Capital Budgeting

Pay back Period

1. A project costs Rs.1,00,000 and yields an annual cash flow of Rs.20,000 or 8 years.
Calculate its pay back period.
2. A project costs Rs.5,00,000 and yields an annual cash flow of Rs.25,000. Calculate its
pay back period.
3. X ltd has two investment proposals A and B, under consideration. Project A costs
Rs.50000 and Project B costs Rs.75000. Both have 5 years of life with uniform cash
inflows of Rs.10000 and Rs.14000 p.a from A and B respectively
4. Determine the payback period for a project which requires a cash outlay of Rs.20,000
and generates cash inflows of Rs.4000, Rs.8000, Rs.6000 and Rs.4000 in the first,
second, third and fourth year respectively.
5. Calculate the pay back periods of the following projects each requiring a cash outlay of
Rs.1,00,000. Suggest which projects are acceptable if the standard pay back period is 5
years.
Year Cash Flows
Project A Project B Project C
1 30000 30000 10000
2 30000 40000 20000
3 30000 20000 30000
4 30000 10000 40000
5 30000 5000 -
6. There are two projects X and Y. Each project requires an investment of Rs.20,000. You
are required to rank these projects according to the pay back method from the following
information:
Net profit before depreciation and after tax
Year ProjectX Project Y
1 1000 2000
2 2000 4000
3 4000 6000
4 5000 8000
5 8000 -
7. A project cost Rs.5,00,000 and yields annually a profit of Rs.80,000 after depreciation
@12% but before tax of 50%. Calculate its pay back period.
8. X Ltd. Is producing articles mostly by manual labour and is considering to replace it by a
new machine. There are two alternative models M and N of the new machine. Prepare a
statement of profitability showing the pay back period from the following information:
 Machine M Machine N
Estimated life of machine 4 years 5 years
Cost of machine Rs.90,000 Rs.1,80,000
Estimated savings in scrap 5,000 8,000
Estimated savings in direct wages 60,000 80,000
Additional cost of maintenance 8,000 10,000
Additional cost of supervision 12,000 18,000

9. A Ltd. Company is considering the purchase of a new machine which will carry out
some operations performed by labour. X and Y are alternative models. Prepare a
statement of profitability showing the pay back period from the following information:
Machine X Machine Y
Estimated life of machine 5 years 6 years
Cost of machine Rs.150,000 Rs.2,50,000
Cost of Indirect Materials Rs.6000 Rs.8000
Estimated savings in scrap 10,000 15,000
Estimated savings in direct wages:
Employees not required 150 200
Wages per employee Rs.600 Rs.600
Additional cost of maintenance 19,000 27,000

Improvements in traditional approach

10. For each of the following projects compute (i) pay back period (ii) post-back profitability
and (iii) post – back profitability index:
(a) Initial Outlay Rs.50,000
Annual cash inflow (After tax but before depreciation) - Rs.10,000
Estimated life - 8 years
(b) Initial Outlay Rs.50,000
Annual cash inflow (After tax but before depreciation)
First 3 years - Rs.15,000
Next 5 years – Rs.5000
Estimated life - 8 years
Salvage – Rs.8000
11. There are two alternative machines. You are asked to find both payback period and post
back period
Machine X Machine Y
Cost of the Machine (Rs) 25000 42000
Estimated Life (Years) 8 10
Net Earnings p.a (Rs.) 5000 6000
 12. Calculate discounted pay-back period from the information given below:
Cost of Project – Rs.6,00,000
Life of the project – 5 years
Annual Cash inflow – Rs.2,00,000
Cut off rate 10%
Average Rate of Return
13. A project requires an investment of Rs.5,00,000 and has a scrap value of Rs.20000 after five
years. It is expected to yield profits after depreciation and taxes during the five years amounting
to Rs.40000, Rs.60000, Rs.70000, Rs.50000 and Rs.20000 Calculate the average rate of return on
the investment.
14. Calculate the average rate of return for projects A and B from the following:
Project A Project B
Investments Rs.20000 Rs.30000
Expected Life 4 5
Net Income after interest, Dep
and tax:
Year 1 2000 3000
2 1500 3000
3 1500 2000
4 1000 1000
5 - 1000

Net Present Value

15. From the following information calculate the net present value of the two projects and suggest
which of the two projects should be accepted assuming a discount rate of 10%
Project X Project Y
Initial investment Rs. 20,000 Rs.30,000
Estimated Life 5 years 5 years
Scrap value Rs.1,000 Rs.2,000

The profits before depreciation and after taxes (cash flow) are as follows:
Year 1 Year 2 Year 3 Year 4 Year 5
Rs. Rs. Rs. Rs. Rs.

Project X 5,000 10,000 10,000 3,000 2,000

Project Y 20,000 10,000 5,000 3,000 2,000
16. A company has an investment opportunity costing Rs.40000 with the following expected net cash
flow after taxes and before depreciation
Year Net Cash Flow
1 7000
2 13000
3 10000
4 8000
5 10000
 17. No project is acceptable unless the yield is 10%. Cash inflows of a certain project alongwith cash
outflows are given below:
Years outflows inflows
Rs. Rs.
0 1,50,000 –
1 30,000 20,000
2 30,000
3 60,000
4 80,000
5 30,000

The salvage value at the end of the 5th year is Rs.40, 000. Calculate net present value.

Profitability Index Method

18. The initial cash outlay of a project is Rs.50000 and it generates cash inflow of Rs.20000,
Rs.15000, Rs.25000 and Rs.10000 in four years. Using present value index method, appraise
profitability of the proposed investment assuming 10% rate of discount.
19. A company is considering an investment proposal involving an initial cash outlay of
Rs20,00,000. The proposal has an expected life of 7 years and zero salvage value. As a required
rate of return of 12%, the proposal has a profitability index of 1.182. Calculate the annual cash
inflows. The present value of an annuity of Re.1 for 7 years at 12% discount is 4.5638.
20. The data in respect of these two are given as below:
Cash Outlay 10000 50000
Net Inflows:
1 5000 10000
2 5000 15000
3 3000 25000
4 2000 25000
5 1500 21000

Calculate Pay back Period, NPV(10%) and PI

21. A company is considering an investment proposal to purchase a machine costing Rs.125000. the
life of a machine is 5 yrs. Tax rate 50%. The firm uses straight line mehod for depreciation. The
estimated cash flows before tax after depreciation (CFBT) are as follows:
1 30000
2 35000
3 45000
4 50000
5 75000
 22. Initial Outlay Rs.60,000
Estimated life - 4 years
Estimated Annual cash inflow
1st year - Rs.15,000
2nd year – Rs.20,000
3rd year – Rs.30,000
4th year – Rs.20,000
Calculate Internal rate of return.

23. Initial Outlay Rs.50,000

Estimated life - 5 years
Estimated Annual cash inflow
1st year - Rs.20,000
2nd year – Rs.15,000
3rd year – Rs.10,000
4th year – Rs.15,000
5th year- 8000
Calculate Internal rate of return.

24. The project cost Rs.5,00,000 and will have a life of 5 years and no salvage value. The comany’s
tax rate is 50% and uses straight line method of depreciation
Years 1 2 3 4 5
Net Income before 1,00,000 1,10,000 1,40,000 1,50,000 2,50,000
Dep & Tax

Calculate payback period, Average rate of return, and NPV at 12%

25. X Ltd has under consideration two mutually exclusive proposals for the purchase of new
equipment.
Particulars Machine X Machine Y
Net cash Outlay 1,00,000 75,000
Scrap Value Nil Nil
Life (years) 5 5
PBDT
1st year 25000 18000
2 30000 20000
3 35000 22000
4 25000 20000
5 20000 16000

PBDT – Profit before depreciation and Tax.

Assuming the tax rate to be 50% suggest the management the best alternatives using PV factor
@10% .Calculate pay back period and NPV.
 26. XYZ is considering an investment proposal to install a new machine costing Rs.1,00,000. The
expected earnings after taxation are as follows
Year Inflow after tax
1 30,000
2 40,000
3 50,000
4 30,000
5 20,000
Evaluate the project under Pay back period, ROI, NPV and PI.
27. Good luck intends to implement a project costing Rs.50,000. The useful life of the project is 5
years. The expected cash inflows(Rs) of the projects are 20,000;12,000;15000;8000 and 5000.
Calculate the IRR.
28. From the following particulars relating to a project, calculate the R. The cost of the project is
Rs.50,000. The life of the project is 5 yrs and the following are the expected cash inflows of the
project.
Year cash Inflows
1 20,000
2 15000
3 10,000
4 15,000
5 8000

29. Five years back X Ltd acquired a machinery having life of 10 years for 500000 and has
depreciated to Rs.250000 with no salvage value. The company wants to replace this machine by
a machine costing Rs.8,00,000. The installation of new machine having a life of 6 years with a
scrap value of Rs.80000 and this results in a reduction of operating expenses to the extent of
Rs.90000 for 6 years. Tehe old machine can be sold for Rs.1,50,000. The cost of capital is 10%
The company is in 35% tax bracket. Under NPV method state whether old machine can be
replaced by new machine ? depreciation charged on straight line basis.

30. Rank the following projects in order of their desirability according to the pay back period
method and the NPV method (10%)
Project Initial Outlay (Rs.) Annual Cash Life in Years
Inflow(Rs.)
A 10,000 2500 5
B 8000 2600 7
C 4000 1000 15
D 10,000 2400 20
E 5000 1125 15
F 6000 2400 6
G 2000 1000 2
31. The management of Bhrath Ltd intends to purchase a machine costing Rs.500000. the economic
life of the machine is 5 years. Additional Working capital of Rs.100000 was introduced at the end
of first year. The additional working capital was fully recovered at the end of 5th year. The
company’s capaitalization rate is 10%. The company is in 50% tax bracket. The company’s profit
before depreciation and tax are as under:
Year PBDT
1 120000
2 140000
3 190000
4 250000
5 250000
Calculate NPV of asset.
32 XYZ ltd can make either of the two investments at the beginning of 2016. Assuming the rate of
return of 10% p.a., evaluate the investment proposal by: pay back period, Average rate of return
method, Discounted cash flow method (NPV) and PI
Project X Project Y
Cost of the Investment Rs.25000 Rs.30000
Life 5 years 6 years
Net Income Rs (After
Depreciation and Tax)
1 600 3800
2 1000 4500
3 2500 5000
4 3000 4500
5 3500 5500
6 -- 6000

It is estimated that each of the alternative projects will require an additional working capital of
Rs.2000 which will be received back in full after the expiry of each of the project life.
Depreciation is provided under straight line method.
33 S Ltd is planning in a project that cost Rs.400000. tax rate 55%. Company uses the straight line
method of depreciation. The proper cash inflow before taxes is as follows:
Year 1 2 3 4 5
CFBDT 100000 100000 150000 150000
Determine the following: Pay back period (15%); ARR; NPV 15% discount rate and PI .

Capital Rationing
S Ld has Rs.10,00,000 allocated for capital budgeting purposes. The following proposals and
ascertained profitability indexes have been determined:
Project Amount(Rs.) Profitability Index
1 300000 1.22
2 150000 0.95
3 350000 1.20
4 450000 1.18
5 200000 1.20
6 400000 1.05

Which of the above investments should be undertaken? Assume that projects are indivisible and
there is no alternative use of the money allocated for capital budgeting.