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Module 3 & 4 Assignment 2

Date of Announcement 24.04.2012 Date of Submission 07.05.2012 3 marks 1. List out the components of cash flow stream. 2. What is sensitivity analysis? List out the merits and limitations of sensitivity analysis? 3. List out the techniques of stand alone risk analysis. 4. What is meant by scenario analysis? 5. List out the techniques of risk analysis. 6. What do you understand by risk of a project? 7. What are the three elements of cash flow stream? 8. What are the sources of risk? 7 marks 1. Discuss about the biases in cash flow estimation? 2. Discuss the different ways of managing the project related risks? 3. Explain and evaluate NPV and payback period method as appraisal criteria for projects. What decision rule is associated with these methods? 4. Explain the sensitivity analysis method. 5. What are the mistakes committed in financial analysis? 6. What is simulation analysis? What are the steps involved in simulation analysis? 7. Evaluate payback period as one of the evaluation criteria. 8. Evaluate the sensitivity analysis method of assessing risk regarding single investment.

10 marks 1. A limited company is considering investing in a project requiring a capital outlay of Rs. 2,00,000. Forecast for annual income after depreciation but before tax is as follows:

Year Rs.

1 1,00,000

2 1,00,000

3 80,000

4 80,000

5 40,000

Depreciation may be taken at 20% on original cost and taxation at 50% of net income. You are required to evaluate the project according to i) ii) Pay back method Discounted cash flow method taking cost of capital as 10%.

2. The cash flows of a project is given below: Year Cash flow 0 -8000 1 2000 2 -1000 3 10000 4 2000

Calculate IRR for this project. Also calculate the unrecovered investment balance at the end of each year.

3. A company is considering two mutually exclusive investments, project X andproject Y. The expected cash flows of these projects are as follows: Year 0 1 2 3 4 5 Project X -5000 -2500 300 2000 5000 6000 Project Y -2500 800 1000 2000 2000 1500

Which project should it choose if the cost of capital is 15percent? 45 percent? 4. Suppose a firm has a proposal requiring original investment of Rs. 2000 in a plant having economic life of 2 years. Cash flow and probabilities for 2 yrs are: 1 Year alternative 1 2 3 2nd year: if cash flows in 1st year are: Cash flow 800 1100 1500 Probability 0.3 0.4 0.3

Rs. 800 Alternative Cash flow 1 2 3 400 1000 1500 0.2 0.6 0.2 Probability

Rs, 1100 Cash flow 1300 1500 1600 0.3 0.4 0.3 Probability

Rs. 1500 Cash flow 1600 2000 2400 0.1 0.8 0.1 Probability

Cost of capital is at 10%. Plot decision tree and suggest whether the proposal is to be accepted.

5. Rana Home appliances Ltd. is considering the manufacture of a new dishwasher B-IO, for which the following information has been gathered. B-IO is expected to have a product life cycle of five years after which it will be withdrawn form the market. The sales from this products are expected to be as follows: Year Sales (in million) 1 800 2 950 3 1000 4 1200 5 1000

The capital equipment required for manufacturing B-IO costs Rs. 900 million and it will be depreciated at the rate of 25 percent per year as per the WDV method for tax purposes. The expected net salvage value after 5 years is Rs. 150 million. The working capital requirement for the project is expected to be 10% of the sales. Working capital level will be adjusted at the beginning of the year in relation to the sales for the year. At the end of five years, working capital is expected to be liquidated at par, barring an estimated loss of Rs. 5 million on account of bad debt, which of course, will be tax-deductible expense. The accountant of the firm has provided the following estimates for the cost of B-1O. Raw material cost : 45 percent of sales Variable management cost : 15percent of sales Fixed annual operating and maintenance costs: Rs. 3 million Variable selling expenses : 10percent of sales. The tax rate for the firm is 30 percent. a. Estimate the post-tax incremental cash flows for the project to manufacture B-1O. b. What is the NPV of the project if the cost of capital is 20 percent?

6. Consider a set of five projects: Project 1 2 3 4 5 Cash outflow 50000 100000 120000 150000 200000 Estimated annual cash inflow 18000 50000 30000 40000 30000 Project life 10 4 8 16 25

Rank the five projects on the dimensions of NPV, IRR and BCR. The discount rate is 10%. 7. A company is considering two mutually exclusive investments, project A and project B. The expected cash flows of these projects are as follows: Project A Investment outlays Cash flows 1 2 3 4 5 400000 Rs 40000 120000 160000 240000 160000 Project B 450000 Rs 120000 160000 200000 120000 80000

The company has a target of return on capital of 10% and on this basis you are required to compare the profitability of the projects and state which alternative you consider financially more profitable.