S.Y.B.

COM Capital Budgeting

CAPITAL BUDGETING
1. Aryan Paper Mills Ltd. is considering a proposal to install a new machine.
The relevant data is

Cost `25,00,000
Life 10 Years
Scrap Value ` 10,00,000
Depreciation SLM
Income Tax Rate 50%
Annual Profit Before Depreciation and Tax 80,00,000
Calculate:
a. Pay back period and profitability b. A.R.R.

2. A Company is proposing to expand its production. It can go in for an

automatic machine costing `50,000 (life 5 years) or ordinary machine costing
`40,000 (life 5 years). The annual sales and costs are estimated as follows :
Automatic Ordinary
Sales 50,000 50,000
Materials 15,000 15,000
Labour 7,000 6,000
Variable Overheads 7,000 6,000

Compute the Comparative Profitability under Pay Back Method.

3. A Ltd. company is considering the purchase of a new machine which will

replace some operations. There are two alternatives A and B. From the
following information prepare a profitability statement and work out the
payback period for each.
Model A Model B
Cost of the machine 1,50,000 2,50,000
Estimated Life 5 Years 5 Years
Additional cost of indirect materials 6,000 8,000
Estimated savings in scrap 10,000 15,000
Additional cost of maintenance 19,000 27,000
Estimated savings in direct wages :
Employees not required 15 20
Wages per employee p.a. 6,000 6,000
Tax rate is 50%. Suggest which machine should be preferred.

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4. Compute (a) PB Period (b) PB Profitability (c) ARR from the following
information :

Cost of Project 50,000

Life 5 Years
Tax Rate 55%
Depreciation to be charged by SLM.
Year Earnings before Depreciation and Tax
1 10,000
2 11,000 '
3 14,000
4 15,000
5 25,000

5. A company wants to buy a machine. There are two alternative models X & Y
whose particulars are

X Y
Cost 10,00,000 12,00,000
Life (in Year) 5 5

Profits after depreciation by SLM before Tax.

Year ` `
1 1,20,000 1,50,000
2 90,000 1,20,000
3 1,10,000 1,30,000
4 80,000 1,10,000
5 80,000 1,00,000

Tax Rate = 35% Calculate:

(a) PB Period (b) PB Profitability (c)A.R.R.

6. Avanti Products Ltd. wants to introduce a new product will estimated sales life of
five year. The manufacturing equipment will cost ` 2,50,000 with scrap value of
` 15,000 at the end of five year The working capital requirement is ` 20,000,
which will be realized after five year

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The annual cash inflow and PV factor @ 10% are :

Year PV Factor `
1 0.909 1,25,000
2 0.826 1,50,000
3 0.751 1,87,500
4 0.683 1,80,000
5 0.621 1,12,500
The depreciation to be charged under Straight Line Method. Tax applicable @
40%. Evaluate the proposal under various alternatives.

7. A company whose cost of capital is 12% is considering two projects A and B. The
following data are available :
Project A Project B
Investments 1,40,000 1,40,000
Cash Flows: Year 1 20,000 1,00,000
2 40,000 80,000
3 60,000 40,000
4 1,00,000 20,000
5 1,10,000 20,000
Select the most profitable project by using the following methods :
1. Pay Back Period 2. Discounted Pay Back Method 3. NPV 4. Profitability Index
P.V. of Re. 1 at 12% are:

Year 1 2 3 4 5
P.V. 0.9 0.8 0.7 0.6 0.55

8. Chetan Ltd. is considering purchase of a machine two machines - LPX machine and
GPX machine are available, each costing ` 5,00,000.
In comparing profitability of machines, a discounted rate of 10% is to be considered.
Expected profits after tax and before depreciation are as follows :
Year 1 2 3 4 5
LPX machine profit 1,60,000 2,00,000 2,50,000 1,50,000 2,00,000
GPX machine profit 60,000 1,50,000 2,00,000 3,00,000 2,00,000

Indicate which machine would be more profitable under following methods :

(1) Pay Back Period Method (2) Net Present Value Method (3) Pay Back
Profitability The net present value of ` 1 @10% discounting factor is as
follows

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Year 1 2 3 4 5
Present value Factor 0.909 0.826 0.751 0.683 0.621

9. PQR Company Ltd. is considering to select a machine out of two mutually exclusive
machines. The company s cost of capital is 12 percent. Other information relating to
both machines is as follows :
Particulars Machine I Machine II
Cost of Machine ` `
Expected Life 15,00,000
5 Yrs. 20,00.000
5Yrs.
Annual Cash Flow ` 5,27,500 ` 7,32,500

You are required to calculate :

(1) Discounted Payback Period (2) Net Present Value (3) Profitability Index The
present value factors of ` 1 @ 12% are as follows :
Years 1 2 3 4 5
PV factor @ 12% 0.893 0.797 0.712 0.636 0.567

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