

A feasibility study should provide all data necessary for an

investment decision. The commercial, technical, financial,

economic, legal and regulatory and environmental pre-requisites for

an investment project should be defined and critically examined on

the basis of alternative solutions already reviewed in the pre-

feasibility study. The depth of investigation in all areas provides

information adequate for potential investors, financiers, guarantors,

and licensing agencies to decide whether to go ahead with a project

Support (functional) studies

Support or functional studies cover specific aspects of an investment project, and

are required as pre-requisites for, or in support of, pre-feasibility and feasibility

studies, particularly large-scale investment proposals.

Examples of such studies include the following:

Market studies

Raw material and factory supply studies

Laboratory and pilot-plant tests

Location studies

Environment impact assessment

Economies-of-scale studies

Equipment selection studies