You are on page 1of 103

Chapter-I

INTRODUCTION

INTRODUCTION

Tata Motors Limited, an automobile company, engages in the manufacture and sale of commercial and passenger vehicles primarily in India. The company offers cars, utility vehicles, trucks, buses, and defense vehicles, as well as develops electric and hybrid vehicles for personal and public transportation. It also involves in distributing and marketing cars; and financing the vehicles sold by the company. In addition, the company engages in the provision of engineering and automotive solutions, as well as machine tools and factory automation solutions; construction equipment manufacturing; automotive vehicle components manufacturing and supply chain activities; tooling and plastic and electronic components for automotive and computer applications; and automotive retailing and service operations. It offers its products and services through its dealership, sales, services, and spare parts network. The company also markets its commercial and passenger vehicles in Europe, Africa, the Middle East, South East Asia, South Asia, and South America. The company was formerly known as Tata Engineering and Locomotive Company Limited and changed its name to Tata Motors Limited in July 2003. Tata Motors Limited was founded in 1945 and is based in Mumbai, India. Tata Motors in one of the major players of the automobile manufacturing companies in India. It has three different manufacturing units in India they are, Jamshedpur in the East, Pune in the West and Lucknow in the North and all three manufacturing units specialize in the manufacturing of different automobile like Jamshedpur unit produces trucks, engines and axles, the Pune unit caters to the production of Medium Heavy Commercial vehicles and Heavy Commercial Vehicles, utility vehicles an passenger cars and the Lucknow unit produces MCVs, Tata Sumos along with a number of spare parts. Some of the well known cars manufactured by Tata Motors are: Tata Indica, Tata Indigo, Tata Indigo Marina, Tata Sumo and Tata safari.

Vishnu Carriers Pvt. Limited is the Dealer for TATA Motors

Commercial Vehicles providing sales, service and spares at Visakhapatnam. Vishnu Carriers's strength & the success tip being “High Level of Customer Satisfaction“, with fully equipped Work-Shop and Show room, dealing in the following range of TATA Vehicles.

2

Capital budgeting has its origins in the natural resource and infrastructure sectors. The current demand for infrastructure and capital investments is being fueled by deregulation in the power, telecommunications, and transpiration sectors, by the globalization of product markets and the need for manufacturing scale, and by the privatization of government –owned entities in developed and developing countries. The capital budgeting decision procedure basically involves the evaluation of the desirability of an investment proposal. It is obvious that the firm most have a systematic procedure for making capital budgeting decisions. The procedure for making capital budgeting decisions. It consists of units mainly engaged in manufacturing motor vehicles or motor vehicle engines Products and Services.The primary activities of this industry are Motor cars manufacturing Motor vehicle engine manufacturing. The major products and services in this industry are Passenger motor vehicle manufacturing segment (Passenger Cars, Utility Vehicles & Multi Purpose Vehicles) Commercial Vehicles (Medium & Heavy and Light Commercial Vehicles) Two Wheelers Three Wheelers.

The supply chain of automotive industry in India is very similar to the supply chain of the automotive industry in Europe and America. The orders of the industry arise from the bottom of the supply chain i. e., from the consumers and goes through the automakers and climbs up until the third tier suppliers. However the products, as channeled in every traditional automotive industry, flow from the top of the supply chain to reach the consumers. Automakers in India are the key to the supply chain and are responsible for the products and innovation in the industry. [1] The description and the role of each of the contributors to the supply chain are discussed below. Third Tier Suppliers: These companies provide basic products like rubber, glass, steel, plastic and aluminium to the second tier suppliers. Second Tier Suppliers: These companies design vehicle systems or bodies for First Tier Suppliers and OEMs. They work on designs provided by the first tier suppliers or OEMs. They also provide engineering resources for detailed designs. Some of their services may include welding, fabrication, shearing, bending etc. First Tier Suppliers: These companies provide major systems directly to assemblers. These companies have global coverage, in order to follow their customers to various locations around the world. They design and innovate in order to provide “black-box” solutions for the

3

requirements of their customers. Black-box solutions are solutions created by suppliers using their own technology to meet the performance and interface requirements set by assemblers. First tier suppliers are responsible not only for the assembly of parts into complete units like dashboard, breaks-axel-suspension, seats, or cockpit but also for the management of second-tier suppliers. Automakers/Vehicle Manufacturers/Original Equipment Manufacturers (OEMs): After researching consumers’ wants and needs, automakers begin designing models which are tailored to consumers’ demands. The design process normally takes five years. These companies have manufacturing units where engines are manufactured and parts supplied by first tier suppliers and second tier suppliers are assembled. Automakers are the key to the supply chain of the automotive industry. Examples of these companies are Tata Motors, Maruti Suzuki, Toyota, and Honda. Innovation, design capability and branding are the main focus of these companies. Dealers: Once the vehicles are ready they are shipped to the regional branch and from there, to the authorised dealers of the companies. The dealers then sell the vehicles to the end customers. Parts and Accessory: These companies provide products like tires, windshields, and air bags etc. to automakers and dealers or directly to customers. Service Providers: Some of the services to the customers include servicing of vehicles, repairing parts, or financing of vehicles. Many dealers provide these services but, customers can also choose to go to independent service providers.

NEED FOR THE STUDY

4

Capital budgeting decisions are the investment decisions of a firm are generally known as the capital budgeting, or capital expenditure decisions. A capital budgeting decision may be defined as the firm’s decision to invest in current funds most efficiently in the long term assets in anticipation of an expected flow of benefits over a series of years. The long – Term assets are those that affect the firm’s operations beyond the one year period. The firm’s investment decisions would generally include expansion, acquisition modernization and replacement of the long –term assets. Sale of a division or business is also an investment decision. Decisions like the change in the methods of sales distribution, or an advertisement campaign or research and development program have long- term implications for the firm’s expenditures and benefits, and therefore they should also be evaluated as investment decisions.

Capital investments, representing the growing edge of a business, are deemed to be very important for three inter- related reasons.The influence firm growth in the long term consequences capital investment decisions have considerable impact on what the firm can do in future.They affect the risk of the firm; it is difficult to reverse capital investment decisions because the market for used capital investments is ill organized and /or most of the capital equipments bought by a firm to meet its specific requirements. Capital investment decisions involve substantial out lays.Whether or not funds should be invested in long term projects such as setting of an industry purchase of plant and machinery etc.Analyse the proposal for expansion of creating additional capacities. To decide the replacement of permanent asset such as building and equipments

Capital budgeting has its origins in the natural resource and infrastructure sectors. The current demand for infrastructure and capital investments is being fueled by deregulation in the power, telecommunications, and transpiration sectors, by the globalization of product

5

markets and the need for manufacturing scale, and by the privatization of government –owned entities in developed and developing countries.

The capital budgeting decision procedure basically involves the evaluation of the desirability of an investment proposal. It is obvious that the firm most have a systematic procedure for making capital budgeting decisions. The procedure for making capital budgeting decisions. It consists of units mainly engaged in manufacturing motor vehicles or motor vehicle engines Products and Services.The primary activities of this industry are Motor cars manufacturing Motor vehicle engine manufacturing. The major products and services in this industry are Passenger motor vehicle manufacturing segment (Passenger Cars, Utility Vehicles & Multi Purpose Vehicles) Commercial Vehicles (Medium & Heavy and Light Commercial Vehicles) Two Wheelers Three Wheelers.

OBJECTIVES

To measure the present value of rupee invested in the company.

6

To study the techniques of capital budgeting for decision-making in the company.

To study the relevance of capital budgeting in evaluating the project.

To understand an item wise study of the company of financial performance of

the

company. To evaluate the investment proposal by using capital budgeting techniques.

To suggest for improving the financial positions of the company.

To Determine the proposal and investments, inflows and out flows.

To identify the better investment proposals

To give suitable suggestion regarding the best in the investment proposal.

METHODOLOGY

7

Methodology is a systematic procedure of collecting information in order to analyze and verify a phenomenon. The collection of information is done two principle sources. They are as follows:

  • 1. Primary Data

  • 2. Secondary Data

Primary Data

It is the information collected directly without any references. In this study it is gathered through interviews with concerned officers and staff, either individually or collectively, sum of the information has been verified or supplemented with personal observation conducting personal interviews with the concerned officers of finance department of GREATER HYDERABAD MUNCIPAL CORPORATION.

Secondary Data:

The secondary data was collected from already published sources such as, pamphlets of annual reports, returns and internal records, reference from text books and journals relating to financial management.

The data collection includes

  • a) Collection of required data from annual records of Greater Hyderabad Muncipal Corporation.

  • b) Reference from text books and journals relating to financial management.

LIMITATIONS

8

Though the project is completed successfully a few limitations may be there. Since the procedure and polices of the company will not allow to disclose confidential financial information, the project has to be completed with the available data given to us. The study is carried basing on the information and documents provided by the organization and based on the interaction with the various employees of the respective departments. There was no scope of gathering current information, as the auditing has not been done by the time of project work.

COMPANY PROFILE

9

Tata Motors Limited, an automobile company, engages in the manufacture and sale of commercial and passenger vehicles primarily in India. The company offers cars, utility vehicles, trucks, buses, and defense vehicles, as well as develops electric and hybrid vehicles for personal and public transportation. It also involves in distributing and marketing cars; and financing the vehicles sold by the company. In addition, the company engages in the provision of engineering and automotive solutions, as well as machine tools and factory automation solutions; construction equipment manufacturing; automotive vehicle components manufacturing and supply chain activities; tooling and plastic and electronic components for automotive and computer applications; and automotive retailing and service operations. It offers its products and services through its dealership, sales, services, and spare parts network. The company also markets its commercial and passenger vehicles in Europe, Africa, the Middle East, South East Asia, South Asia, and South America. The company was formerly known as Tata Engineering and Locomotive Company Limited and changed its name to Tata Motors Limited in July 2003. Tata Motors Limited was founded in 1945 and is based in Mumbai, India.

Tata Motors in one of the major players of the automobile manufacturing companies in India. It has three different manufacturing units in India they are, Jamshedpur in the East, Pune in the West and Lucknow in the North and all three manufacturing units specialize in the manufacturing of different automobile like Jamshedpur unit produces trucks, engines and axles, the Pune unit caters to the production of Medium Heavy Commercial vehicles and Heavy Commercial Vehicles, utility vehicles an passenger cars and the Lucknow unit produces MCVs, Tata Sumos along with a number of spare parts. Some of the well known cars manufactured by Tata Motors are: Tata Indica, Tata Indigo, Tata Indigo Marina, Tata Sumo and Tata safari.

ORGANISATIONAL PROFILE

Vishnu carriers private ltd:

Vishnu Carriers Pvt. Limited is the Dealer for TATA Motors Commercial Vehicles

providing sales, service and spares at Visakhapatnam. Vishnu Carrier’s strength & the success tip being High Level of Customer Satisfaction“, with fully equipped Work-Shop and Show room, dealing in the following range of TATA Vehicles.

Brief Introduction about Vishnu Group:

10

Vishnu group operates four business sectors Automobiles, Hotels, Textiles,

Engineering Products etc. Total Vishnu Group net worth Group of companies listed below

51 Cores Total Turnover 80 Cores

Vishnu Motor Plaza Ltd.,

Vishnu Cars Private Ltd.,

Sree Ramakrishna Engineering co.,

Meghalaya Hotels Private Ltd.,

Vishnu Multiform Private Ltd.,

Vishnu Carriers Private Ltd.,

VCPL is one of the leading player in passenger &commercial segment having 52% Market share in Visage Market being Tourism spot the floating population will be high like international airport, IT industries targeting in Visakhapatnam Size of site 2868.65 sq yards we have our presence in the Payakaraopeta, Thagarapuvalasa, Narsipatnam, Anakapalli, Kakinada, East Godavari. Vcpl is dedicated to provide its customers’ with the best possible service our business model allows us to meet our customer’s economic and technical challenges in the Market Place. We work with customer as a partner to satisfy their requirements in a simple cost effective Manner. We provide all levels of services from simple staffing to a complete professional services Vcpl recognized by ISO standards maintain quality of services to the customer.

Expansion Plans :

VCPL is on the threshold for rapid expansion. The revenues are slated to grow substantially with new lines of business emerging like Tata Products different geographies.

Products :

Medium commercial vehicles

Intermediate commercial vehicles

Light commercial vehicles

Small commercial vehicles

11

Medium commercial vehicles :

Tata Motors introduces the all new LPT 909EX, which is geared up to meet and provide solutions to a range of highly demanding transport applications from inner city and regional distribution to long distance trips. This vehicle comes with the superior EX features like extra Torque, extra fuel-efficiency, extra reliability and durability, extra maneuverability (through reduction in turning circle diameter). extra safety, with S-Cam Air Brakes and extra driver- comfort. All these mean superior drivability, extra revenues and lower operating costs, thus extra profit.

Intermediate commercial vehicles

The Tata Motors, LPT 1109 turbo truck works with 4 cylindered engine operating on

497 turbo

charged inter cooled diesel with dual-circuit full air S-Cam brakes

Light commercial vehicles :

Powerful Turbocharged engine provides superior pick-up and ensures peak performance and fuel economy in all kinds of application. A higher starting torque and a flatter torque curve provides more pulling power and enhances performance in both city and long distance traveling.

Reliable and Durable Performance:

From roughest road toughest job, Tata vehicles are built to give years of dependable service even in extreme road and weather conditions. The cabs and frames are designed to be highly rigid and are extensively treated to prevent corrosion.

Small commercial vehicles :

The ACE is a small vehicle that opens up big opportunities. You can now pursue plans never thought possible before starting a new business or expanding an existing one, transporting from city to city deep into rural areas. Get the big ACE advantage. Make a small

decision.

12

Commercial passenger vehicles:

Enter into the world of Tata Motors buses and allow us to take you on a journey that will redefine road travel in India for luxury seekers, intercity travelers, city commuters and school children alike.

Vishnu Group Competitors:

TATA LAYLAND EICHER M&M PAIGGO SWARAJ FORCE Strategies : (Sales) One to one –Customer reception & care Studying & analyzing the needs & suitable advises Timely delivery with ready stock as committed Free training to operators (customers) by setting up separate training center Extended warranty & various finance schemes tying up with financiers Support in the events of accidents & insurance claims Separate marketing teams for bulk institutional & other individual customers for better

focus. Educating the customers to get optimum use out of it

Strategies : (Service)

24x7 Customer care & service availability

On call –On site service

Service Reward points –Little boon to customer satisfaction

Reminders on regular intervals for periodical check During and after warranty

Timely delivery with ready stock of spares, Excellent service setup & high quality service

by well trained & experienced technicians. Excellent customer Relations with full data base

Departments:

Service:

Work shop D1D2 (Light Vehicles Division)

Work shop D4 (Heavy Vehicle Division)

Work shop D12 (Accidental Vehicle Division)

Spares

13

CRM

 

Sales

Service

Sales

Human Resource Department

Accounts Department

Security Department

Maintenance Department

Front office

Manpower Particulars :

Total Manpower 240

S.No

Department Name

Total

no

of

employees

01

Workshop D1D2 Supervisors Mechanics Asst. Mechanics

 

Helpers

02

Workshop D4

 

Supervisors

Mechanics

Asst Mechanics

Helpers

03

Workshop D12

 

Supervisor

Mechanics

14

 

Asst. Mechanics

 
  • 04 Spares

 
  • 05 Sales

 
  • 06 HRD

 
  • 07 Accounts

 

15

INDUSTRIAL PROFILE

Industry Definition:

Vehicle engines. This class consists of units mainly engaged in manufacturing motor vehicles or motor vehicle engines Products and Services.

The primary activities of this industry are:

Motor cars manufacturing Motor vehicle engine manufacturing The major products and services in this industry are:

Passenger motor vehicle manufacturing segment (Passenger Cars, Utility Vehicles & Multi Purpose Vehicles) Commercial Vehicles (Medium & Heavy and Light Commercial Vehicles) Two Wheelers Three Wheelers

Supply Chain of Automobile Industry

INDUSTRIAL PROFILE Industry Definition: Vehicle engines. This class consists of units mainly engaged in manufacturing motory The supply chain of automotive industry in India is very similar to the supply chain of the automotive industry in Europe and America. The orders of the industry arise from the bottom of the supply chain i. e., from the consumers and goes through the automakers and climbs up until the third tier suppliers. However the products, as channeled in every traditional automotive industry, flow from the top of the supply chain to reach the consumers. Automakers in India are the key to the supply chain and are responsible for the products and innovation in the industry. 16 " id="pdf-obj-15-16" src="pdf-obj-15-16.jpg">

Supply Chain of Indian Automobile Industry [1]

The supply chain of automotive industry in India is very similar to the supply chain of the automotive industry in Europe and America. The orders of the industry arise from the bottom of the supply chain i. e., from the consumers and goes through the automakers and climbs up until the third tier suppliers. However the products, as channeled in every traditional automotive industry, flow from the top of the supply chain to reach the consumers. Automakers in India are the key to the supply chain and are responsible for the products and innovation in the industry.

16

The description and the role of each of the contributors to the supply chain are discussed below. Third Tier Suppliers: These companies provide basic products like rubber, glass, steel, plastic and aluminum to the second tier suppliers.

Second Tier Suppliers: These companies design vehicle systems or bodies for First Tier Suppliers and OEMs. They work on designs provided by the first tier suppliers or OEMs. They also provide engineering resources for detailed designs. Some of their services may include welding, fabrication, shearing, bending etc.

First Tier Suppliers: These companies provide major systems directly to assemblers. These companies have global coverage, in order to follow their customers to various locations around the world. They design and innovate in order to provide “black-box” solutions for the requirements of their customers. Black-box solutions are solutions created by suppliers using their own technology to meet the performance and interface requirements set by assemblers.

First tier suppliers are responsible not only for the assembly of parts into complete units like dashboard, breaks-axel-suspension, seats, or cockpit but also for the management of second-tier suppliers.

Automakers/Vehicle Manufacturers/Original Equipment Manufacturers (OEMs): After researching consumers’ wants and needs, automakers begin designing models which are tailored to consumers’ demands. The design process normally takes five years. These companies have manufacturing units where engines are manufactured and parts supplied by first tier suppliers and second tier suppliers are assembled. Automakers are the key to the supply chain of the automotive industry. Examples of these companies are Tata Motors, Maruti Suzuki, Toyota, and Honda. Innovation, design capability and branding are the main focus of these companies.

Dealers: Once the vehicles are ready they are shipped to the regional branch and from there, to the authorised dealers of the companies. The dealers then sell the vehicles to the end customers.

Parts and Accessory: These companies provide products like tires, windshields, and air bags etc. to automakers and dealers or directly to customers.

17

Service Providers: Some of the services to the customers include servicing of vehicles, repairing parts, or financing of vehicles. Many dealers provide these services but, customers can also choose to go to independent service providers.

Product and service segmentation

The automotive industry of India is categorised into passenger cars, two wheelers, commercial vehicles and three wheelers, with two wheelers dominating the market.

The passenger vehicles are further categorised into passenger cars, utility vehicles and multi-purpose vehicles. All sedan, hatchback, station wagon and sports cars fall under passenger cars. Tata Nano, is the world’s cheapest passenger car, manufactured by Tata Motors - a leading automaker of India. Multi-purpose vehicles or people-carriers are similar in shape to a van and are taller than a sedan, hatchback or a station wagon, and are designed for maximum interior room.

Commercial vehicles are categorised into heavy, medium and light. They account for about 5% of the market. Three wheelers are categorised into passenger carriers and goods carriers. Three wheelers account for about 4% of the market in India.

Indian automotive companies

Chinkara Motors Beachster, Hammer, Roadster 1.8S, Rockster, Jeepster, Sailster

ICML: Rhino Rx

18

Commercial vehicle manufacturers in India

Indian brands:

Basis of Competition

Competition in this industry is high. Competition in this industry is increasing. Automotive industry is a volume-driven industry, and certain critical mass is a pre-requisite for attracting the much-needed investment in research and development and new product design and development. Research and development investment is needed for innovations which is the lifeline for achieving and retaining competitiveness in the industry. This competitiveness in turn depends on the capacity and the speed of the industry to innovate and upgrade. The most important indices of competitiveness are productivity of both labour and capital.

Key Success Factors

The Key Success factors in the Motor Vehicle Manufacturing industry are:

Efficiency factor - Improve labour productivity, labour flexibility, and capital efficiency Resource Availability - Quality manpower availability, infrastructure improvements, and raw material availability Effective cost controls - Close relationship with supplies and goods distribution channels. Establishment of export markets - Growth of export markets Having an extensive distribution/collection network - Goods distribution channels Successful industrial relations policy - Ethical and tactical industrial relations Access to the latest available and most efficient technology and techniques - The degree of investment in technological improvements and product development Optimum capacity utilisation - The level of plant utilisation Management of high quality assets portfolio - Understanding implications from Government policies

19

Introduction: -

Methodology is a systematic procedure of collecting information in order to analyze and verify a phenomenon. The collection of information is done two principle sources. They are as follows:

  • 3. Primary Data

  • 4. Secondary Data

Primary Data

It is the information collected directly without any references. In this study it is gathered through interviews with concerned officers and staff, either individually or collectively, sum of the information has been verified or supplemented with personal observation conducting personal interviews with the concerned officers of finance department of GREATER HYDERABAD MUNCIPAL CORPORATION.

Secondary Data

The secondary data was collected from already published sources such as, pamphlets of annual reports, returns and internal records, reference from text books and journals relating to financial management.

The data collection includes.

  • a) Collection of required data from annual records of Greater Hyderabad Municipal Corporation.

  • b) Reference from text books and journals relating to financial management.

20

DATA SOURCES PRIMARY SECONDARY SOURCES SOURCES MANAGEME RESPONDEN INSIDE THE NT TS COMPANY OUTSIDE THE COMPANY
DATA
SOURCES
PRIMARY
SECONDARY
SOURCES
SOURCES
MANAGEME
RESPONDEN
INSIDE THE
NT
TS
COMPANY
OUTSIDE THE
COMPANY
PERSONAL
ANNUAL
OBSERVANCE
REPORTS
TEXT BOOKS,
JOURNALS

RESEARCH PROBLEM

Research Methodology is a way to systematically solve the research problem. It may be

considered as a science of studying how research is being done scientifically.

S.NO

KEY ISSUES NO

SELECTED OPINIONS

1

Data Source

Primary Data and Secondary Data

2

Research Approach

Descriptive Research

21

RESEARCH DESIGN:

In this research, the descriptive research design is used.

Descriptive research studies are those studies, which are concerned with describing the

characteristics of a particular individual, or of a group. The method of data collection happens to

be observation and interview techniques.

TOOLS &TECHNIQUES:

Payback period (PBP)

.

Initial Investment Co

Payback

=

Annual cash flow C

Accounting Rate of Return (ARR)

Average income

A

R

R

=

Average

investment

x 100

Net Present Valued Method (NPV)

C 1 + C 2 + C 3 + … … … + C n

N

P V = -

(1+k)

(1+k) 2 (1+k) 3

(1+k) n

C

o

Profitability Index:

PV of cash inflow

P I =

Initial Cash

outlay

22

SAMPLING DESIGN:

Unit of analysis:

The populations to be studied in this research study in Greater Hyderabad Municipal Corporation.

LIMITATIONS OF THE STUDY

Though the project is completed successfully a few limitations may be there.

Since the procedure and polices of the company will not allow to disclose confidential financial information, the project has to be completed with the available data given to us.

The period of study that is 8 weeks is not enough to conduct detailed study of the project.

The study is carried basing on the information and documents provided by the organization and based on the interaction with the various employees of the respective departments.

There was no scope of gathering current information, as the auditing has not been done by the time of project work.

23

THEORETICAL FRAME WORK

An efficient allocation of capital is the most important finance function in the modern times. It involves decisions to commit the firm’s funds to the long - term assets. Capital budgeting for investment decisions is of considerable importance to the firm since they tend to determine its value by influencing its growth, evaluation of capital budgeting decisions.

NATURE OF INVESTMENT DECISIONS.

The investment decisions of a firm are generally known as the capital budgeting, or capital expenditure decisions. A capital budgeting decision may be defined as the firm’s decision to invest its current funds most effectively in the long- term assets in anticipation of an expended flow of benefits over a series of years. The long-term assets are those that affect the firm’s operational beyond the one year period.

Investment decisions generally include expansion, acquisition modernization and replacement of the long-term assets. Sale of a division or business (Divestment) is also an investment decision. Decision like the change in the methods of sales distribution, or an advertisement campaign or a research and development program have long-term implications for the firm’s expenditures and benefit, and therefore, they should also be evaluated as investment decisions.

The following are the features of investment decisions.

The exchange of current funds for future benefits.

The funds are invested in long-term assets.

The feature benefits will occur to the firm over a series of years.

OBJECTIVES OF INVESTMENT DECISIONS

  • Understand the nature and importance of investment decisions.

  • Explain the methods of calculating net present value (NPV) and internal rate of return (IRR)

  • Show the implicated of net present value (NPV) and internal rate of return (IRR)

  • Describe the Non- DCF evaluation Criteria. Payback period and accounting rate of return (ARR).

24

  • Institute the competition of the discounted payback.

  • Compare and contract NPV and IRR and emphasize the superiority of NPV rule.

PROCESS OF INVESTMENT DECISIONS.

Capital Budgeting is a complex process which may be divided into the following phases.

Figure of Capital Budgeting Process

Identification

 

of investment opportunities

 
Institute the competition of the discounted payback. Compare and contract NPV and IRR and emphasize

Assembling of

 

investments

 
Institute the competition of the discounted payback. Compare and contract NPV and IRR and emphasize

Decision

Making

   
Institute the competition of the discounted payback. Compare and contract NPV and IRR and emphasize

Preparation of Capital Budget

Performanc

e

Review

 

Implemen

 

t

Action

Institute the competition of the discounted payback. Compare and contract NPV and IRR and emphasize
Institute the competition of the discounted payback. Compare and contract NPV and IRR and emphasize

25

Identification of Investment Opportunities

The capital budgeting process begins with the identification of potential investment opportunities. Typically, the planning body (it may be an individual or committee organized formally or informally) develops estimates of future sales which serves as the basis for setting production targets. This information, in turn, is helpful in identifying required investments in plant and equipment.

Identification of investment ideas it is helpful to:

Monitor external environment regularly to scout investment opportunities.

Formulate a well defined corporate strategy based on through analysis of strengths, weaknesses, opportunities, and threats.

Share corporate strategy and respective with persons.

Motivate employees to make suggestions.

Assembling of investment proposals.

Investment proposals identified by the production department and other departments are usually submitted in a standardized capital investment proposal form. Generally, most of the proposals, before they reach the capital budgeting committee or somebody who assembles them, are rated through several persons. The proposal is viewed from different angles. It also helps in creating a climate for bringing about co – ordination of inters related activities.

Investment, proposals are usually classified into various categories for facilitating decision- making, budgeting, and control.

Replacement investments

Expansion investments.

New product investments

Obligatory and welfare investments.

26

Decision Making

A system of rupee gateways usually characterizes capital investment decision making. Under this system executive are vested with the power to okay investment proposals up to certain limits.

Preparation of capital Budget

Projects involving smaller out lays and which can be decided by executives at lower levels are often covered by a blanket appropriation for expenditures action. Projects involving larger out lays are included in the capital budget after necessary approvals. Before under facing such projects an appropriation order is usually required. The purpose of this check is mainly to ensure that the funds position of the firm satisfactory at the time of implementation.

Implementation

Translating an investment proposal into a concrete project is a complex, time consuming, and risk- fraught task.

Adequate formulation of projects

The major reason for delay is insinuate formulation of projects put differently, if necessary homework in terms of preliminary comprehensive and detailed formulation of the project.

Use of the principle of responsibility accounting

Assigning specific responsibility to project managers for completing the project within the defined time-frame and cost limits is helpful for expeditious execution and cost control.

Use of Network Techniques

For project planning and control several network techniques like PERT (Programme Evaluation Review Techniques) and CPM (Critical Path Method) are available.

Performance Review

27

Performance review, or post – completion audit, is a feedback device. It is a means for comparing actual performance with projected performance. It may be conducted, most appropriately. When the operations of the project have stabilized.

It is useful several ways.

It throws light on how realistic were the assumptions underlying the project.

It provided a documented log of experience that is highly valuable for decision making.

Importance of Investment Decisions

Investment decisions require special attention because of the following reasons.

  • They influence the firm’s growth in the long term.

  • They affect the risk of the firm.

  • They involve commitment of large amount of funds.

  • They are irreversible, or reversible at substantial loss.

  • They are among the most difficult decisions to make

Types of investment decisions

There are many ways to classify investments one classification is as follows;

  • Expansion of existing business.

  • Expansion of new business.

  • Replacement and modernization.

EXPANSION AND DIVERIFICATION

A company may add capacity to its existing product lines to expand existing operations. For example, the (GHMS) may increase its plant capacity to manufactures more liquid steel. It is an example of related diversification.

A firm mat expand is activities in a new business expansion of a new business requires investment in new products and new kind of production activating within the firm. If packing manufacturing company invests in a new plant and machinery to produce ball bearings, which

28

the firm has not manufactured before, this represents expansion of new business or unrelated diversification. Sometimes a company acquires existing firms to expand its business.

Replacement and modernization.

The main objective of modernization and replacement is to improve operating efficiency reduce costs. Cost savings will reflect in the increased profits, but the firm’s revenue may remain unchanged. Assets become outdated and absolute with technological changes. The firm must decide to replace those assets with new assets that operate more economically. Replacement decisions help to introduce more efficient and economical assets and therefore, are also called cost- reduction investments.

How ever replacement decisions that involve substantial modernization and technological improvements expand revenues as well as reduce costs.

Yet another useful way to classify investments is as follows;

Mutually exclusive investments

Independent investments

Contingent investments

Mutually exclusive investments

Mutually exclusive investments serve the same purpose and compete with each other. If one investment understands others will have to be excluded. Accompany May, for example, either use a more labour- intensive, semi- automatic machine, or employ a more capital intensive, highly automatic machine for production.

Independent investments

Independent investments serve different purposes and do not compete with each other. For example, a heavy engineering company may have been considering expansion of its plant capacity to manufacture additional excavators and addition of new production facilities to manufacture a new product.

29

Contingent Investments

Contingent investments are dependent projects; the choice of one investment necessitates understanding one or more other investments for example, if a company decides to build a factory in a remote, backward area, it may have to invest in houses, roads, hospitals, schools, etc., and the total expenditure will be treated as one single investment.

Investment Evaluation Criteria

Three steps are involved in the evaluation of investment.

  • Estimation of cash flows

  • Estimation of the required rate of return

  • (the opportunity cost of capital )

  • Application of a decision rule for making the choice.

Evaluation Criteria

A number of investment criteria (or capital budgeting techniques) are in use in practice. They may be grouped in the following two categories.

Capital budgeting techniques.

Capital Budgeting Techniques

DCF Criteria Non – DCF Criteria Payback Net Internal Profitabil period Accounting Rate of Return Present
DCF Criteria
Non – DCF Criteria
Payback
Net
Internal
Profitabil
period
Accounting Rate
of Return
Present
Rate of
ity Index
Value
Return

30

Non DCF Criteria:

Payback period (PB)

The payback period (PB) is one of the most popular and widely recognized traditional methods of evaluating investment proposals. Pay back is the number of years required to recover the original cash outlay invested in a project.

If the project generates constant annual cash inflows, the payback period can be computed by dividing cash outlay by the annual cash inflow.

Payback =

Total Investment Co

Annual cash flow C

C o

:

Initial Investment

C

:

Annual Cash in flow

In case of UN equal cash inflows, the payback period can be found out by adding up the cash inflows until the total is equal to the initial cash outlay.

Merits:

The pay back method has the following merits:

  • a) Uncertainty: The method is very useful in evaluation those projects which involve high

Uncertainty. Political instability rapid technological development of cheap substitutes etc. is

some of the reasons which discovered one to take up projects having long gestation period.

Payback method is useful in such cases.

  • b) Clear:

The method makes it clear that no profit arises till the payback period is over.

This helps new companies in deciding when they should start paying dividends.

  • c) Simple: The method is simple to understand and easy to workout.

31

  • d) Reduces the loss: The method reduces the possibility of loss on account of obsolescence

as the method prefers investment in short term projects.

Demerits:

The method has the following demerits:

  • a) Rigid: This method is dedicate and rigid. A slight change in the operation cost will affect

the cash inflow and the pay back period.

  • b) Does not take into account the depreciation:

It des not take into account the life of the

project, depreciation, scrap value, interest factor etc.

  • c) Ignore cash: It completely ignores cash inflows after the pay back period.

  • d) Ignore profitability: The profitability of the project is completely ignored.

  • e) Not justifiable:

It gives more importance to liquidity as a goal of capital expenditure

decisions which is not justifiable.

  • f) Ignores time value of money:

It ignores time value of money cash flows received in

different years is treated equally.

32

Accounting Rate of Return (ARR)

The accounting rate of return (ARR) also known as the return on investment (ROI) uses accounting information, as revealed by financial statements, to measure the profitability of an investment. The Accounting rate of return is the ratio of the average after fax profit divided by the average investment. The average investment would be equal to half of the original investment if it were depreciated constantly.

A

R

R

Average income

=

Average investment

x

Merits:

100

The following are the merits of accounting rate of return method.

1. Simple: It is simple to understand and easy to calculate.

  • 2. Weightage: This method gives due weightage to the profitability of the project.

  • 3. Consideration:

It takes into consideration the total earnings from the project during its

life time.

  • 4. Calculation: Rate of return may be readily calculated with the help of accounting data.

Demerits:

This method suffers from the following weakness:

  • 1. Doesn’t use cash inflows:

It uses accounting

profits

and

not the cash inflows

in

appraising the project.

33

  • 2. Ignore time value of money:

it ignores the time value of money.

Profits earned in

different period are valued equally.

  • 3. Rate of Return: It considers only the rate of return and not the life of the project.

  • 4. Ignore the facts: It ignores the fact that profits can be reinvested.

  • 5. Fair Rate of Return on Investment: This method does not determine the fair rate of return

on investment.

6. Reduction reliability: There are different methods for calculating the Accounting Rate of Return due to many concepts of investments as well as profit. Each method gives different results. This reduces the reliability of the method

Net Present Valued Method (NPV)

The NPV present value (NPV) method is the classic economic method of evaluating the investment proposals. If is a DCF technique that explicitly recognizes the time value at different time periods differ in value and are comparable only when their equipment present values- are found out.

N P V = Σ

- C o

Where

N P V = Net present value

C fi = Cash flows occurring at time

k = the discount rate

n = life of the project in years

C o = Cash out lay

Internal Rate of Return (IRR)

The internal rate of return (IRR) method is another discounted cash flow technique which takes account of the magnitude and thing of cash flows, other terms used to describe the IRR method

34

are yield on an investment, marginal efficiency of capital, rate of return over cost, time- adjusted

rate of internal return and soon.

 

n

N

P

V

=

Σ

Where

i = 0

C f SV+WC

(1+k) i (1+k) n

+

C fi = Cash flows occurring at different point of time

k = the discount rate

n = life of the project in years

C o = Cash out lay

SV & WC = Salvage value and Working Capital at the end of the n years.

Where

L

: Lower discount rate at which NPV is positive

H

: Higher discount rate at which NPV is negative

A

: NPV at lower discount rate, L

B

: NPV at higher discount rate, H

Profitability Index (PI)

Yet another time- adjusted method of evaluating the investment proposals is the benefit- cost

(B/C.) ratio or profitability index (PI) Profitability Index is the ratio of the present valued of cash

inflows, at the required rate of return, to the initial cash out flow of the investment.

Present Value of cash inflow

P I =

Present Value of outlay

Similarities in results Under NPV and IRR:

35

Both NPV and IRR will give the same result (i.e

..

,

acceptance or rejection) regarding an

investment proposal in following cases:

  • 1. Projects involving conventional cash flows i.e

..

,

when an initial outflow is followed by a

series of inflow.

  • 2. Independent investment proposals i.e

..

,

proposals the acceptance of which does not

procedure the acceptance of others.

The reason for similarity in results in the above cases is simple. In case of NPV method, a

proposal is accepted if its NPV is positive. NPV will be positive only when the actual return

on investment is more than the cut of rate. In case of IRR method a proposal is accepted

only when the IRR is higher than the cut-off rate thus both methods will give consistent

results since the acceptance or rejection of the proposal under both of them is based on the

actual return being higher than the cut-off rate.

Conflict in results under NPV and IRR:

NPV and IRR methods may give conflicting results in case of mutually exclusive projects

i.e

..

,

projects where acceptance of one would result in non-acceptance of the other.

Such

conflict of result may be due to any one or more of the following reasons:

  • 1. The projects require different cash outlays.

  • 2. The projects have unequal lives

  • 3. The projects have different patterns of cash flows.

36

In such a situation the result given by the NPV method should be relied upon. This is

because the objective of a company is to concern with the rate of return on investment rather

than total yield on investment hence it is not compatible with the goal of wealth

maximization. NPV methods consider the total yield on investment. Hence in case of

mutually exclusive projects, each having a positive NPV, the one with the largest NPV will

positive NPV, the one with the largest NPV will have the most beneficial effect on

shareholder’s wealth.

In case of projects requiring different cash outlays the problems can also be resolved by

adopted incremental approach, a modified form of IRR method. According to this approach

in case of two mutually exclusive projects requiring different cash outlays, the IRR is

incremental outlay of the project requiring a higher initial investment is calculated. In case

this IRR is higher than the required rateof return the project having greater non-discounted

cash flows should be accepted otherwise it should be rejected.

37

3. DATA ANALYSIS & INTERPRETATION

  • 1. SOCIAL WELFARE

Table No.1

PAY BACK PERIOD:

 

CASH

TOTAL PV.OF CASH

S.NO

YEAR

INFLOWS

INFLOWS

  • 1 1998-99

1493

1493

  • 2 99-2000

1316

2809

  • 3 2000-01

1457

4266

  • 4 2001-02

2645

6911

  • 5 2002-03

3022

9933

  • 6 2003-04

3100

13033

  • 7 2004-05

3331

16364

  • 8 2005-06

3519

19883

  • 9 2006-07

3553

23436

  • 10 2007-08

3619

27055

  • 11 2008-09

3686

30741

  • 12 2009-10

3755

34496

  • 13 2010-11

3839

38335

  • 14 2011-12

3931

42266

  • 15 2012 - 13

4030

46296

(a)

Cash Outlay : 8692

38

Initial Investment

(b) Payback Period

=

Base Year +

 

Annual Cash Flow

1781

 

=

4 years +

 

3022

=

4 Years 5 months

Interpretation:

It is assumed that the profit earning of the project will start from 1994-95.

Taken consideration of (incremental adjusted cash flow) i.e. expansion

Base year, for calculation pay back period

Depreciation is charged on Diminishing Balance Method

Estimated profits are taken from the data provided. (See annexure )

For arriving at Cash Inflows we have added depreciation to profit after tax &

then computed Cumulative In flows

So the projected payback period is calculated as 4.5 years.

Rounding of payback period from 4.5 to 5 years will be right, as will give more assistance to the

calculation as future is uncertain.

Table No.2

39

AVERAGE RATE OF RETURN(ARR)

 

TOTAL PV.OF

S.NO

YEAR

CASH

INFLOWS

CASH

INFLOWS

  • 1 1998-99

1493

1493

  • 2 99-2000

1316

2809

  • 3 2000-01

1457

4266

  • 4 2001-02

2645

6911

  • 5 2002-03

3022

9933

  • 6 2003-04

3100

13033

  • 7 2004-05

3331

16364

  • 8 2005-06

3519

19883

  • 9 2006-07

3553

23436

  • 10 2007-08

3619

27055

  • 11 2008-09

3686

30741

  • 12 2009-10

3755

34496

  • 13 2010-11

3839

38335

  • 14 2011-12

3931

42266

  • 15 2012 - 13

4030

46296

Average profit

40

A R R

=

x 100

Average investment

Average Profit =

Total cash inflows

No. of years

46296

 

=

15

=

3086.4

Average investment:

 

Investment

Average investment

=

 

2

8692

 

=

2

=

4346

ARR

=

3086.4

 

X 400

 

4346

 

=

71.01%

ROI

=

Average Annual Profit

Total Initial Investment

3086.4

=

X 100

 

8692

=

35.51

Interpretation:

X 100

For the calculation of ARR, Profit after tax and depreciation is taken and then average of total

profit is calculated. ARR shows the average return of the firm which it earns on long run basis.

42

TABLE NO.3

NPV (NET PRESENT VALUE)

   

Cash

 

Present Values of

SL.No

Years

Inflows

DCF(19%)

Cash Inflows

  • 1 1967

1998-99

0.840

1652.28

  • 2 1790

99-2000

0.706

1263.74

  • 3 1984

2000-01

0.593

1176.51

  • 4 3519

2001-02

0.499

1755.98

  • 5 3941

2002-03

0.419

1651.28

  • 6 4024

2003-04

0.352

1416.45

  • 7 4016

2004-05

0.296

1188.74

  • 8 4026

2005-06

0.249

1002.47

  • 9 4066

2006-07

0.209

849.79

  • 10 4137

2007-08

0.176

728.11

  • 11 4210

2008-09

0.148

623.08

  • 12 4284

2009-10

0.124

531.22

  • 13 4374

2010-11

0.104

454.90

  • 14 4471

2011-12

0.088

393.45

  • 15 4576

2012 - 13

0.074

338.62

 

Total Present Values of Inflows

15026.62

N P V = Total Present Value of Cash inflows – Total Outlay

= 15026.62 – 8692 = 6334.62

43

Interpretation:

NPV is the discounted cash inflow that are calculated at the values of the discounting factor of

Re.1 at the end of each year. Discounting cash factor is based on interest rate, cost of capital and

market state.

While choosing a project it is appropriate to calculate NPV to get an appropriate decision as it is

more reliable than simple cash inflows.

44

INTERNAL RATE OF RETURN

TABLE NO.4

Discount rate taken as 18%

(in crores)

 

Present Values

SL.No

Years

Cash Inflows

DCF(18%)

of Inflows

  • 1 1967

99-2000

 

0.847

1666.049

  • 2 1790

2000-01

 

0.718

1285.220

  • 3 1984

2001-02

 

0.609

1208.256

  • 4 3519

2002-03

 

0.516

1815.804

  • 5 3941

2003-04

 

0.437

1722.217

  • 6 4024

2004-05

 

0.370

1488.880

  • 7 4016

2005-06

 

0.314

1261.024

  • 8 4026

2006-07

 

0.266

1070.916

  • 9 4066

2007-08

 

0.225

914.850

  • 10 4137

2008-09

 

0.191

790.167

  • 11 4210

2009-10

 

0.162

682.020

  • 12 4284

2010-11

 

0.137

586.908

  • 13 4374

2011-12

 

0.116

507.384

  • 14 4471

2012 - 13

 

0.099

442.629

 

45

 

Cash

Present Values of

SL.No

Years

Inflows

DCF(35%)

Inflows

  • 1 1967

1998-99

0.741

1457.5

  • 2 1790

99-2000

0.549

982.71

  • 3 1984

2000-01

0.406

805.5

  • 4 3519

2001-02

0.301

1059.2

  • 5 3941

2002-03

0.223

878.84

  • 6 4024

2003-04

0.165

663.96

  • 7 4016

2004-05

0.122

489.95

  • 8 4026

2005-06

0.091

366.37

  • 9 4066

2006-07

0.067

272.42

  • 10 4137

2007-08

0.050

206.85

  • 11 4210

2008-09

0.037

155.77

  • 12 4284

2009-10

0.027

115.67

  • 13 4374

2010-11

0.020

87.48

  • 14 4471

2011-12

0.015

67.065

  • 15 4576

2012 - 13

0.011

50.336

 

Total Present Values of Inflows

7659.621

46

Discount rate taken as 35%(in crores)

I R R

A - Cash out lay

L +

=

A-B

18 +

15826.708 - 8692

=

15826.708 – 7659.6921

=

=

=

 

7134.708

18 +

 

8167.016

18 +

0.874

32.85

Interpretation:

X (H – L)

X (35-18)

X 17

X 17

In this, calculations are done on the basis of trail and error method by taking various percentages

of DCF. So that an appropriate percentage of Internal Rate of return can be judge out.

Calculated figure is 32.85%, so we can take it as 35% cause at market

Uncertainty.

47

PROFITABILITY INDEX METHOD

TABLE NO.5

   

Cash

 

Present Values of

SL.No

Years

Inflows

DCF(19%)

Inflows

  • 1 1967

1998-99

0.840

1652.28

  • 2 1790

99-2000

0.706

1263.74

  • 3 1984

2000-01

0.593

1176.51

  • 4 3519

2001-02

0.499

1755.98

  • 5 3941

2002-03

0.419

1651.28

  • 6 4024

2003-04

0.352

1416.45

  • 7 4016

2004-05

0.296

1188.74

  • 8 4026

2005-06

0.249

1002.47

  • 9 4066

2006-07

0.209

849.79

  • 10 4137

2007-08

0.176

728.11

  • 11 4210

2008-09

0.148

623.08

  • 12 4284

2009-10

0.124

531.22

  • 13 4374

2010-11

0.104

454.90

  • 14 4471

2011-12

0.088

393.45

  • 15 4576

2012 - 13

0.074

338.62

 

Total Present Values of Inflows

15026.62

48

Present Value of Cash Inflows

P.I

=

 

Present Value of Cash Outflows

15026.62

 

=

 

8692

 

=

1.73

Interpretation:

In calculation of Profitability Index, Cash inflow is taken in to consideration.

P.I =1.73.

49

2.R&B (ROADS&BUILDINGS)

PAY BACK PERIOD:

TABLE NO.1

S.NO

YEAR

CASH INFLOWS

TOTAL PV.OF CASH INFLOWS

  • 1 1998-99

7695

7695

  • 2 99-2000

7870

15565

  • 3 2000-01

8100

23665

  • 4 2001-02

8472

32137

  • 5 2002-03

8740

40877

  • 6 2003-04

8900

49777

  • 7 2004-05

9210

58987

  • 8 2005-06

9420

68407

  • 9 2006-07

9700

78107

  • 10 2007-08

9760

87867

  • 11 2008-09

9997

97864

  • 12 2009-10

10500

108364

  • 13 2010-11

11200

119564

  • 14 2011-12

12300

131864

  • 15 2012 - 13

12500

144364

(a) Cash Outlay : 30000

50

Initial Investment

(b) Payback Period

=

Base Year +

 

Annual Cash Flow

6335

 

=

3 years +

 

8472

 

=

3 Years 7 months

Interpretation:

It is assumed that the profit earning of the project will start from 1994-95.

Taken consideration of (incremental adjusted cash flow) i.e. expansion

Base year, for calculation pay back period

Depreciation is charged on Diminishing Balance Method

Estimated profits are taken from the data provided. (See annexure )

For arriving at Cash Inflows we have added depreciation to profit after tax & then

computed Cumulative In flows

So the projected payback period is calculated as 3.7 years.

Rounding of payback period from 3.7 to 4 years will be right, as will give more assistance to the

calculation as future is uncertain.

51

AVERAGE RATE OF RETURN(ARR)

TABLE NO.2

 

CASH

TOTAL PV.OF CASH

S.NO

YEAR

INFLOWS

INFLOWS

1

1998-99

7695

7695

2

99-2000

7870

15565

3

2000-01

8100

23665

4

2001-02

8472

32137

5

2002-03

8740

40877

6

2003-04

8900

49777

7

2004-05

9210

58987

8

2005-06

9420

68407

9

2006-07

9700

78107

10

2007-08

9760

87867

11

2008-09

9997

97864

12

2009-10

10500

108364

13

2010-11

11200

119564

14

2011-12

12300

131864

15

2012 - 13

12500

144364

Average profit

A R R

=

x 100

Average investment

Average Profit=

Total cash inflows

52

No. of years

=

144364

 
 

15

=

9624.26

 

Average investment:

 

Investment

Average investment

=

 

2

30000

 

=

 

2

 

=

15000

ARR

=

9624.24

 

X 100

 

15000

 

=

64.16%

 

Average Annual Profit

 

ROI

=

X 100

 

Total Initial Investment

 

9624.24

 

=

X 100

 

30000

 

=

32.08%

53

Interpretation:

For the calculation of ARR, Profit after tax and depreciation is taken and then average of total

profit is calculated. ARR shows the average return of the firm which it earns on long run basis.

54

NPV (NET PRESENT VALUE)

TABLE NO.3

   

Cash

 

Present Values of

SL.No

Years

Inflows

DCF(19%)

Cash Inflows

1998-99

  • 1 7695

0.840

6463.8

99-2000

  • 2 7870

0.706

5556.22

2000-01

  • 3 8100

0.593

4803.3

2001-02

  • 4 8472

0.499

4227.53

2002-03

  • 5 8740

0.419

3662.06

2003-04

  • 6 8900

0.352

3132.8

2004-05

  • 7 9210

0.296

2726.16

2005-06

  • 8 9420

0.249

2345.58

2006-07

  • 9 9700

0.209

2027.3

2007-08

  • 10 9760

0.176

1717.76

2008-09

  • 11 9997

0.148

1479.56

2009-10

  • 12 10500

0.124

1302

2010-11

  • 13 11200

0.104

1164.8

2011-12

  • 14 12300

0.088

1082.4

2012 - 13

  • 15 12500

0.074

925

 

Total Present Values of Inflows

42616.264

N P V = Total Present Value of Cash inflows – Total Outlay

= 42616.26 – 30000 = 12616.26

55

Interpretation:

NPV is the discounted cash inflow that are calculated at the values of the discounting factor of

Re.1 at the end of each year. Discounting cash factor is based on interest rate, cost of capital and

market state.

While choosing a project it is appropriate to calculate NPV to get an appropriate decision as it is

more reliable than simple cash inflows.

56

INTERNAL RATE OF RETURN

TABLE NO.4

Discount rate taken as 24%(in crores)

 

Present Values

SL.No

Years

Cash Inflows

DCF(24%)

of Inflows

  • 1 1998-99

 

7695

0.886

6202.17

  • 2 99-2000

 

7870

0.650

5115.5

  • 3 2000-01

 

8100

0.504

8100.53

  • 4 2001-02

 

8472

0.422

3575.18

  • 5 2002-03

 

8740

0.341

3766.94

  • 6 2003-04

 

8900

0.275

2447.5

  • 7 2004-05

 

9210

0.221

2035.41

  • 8 2005-06

 

9420

0.178

1676.76

  • 9 2006-07

 

9700

0.144

1396.8

  • 10 2007-08

 

9760

0.116

1132.16

  • 11 2008-09

 

9997

0.093

929.72

  • 12 2009-10

 

10500

0.075

787.5

  • 13 2010-11

 

11200

0.061

683.2

  • 14 2011-12

 

12300

0.049

602.7

  • 15 2012 - 13

 

12500

0.039

487.5

 

Total Present Values of Inflows

38939.57

 

57

 

Cash

Present Values of

SL.No

Years

Inflows

DCF(34%)

Inflows

  • 1 7695

1998-99

0.746

5740.47

  • 2 7870

99-2000

0.556

4375.72

  • 3 8100

2000-01

0.415

3361.5

  • 4 8472

2001-02

0.310

2626.32

  • 5 8740

2002-03

0.231

2018.94

  • 6 8900

2003-04

0.172

1530.8

  • 7 9210

2004-05

0.128

1178.88

  • 8 9420

2005-06

0.096

904.32

  • 9 9700

2006-07

0.071

688.7

  • 10 9760

2007-08

0.053

517.28

  • 11 9997

2008-09

0.039

389.88

  • 12 10500

2009-10

0.029

304.5

  • 13 11200

2010-11

0.022

246.4

  • 14 12300

2011-12

0.016

196.8

  • 15 12500

2012 - 13

0.012

150

 

Total Present Values of Inflows

24230.51

58

Discount rate taken as 34%(in crores)

I R R =

=

=

=

=

 

A -

Cash

out lay

L +

A-B

 

38939.57

-30000

 

24 +

 

38939.57

–24230.51

 
 

8939.57

24 +

 

14709.05

 

24 + 0.607 X 10

 

30.07

Interpretation:

X (H – L)

X (34-24)

X 10

In this, calculations are done on the basis of trail and error method by taking various percentages

of DCF. So that an appropriate percentage of Internal Rate of return can be judge out.

Calculated figure is 30.07%, so we can take it as 34% cause at market Uncertainty.

59

PROFITABILITY INDEX METHOD

TABLE 5 :

60

Present Value of Cash Inflows

P.I

=

Present Value of Cash Outflows

=

42616.26

 

30000

=

1.42

Interpretation:

In calculation of Profitability Index, Cash inflow is taken in to consideration.

P.I =1.42.

61

3. ADMINISTRATION

PAY BACK PERIOD:

TABLE NO :1

S.NO

YEAR

CASH INFLOWS

TOTAL PV.OF CASH INFLOWS

  • 1 1998-99

1527

1527

  • 2 99-2000

1610

3137

  • 3 2000-01

1690

4827

  • 4 2001-02

1600

6427

  • 5 2002-03

1750

8177

  • 6 2003-04

1794

9971

  • 7 2004-05

1834

11805

  • 8 2005-06

1870

13675

  • 9 2006-07

1947

15622

  • 10 2007-08

2200

17822

  • 11 2008-09

2350

20172

  • 12 2009-10

2642

22814

  • 13 2010-11

2730

25544

  • 14 2011-12

2900

28444

  • 15 2012 - 13

3400

31844

62

Initial Investment

(b) Payback Period

=

Base Year +

 

Annual Cash Flow

1213

 

=

4 years +

 

1750

 

=

4 Years 6 months

Interpretation:

It is assumed that the profit earning of the project will start from 1994-95.

Taken consideration of (incremental adjusted cash flow) i.e. expansion

Base year, for calculation pay back period

Depreciation is charged on Diminishing Balance Method

Estimated profits are taken from the data provided. (See annexure )

For arriving at Cash Inflows we have added depreciation to profit after tax & then computed

Cumulative In flows

So the projected payback period is calculated as 4.6 years.

Rounding of payback period from 4.6 to 5 years will be right, as will give more assistance to the

calculation as future is uncertain.

63

AVERAGE RATE OF RETURN(ARR)

TABLE NO : 2

 

TOTAL PV.OF CASH

S.NO

YEAR

CASH INFLOWS

INFLOWS

  • 1 1998-99

1527

1527

  • 2 99-2000

1610

3137

  • 3 2000-01

1690

4827

  • 4 2001-02

1600

6427

  • 5 2002-03

1750

8177

  • 6 2003-04

1794

9971

  • 7 2004-05

1834

11805

  • 8 2005-06

1870

13675

  • 9 2006-07

1947

15622

  • 10 2007-08

2200

17822

  • 11 2008-09

2350

20172

  • 12 2009-10

2642

22814

  • 13 2010-11

2730

25544

  • 14 2011-12

2900

28444

  • 15 2012 - 13

3400

31844

64

Average profit

A R R =

 

x 100

Average investment

 

Total cash inflows

 

Average Profit=

 
 

No. of years

 
 

=

31844

 

15

 

=

2122.93

Average investment:

 

investment

 

Average investment =

 
 

2

 

=

7640

 

2

 

=

3820

 

2122.93

A R

R

=

x 100

 

3820

 

=

55.57%

 

Average Annual profit

 

R O I

=

x 100

 

Total initial investment

R O I

=

2122.93

x 100

 

7640

R O I

=

27.78%

65

Interpretation:

For the calculation of ARR, Profit after tax and depreciation is taken and then average of total

profit is calculated. ARR shows the average return of the firm which it earns on long run basis.

66

NPV (NET PRESENT VALUE)

TABLE NO : 3

   

Cash

 

Present Values of

SL.No

Years

Inflows

DCF(13%)

Cash Inflows

1998-99

  • 1 1527

0.884

1349.87

99-2000

  • 2 1610

0.783

1260.63

2000-01

  • 3 1690

0.693

1171.17

2001-02

  • 4 1600

0.613

980.8

2002-03

  • 5 1750

0.542

948.5

2003-04

  • 6 1794

0.480

861.12

2004-05

  • 7 1834

0.425

779.45

2005-06

  • 8 1870

0.376

703.12

2006-07

  • 9 1947

0.332

646.40

2007-08

  • 10 2200

0.294

646.8

2008-09

  • 11 2350

0.260

611

2009-10

  • 12 2642

0.230

607.66

2010-11

  • 13 2730

0.204

556.92

2011-12

  • 14 2900

0.180

522

2012 - 13

  • 15 3400

0.159

540.6

 

Total Present Values of Inflows

12186.04

N P V = Total Present Value of Cash inflows – Total Outlay

=12186.04 – 7640 = 4546.04

67

Interpretation:

NPV is the discounted cash inflow that are calculated at the values of the discounting factor of

Re.1 at the end of each year. Discounting cash factor is based on interest rate, cost of capital and

market state.

While choosing a project it is appropriate to calculate NPV to get an appropriate decision as it is

more reliable than simple cash inflows.

68

INTERNAL RATE OF RETURN

TABLE NO : 4

Discount rate taken as 16% (in crores)

 

Present Values

SL.No

Years

Cash Inflows

DCF(16%)

of Inflows

  • 1 1998-99

 

1527

0.862

1316.27

  • 2 99-2000

 

1610

0.743

1196.23

  • 3 2000-01

 

1690

0.640

1081.6

  • 4 2001-02

 

1600

0.552

883.2

  • 5 2002-03

 

1750

0.476

833

  • 6 2003-04

 

1794

0.410

735.54

  • 7 2004-05

 

1834

0.353

647.40

  • 8 2005-06

 

1870

0.305

570.35

  • 9 2006-07

 

1947

0.262

510.11

  • 10 2007-08

 

2200

0.226

497.2

  • 11 2008-09