G.S.

PETROPULL COMPANY (GSPC)

GSPC is a fast growing profitable company. The company is situated in Western India. Its
sales are expected to grow about three times from `360 million in 2013 to `1,100 million in
2014. The company is considering of commissioning a 35km pipeline between two areas to
carry gas to a state electricity board. The project will cost `500 million. The pipeline will
have a capacity of 2.5 MMSCM. The company will enter into a contract with the state
electricity board (SEB) to supply gas. The revenue from the sale to SEB is expected to be
`240 million per annum. The pipeline will also be used for transportation of LNG to other
users in the area. This is expected to bring additional revenue of `160million per annum. The
company management considers the useful life of the pipeline to be 20 years. The financial
manager estimates cash profit to sales ratio of 20 per cent per annum for the first 12 years of
the project’s operations and 17 per cent per annum for the remaining life of the project. The
project has no salvage value. The project being in a backward area is exempt from paying any
taxes. The company requires a rate of return of 15 per cent from the project.
Discussion Questions
1. What is the project’s payback and return on investment (ROI)?
2. Compute project’s NPV and IRR.
3. Should the project be accepted? Why?

CALMEX COMPANY LTD

Calmex is situated in North India. It specializes in manufacturing overhead water tanks. The
management of Calmex has identified a niche market in certain Southern cities that need a
particular size of water tank, not currently manufactured by the company. The company is
therefore thinking of producing a new type of overhead water tank. The survey of the
company’s marketing department reveals that the company could sell 120,000 tanks each
year for six years at a price of `700 each. The company’s current facilities cannot be used to
manufacture the new-size tanks. Therefore, it will have to buy new machinery. A
manufacturer has offered two options to the company. The first option is that the company
could buy four small machines with the capacity of manufacturing 30,000 tanks each at `15
million each. The machine operation and manufacturing cost of each tank will be `535.
Alternatively, Calmex can buy a larger machine with a capacity of 120,000 units per annum
for `120 million. The machine operation and manufacturing costs of each tank will be `400.
The company has a required rate of return of 12 per cent. Assume that the company does not
pay any taxes.
Discussion Questions
1. Which option should the company accept? Use the most suitable method of evaluation to
give your recommendation and explicitly state your assumptions.
2. Why do you think that the method chosen by you is the most suitable method in evaluating
the proposed investment? Give the computation of the alternative methods.