A

PROJECT REPORT ON
“CAPITAL BUDGETING”
WITH REFERENCE
TO

BLUE DART EXPRESS LTD.

Project submitted in partial fulfillment for the
Award of Degree of

“MASTER OF BUSINESS ADMINISTRATION”

By
AFREEN SALEHA FATIMA

(HALL TIKET NUMBER .225209672055 )

(2009 – 2011)

OSMANIA UNIVERSITY
HYDERABAD
Ref: Date:

CERTIFICATE

This is to certify that the Project work entitled “CAPITAL BUDGETING”

with reference to “BLUE DART EXPRESS LTD” has been accomplished
by AFREEN SALEHA FATIMA student of MBA (FINANCE) under my
guidance and supervision. This Project report being submitted by her in
partial fulfillment of the requirement for the award of “MASTERS OF
BUSINESS ADMINISTRATION” from “OSMANIA UNIVERSITY”,
Hyderabad.

The results in this project work have not been submitted to any
other university or institution for the award of any degree or diploma.

GUIDE ` DIRECTOR

MISS ARIFA VENKETESHWARA RAO

 ACKNOWLEDGEMENT

I wish to express my sincere thanks to my DIRECTOR

Mr.VENKETESHWARA RAO for permitting to do the project externally.

I am highly indebted to our internal guide Mr. ARIFA Faculty of Finance

who extended her warm cooperation with pleasure and his encouragement
and valuable expert guidance throughout the project work.

I am greatly thankful to all my Friends who implicitly and explicitly helped

Me for the success of my project by giving valuable suggestions and for the
constructive criticism and the encouragement they provided.
I would also like to thank My Parents for their valuable support.
The presentation of this project has given Me an opportunity to express My
profound gratitude to all concern in guiding Me. Foremost I would like to
thank Mr. P Umameshwar Rao, Manager , Finance Of BLUE DART
EXPRESS LTD, for giving Me an opportunity to undertake this Project
work.

I would like to thank the BLUE DART EXPRESS LTD. staff for giving
Me support and the required material and there precious time.

(-------------------)
 DECLARATION

I AFREEN SALEHA FATIMA bearing the Hall Ticket number 225209672055. here
by declare that the project work entitled “CAPITAL BUDGETING” carried in Blue
Dart Express Ltd has been successfully completed and prepare by Me under the
guidance of “MISS ARIFA” faculty (Finance) of AZAD INSTITUTE OF
MANAGEMENT during the year (2009-2011) in the partial fulfillment of the award of
“MASTERS IN BUSINESS ADMINISTRATION” by Osmania University.

I further declare that this is my original work and has not been submitted earlier either to
Osmania University or any other Institute in part of full for the award any other degree or
diploma.

(AFREEN SALEHA
FATIMA)

5
 CONTENTS

S. No. List of Contents Page

Numbers

1. INTRODUCTION TO CAPITAL 10
BUDGETING

2. CORPORATE PROFILE 17

3. THEROTICAL STRUCTURE 25

4. CAPITAL BUDGETING IN BLUE 47

DART

5. DATA ANALYSIS AND 63

INTERPRETATION

6. BIBLIOGRAPHY

6
CHAPTER I

7
INTRODUCTION

8
 INTRODUCTION TO CAPITAL BUDGETING

As per the curriculum of Osmania University, every MBA student has to

undergo industrial training in any industry/organization of his/her choice.

During the course of training in an organization /industry. I am fortunate

enough to get this opportunity of undergoing training in BLUE DART EXPRESS
LTD, Hyderabad, which is a air express carrier and premium logistic service
provider.

Blue Dart Express Ltd, South Asia’s leading integrated air express.

To win the competitive edge, every organization is much constriction on the

financial aspect of development. A finance manager’s job begins even before a
business actually comes in to action and continues till the very end.

The activities of a finance manager includes procurements of funds from

various resources, determining where to invest, the extent of invest and analysis of
over all performance of the organization.

In the area of finance, I have chosen the project work on capital budgeting
because it is the most crucial financial decision of a firm. It relates to the selection
of an asset or investment proposal or course of action whose benefits are likely to
be available in future over the life time of the project.

The following aspects of capital budgeting has inspired me to take up the

topic:

 Capital budgeting decision involves critical analysis of risk/return

 The benefits from the investment proposal deferred into the future with an
immediate cash flow/commitment.

9
RESEARCH OBJECTIVE AND
METHODOLOGY

10
 RESEARCH OBJECTIVE AND METHODOLOGY

OBJECTIVE OF THE STUDY:

1. The primary objective of my study is to study the CAPITAL

BUDGETING process in BLUE DART
2. The secondary objective is to analyses the projects which are going to
be implemented by using the traditional and modern techniques.
3. Document the policies and practices of company.
4. Understand the linkage between corporate strategy and investment
decision.
5. Another major objective of my study is giving the conclusions and
advising whether to invest the funds in the project.

SCOPE OF THE STUDY:

The scope of the study is restricted to the fallowing:

The scope is limited to the operations of Blue Dart Express Ltd, Hyderabad and
the system fallowed in Blue Dart Express Ltd for capital expenditure decision.
SOURCES OF DATA:

The data is collected from the Blue Dart Express Ltd, Hyderabad unit with
the help of primary and secondary data.

PRIMARY DATA:
1. Interaction with the planning and development department.
2. Interaction with the finance department.

SECONDARY DATA:
1. Capital budget manual of Blue Dart Express Ltd
2. Accounting manuals of Blue Dart Express Ltd.

METHODOLOGY:

1. The capital budgeting mechanism is studied in detail.

2. The various factors of capital budgeting management are studied in detail.

3. The technical analysis in respect to internal rate of return (IRR), net present
value (NPV) and discounted cash flow techniques have been studied, as
well as methods like pay back period (PBP) average rate of return (ARR)
and profitability index (PI) have also used.
CHAPTER II

14
CORPORATE PROFILE

15
 CORPORATE PROFILE

BLUE DARE EXPRESS LTD

Blue Dart Express Ltd, South Asia’s leading integrated air express carrier and
premium. Logistics- Services provider.

State-of – the art technology, indigenously developed, for Track and Trace,
MID ,ERP Customer service, Space control and reservations

Blue dart Aviation, dedicated capacity to support our time Definite morning
deliveries though night freighter flight operations.

A countrywide surface network to complement our air services.

Warehouses at 38 locations across the country as well as bonded warehouses at the

six major metros of Bangalore, Chennai, Delhi, Mumbai, Kolkata, and Hyderabad.

ISO 9001-2000 countywide certifications by Lloyds Register Quality Assurance of

our enter operations, Products and services.

Ecommerce B2B B2C initiatives including partnering with some of the prime
portals in the country.

Blue Dart is the most extensive domestic network covering over 14000 locations
and service more than 220 countries and territories world wide through sale
alliance with DHL.

The premier global brand name in express distribution services .

16
BLUE DART COMPETITIVE ADVANTAGE LIES IN:

VAST AND UNPARALLED DOMESTIC NETWORK:

Linked by some of the most advanced communications systems and portioned to

offer a consistent, premium, standardized quality of services.

A SPECTRUM OF SERVICES TO PROVIDE CUSTOMIZED SOLUTIONS:

Blue Dart is the only express carrier in the country today which offers an entire
range of services that extent from a document to a charter-load of shipments. Blue
Dart services are relentlessly monitored to deliver a net service level of 99.94% for
June 2006.

Blue customs and regulatory expertise: A dedicated team of specialized to provide

the expertise for customs as well as regulatory clearences at all states with in the
country, to support seamless services to the customers.

BLUE DART AIR NETWORK:

The only one of its kind in the country today, that is focused on carriage of
packages as its prime business, rather than as byproduct of a passenger airline. A
dedicated aviation system to support Blue Dart’s services is self-sustaining, with
its own bonded warehouses, ground handling and maintenance capability.

ITS FINANCIAL CREDIBILITY:

Fitch, Ratings India Pvt. Ltd. has assigned the highest “F1+(ind)” (F one plus
(ind)) Rating for our short term debt programme of Rs 30 crores.

Further, ICRA Ltd. Has also assigned the highest

“A1+”(Pronounced A one plus) Rating for our Commerical paper programme of
Rs 25 crores.

BLUE DART PEOPLE FORCE:

Committed, diverse and over 4700 strong are Blue Dart most valued asset. All
Their achievements have been possible because they have a team who believes in

17
themselves and their company, a team with a winning attitude. Blue Dart is the
learning organization, Their value self-development, and most of their managers
are homegrown.

BLUE DART – DHL RELATIONSHIP

On the 12th September 2002, BLUE DART AND DHL signed a Sales Alliance
Agreement which came into effect from the 1 st October 2002. The Agreement is
for a duration of five years on a principal to principal basis.

Blue Dart chose to ally with DHL as it is the #1 international air express company
in the world. With superior hi-tech on-ground infrastructure, unmatched cross-
border specialization, greater flexibility of its network and the strongest brand
recongnition in India and in the world. The coming together of the world’s No.1
domestic express services provider is a logical step in a win-win relationship to
benefit all the parties involved, the customer and the stakeholders of both
organizations. Blue Dart believes that the alliance would bring the DHL advantage
to Blue Dart’s customers resulting in greater customer satisfaction.

DHL is the world’s leading express and logistics company offering customers
innovative and customized solutions from a single source. With global expertise in
solutions, express, air and ocean freight and overland transport DHL combines
worldwide coverage with an in-depth understanding of local markets. DHL’S
harmonized international network links more than 220 countries and territories
worldwide.

DHL continues to be at the forefront of technology and, with more than 150,000
dedicated employees, guarantees fast and reliable services aimed at exceeding
customers’ expectations.

Based in Brussels, Belgium, DHL IS 100% owned by Deutsche post world net.

18
 BLUE DART VISION

“To be the best and set the pace in the air express integrated transportation and
distribution industry, with a business and human conscience.

Blue Dart commit to develop, reward and recognize our people who, through high
quality and professional service and use of sophisticated technology, will meet and
exceed customer and stakeholder expectations profitably.”

Focus on our core domestic products to exand our market share and consolidate
our unique and premium position in the Indian market. Blue Dart would also
leverage its vast customer base for global distribution through its alliance with
DHL. We plan to leverage our established infrastructure to continue adding value
and customized solutions to the changing and evolving demands of the customers
with access to our quality domestic and regional distribution. Our domestic
network will continue to differentiate itself in all areas of our core competencies-
supply chain management, logistics and Ecommerce.

Position ourselves as the preferred, seamless link to a country projected to be an

economic superpower of the 21st century. Through our technology developments,
premium services, quality network and strategic alliances, we plan to carve for
ourselves a leadership position in the industry as India’s and the region’s link to
the world.

Continue to deliver value to our stakeholders through our people philosophy and
Corporate Governance based on distinctive Customer Service, Business Ethics and
Accountability, and Profitability.

The first Indian –manufactured main deck loaders at all its 5 on-line stations –
Chennai, Bangalore, Mumbai, Delhi and Kolkata in 1996. The specs were
provided by Blue Dart Aviation, and desin and manufacture undertaken by a
coimbatore-based manufacturer,MAK control, in a 4-month period at less than
20% of the cost of the international equivalent.

19
 BLUE DART TECHNOLOGY

Blue Dart has been the only Indian Air Express Company that has invested
extensively in Technology infrastructure to create differentiated delivery
capabilities, quality services and customized solutions for the customer,

Some of the technology- based business offerings on our site are as follows:

TrackDart
MailDart
MobileDart
InternetDart
ShopTrack
PackTrack
ShipDart

Billing
Schedule a pickup
Waybill Generation
Location Finder
Transit Time Finder
Price Finder
COSMAT II
SMART
ImageDart

Blue Dart is one of the largest private computer networks in India, with over 1750
computer terminals connected by dedicated leased lines, VSATs and Microwave
links.
And its E-mail is accessed at 114 locations daily by over 2450 users. It also
employ wireless, mobile telephones, radio sets and pagers extensively to enhance
their communication speed and connectivity with our troops on the field. Our
customer service Cell is equipped with Automated Call Distribution Systems
(ACDS) to provide quick response and support to our customers.

For their Aviation system, their in-house team has developed SMART (space
management allocation reservations and tracking ) for effective space and revenue
management.

20
 SERVICE GUIDE

Blue Dart services are subject to their Terms and Conditions of Domestic
Carriage –Dart Surfaceline, and liability terms incorporated therein. Please read
these carefully before you avail of our services.

Dart Surfaceline is an economical, door-to-door, ground distribution service within

India for shipments weighing 10kgs and above. It offers a cost-effective logistics
option for your less time- sensitive shipments with the following value – added
benefits:

>TIME-BOUND DELIVERY
A fleet of vehicles run to pre-determined schedules to provide committed delivery.
Click on Transit Time Finder for information on delivery time, or contact Blue
Dart.

>Track your shipment

Over the net, or contact Blue Dart to receive information on the status of your
shipment.
You can also view, download and print copies of proof of Deliveries and Delivery
Callans of Dart Surfaceline shipments

>REGULATORY CLEARANCES
Our team of specialists will provide you with the clearance support required to
ensure a smooth delivery. Click on Regulatory for details of the paperwork
requirements, or contact Blue Dart for assistance.

>PICK-UP CONVENIENCE
You may contact Blue Dart to Schedule a pick-up and your shipment will be
picked-up, transported, cleared through regulatory channels and delivered to the
consignee, while you are able to receive updated information and proof of
delivery on demand.

>SECURE SHIPMENTS
All the destinations serviced by Dart Surfaceline are supportd by our own
warehouses, manned by trained professionals to ensure the safety and security of
your shipments.

21
>ECONOMICAL TARIFF
All these benefits are available at charges that support value pricing. Click on
price finder for the applicable tariff.

Security regulations do not permit carriage of certain items on the Dart Surfaceline
mode. Click on Banned commodities-All services and Dangerous Goods
prohibited on Blue Dart for information on these items or contact Blue Dart for
details.

For any further assistance with your Dart Surfaceline shipment Contact Blue Dart.

22
CHAPTER III

23
THEORITICAL
STRUCTURE

24
 THEORITICAL STRUCTURE

MEANING:

Capital budgeting is the process of making investment decision and

capital expenditure. Capital budgeting is employed to evaluate expenditure
decisions which involve current outlay that are likely to produces benefits over a
period of time longer than one year.

Capital expenditure involves a non-flexible, long term commitment of

funds .thus capital expenditure decisions are also called as long term investment
decisions. Capital budgeting decisions involve the planning and control of capital
expenditure.

FEATURES:

1) It involves exchange of current funds for the benefits to be

achieved in future.
2) Future benefits are expected to be realized over a series of years.
3) They generally involve huge funds.
4) They are irreversible decision.
5) They have long term and significant effect on profitability of the
concern.
6) There is relatively high degree of risk.

IMPORTANCE:

Capital budgeting decisions are of paramount importance in financial

decision making. Capital budgeting decisions affect the profitability of the firm.
They also have a bearing on the competitive position of the enterprise. Capital
budgeting decision determines the future destiny of the company.

 An opportune investment decision can yield spectacular returns where as an

ill-advised and incorrect investment decisions can endanger the very
survival even of the large sized firms.

 A capital expenditure decisions has its effect over a long term time span
and inevitably affects the company’s future cost structure.

25
  Capital investment decisions are not easily reversible, without much
financial loss to the firm.

 Capital investment involves cost and the majority of the firms have scares
capital recourses
 Capital investment decisions are of national importance because it
determines employment, economic activities and economic growth.

This underlines the need for thoughtful, wise and correct investment
decisions.

NEED FOR CAPITAL BUDGETING:

Capital budgeting decisions are vital to an organization as they include the

decisions as to:

 Weather or not funds should be invested in long term projects such as

setting of an industry, purchase of plant and machinery etc.
 To analysis the proposal for expansion or creating additional capacities.
 To decide the replacement of permanent asset such as building and
equipments
 To make financial analysis of various proposals regarding capital
investment so as to choose the best out of many alternative proposals.

DIFFICULTIES:

Capital budgeting decisions are not easy to take. There are number of
factors responsible for this.

1) The benefits from investments are received in some future period. The
future is uncertain. Therefore, an element of risk is involved. A failure to
forecast correctly will lead to serious errors which can be corrected lonely
at a considerable expense.
2) Problems are also arising because cost incurred and benefits received from
capital budgeting decisions occur at diff time period. They are not
logically comparable because of the time value of money.
3) It is not often possible to calculate in strictly quantitative terms, all the
benefits of the cost relating to a particular investment decision.

26
RATIONALE:

The rationale underlying the capital budgeting decisions is efficiency. Thus a

firm must replace worn and obsolete plant and machinery, acquire fixed assets for
current and new products and make straight investment decisions. This will enable
the firm to achieve the objective of maximizing the profits. The quality of these
decisions is improved by capital budgeting.

Capital budgeting decisions can be of two types.

1) Those which expand revenues
2) Those which reduce costs.

INVESTMENT DECISIONS EFFECTING REVENUE:

Investment decisions are expected to bring in additional revenue there by

raising the size of firm’s total revenue. They can be the result of either expansion
of present operations of the development of a new product line these decisions
involved acquisition of new fixed assets.

INVESTMENT DECISIONS REDUCING COST:

These decisions add to the total revenue of the firm. These investment
decisions are subject to less uncertainty. This is because the firm has a better
“feel” for potential cost saving as it can examine past production and cost data.

27
 CAPITAL BUDGETING DECISIN MAKING PROCESS:

PROJECT GENERATION

TO

DEVELOPING THE
SELECTION OF
ALTERNATIVES THE PROJECT

To

EVALUATION OF ALTERNATIVES
IMPLEMANTATION
TO

PERFORMANCE REVIEW

There are three types of capital budgeting decisions.

1) Accept-reject decisions: this is a fundamental decision in capital

budgeting. If the project is accepted, the firm invests in it. If the proposal is
rejected, he firm does not invest in it so, by applying this criterion, all
independent projects are accepted. Independent projects are projects that do
not complete with one another in such a way that the acceptance of a
project precludes the possibility of acceptance of another.

2) Mutually exclusive project decision: these are the projects which

complete with other projects in such a way that the acceptance of one will exclude
the acceptance of other projects. The alternatives are mutually exclusive and only
one my be chosen. Mutually exclusive investment decisions acquired significance
when more than one proposal is acceptable under accept – reject decision.

28
3) Capital rationing decisions: capital rationing refers to situation in which the
firm has more acceptable investments requiring greater amount of finance then is
available with the firm. It is concerned with selection of group of investment
proposals out of many investment proposals actable under accept-reject criterion
under financial constrains.

EVALUATION OF INVESTMENT PROPOSALS:

At each point of time, a business firm has a number of proposals regarding

various projects in which it can invest funds. But funds available with the firms
are always limited and it is not possible to invest funds in all the proposals at a
time

In selecting the criterion, the fallowing two fundamental principles must be

kept in view:

1) The bigger, the better principle: the principle means that other things being
equal bigger benefits are preferable to small ones.

2) The bird in hand principles: this principle means that other things being
equal, early benefits as other things are seldom equal.

Both the above principles have to be applied to take the right decision.

DATA REQUIREMENTS

IDENTIFING RELEVENT CASH FLOWS:

29
Cash flow Vs accounting profit:

Capital budgeting is concerned with investment decisions which yield a return

over a period of time in future. The foremost requirement to evaluate any capital
investment proposal is to estimate the future benefits according from the
investment proposals. Theoretically, two alternative criteria are available to
quantify the benefits:

1) accounting profit
2) cash flows

The difference in these measures of future profitability is primary due to

the presence of certain non cash expenditure in the profit and loss a/c.

Cash flows are theoretically better measures of the net economic benefits or costs
associated with a proposed project.

INCREMANTAL CASH FLOW:

The second aspect of the data required for capital budgeting relates to the
basis on which the relevant cash out flows and cash inflows associated with
proposed capital expenditure are to be estimated. The widely prevalent practice is
to adopt incremental analysis. Olney differences due to the decisions at hand.

DETERMINATION OF RELEVENT CASH FLOWS

The data requirement for capital budgeting are cash flows i.e out flows and
inflows. There computation depends on the nature ofb the proposal. Capital
projects can be categorized into:

1) Single proposal
2) Replacement situation
3) Mutually exclusive

Cash flows: single proposal

30
 The cash out flows, comprising the cash outlays required to carry out the
proposed capital expenditure is depicted by the fallowing format:

Cash outflows of a new project (being of the period at zero time, t=0)

Cash of new project (to purchase land and building, plant and equipments, etc)
1) + installation cost of plant and equipments
2) + working capital requirements
3) _ tax benefits due to investment allowance for eligible assets

Cash flows: replacement situations

In the case of replacement of an existing asset by a new one, the relevant cash
flows are incremental after tax cash flows. If a new asset is intended to replace an
existing asset which is being sold, the proceeds so obtained from its sale reduce
cash out flows required to purchase a new asset and, hence, part of relevant cash
flows. To determine relevant cash flows, it is not only the cash proceeds of the sale
of replaced asset which are important but also their tax effect on cash flows:

Cash out flows in a replacement situation

1) cost of the new machine

2) + installation cost
3) +_ working capital
4) - investment allowance
5) – sale proceeds of existing assets
6) +_ taxes paid / saved on sale of asset

Cash flows: mutually exclusive situations

In case of mutually exclusive proposals precludes the others. The calculations of

the cash out flows and in flows are on similar lines to the replacement situations.

TECHNIQUES OF CAPITAL BUDGETING

31
 The methods of apprising capital expenditure proposals can be classified in
to two broad categories:

1) Traditional or un discounted cash flow techniques

2) Discounted or time adjusted cash flow techniques

TRADITIONAL OR NON DISCOUNTED TECHNIQUES

1) pay back period or “pay off” or ”pay out” method

2) improvement in traditional to pay back period method
3) rate of return method or accounting method

THE ADJUSTED METHODS OR DISCOUNTED METHODS

1) Net present value method(NPV)

2) Internal rate of return method (IRR)
3) Profitability index or benefit cost ratio method

PAY BACK PERIOD METHOD:

Pay back period represents the length of time required for the stream of cash
proceeds produced by the investment to be equal to the original cash outlay, i.e.
the time required for the project to pay for itself.

The formula to calculate payback period is:

Payback period = Original Investment

-------------------------
Annual cash flow

The annual cash flow represents the earnings i.e. estimated cash savings
resulting from the proposed investment.

ACCEPT-REJECT CRITERION:

32
 The pay back period method can be used as a decision criterion to accept or
reject investment proposals. If a single investment is being considered, if the
annual pay back period is less than the pre-determined pay back period the project
will be accepted, if not it would be rejected.

When mutually exclusive projects are under consideration, they may be

ranked according to the length of the pay back period. The project with shortest
payback may be assigned rank one and so on.

MERITS:

1) It is the best method in case of evaluation of single project.

2) It is easy to calculate and simple to understand.
3) It is based on cash flow analysis.

DEMERITS:

1) It completely ignores all cash flows after the pay back period.
2) It completely ignores time value of money

In case the cash flows are unequal, the pay back period can be found by
adding up the cash flows until the total is equal to the initial cash outlay of the
project.

IMPROVEMENT IN TRADITIONAL APPROACH TO PAY BACK

PERIOD:

33
Post pay back profitability method:

One of the draw backs of payback period is that it does not take in to account the
cash inflows earned after the pay back period and hence the profitability of the
project can not be assessed. An improvement over this method can be made by
taking in to account the returns receivable beyond the pay back period. These
returns are called as post payback profits.

Post Pay back profitability index = Post Pay back profits___ * 100
Investment

PAY BACK RECIPROCAL:

Some times pay back reciprocal method is employed to estimate the IRR
generated by a project. Pay back reciprocal can be calculated as:

Pay Back Reciprocal = Annual Cash Inflow__

Total Investment

This method is used under the following conditions:

1. Equal cash inflows are generated every year.

2. project under consideration has a long life which must be at least twice the
pay back period.

RATE OF RETURN METHOD:

34
 This method takes into account the earnings expected from the investment
over their whole life. It is known as accounting rate of return method for the
reason that under this method, the accounting concept of profits(net pforits after
tax and depreciation is used rather than cash inflows.

The return on investment method can be used in several ways as follows:

Average rate of return or Accounting rate of return:

Under this method, average profit after tax and depreciation is divided by
average investment over the life of the project.

Average rate of return = Average annual profits after tax _____* 100
Average investment over the life of the project

RETURN PER UNIT OF INVESTMENT METHOD:

This method is small variation of the average rate of return method. In this
method total profit after tax and depreciation is divided by the total investment.

Return per unit of investment = Total profit (after depreciation and taxes) *100
Net investment in project

RETURN ON AVEAGE INVESTMENT METHOD:

In this method the return on average investment is calculated. Using of

average investment for the purpose of return on investment is preferred because
the original investment is recovered over the life of the project on account of
depreciation charges.

AVERAGE RETURN ON AVERAGE INVESTMENT METHOD:s

35
 Under this method, average profit after depreciation and taxes is divided by
average amount of investment.

Average return on = Average annual profit after depreciation and taxes * 100
Average Investment Average Investment

ACCEPT.REJECT CRITERIA:

The actual average rate of return is compared with predetermined or

minimum required rate of return or cut off rate. A project would qualify to be
accepted, if the actual average rate of return is higher than the minimum desired
average rate of return.

If more than one alternative proposals are under consideration, the average
rate of return may be arranged in descending order of magnitude starting with the
proposal with the highest average of return.

MERITS:

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

2. the entire stream of income is used to calculate the average rate or return.

DEMERITS:

1. It used accounting income instead of cash flows.

2. it does not take into account the time value of money.
3. the average rate of return criterion of measuring the worth of investment is
not differentiated between the size of the investment required for each
project.
4. It does not take into consideration any benefits which can accure to the firm
from the sale or abandonment of equipment which is replaced by the new
investment.

The above mentioned methods has to be used along with the discounted cash
flow methods(i.e., NPV, IRR) in order to take a right decision.

TIME ADJUSTED OR DISCOUNTED CASH FLOW METHODS:

36
 The distinguishing characteristic of discounted cash flow capital Budgeting
techniques is that they taken into consideration the time value of money while
evaluating the cost and benefits of the project. They also take into consideration
the benefits and costs occurring during and entire life of the project.

1) NET PRESENT VALUE METHOD:

NPV may be defined as the summation of the present values of the cash
proceeds in each year minus the summation of the present values of the net cash
outflows in each year.

The NPV of all involves and outflows of cash during the entire life of the
poject is determined separately for each year by discounting these flows by the
firm’s cost of capital.
n
NPV = CF1 + CF2 +--------- + CFn = CFt
(1+K)1 (1+K)2 (1+K)n t=1 (1+K)t

Where CF = Cash flow for corresponding year

K= Cost of Capital
N= No. of years

The steps to be followed for adopting the NPV method:

1) Minimum required rate of return. This rate should be the minimum
rate of return below which the investor considers that does not pay
him the in vested amount.
2) Compute the present value of total investment outlay, if the total
Investment is to be made in the initial year, the present value shall
be the same as the cost of investment.
3) Compute the present value of total investment proceeds i.e., cash
Inflows at the above determined discounted rate.
4) Calculate the NPV of each project by substracting the present value
of Cash outflow for each project.

The present value of rupee 1 due in any number of years can be found by using the
following formula:

PV = 1___

37
 (1+r)n

Where
PV = Present value
R = rate of interest or discount rate
N = no. of years

ACCEPT.REJECT CRITERION:

If NPV > Zero, Accept

If NPV< Zero, Reject

In case of mutually exclusive projects, the various proposals would be

ranked in order of descending order. The proposal with higher NPV is to be
accepted.

MERITS:

1) It recognizes the time value of money.

2) It is sound method of appraisal as it considers the total benefits arising out
of the proposal over its life time.
3) A changing discount rate can be build into the NPV calculation by altering
the denominator. This rate normally changes because longer the time span,
lower the value of money and higher the discount rate.
4) This method is very useful for selection of mutually exclusive projects.

DEMERITS:

1) It is difficult to calculate as well as understand.

2) The present value method involves the calculation of required rate of return
to discount the cash flows which present serious problems.
3) It is an absolute measure.
4) This method may not give satisfactory results in case of projects resulting
in case of projects having different effective lives.

INTERNAL RATE OF RETURN:

IRR is a modern technique of capital budgeting that takes into account the
time value of money. It is also known as time adjusted rate of return, discounted

38
rate of return or yield method. In this method, the cash flows of the project are
discounted at return a suitable rate by hit and trial method, which equates the NPV
so calculated to the amount of investment. Under this method, since the discount
rate is determined internally, it is called as internal rate of return method.

It is defined as the discount rate which equates the aggregate present value,
net cash inflows, cash flows after tax (CFAT) with the aggregate present value of
cash outflow of a project.

C = A1 + A2 + A3 + …………
(1+R)1 (1+R)2 (1+R)3

Where
C = initial cash outlay at time zero
A1,A2,A3, ……….. = Future net cash flows at different periods
1,2,3,…….n = No. of years
R = rate of discount or internal rate of return.

The cauculation process may be summed up as follows:

1) Prepare the cash flow table using an arbitrary assumed discount rate to
discount the net cash flow to the present value.
2) Find out the NPV by deducting from the present value of total cash flows
calculated in (1) above the initial cost of investment.
3) If the higher discount rate still gives a positive NPV increases the discount
rate further until the NPV becomes negative.
4) If the NPV is negative at this higher rate, the IRR must be between the
approximately taken discount rates.

The actual IRR is determined by interpolation. This can be calculated using the
formula:

IRR = r-PB - DFr___

DFrL - DFrH

Where
PB = pay back period
Dfr = discount factor for interest rate r
DFrL = discount factor for higher interest rate
R = either of the two interest rates used in the formula.

ACCEPT.REJECT CRITERION:

39
 1) Accept the proposal if the IRR is higher than or equal to mimimum required
rate of return i.e., the discount rate or cut off rate, otherwise reject it.
2) In case of alternative proposals, one with higher IRR has to be accepted as
long as the IRR is greater than the discount rate.

MERITS:

1) It recognizes the time value of money.

2) It considers all cash flows occurring over the entire life of the project to
calculate its return or return.
3) It is consistent with the share holder’s wealth maxmisation objective.

DEMERITS:

1) It gives misleading and inconsistent results when the NPV of a project does
not decline with discount rates.
2) It also fails to indicate a correct choice between mutually exclusive projects
under certain situations.

PROFITABILITY INDEX METHOD OR BENEFIT – COST RATIO:

It is the ratio of the present values of cash inflows at the required rate of
return to the initial cash outflow of the investment. It may be gross or net, net
being simply gross minus one.

The formula to calculate Benefit – Cost ratio of Profitability Index is as follows:

P1 = PV of cash inflows = PV(Ct)

Initial cash outlay Co

ACCEPT – REJECT CRITERIA:

1) If P1 >1, accept the proposal on the other hand,

2) If P1 <1, reject the proposal
3) In case of the alternative proposals, the project with higher P1 has to be
accepted.

MERITS:

40
 1) It gives due consideration to the time value of money.
2) Since the present value of cash inflows is divided by initial cash outflows it
is a relative measure of the project’s profitability.

DEMERITS:

1) It is difficult to understand
2) It involves more computation than traditional methods.

RISK AND UNCERTAINITY IN CAPTIAL BUDGETING:

All the techniques of Capital Budgeting require the estimation of future

cash inflow and cash outflow. The cash flows are estimated, based on the
following factors.

 Expected economic life of the project

 Salvage value of the asset at the end of the economic life
 Capacity of the project
 Selling price of the product
 Production cost
 Depreciation rate
 Rate of taxation
 Future demand of the product, etc.,

But, due to uncertainities about the future, the estimates of demand,

production, sales, costs, selling price, etc cannot be exact. For example a
product may become obsolete much earlier than anticipated due to unexpected
technological developments all these elements of uncertainities have to be
taken into account in the form of forcible risk while taking a decision on
investment proposals. It is perhaps the most difficult task while making an
investment decision. But some allowances for the element of risk has to be
provided.

FACTORS INFLUENCING CAPITAL EXPENDITURE DECISIONS:

There are many, factors financial as well as non financial which influence
the capital expenditure decisions and the profitability of the proposal yet, there

41
 are many other factors which have to be taken into consideration while taking a
capital expenditure decision. They are:

1) URGENCY: sometimes, an investment is to be made due to an urgency for

the survival of the firm or to avoid heavy losses. In such circumstances,
proper evaluation cannot be made through profitability tests. Examples of
such an urgency are breakdown of some plant and machinery, fire accidents
etc.
2) DEGREE OF UNCERTAINITY: profitability is directly related to risk,
higher the profits, greater is the risk or uncertainity

3) Sometimes, a project with some lower profitability may be selected due to

constant flow of income as compared to another project with an irregular
and uncertain inflow of income.
4) INTANGIBLE FACTORS: sometimes, a capital expenditure has to be
made due to certain emotional and intangible factors such as safety and
welfare of the workers, prestigious project, social welfare, goodwill of the
firm etc.
5) AVAILABILITY OF FUNDS: as the capital expenditure generally requires
the provisions of law is solely influenced by this factor and although the
project may not be profitable, yet the investment has to be made.
6) AVAILABILITY OF FUNDS: as the capital expenditure generally requires
large funds the availability of funds is an important factor that influences
the capital budgeting decisions. A project howsoever profitable may not be
taken for want of funds and a project with lesser profitability may
sometimes be preferred due to lesser pay back period for want of liquidity.
7) FUTURE EARNINGS: a project may not be profitable as compared to
another today, but it may promise better future earnings. In such cases, it
may be preferred to increase future earnings.

CAPITAL EXPENDITURE CONTROL:

Capital expenditure involves non-flexible long term commitment of funds.

The success of an enterprise in the long run depends upon the effectiveness with
which the management makes capital expenditure decisions. Capital expenditure
decisions are very important as their impact is more or less permanent on the well
being and economic health of the enterprise. Because of its large scale
mechanization and automation and importance of capital expenditure for increase
in the profitability of a concern. It has become essential to maintain an effective
system of capital expenditure control.

OBJECTIVES OF CONTROL OF CAPITAL EXPENDITURE:

42
  To make an estimate of capital expenditure and to see that the total cash
outlay is within the financial resources of the enterprise.
 To ensure timely cash inflows for the projects so that non availability of
cash may not be a problem in the implementation of the problem.
 To ensure that all capital expenditure is properly sanctioned.
 To properly co-ordinate the projects of various departments.
 To fix priorities among various projects and ensure their followup.
 To compare periodically actual expenditures with the budgeted ones so as
to avoid any excess expenditure.
 To measure the performance of the project.
 To ensure that sufficient amount of capital expenditure is incurred to keep
pace with the rapid technological development.
 To prevent over expansion.

STEPS INVOLVED IN CONTROL OF CAPITAL EXPENDITURE:

 Preparation of capital expenditure budget

 Proper authorization of capital expenditure
 Recording and control of expenditure
 Evaluation of performance of the projects.

LONG TERM SOURCES OF FINANCE

It is natural phenomenon that the firm is always in deficit of funds. There

are two methods of raising funds.

1) Long term sources

2) Short term sources.

Capital budgeting decisions involve long term funds. The different long term
sources of finance generally followed by companies are:

1) Shares
2) Debentures
3) Term Loans.

SHARES:

43
 Shares include ordinary or common shares and preference shares. Ordinary
or common shares are the source of permanent capital since they do not have a
maturity date. The holders of ordinary shares are share holders or stock holders are
the legal owners of the company.
Preference share is considered to be hybride security as it has many features
of both ordinary shares and debentures. Preference shares may be issued with or
without maturity date. The holders of preference shares get dividend at a fixed rate
and have preference over ordinary share holders.

DEBENTURES:

Debenture is a long term promissory note for raising loan capital. The
debenture trust deed defines the legal relationship between the issuing company
and the debenture trustee who represent the debenture holders.

TERM LOANS:

Term loans for more than a year maturity. It is generally available for a
period of 10 years. Interest on term loans is tax deductable. They are obtained
from banks and specially created financial institutions like IFCI, ICICI IDBI etc.
the purpose of term loans is mostly to finance the company’s capital expenditure.
They are generally obtained for financing large expansion, modernization or
diversification projects. Hence, this method of financing is also called pro0ject
financing. This is the most widely used source of financing.

LEASE FINANCING:

A lease is an agreement for the use of an asset for a specified rental. The
owner of the asset is called the lessor and the user the lessee. Two important
categories of lease are 1) Operating leases
2) Financial leases
Operating leases are short term cancelable leases where the risk of
obsolescence is born by the lessor.
Financial leases are long tern non-cancellable leases where any risk in the
use of asset is borne by the lessee and he enjoys the return too.
BUYING OR PROCURING:

Buying or procurement involves purchasing an asset permanently in the

form of cash or credit.
LEASING (VS) BUYING:

Leasing an Equipment has the tax advantage of depreciation which can

mutually benefit both the lessor and lessee. Other advantages of leasing include

44
convenience and flexibility as well as specialized services to the lessee. Lease
proves handy to those firms to those firms which cannot obtain loan capital from
normal sources.

The pros and cons of leasing and buying are to be examined thoroughly
before deciding the method of procurement i.e., leasing or buying.

45
CHAPTER IV

46
 BUDGET OF BLUE DART
EXPRESS LTD

CAPITAL BUDGETING IN BLUE DART EXPRESS LTD

The capital Budgeting in Blue Dart Express Ltd is based on capital budget manual
which covers the following aspects.

47
I. INTRODUCTION.

The Company’s Budget for the calendar year 2008 will be prepared in accordance
with the “Budget/Accounts Consolidation Chart’ attached herewith as per
Annexure “A”

Head Office will provide the historical sales date with Fuel surcharge, without fuel
surcharge and with fuel surcharge neutralized to 25% up to September 2008 for
each area by way of a file transfer to the Regional Heads/Controllers who would in
turn disseminate the same to the concerned Bracnch Mangers/Area Mangars.

Each Area/Department on the consildation Chart will have its own Budgets. The
Budgets for the service Centers reportings in to each area will be consolidated with
the area Budgets and similarly , the FCC and RSP Budget will be consolidated
with the Budget where they are controlled from, but would need to be computed
scientifically and reflected in the Area sales budget

All Area Budget will be consolidated first at the Branch Level , thereafter at the
Region level and finally at the company level and finally at the company level

Each Area/Department will prepare budgets as per annexures given hereto

a. Capital Budget
b. Sales Budget
c. Expenses

All budget prepared must be broken up taking into consideration the actual
number of working days at the area level in each month.

The following information is also attached to support you in the Budger process

1.workins days region/monthwise jan-dec’04, Jan-Dec’05, Jan-Dec’06 & average

of these 3 years is provided in Annexure “D”

2.For the period Jan’06 to Sep’06, the actual sale % Regionwise Against each
Market holiday is provided in Annexure “E”

You could refer to above-Mentioned Annexures as a guideline only:

48
Areas need to take into account their owm market holidays

II.RESPONSIBILITY FOR PREPARATION OF BUDGETS

The Area Budget will be preapared by the Area manager supported by the Area
Accountant. The Budger will be reviewed by the Branch Manager. After review of
the Area Budget by the Branch Manger, it will be finally reviewed by the
Regional head and the Regional Controller.

The responsibility for the consolidation of the Regional Budget will be with the
regional
Controllers and the responsibility for the consolidation of the Head office
Department Budget will be with the Corporation Controller All India at Head
Offfice and the total
Company’s budget would be with V.P Corporate Accounts.

ANNUAL PLAN EXERCISE:

The capital funds budget/annual plan is meant for making provision for
cash expenditure of capital nature including the foreign exchange component
wherever necessary.
The capital funds budget will mainly contain the following information
along with other information:

1) Revised estimates for the current year.

2) Budget estimates for the ensuring year i.e., budget year.
3) Priliminary budget estimates for the year following the budget year.

GENERAL GUIDELINES:

The capital funds budget is to be prepared under six major heads.

 Continuing schemes
 New schemes

49
 Modernization and rationalization
 Township
Science and technology

1. CONTINUING SCHEMES:
These schemes include all such schemes which are under implementation
of which funds provision has been made in the current year/provision is
required in the budget year.

2. NEW SCHEMES:
This scheme includes all such schemes which are proposed to be initiated in
the budget year and for which funds provision is required in the budget
year. Normally, such schemes are included in the five year plan of the
company approved by the planning commission.

3. MODERNISATION AND RATIONALISATION(M&R):

This includes items of plant & machinery etc for which funds are required
in the budget year and the following year. All items included in M&R
should result in cost reduction/quality
improvement/debottlenecking/replacement/productivity, improvement and
welfare. The M&R items are to be submitted in the following main
characteristics accompanied with full justification on the ageing of
facilities, increased output and production, quality requirements
bottlenecks.

 Replacement/modernization
 Balancing facilities(essentially to increase production
 Operational requirements including material handing
 Quality/lesting facilities
 Welfare
 Minor works

These requirements should be proritised item wise. A separate proposal is

required for M&R items costing more than Rs.10,00,000

2. TOWNSHIP:
Township budget is divided into two parts.

o Continuing township schemes

o New township schemes

50
 Funds required against each scheme should be backed up with full data on
number on quarter/scope of work to be completed against the funds
requirements phasing of budgeted funds for current year, budget year and
following year etc, should be given similar information on number of
quarter/ scope of work already completed, expenditure incurred till last
year, satisfaction level it is to be added in the above back up information for
each scheme.

3. SCIENCE AND TECHNOLOGY:

This budget can be divided into two categories.
 Continuing schemes
 New schemes to be taken up in the budget year.

The scheme should fall in any of the above categories giving details on
physical and financial progress etc.

4. EDP SCHEMES:
All funds requirements for computer/information systems should be
grouped under EDP schemes and projected accordingly.

FUNDING MODE

As per present practice, the annual plan/capital funds budget of the company is
financed under two major heads.

 Budgetary support from the government

 Internal resources of the company

1) The budgetary support from the government is received in the form of loan
and equity in the ratio of 1:1 approximately as per the government
guidelines.
2) Internal resources are the company’s own funds/reserves. The present trend
indicates gradual decline budgetary support from the government and it is
insisting on utilizing of more internal resources for capital funding. This
necessitates a rigorous and critical budget formulation exercise.

1. SCHEMES/PROJECTS:
Feasibility report for such schemes should include and analysis of
the plant initiating the report, its present status, its products and its role in the
industry. Governments view on the present future growth plants for the industry to

51
 which the products belong and current five year plan provisions for the scheme
should also be brought out.

NEED FOR THE PROJECT:

A brief para on alternatives examined/results obtained should be included
in the report. This should be done taking into consideration factors like optimum
size of the plant, location, product mix, technology, demand, transportation etc.

2. TECHNOLOGY CONSIDERATION/CHOICE:
For the product to which the scheme relates, all considerations/parameters
analysed in making the choice should be outlined. These may be enumerated as
follows.

I. Suitability of technology for the product/raw material available

II. Status of technology within BLUE DART EXPRESS LTD,.
III. Whether existing/new technology, if new reasons for preference and
benefits.
IV. Trends in the world/local markets.
V. Competitiveness of the technology chosen
VI. Collaboration proposed
VII. R&D activities required
VIII. Chances of technology had chosen getting obsolete.

2. PROJECT DESCRIPTION:
In order to help the appraisal, in analyzing evaluating the proposal, the
description should touch upon site, equipment requirement, input requirement,
labour phasing of construction, production built up, and any collaboration
required, housing needs, etc.

3. MARKETING:
The detailed market analysis in the feasibility report should answer questions like.
I. Total market potential for the product
II. Expected market share
III. Competitors details

Based on the market survey the demand supply position in detail should be
given. Marketing plan for the product based on market survey and studies
conducted for the product should be mentioned in the report.

4. INDUSTRIAL LICENSE:
Feasibility report should mention the need for industrial license, if any, for
the products proposed in the investment proposal

52
5. CAPITAL INVESTMENT REQUIREMENTS:
It is necessary that the estimates of capital costs presented in the feasibility
report should be reasonable complete and properly estimated. For the purposes of
project appraisal, capital costs are essentially those costs which are incurred before
the commencement of commercial production. For fixed assets are costs like
customs duty, excise, insurance, transportation at the latest applicable rates should
be calculated.

6. OPERATING REQUIREMENTS:
For the purposes of project appraisal, operation costs are essentially those
costs which are incurred after the commencement of commercial production. This
will help in financial analysis.

7. FINANCIAL ANALYSIS:
The purpose of financial analysis of a project is to present some measures
to assess the financial viability of the project. The data presented in this formats
should be consistent with the production plans, operation costs, capital costs.

8. SENSITIVITY ANALYSIS:
The feasibility report should also briefly present the results of sensitivity
analysis. This is relevant whenever the key assumptions made in the feasibility
report are likely to be changed/affected.
9. PROJECT IMPLEMENTATION PLAN:
The feasibility report should briefly indicate the project implementation,
organization that will be responsible for executing the scheme. This is most
essential for expansion/diversification schemes at existing plant locations.

10. ECONOMIC ANALYSIS:

Economic analysis the viability of the project is evaluated taking into
account the opportunity cost of the tradable inputs/outputs which go into the
project, shadow prices for foreign exchange, domestic resource costs of the non
tradable inputs. Such analysis may be relevant for planning commission in
evaluating the projects from the national perspective/plans.

11. PREPARATION OF DETAILED PROJECT REPORT.

For all capital investment schemes which have been approved by the
government, it is essential to prepare a detailed project report which will form the
basis of project execution. The purpose of detailed project report is not only to
enable projecting a realistic requirement of budgetary funds, but it would also
improve the planning the implementation aspects of capital projects. The detailed

53
project report should be submitted within 6 months from the date of financial
sanction for the scheme.

MODERNISATION AND RATIONALISATION

Plant modernization and rationalization which is in operation for some time

is very important. The facts about the wear and tear of the equipment, change in
technological process quality improvement cannot be denied. All this needs a
marginal investment in the existing plants/units. This may also be very essential to

54
meet the production targets, customer satisfaction and markets share. All such
modernization and rationalization proposals can be classified to fall under the
following categories.

1. Technological up gradation
2. Cost reduction efficiency improvement
3. Replacements
4. Production diversification.

In most of the cases, if the equipment procured is of a very high value the
exceeding Rs 20 lakes it is necessary to treat the same as a scheme and to justify
the proposal on the ;basis of financial economic analysis wherever possible.

In some of the cases involving quality improvement etc. where it may be

difficult to quantify benefits for the purpose of financial viability, stress should be
laid on selecting the optimum cost option. In regard to cost reduction efficiency
improvement proposals, the recommendation of technological/industrial
engineering departments supported by financial analysis can be furnished.

SCIENCE AND TECHNOLOGY:

The capital investment made under science and technology for R&D
purpose should be considered under the following heads.

 R&D items/schemes envisaged for commercialization in a specified time

span
 R&D schemes for product development
 R&Dschemes dealing with new products
 Computer schemes.

EXTERNALLY FUNDED SCHEMES

Schemes can be taken up with foreign assistance from UNDP, World Bank,
KFW, other agencies.

55
 The feasibility report prepared by the company has to be first approved by
the BHEL board of directors and government before it is considered for external
funds. The board of directors and government before it is considered for external
funds. The departments involved in approving process are. Department of heavy
industry, planning commission, department of economic affairs in ministry of
finance.

BASIC STRUCTURE/LAYOUT OF TYPICAL FEASIBILITY REPORT

1. NEED FOR THE PROJECT

 Company plans/objectives
 Government policy/five year plans
 Industry details
 Examination of various alternatives and results.

2. TECHNOLOGY CONSIDERATION AND CHOICE

3. PROJECT DESCRIPTION

 site selection/availability of existing infra structure

 environmental considerations
 housing
 plant & machinery/equipment description
 construction description and materials
 man power
 transportation
 phasing of construction
 production/process technology
 input requirements

4. MARKETING DEMAND SUPPLY ANALYSIS

 Industry data
 Demand/supply position
 Market area and share
 Choice and product mix
 Selling price
 Export potential
 Marketing organization.

5. CAPITAL INVESTMENT REQUIREMENT

 Capital cost for plant and machinery, civil works, building
 Basis of estimation

56
  Other items of capital cost/interest during construction
 Incidental expenses during construction
 Working capital requirements

6. OPERATING REQUIREMENTS
 Operating costs and its basis
 Inventory
 Production build up

7. FINANCIAL AGENCIES
 Assumption made regarding depreciation, income tax, investment
allowance, interest on working capital, government loans
 Profit and loss statement
 Return on investment at various plant capacities
 Discounted cash flow analysis
 Financial statements
 Break even analysis

8. PROJECT IMPLEMENTATION PLAN

 Schedule of the activities of the project
 Project organization
 Availability of scare construction inputs
 Infra structure

9. SENSITIVITY ANALYSIS
 With respect to demand forecast
 With respect to capital costs
 With respect to input prices
 With respect to any other critical element

10. ECONOMIC ANALYSIS

 Foreign exchange savings
 Development of labour skills/employment generated
 Ancillary development
 Export
 Time cycle reduction

11. ENVIRONMENT ANALYSIS

PROGRESS REPORTING/MONITORING

57
NEED:
Once the capital budget has been approved, it has to be ensured that targets
laid down regarding physical and financial progress adhered to. Any short fall in
this regard is likely to delay the completion of project and ultimately affects
production programme. Therefore, each project is continuously monitored at
division level both physical and financially.

For major projects costing more than 5 crores, project review committees
are required to be constituted having representatives from project unit and
corporate office. These committees should meet periodically to review the
progress and recommend to take corrective actions.

REPORTING PROCEDURE:
At the begning of each financial year mid April each division should submit
a detailed month wise cash outflow plan for each scheme linked with the major
physical activities of that scheme. Complete progress of the scheme for the budget
year should be reported on this plant.

1) MONTHLY REPORTING: the capital expenditure progress should be

reported to corporate office in the first week of the every month with effect
from April.

2) QUARTER REPORTING: A part from above, quarterly report should be

submitted to corporate for the purpose of information to be sent to
government/directors and CMD on the progress status every quarter.

3) COMPLETION REPORT: In case of completed projects, a completion

report should be submitted one year after the start of commercial
production.

REPLACEMENT GUIDELINES

Substantial investments have been made in the plant and machinery in all the
BHEL manufacturing divisions. Through modernization and expansion
programes, new machine tools have been added from time to time. New projects
are underway increasing investment in plant and machinery still to a higher levee.

Capital expenditure will be considered to have been accrued on replacement if an

item equipment is declared to be unfit to perform the desired functions and similar
technologically better piece of equipment is purchased in its place to continue the
specific work.

Replacement of plant and machinery may be warranted for the following reasons:

58
 i. Due to natural wear and tear
ii. Technological obsolescence
iii. Change in service requirements
iv. Accident

PROCEDURE FOR REPLACEMENT

Each unit will have replacement committee the replacement committees should
comprise representatives from manufacturing technology, maintenance and
services, facilities engineering, finance industrial engineering management
services and central planning divisions. They are representatives from the
maintenance and services department will be the convener of this group and it
should be ensured that the convenor does not change quite often. The committee
may formulate a written guideline indicating factors which are to be taken into
account while carrying out technical appraisal. Once the need for replacement is
established and various alternatives suggested, the proposal will be submitted to
the replacement committee for taking the decision.
DISPOSAL OF EXISTING MACHINE

Replacement committee will also decide the manner in which the existing machine
tool, outside party, it will pre-empt the possibility of assigning the existing
machine to alternative views either within the division or sister divisions. Having
taken the decision on the disposal, responsibility may be fixed on suitable agencies
within the division.

GOVERNMENT GUIDELINES/POLICIES

Reference has been made in the manual to various government publications

containing guidelines/policies which are relevant/useful for the capital budgeting
exercise within BHEL and with other government departments.

PROCEFURE OF CAPITAL BUDGETING IN BDEL

The capital budgeting procedure in BDEL is done in four phases which can be
explained as follows.

FIRST PHASE

This phase involves the different aspects involved in approval of the proposal put
forth by the department concerned. The different steps involved are.

59
 1) A letter of requisition with the proposal is sent by the department concerned
to the P&D department. This letter contains the specifications of the item
and in the case of replacement the need for the replacement is to be clearly
specified along with the cost estimates.
2) This proposal is sent from P&D department to finance, industrial
engineering and maintenance and services departments for their consent.
3) Finance department looks into the financial aspects of the proposal.
4) Industrial engineering department checks whether the specifications are apt
for the proposal.
5) Maintenance and services department.

SECOND PHASE

This phase involves the following steps

1) The department which has sent the proposal gives 100% specification to the
purchase department.
2) The purchase department lists our the suppliers and quotations are invited
3) After the quotations are received the proposal with lease cost is opted for,
also keeping in view the quality of the item
4) The item is then ordered
5) The item ordered for is received by the stores department
6) The item is unpacked by the stores department and the physical effects if
any are checked.
7) If the item is satisfactory, it is installed in the right place.

THIRD PHASE

This phase involves the following steps

1) A representative of the supplier gives demonstration with respect to the
technical aspects and usage of the item.
2) The item is then put to use
3) From time to time, steps are taken for its proper maintenance.

FOURTH PHASE

If the machine becomes worn out or obsolete, it is dispose off for replacement.

60
The process is described above is continuous cycle. It can be represented
diagrammatically as follows.

APPROVAL

DISPOSAL PROCUREMENT

PUT TO USE

OBSERVATIONS

1) The company has generally maintained proper records showing particulars

including quantities details and situation of fixed assets. The management
has generally carried out the physical verification of a portion of the fixed
assets in accordance with their phased program of physical verification,
which is considered reasonable having regard to the size of the company
and nature of its business and no serious discrepancies have been noticed.
2) None of the fixed assets have been revalued during the year
3) The stocks of stores, spare parts and raw materials lying at the units in case
of manufacturing divisions, have been verified under perpetual inventory
system. As regards the service divisions. The stores spare parts are
purchased for immediate consumption and unused stock have been
physically verified at the year end. The materials purchased for research
and development projects are directly charged off. The stock of finished
goods is verified at the year end with reference to the inspection reports and
production reports of planning department of divisions. Dispatches with
customers, as informed are verified in the process of erection assembly, but
no confirmation is received from the customers. However, in regard to
stocks lying with third parties, responses were received from the customers.
4) The procedure of physical verification of stock followed by the
management is generally reasonable and adequate in relation to the size of
the company and the nature of its business barring in one unit.
5) As per information given and explanations provided, the company has not
taken any loan either from firms or other parties listed in the register.

61
 6) As per information given and explanations provided, the company has not
granted any loans secured or unsecured to firms and other parties listed in
the register.
7) There are adequate internal control procedures commensurate with the size
of the company and the nature of its business for the purchase of stores, raw
materials including components, plant and machinery equipment and other
assets for sale of goods. As per the information given and explanations
provided, the company has not made any purchase of goods, materials and
services in pursuance of contract or agreement of Rs.50,000/- or more,
during the year in respect of each party listed in the register.
8) The company has reasonable system of determination of unserviceable
stores, raw materials and finished goods. Adequate provision has been
made in the accounts for loss arising in respect of items so determined.
9) The internal audit system of the company in certain units is not
commensurate with the size and nature of their business.
10)The company has reasonable system of recording receipts, issues,
consumption of material stores and allocating material consumed to the
relative jobs commensurate with its size nature of its business.
11)The company has reasonable system of allocation man-power utilized to the
relative jobs commensurate with its size and the nature of its business.

STEPS INVOLVED:

i. Identifying the need of the project

ii. Preparation of project report with respect to
 Utilization
 Efficiency
 Capacity of the particular project
 Future projected market
ii. Preparation of feasibility report based on IRR & NPV

62
CHAPTER V

63
 DATA ANALYSIS AND
INTERPRETATION

DATA ANALYSIS AND INTERPRETATION

As advised by the finance department. I had been to the planning & development
department, which looks after the capital budgeting decisions for collection of data
and had a talk with the officials engaged in the capital budgeting process.

64
I am fortunate enough to get a live project on the following topics

Procurement of thermo-hydro graph recorder

The data that has been collected from the planning and development department
has been recast by me to present the same in an appreciable and easily
understandable manner.

The procedure with regard to the capital budgeting followed by BLUE DART
EXPRESS LTD detail with the help of the live case.

CASE I

PROPOSAL: New services centres

SPECIFICATION OF : New service center

1. Building
2. Furniture
3. Systems

DESCRIPTION s: Its can increases the sales by the proposal of new services
center increasing the number of services centres at different locations

PRESENT PRACTICE

A customer looking more comfortable,by brand image if we set-ups the services

centers the nearest and busy areas the customer can feel more comfortable.

65
JUSTIFICATION

The Location Branch manger gives the jusitification about the new services center
and he explains the advantages of new service centers.

Schedule for implementation: 6 months from the time of approval.

PROJECT BASIC DETAILS:

1. CAPITAL EMPLOYED 2.1 MILLION (PER MONTH )

2. LIFE OF THE PROJECT (ASSUMED) 5 YEARS

3. SELLING PRICE PER KG 900 RS

4. CONTRIBUTION RS/KG 430 RS

5. RATE OF DEPRECIATION 15%

6. NET INCOME/YEAR 11.8 MILLION

7. COST OF CAPITAL 10%

8. METHOD OF DEPRECIATION SLM

9. RATE OF INCOMETAX 35%

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 COMPUTATION OF CASH INFLOWS

PARTICULARS
AMOUNT (RS)
CASH FLOW BEFORE TAX
AND DEPRECIATION
(CFBT) 11800000

LESS:DEPRECIATION @ 15% 1770000

PBT 10030000

LESS:TAX @ 35% 3510500

PAT 6519500

ADD: DEPRECIATION 1770000

CFAT 8289500

PAY BACK PERIOD (PBP) :

PAY BACK PERIOD = INITIAL INVESTMENT

CONSTANT ANNUAL CASH INFLOWS

67
 = 25200000
8289500

= 3.04 YEARS

INTERPRETATION:

The cash inflows in this project are constant as such the above formulae has been
applied.The pay back period of this project is 3.04 years.

AVERAGE RATE OF RETURN (ARR) ;

Since the profit after tax is constant , as such the average profit after tax is 6519500

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AVG INVESTMENT = ½[INITIAL INVESTMENT + INSTALLATION CHARGES – SALVAGE]+SALVAGE
VALUE

=1/2[25200000 + 0 –0]+0

=12600000

ARR = AVERAGE PAT * 100

AVERAGE INVESTMENT

= 6519500 *100
12600000

=51.74%

INTERPRETATION:

The average rate of return from the project is 51.74%

DISCOUNTED PAY BACK PERIOD :

CASH
YEAR INFLOW PVAF@10% PV OF CASH INFLOW
1-5 yrs 8289500 3.791 31425495

69
 PBP = INITIAL INVESTMENT

CONSTANT ANNUAL CASH INFLOWS

= 25200000
31425495
=0.80 YEARS

INTERPRETATION:
The initial investment can be recovered from 0.80 years

NET PRESENT VALUE (NPV);

As the cash flows are constant,we can calculate the NPV of the project by applying the
following formulae:

70
PV OF CASH INFLOW = CONSTANT ANNUAL * PV OF ANNUITY FACTOR
CASH INFLOW @10% AGAINST 5 YEARS

= 8289500 * 3.791

= 31425495

NPV = PV OF CASH INFLOW – PV OF CASHOUTFLOW

= 31425495 – 25200000

= Rs6225495

INTERPRETATION:

It is desirable to accept the project as it is generating a positive NPV of Rs 6225495

PROFITABILITY INDEX (PI) OR BENEFIT COST RATIO (BCR);

PI = PV OF CASHINFLOW

71
 PV OF CASH OUTFLOW

= 31425495
25200000

=1.25%

INTERPRETATION:

The project have a profitability index of 1.25%

INTERNAL RATE OF RETURN (IRR):

As the annual cash inflows are constant we need to calculate IRR by applying the actual
pbp formulae instead of fake pay back period.

72
PAY BACK PERIOD = INITIAL INVESTMENT

CONSTANT ANNUAL CASH INFLOWS

= 25200000
8289500

=3.04 YEARS

Locate 2 discount factors in present value of annuity table against year5 such that one
should be higher then 3.04 and other lower then 3.04.

AT 19%-------------- 3.058
AT 20%-------------- 2.991

IRR LIES BETWEEN 19 TO 20%

IRR = rl + DFRL - PB *Δr

DFRL – DFRH

Where
RL = LOWER RATE =19%

DFRL = DISCOUNT FACTOR AT LOWER RATE=3.058

73
PB = PAY BACK PERIOD=3.04

DFRH = DISCOUNT FACTOR AT HIGHER RATE=2.991

Δr =DIFFERENCE IN THE DISCOUNT RATE=20 – 19 =1

IRR = 19 + 3.058 –3.04 *1

– 2.991

= 19 + 0.018 *1
0.067

= 19 + 0.268

=19.27%

INTERPRETATION:
The IRR of this project is 19.27%

SUMMARY

PARTICULARS COMPUTATIONS

PBP 3.04 YEARS

74
 ARR 51.74%
0.80 YEARS
DPBP

NPV 6225495

PI 1.25%

IRR 19.27%

PROJECT-II

PROJECT BASIC DETAILS:

1. CAPITAL OUTLAY/ CAPITAL EMPLOYED 21,600,000

75
2. LIFE OF THE PROJECT 10 YEARS

3. SELLING PRICE PER KG

 1 YEAR = 1000 RS/KG
 2 YEAR =700 RS/KG
 3 YEAR= 1350 RS/KG

4. TOTAL COST PER KG

 1 YEAR=812 RS/KG
 4 YEAR=650 RS/KG
 3-10 YEAR=1137 RS/KG

5. CONTRIBUTION PER KG
 1 YEAR= 188 RS/KG
 2 YEAR= 50 RS/KG
 3-10 YEAR= 213 RS/KG

6. SALVAGE (5% OF INVESTMENT)

7. COST OF CAPITAL 9%

8. REPAIRS AND MAINTAINANCE 41667

9.NUMBER OF UNITS PRODUCED PER YEAR

76
  1 YEAR =11000 UNITS
 2 YEAR =11000 UNITS
 3-10 YEAR =17000 UNITS

10. RATE OF INCOME TAX 35%

12. DEPRECIATION SLM

COMPUTATION OF CASH INFLOWS

PARTICULARS 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
SALES (UNITS)
11000 11000 17000 17000 17000 17000 17000 17000 17000 17000
SELLING PRICE(P.U)
1000 700 1350 1350 1350 1350 1350 1350 1350 1350
SALES (RS)
11000000 7700000 22950000 22950000 22950000 22950000 22950000 22950000 22950000 22950000
LESS: COST 8932000 7150000 19329000 19329000 19329000 19329000 19329000 19329000 19329000 19329000

77
PBDT
2068000 550000 3621000 3621000 3621000 3621000 3621000 3621000 3621000 3621000
LESS:DEPRECIATIO
N
2052000 2052000 2052000 2052000 2052000 2052000 2052000 2052000 2052000 2052000
PBT
16000 -1502000 1569000 1569000 1569000 1569000 1569000 1569000 1569000 1569000
LESS:TAX@35%

5600 NIL 549150 549150 549150 549150 549150 549150 549150 549150
PAT
10400 -1502000 1019850 1019850 1019850 1019850 1019850 1019850 1019850 1019850
ADD:DEPRECIATION
2052000 2052000 2052000 2052000 2052000 2052000 2052000 2052000 2052000 2052000
CFAT (PAT+DEP)

2062400 550000 3071850 3071850 3071850 3071850 3071850 3071850 3071850 3071850

PAY BACK PERIOD (PBP) :

The annual cash inflows are not constant so we calculate cumulative cash inflows in
order to compute the pay back period.
CUMULATIVE CASH
YEAR CASH INFLOWS INFLOWS
1 2062400 2062400

78
 2 550000 2612400
3 3071850 5684250
4 3071850 8756100
5 3071850 11827950
6 3071850 14899800
7 3071850 17971650
8 3071850 21043500
9 3071850 24115350
10 3071850 27187200

Initial investment = 21600000

Amount received upto the end of 8th year = 21043500
Amount to be received in 9th year = 556500
(21600000 – 21043500)
Cash flows after tax (CFAT) in 9th year = 30718750

PBP = 8 + 556500
3071850
= 8 + 0.181
= 8.18 years

INTERPRETATION:
The payback period for this project is 8.18 years.

AVERAGE RATE OF RETURN (ARR) :

ARR = AVERAGE PAT * 100

AVERAGE INVESTMENT

79
AVERAGE PAT = TOTAL PAT
NUMBER OF YEARS

AVERAGE INVESTMENT = ½[INITIAL INVESTMENT + INSTALLATION CHARGES –

SALVAGE]+SALVAGE VALUE

AVERAGE PAT = 6667200

10

= 666720

AVERAGE INVESTMENT=1/2[21600000 +41667 – 1080000] +1080000

=1/2[20561667] +1080000

=10280833.5 +1080000

= 11360833.5

ARR = 666720 *100

11360833.5

= 5.87%

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 INTERPRETATION:
The ARR of this project is 5.87%

DISCOUNTED PAY BACK PERIOD :

COMPUTATION OF DISCOUNTED PAY BACK PERIOD

YEAR CASH INFLOWS PV@9% PV OF CASH INFLOW CUMULATIVE CASH INFLOW
1 2062400 0.917 1891221 1891221
2 550000 0.842 463100 2354321
3 3071850 0.772 2371468 4725789
4 3071850 0.708 2174870 6900659

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 5 3071850 0.65 1996703 8897362
6 3071850 0.596 1830823 10728185
7 3071850 0.547 1680302 12408487
8 3071850 0.502 1542069 13950556
9 3071850 0.46 1413051 15363607
10 3071850 0.422 1296321 16659928

INTERPRETATION:

The pay back period is more than 10 years as the initial investment cannot be recouped
until 10 years.

NET PRESENT VALUE (NPV) :

NPV = PRESENT VALUE OF CASH INFLOWS - PRESENT VALUE

OF CASH OUTFLOW

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 PV OF CASH
YEAR CFAT PV @9% INFLOW
1 2062400 0.917 1891220.8
2 550000 0.842 463100
3-10 3071850 4.659 14311749.15

PV OF CASH INFLOWS 16666069.95

NPV = 16666069.95 - 21600000

= - 4933930.05
INTERPRETATION:

The NPV of the project is –4933930.05

BENEFIT COST RATIO (BCR)

(OR)
PROFITABILITY INDEX (PI) :

PI = PRESENT VALUE OF CASH INFLOWS

PRESENT VALUE OF CASH OUTFLOWS

PI = 16666069

83
 21600000

PI = 0.77%

INTERPRETATION:

The profitability index generated by this project is 0.77%.

INTERNAL RATE OF RETURN (IRR) :

In this project as the cash inflows are not constant we calculate fake pay back
period.

FAKE PBP = INITIAL INVESTMENT

AVERAGE CASH INFLOWS

AVERAGE CASH INFLOWS = TOTAL CASH INFLOWS

NUMBER OF YEARS

= 27187200

84
 10

= 2718720

FAKE PBP = 21600000

2718720

= 7.94

Locate a discount factor in pv of annuity table nearest to 7.81 against year 10

At 5% - 7.722

Therefore our starting rate is 5%

YEAR CASH INFLOW PV@5% PV OF CASH INFLOW

1 2062400 0.952 1963404.8
2 550000 0.907 498850
3 - 10 3071850 5.863 18010256.55

PV OF CASH INFLOWS 20472511.35

To increase the pv of cash inflow ,we decrease the rate.Let the new rate be 4%

YEAR CASH INFLOW pv@4% PV OF CASH INFLOW

1 2062400 0.962 1984028.8
2 550000 0.925 508750
3 - 10 3071850 6.225 19122266.25

PV OF CASH INFLOWS 21615045.05

PV OF CASH OUTFLOW = RS21600000

PV OF CASH INFLOW @4% =RS 21615045.05
PV OF CASH INFLOW @5% = RS 20472511.35

85
Therefore IRR lies between 4 – 5%

IRR = rl + pvcfat - pvc *Δr

Δ pv

WHERE rl = lower rate of discount = 4%

Pvcfat=pv of cash inflow at lower rate = 21615045.05

Pvc = pv of cash outflow =21600000

Δpv = difference in pv of cash inflow

= 21615045.05 – 20472511.35
= 1142533.7

Δr = difference in discounting rate

= 4 –5
=1
IRR = 4 + 21615045.05 - 21600000
* 1
1142533.7

= 4 + 401768.85 *1
1142533.7

= 4 + 0.013

= 4.013%

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INTERPRETATION:

The Internal Rate OF Return of this project is 4.013%.

SUMMARY

PARTICULARS COMPUTATIONS

PBP 8.18 YEARS

ARR 5.87%

DPBP 11 YEARS

NPV -4933930.05

PI 0.77%

IRR 4.013%

87
 SUMMARY OF THE PROJECTS

PROJECT – I PROJECT- II
LIFE – 5yrs LIFE – 10yrs
CASH OUTLAY – 2,52,00,000 CASH OUTLAY –2,16,00,000
COST OF CAPITAL –10% COST OF CAPITAL –9%

TECHNIQUE COMPUTATIONS TECHNIQUE COMPUTATIONS

PBP 3.04 YEARS PBP 8.18 YEARS

ARR 51.74% ARR 5.87%

DPBP 0.80 YEARS DPBP NILL

NPV 6225495 NPV -4933930.05

PI 1.25% PI 0.77%

IRR 19.27% IRR 4.013%

88
 FINDINGS AND SUGGESTION
 Project –1 is having a life of 5 years with cost of capital of 10% and total
investment of Rs.2,52,00,000

 The PBP of the project is 3.04yrs and the discounted payback period
is0.80yrs which is less then the life of the project i.e. 5 years.
 The ARR of the project is more then 30% i.e. 51.74%
 The NPV of the project is more then “0” i.e. 6225495
 The IRR is also more then the cost of capital i.e. 19.27% where as the cost
of capital of the project is just 10%
 The PI is more then 1 i.e. 1.25%

In consideration with the above points it can be said that the project can be
accepted as it is satisfying all the required conditions.

 Project –2 is having a life of 10 years with cost of capital of 9% and total

investment of Rs.2,16,00,000

89
 The PBP of the project is 8.18yrs and where as the discounted payback
period of the project is more then its life i.e. 10 years.
 The ARR of the project is less then 10% i.e. 5.87%
 The NPV of the project is negative i.e. –4933930.05 but where as the
investment of the project is Rs.21600000
 The IRR of the project is4.013% which is less then the cost of capital
which is 9%.
 The PI of the project is less then 1 i.e. 0.77%

By considering the above computations it can be said that the project has to be
rejected. But the company wants to continue the project because of strategic
reasons. They want to continue the project in order to avoid the risk of
outsourcing.

CHAPTER IV

90
BIBLIOGRAPHY

91
 BIBLIOGRAPHY

Financial management - I.M. Pandey (9 th Edition)

Financial management - M.Y.Khan, P.K.Jain (2nd Edition)

Financial management - Prasanna Chandra

Financial management - Evgene.F.Brighan

Capital Budgeting - Manual of BLUE DART

EXPRESS LTD.

Web sites - www.blue dart express.com

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93