Utilizing Financial Engineering Products in the Construction Industry

Available literature points out that, the performance of the construction industry has a major influence on the economy of a country, because its activities are vital to the achievement of socioeconomic and developmental goals of providing shelter, infrastructure and employment (Chudley, 1997; Anaman and Osei-Amponsah, 2007; Ayarkwa et al. , 2011). That notwithstanding, for a construction industry to play its due role in the socioeconomic development process, it should have the capacity and capability to meet the demand put into it, and to perform well (Ofori, 2012).

Recently, the demand for infrastructure needed to speed up socioeconomic development in Ghana has witnessed a very significant boost in political support, (Ghana-Vision 2020). Indeed, this promises improvement in the delivery of public services at all state levels and innovation dynamics would contribute immensely in this endeavour. In Ghana, it is evident that innovative strategies are needed in the procurement and financing of construction project at all levels.

These innovative strategies need to be based on a better understanding of how construction procurement actually can and should work in a very practical way to contribute to more projects being delivered throughout the industry, resulting in an increase in the much needed infrastructure for development of the country. Currently, few modern financial techniques are adopted or used (mortgaging, trade credits, loans and securities) in the Ghanaian construction industry to raise much needed funding.

Therefore, there is an urgent need for a holistic approach which will enable contractors to use the most modern financial engineering products to support all kinds of projects for maximum optimization of resources. According to Reference for Business (2012), financial engineering is the design and construction of a new financial contract or the packaging of existing financial instruments to meet very specific risk and return requirements of the client. The term “financial engineering” has many connotations, and might have different meanings in different contexts (Marshall and Bansal, 1992).

In conventional financing, it relates mostly to derivatives; but the term is broader than that. For construction finance, the concept is of significant importance, as far as this research endeavour is concerned. According to Reference for Business (2012), financial engineering is equivalent to the engineering function in building construction, whereas in construction contracts includes specifications regarding duration, size and type of project, securities and cost.

Financial engineering contracts also include specification of size (or currency amount), the type of securities that will be used, the cash flows that they will generate, the risk associated with those cash flows and the date upon which contract expires or will be renewed. Financial engineering therefore can be better described as: ethics and strategies for initial innovative financial solutions. Similarly, financial engineering is concerned with tools and techniques for developing creative instruments and innovative products to meet the demands of a client.

Undoubtedly, from the contractor perspective, there is a financial gap between the amount needed (cost of project delivery) and the amount available to undertake the project. From the construction point of view, there are several principles that should be observed when developing financial engineering products to raise funding for infrastructural development projects (construction contracts). 1. 1 PROBLEM STATEMENT Increasing demand for infrastructure puts intense pressure on public budgets, especially in countries with economic deficits (Foster, 2008; Badu et al. , 2012).

Again, growing body of literature suggests that enormous funding gaps exist and contemporary receipts, savings, and central government transfers didn’t make the grade to finance large-scale infrastructure projects (Kehew et. al. , 2005; Ngowi, et. al. , 2006; Martell and Guess, 2006; Beck et. al. , 2007; Platz, 2009; Badu et. al. , 2012). Badu et. al. , (2012) argues that improving infrastructure delivery has been problematic and growing concerns about Ghana’s infrastructure deficit has raised awareness about innovative finance options.

Consequently, the Ghanaian government has urged local authorities to innovate revenue mobilization and generate adequate financial resources to meet infrastructure development targets (Nyarko and Eghan, 1998; District Assemblies Common Fund, 1999; 2004:2005; Badu et. al. , 2012)

The current payment regime to contractors on the basis of completed works presume that the contractor can only raise finance after the completion of works; this situation creates an inherent problem for contractors, especially during the preliminary stages of contract execution (c. f. Harris and McCaffer, 2001). Similarly, inflation also negates the financial viability of contracting firms thereby threatening profit making (c. f Harris and McCaffer, 2001).

Because of the above issues which discourage infrastructural development, it is appropriate to investigate innovative and viable methods of designing financial engineering products to support construction projects. Undoubtedly, more financial solutions (innovative) are needed to enhance the contractor’s funding options, hence the need for such a study.

1.2 AIMS AND OBJECTIVES 1. 2. 1 AIM The prime aim of this study is to develop a framework of financial engineering products that can be used to finance construction projects within the Ghanaian construction industry. 1. 2. 2 OBJECTIVES The following specific objectives are set to guide this research: * To access existing construction financial environment * To identify financing options which are suitable for construction projects; * To establish a framework for utilization of financial engineering products to enhance infrastructure delivery.

FYI: Africa’s water and sanitation infrastructure access, affordability, and alternative. editors, Sudeshna Ghosh Banerjee, Elvira Morella Published 2011 by World Bank in Washington, D. C . Written in English. 1. 3 SCOPE OF STUDY This study is narrowed to selected areas; such as the built environment, civil engineering, roads, oil and gas, real estate contractors in the Kumasi metropolis. Kumasi metropolis is preferred because of its proximity to the study. Additionally, the Kumasi metropolis, the second largest city in Ghana harbours a significant number of contractors and financial institutions.

Hence, it provides the ideal location for numerous and active contractors as well as financial institutions for the study. The scope will take into consideration for the study contractors and financial institutions in practice for not less than five years as this will ensure that data is collected from experienced sources to give the study the much needed validity and reliability. 1. 4 METHODOLOGY The methodology adopted for this study will consist of critical review of literature on project funding in Ghana.

This will include the review of previous work done, contributions made, criticisms, restrictions and critical challenges associated with funding of projects in Ghana. The literature review will help develop a sample questionnaire, which will be centered on the aims and objectives of the study to aid in the collection of data and also allow for a follow-up interview from the respondents. The contractors selected shall be registered construction firms at the Registrar General’s department in the Kumasi metropolis. However there would be a detailed discussion of the research methodology in chapter three.

1. 5 LIMITATIONS OF STUDY Similar to other research works, the scope and approach to this research will encounter limitations. These may include getting access to data from the selected respondents, errors in measurement and its effects on the collected data, analysis and conclusions. These could be attributed to the limited time available for this study and the financial constraints posed. These limitations are however expected to be a basis for recommendations made for future research works. 1. 6 SIGNIFICANCE OF STUDY Access to adequate funding is vital in the life of every project.

However, the extent to which limited funding or lack thereof has been addressed in Ghana is very little and there is no single or universal financial engineering product that fits the construction sector. The objective of this study is therefore to provide a framework of financial engineering products that can be used to fund construction projects in Ghana. Moreover, the results of this report will assist financial institutions, sponsors, planners, investors, housing developers, and all those stakeholders in the Ghanaian construction industry to identify relevant solutions or parameters to the funding problems of the Ghanaian contractor.

Hopefully, this study will help rekindle investor interest and confidence in the long term infrastructural development in Ghana by encouraging effective financial practices. Finally, this research is about much validation in the academia as it will serve as a major and critical contribution to knowledge and this will consequently encourage other researchers to engage in additional research on financial engineering in the construction industry. 1. 7 ORGANISATION OF STUDY The study would be structured into five main chapters.

Chapter one deals with the introduction, which includes the background to the study, problem statement, aims and objectives, scope of study, methodology, justification, limitations and the structure of the study; Chapter two considers the review of literature related to the study. Chapter three then examines the details of the research methodology; chapter four focuses on the analysis and discussion of the data collected for the study; and finally, chapter five talks about the summary, conclusion and recommendations of the study. The framework below demonstrates the work flow of the study.


CHAPTER FOUR DATA ANALYSIS CHAPTER FOUR DATA ANALYSIS CHAPTER FIVE CONCLUSION AND RECOMMENDATIONS CHAPTER FIVE CONCLUSION AND RECOMMENDATIONS Figure1: Summary of work flow of the study REFERENCES Ayarkwa, J. , Dansoh, A. , Adinyira, E. And Amoah, P. (2011),”Performance of building technology graduates in the construction industry in Ghana”, Education + Training, Vol. 53 Iss: 6 pp. 531 – 545 Badu, E. , Edwards, D. J, Owusu-Manu, D. And Brown, M. (2012),”Barriers to the implementation of innovative (IF) of infrastructure”, Journal of Financial Management of Property and Construction, Vol.

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