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CHAPTER I INTRODUCTION 1
Transcript

CHAPTER I

INTRODUCTION

1

INTRODUCTION

The term Capital Budgeting refers to long term planning for proposed Capital outlays and their financing. Thus it includes both rising of long term funds as well as their utilization. It may this be defined as the firm's formal process for the acquisition and investment of capital. It is the decision making process by which the firm evaluates the purchase of major fixed assets.

It involves firm's decision to invest it current funds for addition, disposition, modification and replacement of long-term or fixed assets. however, it should be noted that investment in current assets necessitated on account of investment in a fixed assets is as to be taken as a capital budgeting decision.

Capital Budgeting is a many-sided activity it includes searching for new and more profitable investment proposals, Investigating , Engineering and Marketing considerations to predict the consequences of accepting the investment and making economic analysis to determine the profit potential of each investment proposal. Its basic feature can be summarized as follows.

It has the potentiality of making large anticipated profits.

It involves high degree of risk.

It involve a relatively long-time period between the initial outlay and the anticipated return.

On the basis of the above discussion it can be concluded that Capital Budgeting consists in planning the development of available capital for the purpose of maximizing the long term profitability.

Capital Budgeting is investment decision making as to whether a project is worth undertaking. Capital Budgeting is basically concerned with the justification of capital expenditures. Current expenditures are short-term and are completely written off in the same year the expenses occur.

2

MEANING:

Capital Budging decision refers to assets that are in operations and yield a return over a period of time, usually exceeding one year. It is a long term investment decision involving huge capital expenditures.

The main characteristics of a capital expenditure are that the expenditure is incurred at one point of time where as benefits of the expenditure are realized at different points of time in future.

Capital Budgeting process involves planning, availability and controlling, allocation and expenditure of long term investment funds.

THE FOLLOWING ARE SOME OF THE EXAMPLES OF CAPITAL EXPENDITURE:

Cost of acquisition of permanent assets such as land and building plant and machinery, goodwill etc.

Cost of addition, expansion, improvement or alteration in the fixed assets.

Cost of replacement of permanent assets.

Research and development project costs etc.,

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DEFINITION:

Capital Budgeting is the long term planning for making and financing proposed capital outlays

-Charles T.Horngreen

Capita Budgeting is concerned with planning and development of available capital for the purpose of maximizing the long term profitability of the concern.

-Lynch

Capital Budgeting involves a current investment in which the benefits are expected to be received beyond one year in the future@. It suggests that the investment in any asset with a file of less than a year falls into realm of working capital management, whereas ably asset with a like more than one year involves capital budgeting.

-James C.Van Horne.

Capital Budgeting involves the entire process of planning expenditures whose returns are expected to extend beyond one year.

- Westone and Brigham

4

NEED FOR THE STUDY:

Capital Budgeting are vital to an organization as they include the decisions as to:-

Whether funds should be invested in the long term project as setting of an Industry, purchase of Plant & Machinery etc.

To analyze the proposal for expansion or creating additional capacities.

To decide the replacement of permanent asset such as Building & Equipment.

To make financial analysis of various proposals regarding capital investment so as to choose the best out of many alternative proposals.

Heavy investment in capital projects

Long term implications for the firm

Irreversible decisions andComplicated in the decision making.

5

OBJECTIVES OF THE STUDY

To understand the need of organization, to identify and in high quality capital projects.

To analyze the expansion of business by increasing production and quality by acquiring more fixed assets and the up to date machinery.

To evaluate the financial investments associated with the replacement of existing assets soar the purchase of new assets.

Budget serve has a ''Blue print'' of the desired plan of action.

Budget helps in reduction of wastage and losses by revealing them in time for corrective action.

Budget serves as the benchmark for the controlling on going operation.

Budgeting facilitate centralized control with delegated authority and respectability.

6

SCOPE OF THE STUDY

PRIMARY DATA

Interaction with the planning and development department employees.

Interaction with finance employees.

SECONDARY DATA

Capital budgeting manual of HAERITAGE

Accounting manuals of HAERITAGE

Broachers

House magazines of unit

News of papers

RESEARCH METHODOLOGY

Research methodology implies a systematic attempt by the researcher to obtain knowledge about subject understudy. This is systematic way to show the problem and it is important components of the study without which a research may not able obtain the facts and figures from employees.

The primary data needed for the project analysis has been collected through unstructured interviews and discussions conducted with the finance department. The secondary sources of data are annual reports, brochures, news papers and web sources

7

DATA BASE

This study will be based on both primary and secondary data.

PRIMARY DATA

The data is collected directly from the organization people. It is an important data related to financial aspects of the company.

It is in the form of questionnaires, interviews and discussions with employees.

SECONDARY DATA

Data which are not originally collected but rather obtained published or unpublished sources are known as secondary data.

Unpublished sources like magazines past research, reports company manuals and its reports for the year

The collected data is presented in table format. Investment decisions play a dominant role in setting the fame work for managerial decisions.

8

LIMITATIONS OF THE STUDY

The period of the study is limited.

Financial matters are sensitive in nature, the same could not acquire easily.

It may be due to restrictions imposed by management.

The sources of data are based on cash flows.

The study was conducted with the data available and analysis was made accordingly.

Due to the confidential matters of financial records, the data is not exposed so the study may not be detailed and full fledged.

Since the study is based on the financial data that are obtained from the company's financial statements, the limitations of financial statements shall be equally applicable.

Data is collected for five projects which is limited.

The study is confined to secondary data source and figures are taken from reports and suggestions of various accountants.

Capital budgeting is the planning process used to determine a firm’s expenditure on

assets whose cash flows are expected to extend beyond one year such as machinery,

equipments investments etc .It is the process of analyzing and selecting investment

projects whose cash flows are expected to extend beyond one year such as research

and development of the project

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CHAPTER II

REVIEW OF LITERATURE

10

MEANING:

The process through which different projects are evaluated is known as capital

budgeting

Capital budgeting is defined “as the firm’s formal process for the acquisition and

investment of capital. It involves firm’s decisions to invest its current funds for

addition, disposition, modification and replacement of fixed assets”.

“Capital budgeting is long term planning for making and financing proposed capital

outlays”- Charles T Horn green

“Capital budgeting consists in planning development of available capital for the

purpose of maximizing the long term profitability of the concern” – Lynch

The main features of capital budgeting are

a. Potentially large anticipated benefits

b. A relatively high degree of risk

c. Relatively long time period between the initial outlay and the anticipated return.

- Oster Young

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IMPORTANCE OF CAPITAL BUDGETING

Capital budgeting offers effective control on cost of capital expenditure projects.

It helps the management to avoid over investment and under The success and

failure of business mainly depends on how the available resources are being

utilized.

Main tool of financial management

All types of capital budgeting decisions are exposed to risk and uncertainty.

They are irreversible in nature.

Capital rationing gives sufficient scope for the financial manager to evaluate

different proposals and only viable project must be taken up for investments.

STEPS IN CAPITAL BUDGETING PROCESS

Capital budgeting process involves the following

1. Project generation: Generating the proposals for investment is the first step.

The investment proposal may fall into one of the following categories:

Proposals to add new product to the product line,

Proposals to expand production capacity in existing lines It is proposals to reduce the

costs of the output of the existing products without altering the scale of operation.

Sales campaigning, trade fairs people in the industry, R and D institutes, conferences

and seminars will offer wide variety of innovations on capital assets for investment.

12

2. Project Evaluation: it involves two steps

Estimation of benefits and costs: the benefits and costs are measured in terms of cash

flows. The estimation of the cash inflows and cash outflows mainly depends on future

uncertainties. The risk associated with each project must be carefully analyzed and

sufficient provision must be made for covering the different types of risks.

Selection of appropriate criteria to judge the desirability of the project: It must be

consistent with the firm’s objective of maximizing its market value. The technique of

time value of money may come as a handy tool in evaluation such proposals.

3. Project Selection: No standard administrative procedure can be laid down for

approving the investment proposal. The screening and selection procedures are different

from firm to firm.

4. Project Evaluation: Once the proposal for capital expenditure is finalized, it is the

duty of the finance manager to explore the different alternatives available for acquiring

the funds. He has to prepare capital budget. Sufficient care must be taken to reduce the

average cost of funds. He has to prepare periodical reports and must seek prior

permission from the top management. Systematic procedure should be developed to

review the performance of projects during their lifetime and after completion.

The follow up, comparison of actual performance with original estimates not only

ensures better forecasting but also helps in sharpening the techniques for improving

future forecasts.

Factors influencing capital budgeting

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Availability of funds

Structure of capital

Taxation policy

Government policy

Lending policies of financial institutions

Immediate need of the project

Earnings

Capital return

Economical value of the project

Working capital

Accounting practice

Capital budgeting (or investment appraisal) is the planning process used to determine

whether an organization's long term investment such as new machinery, replacement

machinery, new plants, new products, and research development projects are worth

pursuing. It is budget for major capital, or investment, expenditures.

Capital budgeting is a process used to determine whether a firm’s proposed investments

or projects are worth undertaking or not. The process of allocating budget for fixed

investment opportunities is crucial because they are generally long lived and not easily

reversed once they are made. So we can say that this is a strategic asset allocation process

and management needs to use capital budgeting techniques to determine which project

will yield more return over a period of time.

Capital budgeting is vital in marketing decisions. Decisions on investment which take

time to mature have to be based on the returns which that investment will make. Unless

the project is for social reasons only, if the investment is unprofitable in the long run, it is

unwise to invest in it now.

OBJECTIVES

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This chapter is intended to provide:

An understanding of the importance of capital budgeting in marketing decision

making

An explanation of the different types of investment project

An introduction to the economic evaluation of investment proposals

The importance of the concept and calculation of net present value and internal

rate of return in decision making

The advantages and disadvantages of the payback method as a technique for

initial screening of two or more competing projects.

STRUCTURE OF THE CAPITAL BUDGETING

Capital budgeting is very obviously a vital activity in business. Vast sums of money can

be easily wasted if the investment turns out to be wrong or uneconomic. The subject

matter is difficult to grasp by nature of the topic covered and also because of the

mathematical content involved. However, it seeks to build on the concept of the future

value of money which may be spent now. It does this by examining the techniques of net

present value, internal rate of return and annuities. The timing of cash flows is important

in new investment decisions and so the chapter looks at this "payback" concept. One

problem which plagues developing countries is "inflation rates" which can, in some

cases, exceed 100% per annum. The chapter ends by showing how marketers can take

this in to account.

Capital budgeting versus current expenditureA capital investment project can be

distinguished from current expenditures by two features:

a) Such projects are relatively large

b) a significant period of time (more than one year) elapses between the investment

outlay and the receipt of the benefits..

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As a result, most medium-sized and large organizations have developed special

procedures and methods for dealing with these decisions. A systematic approach to

capital budgeting implies:

a) The formulation of long-term goals

b) The creative search for and identification of new investment opportunities

c) Classification of projects and recognition of economically and/or statistically

dependent proposals

d) The estimation and forecasting of current and future cash flows

e) A suitable administrative framework capable of transferring the required

information to the decision level

f) the controlling of expenditures and careful monitoring of crucial aspects of

project execution

g) a set of decision rules which can differentiate acceptable from unacceptable

alternatives is required.

The classification of investment projects

a) By project size

Small projects may be approved by departmental managers. More careful analysis

and Board of Directors' approval is needed for large projects of, say, half a million

dollars or more.

b) By type of benefit to the firm

An increase in cash flow a decrease in risk an indirect benefit (showers for workers,

etc).

c) By degree of dependence

Mutually exclusive projects (can execute project A or B, but not both)

complementary projects: taking project A increases the cash flow of

project substitute projects: taking project A decreases the cash flow of project B.

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The economic evaluation of investment proposals

The analysis stipulates a decision rule for:

I) Accepting

II) Rejecting investment projects

THE TIME VALUE OF MONEY

Recall that the interaction of lenders with borrowers sets an equilibrium rate of interest.

Borrowing is only worthwhile if the return on the loan exceeds the cost of the borrowed

funds. Lending is only worthwhile if the return is at least equal to that which can be

obtained from alternative opportunities in the same risk class.

The interest rate received by the lender is made up of:

i. The time value of money: the receipt of money is preferred sooner rather than

later. Money can be used to earn more money. The earlier the money is received,

the greater the potential for increasing wealth. Thus, to forego the use of money,

you must get some compensation.

ii. The risk of the capital sum not being repaid. This uncertainty requires a premium

as a hedge against the risk, hence the return must be commensurate with the risk

being undertaken.

iii. Inflation: money may lose its purchasing power over time. The lender must be

compensated for the declining spending / purchasing power of money. If the

lender receives no compensation, he/she will be worse off when the loan is repaid

than at the time of lending the money.

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a) Future values/compound interest

Future value (FV) is the value in dollars at some point in the future of one or more

investments.

FV consists of:

i)The original sum of money invested or

ii) The return in the form of interest.

The general formula for computing Future Value is as follows:

FVn = Vo (l + r)n

Where Vo is the initial sum invested is the interest rate is the number of periods for which

the investment is to receive interest.

Thus we can compute the future value of what Vo will accumulate to in n years when it is

compounded annually at the same rate of r by using the above formula.

PV = FVn/(l + r)n

Capital budgeting is a process used to determine whether a firm’s proposed investments

or projects are worth undertaking or not. The process of allocating budget for fixed

investment opportunities is crucial because they are generally long lived and not easily

reversed once they are made. So we can say that this is a strategic asset allocation process

and management needs to use capital budgeting techniques to determine which project

will yield more return over a period of time.

The question arises why capital budgeting decisions are critical? The foremost

importance is that the capital is a limited resource which is true of any form of capital,

whether it is raised through debt or equity. The firms always face the constraint of capital

rationing. This may result in the selection of less profitable investment proposals if the

budget allocation and utilization is the primary consideration. So the management should

18

careful decision whether a particular project is economically acceptable and within the

specified limits of the investments to be made during a specified period of time. 

SIGNIFICANCE OF CAPITAL BUDGETING:

The need of capital budgeting can be emphasised taking into consideration the very

nature of the capital expenditure such as heavy investment in capital projects, long-term

implications for the firm, irreversible decisions and complicates of the decision making.

Its importance can be illustrated well on the following other grounds:-

1) Indirect Forecast of Sales. The investment in fixed assets is related to future

sales of the firm during the life time of the assets purchased. It shows the

possibility of expanding the production facilities to cover additional sales shown

in the sales budget. Any failure to make the sales forecast accurately would result

in over investment or under investment in fixed assets and any erroneous forecast

of asset needs may lead the firm to serious economic results.

2) Comparative Study of Alternative Projects Capital budgeting makes a

comparative study of the alternative projects for the replacement of assets which

are wearing out or are in danger of becoming obsolete so as to make the best

possible investment in the replacement of assets. For this purpose, the profitability

of each project is estimated.

3) Timing of Assets-Acquisition. Proper capital budgeting leads to proper timing of

assets-acquisition and improvement in quality of assets purchased. It is due to ht

nature of demand and supply of capital goods. The demand of capital goods does

not arise until sales impinge on productive capacity and such situation occurs only

intermittently. On the other hand, supply of capital goods with their availability is

one of the functions of capital budgeting.

4) Cash Forecast. Capital investment requires substantial funds which can only be

arranged by making determined efforts to ensure their availability at the right

time. Thus it facilitates cash forecast.

5) Worth-Maximization of Shareholders. The impact of long-term capital

investment decisions is far reaching. It protects the interests of the shareholders

19

and of the enterprise because it avoids over-investment and under-investment in

fixed assets. By selecting the most profitable projects, the management facilitates

the wealth maximization of equity share-holders.

6) Other Factors. The following other factors can also be considered for its

significance:

a) It assists in formulating a sound depreciation and assets replacement policy.

b) It may be useful n considering methods of coast reduction. A reduction campaign

may necessitate the consideration of purchasing most up-to—date and modern

equipment.

c) The feasibility of replacing manual work by machinery may be seen from the

capital forecast be comparing the manual cost an the capital cost.

d) The capital cost of improving working conditions or safety can be obtained

through capital expenditure forecasting.

e) It facilitates the management in making of the long-term plans an assists in the

formulation of general policy.

f) It studies the impact of capital investment on the revenue expenditure of the firm

such as depreciation, insure and there fixed assets.

The question arises why capital budgeting decisions are critical? The foremost

importance is that the capital is a limited resource which is true of any form of capital,

whether it is raised through debt or equity. The firms always face the constraint of capital

rationing. This may result in the selection of less profitable investment proposals if the

budget allocation and utilization is the primary consideration. So the management should

make a careful decision whether a particular project is economically acceptable and

within the specified limits of the investments to be made during a specified period of

time. In the case of more than one project, management must identify the combination of

investment projects that will contribute to the value of the firm and profitability. This, in

essence, is the basis of capital budgeting.

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Following are the capital budgeting techniques:

A. Traditional methods

1) Payback period

2) Accounting rate of return method

B. Discounted cash flow methods

1) Net present value method

2) Profitability index method

3) Internal rate of return

PAY BACK PERIOD METHOD

It refers to the period in which the project will generate the necessary cash to recover the

initial investment.

It does not take the effect of time value of money.

It emphasizes more on annual cash inflows, economic life of the project and original

investment.

The selection of the project is based on the earning capacity of a project.

It involves simple calculation, selection or rejection of the project can be made easily,

results obtained are more reliable, best method for evaluating high risk projects.

PAY BACK PERIOD = BASED PERIOD + INVESTMENT – CCFAT --------------------------------- NEXT CCFAT

21

MERITS

1. Calculation is simple and easy.

2. It gives an indication of liquidity.

3. In broader sense, it deals with risk too the shorter pay back period will be less

risky as compared to project with longer pay back period, as the inflows which

rise further in the future will be less certain and hence more risky.

DEMERITS

1. It is based on principle of rule of thumb,

2. Does not recognize importance of time value of money,

3. Does not consider profitability of economic life of project,

4. Does not recognize pattern of cash flows,

5. Does not reflect all the relevant dimensions of profitability.

ACCOUNTING RATE OF RETURN METHOD

IT considers the earnings of the project of the economic life. This method is based on

conventional accounting concepts. The rate of return is expressed as percentage of the

earnings of the investment in a particular project. This method has been introduced to

overcome the disadvantage of pay back period. The profit under this method is

calculated as profit after depreciation and tax of the entire life of the project. This

method of ARR is not commonly accepted in assessing the profitability of capital

expenditure. Because the method does to consider the heavy cash inflow during the

project period as the earnings with be averaged. The cash flow advantage derived by

adopting different kinds of depreciation is also not considered in this method. The

annual rate of return uses accrual-based net income to calculate a project's expected

profitability. The annual rate of return is compared to the company's required rate of

return. If the annual rate of return is greater than the required rate of return, the project

may be accepted. The higher the rate of return, the higher the project would be ranked.

22

Accept or Reject Criterion:

Under the method, all project, having Accounting Rate of return higher than the

minimum rate establishment by management will be considered and those having ARR

less than the pre-determined rate.

This method ranks a Project as number one, if it has highest ARR, and lowest rank is

assigned to the project with the lowest ARR.

RETURN ON INVESTMENT = AVERAGE CASH INFLOW ---------------------------------- * 100

AVERAGE INVESTMENT

MERITS

1. It is very simple to understand and use.

2. This method takes into account saving over the entire economic life of the

project. Therefore, it provides a better means of comparison of project than the

pay back period.

3. This method through the concept of net earnings ensures a compensation of

expected profitability of the projects and

4. It can readily be calculated by using the accounting data.

DEMERITS

1. It ignores time value of money.

2.. It is not consistent with the firm & objective of maximizing the market value of

shares.

4. It ignores the fact that the profits earned can be reinvested. –

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DISCOUNTED CASH FLOW METHOD

Time adjusted technique is an improvement over pay back method and ARR. An

investment is essentially out flow of funds aiming at fair percentage of return in future.

The presence of time as a factor in investment is fundamental for the purpose of

evaluating investment. Time is a crucial factor, because, the real value of money

fluctuates over a period of time. A rupee received today has more value than a rupee

received tomorrow. In evaluating investment projects it is important to consider the

timing of returns on investment. Discounted cash flow technique takes into account both

the interest factor and the return after the payback period.

Discounted cash flow technique involves the following steps:

Calculation of cash inflow and out flows over the entire life of the asset.

Discounting the cash flows by a discount factor

Aggregating the discounted cash inflows and comparing the total so obtained

with the discounted out flows.

NET PRESENT VALUE METHOD

It recognizes the impact of time value of money. It is considered as the best method of

evaluating the capital investment proposal.

Considering the time value of money is important when evaluating projects with different

costs, different cash flows, and different service lives. Discounted cash flow techniques,

such as the net present value method, consider the timing and amount of cash flows. To

use the net present value method, you will need to know the cash inflows, the cash

outflows, and the company's required rate of return on its investments. The required rate

of return becomes the discount rate used in the net present value calculation. For the

following examples, it is assumed that cash flows are received at the end of the

period.The Net Present Value technique involves discounting net cash flows for a project,

24

then subtracting net investment from the discounted net cash flows. The result is called

the Net Present Value(NPV). If the net present value is positive, adopting the project

would add to the value of the company. Whether the company chooses to do that will

depend on their selection strategies. If they pick all projects that add to the value of the

company they would choose all projects with positive net present values, even if that

value is just $1. On the other hand, if they have limited resources, they will rank the

projects and pick those with the highest NPV's.

Accept or Reject Criteria:

1. For a single project, take it if and only if its NPV is positive.

2. For many independent projects, take all those with positive NPV.

3. For mutually exclusive projects, take the one with positive and highest NPV.

It is widely used in practice. The cash inflow to be received at different period of time

will be discounted at a particular discount rate. The present values of the cash inflow are

compared with the original investment. The difference between the two will be used for

accept or reject criteria. If the different yields (+) positive value, the proposal is selected

for investment. If the difference shows (-) negative values, it will be rejected.

NPV=∑ CFn/(l +K)n - Co

CFn= Cash flows for each year

Co=initial investment

K=Discount rate

n= life of the project

MERITS

1. It recognizes the time value of money.

2. It considers the cash inflow of the entire project.

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3. It estimates the present value of their cash inflows by using a discount rate equal

to the cost of capital.

4. It is consistent with the objective of maximizing the wealth of owners.

DEMERITS:

1. It is very difficult to find and understand the concept of cost of capital

2. It may not give reliable answers when dealing with alternative projects under the

conditions of unequal lives of project.

3. It requires the predetermination of the required rate of return which may give

NPV wrong results.

4. It ignores the difference in initial outflows, size of the different proposals etc.

While evaluating mutually exclusive projects.

INTERNAL RATE OF RETURN

It is that rate at which the sum of discounted cash inflows equals the sum of discounted

cash outflows. It is the rate at which the net present value of the investment is zero. It is

the rate of discount which reduces the NPV of an investment to zero. It is called internal

rate because it depends mainly on the outlay and proceeds associated with the project

and not on any rate determined outside the investment.

ACCEPT OR REJECT CRITERION

• For independent projects: Accept a project if its IRR is greater

than some fixed IRR, the threshold rate.

• For mutually exclusive projects: Among the projects having

IRR’s greater than IRR, accept one with the highest IRR

IRR = LOWER RATE + Inflows at lower rate- investment ----------------------------------------------------- Inflows at lower rate – inflow at higher rate

26

MERITS

1. It consider the time value of money

2. Calculation of cost of capital is not a prerequisite for adopting IRR

3. IRR attempts to find the maximum rate of interest at which funds invested in the

project could be repaid out of the cash inflows arising from the project.

4. It is not in conflict with the concept of maximizing the welfare of the equity

shareholders.

5. It considers cash inflows throughout the life of the project.

6. IRR is based on the cash flows rater than accounting profit.

DEMERITS

1. Computation of IRR is tedious and difficult to understand

2. It is very complicated trail and error procedure.

3. Both NPV and IRR assume that the cash inflows can be reinvested at the

discounting rate in the new projects. However, reinvestment of funds at the cut

off rate is more appropriate than at the IRR.

4. IT may give results inconsistent with NPV method. This is especially true in

case of mutually exclusive project.

5. Since, the IRR is a scaled measure. It tends to be biased towards small projects.

When are much more likely to yield high percentage return over the larger

project

27

PROFITABILITY INDEX

The payback measures the length of time it takes a company to recover in cash its initial

investment. This concept can also be explained as the length of time it takes the project to

generate cash equal to the investment and pay the company back. It is calculated by

dividing the capital investment by the net annual cash flow. If the net annual cash flow is

not expected to be the same, the average of the net annual cash flows may be used.

PROFITABILITY INDEX =CFn/ Co

CFn= Total Cash flows

Co=Initial investment

MERITS:

1. It recognizes the time value of money.

2. It consistent with the share holders value maximization principal.

3. It requires calculation of cash flow and estimate of discount rate.

ACCEPT OR REJECT CRITERION

For independent projects: Accept all projects with PI greater than one (this is

identical to the NPV rule)

For mutually exclusive projects: Among the projects with PI greater than one,

accept the one with the highest PI.

28

CHAPTER III

COMPANY PROFIL

AND

INDUSTRY PROFILE

29

COMPANY PROFILE

Heritage at a Glance:

The Heritage Group, founded in 1992 by Sri Nara Chandra Babu Naidu, is

one of the fastest growing Private Sector Enterprises in India, with three-business

divisions viz., Dairy, Retail and Agri under its flagship Company Heritage Foods (India)

Limited (HFIL), one infrastructure subsidiary - Heritage Infra Developers Limited and

other associate Companies viz., Heritage Finlease Limited, Heritage International

Limited and Heritage Agro Merine Private Limited. The annual turnover of Heritage

Foods crossed Rs.347 crores in 2010-11 and is aiming for Rs.700 crores during 2011-12.

Presently Heritage’s milk products have market presence in Andhra Pradesh,

Karnataka, Kerala, Tamil Nadu and Maharashtra and its retail stores across Bangalore,

Chennai and Hyderabad. Integrated agri operations are in Chittoor and Medak Districts

and these are backbone to retail operations.

In the year 1994, HFIL went to Public Issue to raise resources, which was

oversubscribed 54 times and its shares are listed under B1 Category on BSE (Stock Code:

519552) and NSE (Stock Code: HERITGFOOD)

About the founder:

Sri Chandra Babu Naidu is one of the greatest Dynamic, Pragmatic,

Progressive and Visionary Leaders of the 21st Century. With an objective of bringing

prosperity in to the rural families through co-operative efforts, he along with his relatives,

friends and associates promoted Heritage Foods in the year 1992 taking opportunity from

30

the Industrial Policy, 1991 of the Government of India and he has been successful in his

endeavour.

At present, Heritage has market presence in all the states of South India. More than three

thousand villages and five lakh farmers are being benefited in these states. On the other

side, Heritage is serving more than 6 lakh customers needs, employing more than 700

employees and generating indirectly employment opportunity to more than 5000 people.

Beginning with a humble annual turnover of just Rs.4.38 crores in 1993-94, the sales

turnover has reached close to Rs.300 crores during the financial year 2010-2011.

Sri Naidu held various coveted and honorable positions including Chief

Minister of Andhra Pradesh, Minister for Finance & Revenue, Minister for Archives &

Cinematography, Member of the A.P. Legislative Assembly, Director of A.P. Small

Industries Development Corporation, and Chairman of Karshaka Parishad.

Sri Naidu has won numerous awards including " Member of the World

Economic Forum's Dream Cabinet" (Time Asia ), "South Asian of the Year " (Time

Asia ), " Business Person of the Year " (Economic Times), and " IT Indian of the

Millennium " ( India Today).

Sri Naidu was chosen as one of 50 leaders at the forefront of change in the

year 2000 by the Business Week magazine for being an unflinching proponent of

technology and for his drive to transform the State of Andhra Pradesh .

Forward looking statements:

“We have grown, and intended to grow, focusing on harnessing our

willingness to experiment and innovate our ability to transform our drive towards

excellence in quality, our people first attitude and our strategic direction.

31

Mission:

Bringing prosperity into rural families of India through co-operative

efforts and providing customers with hygienic, affordable and convenient supply of "

Fresh and Healthy " food products.

Vision:

To be a progressive billion dollar organization with a pan India foot print

by 2012.To achieve this by delighting customers with "Fresh and Healthy" food products,

those are a benchmark for quality in the industry.

We are committed to enhanced prosperity and the emfoodment of the

farming community through our unique "Relationship Farming" Model.

To be a preferred employer by nurturing entrepreneurship, managing

career aspirations and providing innovative avenues for enhanced employee prosperity.

Heritage Slogan:

When you are healthy, we are healthy

When you are happy, we are happy

We live for your "HEALTH & HAPPINESS"

Quality policy of HFIL:

We are committed to achieve customer satisfaction through hygienically

processed and packed Milk and Milk Products. We strive to continually improve the

quality of our products and services through upgradation of technologies and systems.

32

Heritage's soul has always been imbibed with an unwritten perpetual commitment

to itself, to always produce and provide quality products with continuous efforts to

improve the process and environment.

Adhering to its moral commitment and its continuous drive to achieve

excellence in quality of Milk, Milk products & Systems, Heritage has always been laying

emphasis on not only reviewing & re-defining quality standards, but also in

implementing them successfully. All activities of Processing, Quality control, Purchase,

Stores, Marketing and Training have been documented with detailed quality plans in each

of the departments.

Today Heritage feels that the ISO certificate is not only an epitome of

achieved targets, but also a scale to identify & reckon, what is yet to be achieved on a

continuous basis. Though, it is a beginning, Heritage has initiated the process of

standardizing and adopting similar quality systems at most of its other plants.

Commitments:

Milk Producers:

Change in styles of rural families in terms of:

Regular high income through co-operative efforts.

Women participation in income generation .

Saved from price exploitation by un-organized sector .

Remunerative prices for milk .

Increase of milk productivity through input and extension activities

Shift from risky agriculture to dairy farming

Heritage

33

Financial support for purchase of cattle; insuring cattle

Establishment of Cattle Health Care Centers

Supplying high quality Cattle feed

Organizing "Rythu Sadasu" and Video programmes for educating the farmers in

dairy farming

Customers:

Timely Supply of Quality & Healthy Products

Supply high quality milk and milk products at affordable prices

Focused on Nutritional Foods

More than 4 lakh happy customers

High customer satisfaction

24 hours help lines ( <10 complaints a day)

Employees:

Enhancing the Technical and Managerial skills of Employees through continuous

training and development

Best appraisal systems to motivate employees

34

Incentive, bonus and reward systems to encourage employees

Heritage forges ahead with a motto "add value to everything you do"

Shareholders:

Returns:

Consistent Dividend Payment since Public Issue (January 1995)

Service:

Highest impotence to investor service; no notice from any regulatory authority

since 2001 in respect of investor service

Very transparent disclosures

Suppliers:

Doehlar: technical collaboration in Milk drinks, yogurts drinks and fruit

flavoured drinks Alfa-Laval: supplier of high-end machinery and technical support

Focusing on Tetra pack association for products package.

Society:

Potential Employment Generation

more than 3500 employees are working with heritage

more than 9500 procurement agents got self employment in rural areas

more than 5000 sales agents associated with the company

Employment for the youth by providing financial and animal husbandry support

for establishing MINI DAIRIES

Producing highly health conscious products for the society

35

Qualities of management principles:

1. Customer focus to understand and meet the changing needs and expectations of

customers.

2. People involvement to promote team work and tap the potential of people.

3. Leadership to set constancy of purpose and promote quality culture trough out the

organization.

4. Process approach to assess the efficiency and effectiveness of each process.

5. Systems approach to understand the sequence and interaction of process.

6. Factual approach to decision making to ensure its accuracy.

7. Continual improvement processes for improved business results.

8. Development of suppliers to get right product and services in right time at right

place.

Product/Market wise performance:

The total turnover is Rs 341 Crores during the financial year 2010-11

against the turnover of 292.02 Crores in 2009-10. Today Heritage distributes quality

milk & milk products in the states of A.P, Karnataka, Kerala & Tamil nadu.

36

During the year 2011-12 liquid milk sales was Rs.28329.79 lakhs against

Rs.24525.23 lakhs in the previous year. The sales of miik products including bulk sales

of cream, ghee and butter were recorded Rs 5781.59 lakhs against Rs 4677.21 lakhs.

Milk sales:

23% growth was recorded in AP 2.38 lakhs litres per day(LLPD) in 2011-12

against 1.93 LLPD in 2005-06. 13% growth was recorded in Tamilnadu-1.53 LLPD in

2011-12 against 1.35 LLPD in 2010-11. Over all growth of 6% was recorded- 5.49 LLPD

in 2006-07 against 5.16 LLPD. Flavoured milk sales recorded a growth rate of 77% over

2011-12. Butter milk sales have gone up by 45% over 2011-12.

Outlook:

Considering the growth potential in the liquid milk market, the company

has drawn plans to increase its market share in the existing markets and to enter into new

markets there by doubling revenues in dairy business in the next 3 years. To achieve this

object, company is undertaking major expansion in dairy business by inverting over Rs20

crores during 2006-07 and over Rs10 crores during the current year to strengthen the milk

procurement.

BRANCHES OF HFIL:

HFIL has 3 wings. They are

1. Dairy

2. Retail

37

3. Agribusiness

1. Dairy:It is the major wing among all. The dairy products manufactured by HFIL are

Milk, curd, butter, ghee, flavoured milk, paneer, doodhpeda, ice cream.

2. Retail: In the retail sector HFIL has outlets namely “Fresh@”. In those stores the

products sold are vegetables, milk& milk products, grocery, pulses, fruits etcIn

Hyderabad 19 retail shops are there. In Bangalore& Chennai, 3&4 respectively are there.

Totally there are 26 retail shops are there.

Fresh@ is a unique chain of retail stores, designed to meet the needs of the

modern Indian consumer. The store rediscovers the taste of nature every day making

grocery shopping a never before experience.

The unique& distinctive feature of Fresh@ is that it offers the widest

range of fresh fruits and vegetables which are directly hand picked from the farms.

Freshness lies in their merchandise and the customers are always welcomed with fresh

fruits and vegetables no matter what what time they walk in.

3. Agri Business:

The agricultural professors will examine which area is suitable to import

vegetables from and also examine the vegetables, pulses and fruits in the lab. And finally

they report to the Head-Agribusiness. Representatives as per the instructions given by the

agri professors will approach the farmers directly and make a deal with them. It is the

process of registering the farmers.

INDUSTRY PROFILE

India is the world's second largest producer of food next to China, and has the potential of

being the biggest with the food and agricultural sector. The total food production in India is

38

likely to double in the next ten years and there is an opportunity for large investments in

food and food processing technologies, skills and equipment, especially in areas of Canning,

Dairy and Food Processing, Specialty Processing, Packaging, Frozen Food/Refrigeration

and Thermo Processing. Fruits & Vegetables, Fisheries, Milk & Milk Products, Meat &

Poultry, Packaged/Convenience Foods.

India is one of the worlds major food producers but accounts for less than 1.5 per cent of

international food trade. This indicates vast scope for both investors and exporters. Food

exports in 1998 stood at US $5.8 billion whereas the world total was US $438 billion. The

Indian food industries sales turnover is Rs 140,000 crore (1 crore = 10 million) annually as

at the start of year 2000.

India's food processing sector covers fruit and vegetables; meat and poultry; milk and milk

products, alcoholic beverages, fisheries, plantation, grain processing and other consumer

product groups like confectionery, chocolates and cocoa products, Soya-based products,

mineral water, high protein foods etc. We cover an exhaustive database of an array of

suppliers, manufacturers, exporters and importers widely dealing in sectors like the -Food

Industry.

The most promising sub-sectors includes -Soft-drink bottling, Confectionery manufacture,

Fishing, aquaculture, Grain-milling and grain-based products, Meat and poultry processing,

Alcoholic beverages, Milk processing, Tomato paste, Fast-food, Ready-to-eat breakfast

cereals, Food additives, flavors etc.

The food industry is the complex, global collective of diverse businessesthat together

supply much of the food energy consumed by the world population. Only subsistence

farmers, those who survive on what they grow, can be considered outside of the

scope of the modern food industry.

The food industry includes:

Regulation: local, regional, national and international rules and regulations for

food production and sale, including • food quality and food safety, and industry

lobbying activities Education: academic, vocational, consultancy

Research and development: food technology

39

Financial services, credit Manufacturing: agrichemicals, seed, farm machinery

and supplies, agricultural construction, etc.

Agriculture: raising of crops and livestock, seafood Food processing:

preparation of fresh products for market, manufacture of prepared food products

Marketing: promotion of generic products (e.g. milk board), new products, public

opinion, through advertising, packaging, public relations , etc

Wholesaleanddistribution: warehousing, transportation, logistics

Retail: supermarket chains and independent food stores, direct-to-consumer,

restaurant , food services

Consumer: End user has one of the highest influences on the food industry

through things like preference

The Economic Research Service of the USDA uses the term food system to describe the

same thing:

"The U.S. food system is a complex network of farmers and the industries that link to

them. Those links include makers of farm equipment and chemicals as well as firms that

provide services to agribusinesses, such as providers of transportation and financial

services. The system also includes the food marketing industries that link farms to

consumers, and which include food and fiber processors, wholesalers, retailers, and

foodservice establishments."

History

Food processing dates back to the prehistoric ages when crude processing incorporated

slaughtering, fermenting, sun drying, preserving withsalt, and various types of cooking

(such as roasting, smoking, steaming, and oven baking). Salt-preservation was especially

common for foods that constituted warrior and sailors' diets, up until the introduction of

canning methods. Evidence for the existence of these methods exists in the writings of

the ancient Greek , Chaldean, Egyptian and Romancivilizations as well as archaeological

evidence from Europe, North and South America and Asia. These tried and tested

processing techniques remained essentially the same until the advent of the industrial

revolution. Examples of ready-meals also exist from pre industrial revolution times such

40

as the Cornish pasty and the Haggis Modern food processing technology in the 19th and

20th century was largely developed to serve military needs. In 1809Nicolas Appert

invented a vacuumbottling technique that would supply food for French troops, and this

contributed to the development of tinning and then canning by Peter Durand in 1810.

Although initially expensive and somewhat hazardous due to the lead used in cans,

canned goods would later become a staple around the world Pasteurization. discovered by

Louis Pasturing 1862, was a significant advance in ensuring the micro-biological safety

of food.

In the 20th century, World War II, the space race and the rising consumer society

in developed countries (including the United States) contributed to the growth of food

benzoate processing with such advances asspray drying, juice concentrates, freeze

dryingand the introduction of artificial sweeteners, colouring agents, and preservatives

such as sodium . In the late 20th century products such as dried instant soups,

reconstituted fruits and juices, and self cooking meals such asMRE food ration were

developed.

In western Europe and North America, the second half of the 20th century witnessed a

rise in the pursuit of convenience, food processors especially marketed their products to

middle-class working wives and mothers. Frozen foods (often credited to Clarence

Birdseye) found their success in sales of juice concentrates and "TV dinners". Processors

utilised the perceived value of time to appeal to the postwar population, and this same

appeal contributes to the success of convenience foodstoday.

The Indian packaged processed foods industry is estimated at US$ 10.87 billion – US$

13.05 billion, including biscuits, chocolates, ice-cream, confectionery, snacks, cheese and

butter. Growing at a healthy 14-15 per cent over the past two-three years, major players

in the sector include Britannia, Nestle, Amul, ITC Foods, Parle, Kellogg’s,

GlaxoSmithKline, Wrigley and Frito-Lay, among others.

41

The industry received foreign direct investments (FDI) totalling US$ 143.80 million in

2011-12 against US$ 5.70 million in the previous fiscal. The cumulative FDI received by

the industry from April 2001-August 2012 stood at US$ 878.32 million.

However, India’s share in exports of processed food in global trade is only 1.5 per cent;

whereas the size of the global processed-food market is estimated at US$ 3.2 trillion and

nearly 80 per cent of agricultural products in the developed countries get processed and

packaged.

In order to further grow the food processing industry, the government has

formulated a Vision-2015 action plan under which specific targets have been set. This

includes tripling the size of the food processing industry from around US$ 70 billion to

about US$ 210 billion, raising the level of processing of perishables from 6 per cent to 20

per cent, increasing value addition from 20 per cent to 35 per cent, and enhancing India’s

share in global food trade from 1.5 per cent to 3 per cent. This would require an

investment of US$ 20.6 billion.

According to an Ernst and Young (E&Y) presentation, the food processing industry in

India will grow 30-40 per cent as against the present 15 per cent in the next 10-

years.Prime Minister Dr Manmohan Singh on October 6, 2009 laid out a blueprint for

rapid growth in the country’s food processing sector. The Prime Minister said that this

can be achieved by simplifying the tax structure, formulating a National Food Processing

Policy and improving rural infrastructure.

Moreover, according to Union Minister for Food Processing Industries, Subodh Kant

Sahai the central government is envisaging an investment of US$ 21.50 billion in the

food processing industry over the next five years, a major chunk of which it plans to

attract from the private sector and financial institutions.

42

CHAPTER IV

DATA ANALYSIS

AND

INTERPRETATION

DATA ANALYSIS AND INTERPRETATIONFont should be Times Roman

PROJECT PROJECT 1

PROJECT 2

PROJECT 3

PROJECT 4

PROJECT 5

COST OF INVESTMENT 5125 10250 4125 8125 1920

43

YEAR/ PBDT

1 2 3 4 5 6 7 8 9 10 TOTAL

PROJECT 1

1020

1520 1520

1620

1720

1520

1650

1520

1210

1310

14610

PROJECT 2

3060

4560 4560

4860

5160

4560

4950

4560

3630

3930

43830

PROJECT 3

306 456 456 486 516 456 495 456 363 393 4383

PROJECT 4

1122

1672 1672

1782

1892

1672

1815

1672

1331

1441

16071

PROJECT 4

91.8

136.8

136.8

145.8

154.8

136.8

148.5

136.8

108.9

117.9

1314.9

Depreciation as per the profit and loss account 15% SLMDepreciation as per the income tax act 35% 15% w.d.vYear 1 Year 2 onwardsTax rate 33%

Present value factor 13%

Calculate NPV,IRR,PI,ROI.PBP

PROJECT 1: (ESTIMATE BUDGET RS 5125 LAKHS)YEAR PBDT LESS

DEPRECIATIONAS PER TAX

PBT LESS TAX33%

PAT ADD DEPRECIATION

CFAT CCFAT

1 1020 1794 -774 -225 -519 1794 1275 1275

44

2 1520 500 1020 337 683 500 1183 2458

3 1520 425 1095 361 734 425 1159 3617

4 1620 361 1259 415 844 361 1205 4822

5 1720 307 1413 466 947 307 1254 6076

6 1520 261 1259 415 844 261 1105 7181

7 1650 222 1428 471 957 222 1179 8360

8 1520 188 1332 440 892 188 1080 9440

9 1210 160 1050 347 703 160 863 10303

10 1310 136 1174 387 787 136 923 11226

TOTAL

14610

4354 10256

3384 6872 4354 11226

YEARS CFAT PV@13%

TOTAL PV

PV@20%

TOTAL PV

CCFAT

1 1275 .88496 1128 .83333 1062 12752 1183 .78315 926 .69444 822 24583 1159 .69305 803 .57870 671 36174 1205 .61332 739 .48225 581 48225 1254 .54276 681 .40188 504 60766 1105 .48032 531 .33490 370 71817 1179 .42506 501 .27908 329 83608 1080 .37616 406 .33257 359 94409 863 .33288 287 .19381 167 10303

45

10 923 .29459 272 .16151 149 11226TOTAL 6274 4564

Present value cash inflow =6274Present value cash outflow=5125

NET PRESENT VALUE METHOD

Net present value = cash inflow – cash outflow6274 – 5125

NPV @ 13% =1149

PROFITABILITY INDEX

P.I = Total present value of cash inflow / total investment

=6274 / 5125

=1.22 Times

INTERNAL RATE OF RETURN

IRR = LOWER RATE + Inflows at lower rate- investment ----------------------------------------------------- Inflows at lower rate – inflow at higher rate

= 13 + 6274 – 5125 ---------------------

6274 – 4564

= 13 + 4.7

=17.7% OR 18%46

PAY BACK PERIOD

Pay back period = based period + investment – CCFAT ---------------------------- Next CCFAT

= 4 + 303 ------

1254

= 4 + .2 = 4.2 Months

RETURN ON INVESTMENT

Return on investment = Average cash inflow * 100 ---------------------------------- Average investment

Average cash inflow = 11226/10 = 1122.6Average investment = 5125/ 2 = 2526.5

ROI = 1122.9/2526.5 * 100 = 43.8% OR 44%

PROJECT 2: (ESTIMATE BUDGET RS 10250 LAKHS)YEAR PBDT LESS

DEPRECIATIONAS PER TAX

PBT LESS TAX33%

PAT ADD DEPRECIATION

CFAT CCFAT

47

1 3060 3588 -528 -174 -354 3588 3234 3234

2 4560 999 3561 1174 2386 999 3385 6619

3 4560 849 3711 1225 2486 848 3335 9954

4 4860 722 4138 1366 2772 722 3494 13448

5 5160 614 4546 1500 3046 614 3660 17108

6 4560 522 4038 1333 2705 522 3227 20335

7 4950 443 4507 1487 3020 443 3463 23798

8 4560 377 4183 1380 2803 377 3180 26978

9 3630 320 3310 1092 2218 320 2538 29516

10 3930 272 3658 1207 2451 272 2723 32239

TOTAL

43830

8706 35124

11591

23533

8706 32239

YEARS

CFAT PV@13%

TOTAL PV

PV@20%

TOTAL PV

CCFAT

1 3234 .88496 2862 .78740 2546 32342 3385 .78315 2651 .62000 2099 66193 3335 .69305 2311 .48810 1628 99544 3494 .61332 2143 .38440 1343 134485 3660 .54276 1987 .30268 1108 171086 3227 .48032 1550 .24991 806 203357 3463 .42506 1472 .19834 687 237988 3180 .37616 1196 .15741 501 26978

48

9 2538 .33288 842 .12493 317 2951610 2723 .29459 802 .09915 270 32239TOTAL 32239 17819 11305

Present value cash inflow =17819

Present value cash outflow=10250

NET PRESENT VALUE METHOD

Net present value = cash inflow – cash outflow = 17819 - 10250

NPV @ 13% =7569

PROFITABILITY INDEX

P.I = Total present value of cash inflow / total investment

=17819/10250

=1.74 TimesINTERNAL RATE OF RETURN

IRR = LOWER RATE + inflows at lower rate- investment ----------------------------------------------------

inflows at lower rate – inflow at higher rate= 13 + 17819 - 10250

---------------------

49

6274 – 4564

= 13 + 15.1

=28%

PAY BACK PERIOD

Pay back period = based period + investment – CCFAT ---------------------------- Next CCFAT

= 3 + 296 ------

3494

= 3 + .08

= 3.1 Months

RETURN ON INVESTMENTReturn on investment = Average cash inflow * 100

--------------------------------- Average investment

Average cash inflow = 32239/10 = 3223.9Average investment = 10250/ 2 = 5125ROI = 3223..9/5125 * 100 =62.9% OR 63%PROJECT 3: (ESTIMATE BUDGET RS 4125 LAKHS)YEAR PBDT LESS

DEPRECIATIONAS PER

PBT LESS TAX33%

PAT ADD DEPRECIATION

CFAT CCFAT

50

TAX1 306 1444 -

1138-376 -762 306 682 682

2 456 402 54 18 36 456 438 1120

3 456 342 114 38 76 456 418 1538

4 486 291 195 64 131 486 422 1960

5 516 247 269 89 180 516 427 2387

6 456 210 246 81 165 456 375 2762

7 495 178 317 105 212 495 390 3152

8 456 152 304 100 204 456 356 3508

9 363 129 234 77 157 363 286 3794

10 393 110 283 93 190 393 300 4094

TOTAL

4383 3505 878 289 589 4383 4094

YEARS CFAT PV@13%

TOTAL PV

PV@20%

TOTAL PV

CCFAT

1 682 .88496 604 .90909 620 6822 438 .78315 343 .82654 362 11203 418 .69305 290 .75131 314 15384 422 .61332 259 .68301 288 19605 427 .54276 232 .62092 265 23876 375 .48032 180 .56447 212 27627 390 .42506 166 .51361 200 31528 356 .37616 134 .46651 166 35089 286 .33288 95 .42410 121 379410 300 .29459 88 .35009 105 4094

51

TOTAL 4094 2391 2653

Present value cash inflow =2391Present value cash outflow=4125

NET PRESENT VALUE METHOD

Net present value = cash inflow – cash outflow

=2391 - 4125NPV @ 13% = - 1734PROFITABILITY INDEX

P.I = Total present value of cash inflow / total investment

=2391/4125

=.58 TimesINTERNAL RATE OF RETURN

IRR = LOWER RATE + Inflows at lower rate- investment ----------------------------------------------------

Inflows at lower rate – inflow at higher rateAs a sum of pre-discounted cash inflow is less then cost of investment there can’t be IRR OR IRR < 0

PAY BACK PERIOD

Pay back period = based period + Investment – CCFAT -------------------------- Next CCFAT

52

Total investment has not been realised by cash inflow, so there is no pay back period.RETURN ON INVESTMENT

Return on investment = Average cash inflow * 100 ---------------------------------- Average investment

Average cash inflow = 4094/10 = 409.4

Average investment = 4125/ 2 = 2062.5

ROI = 409.4/2062.5 * 100

= 19.8% OR 20%

PROJECT 4: (ESTIMATE BUDGET RS 8125 LAKHS)YEAR PBDT LESS

DEPRECIATIONAS PER TAX

PBT LESS TAX33%

PAT ADD DEPRECIATION

CFAT CCFAT

1 1122 2844 -1722

-568 -1154 2844 1690 1690

2 1672 792 880 290 590 792 1382 3072

3 1672 673 999 330 69 673 1342 4414

53

4 1782 572 1210 399 811 572 1383 5797

5 1892 487 1405 464 941 487 1428 7225

6 1672 414 1258 415 843 414 1257 8482

7 1815 351 1464 483 981 351 1332 9814

8 1672 299 1373 453 920 299 1219 11033

9 1331 254 1077 355 722 254 976 12009

10 1441 216 1225 404 821 216 1037 13046

TOTAL

16071

6902 9169 3025 6144 6902 13046

YEARS CFAT PV@13%

TOTAL PV

PV@20%

TOTAL PV

CCFAT

1 1690 .88496 1496 .90090 1523 16902 1382 .78315 1082 .81162 1122 30723 1342 .69305 930 .73179 982 44144 1383 .61332 848 .65873 911 57975 1428 .54276 775 .59345 847 72256 1257 .48032 604 .53467 672 84827 1332 .42506 566 .48166 642 98148 1219 .37616 459 .43393 529 110339 976 .33288 325 .39092 382 1200910 1037 .29459 305 .35218 365 13046

54

TOTAL 13046

Present value cash inflow =7390Present value cash outflow=8125

NET PRESENT VALUE METHOD

Net present value = cash inflow – cash outflow = 7390 – 8125

NPV @ 13% = - 735

PROFITABILITY INDEXP.I = Total present value of cash inflow / total investment

=7390/8125

=.091 TimesINTERNAL RATE OF RETURN

IRR = LOWER RATE + Inflows at lower rate- investment ----------------------------------------------------

Inflows at lower rate – inflow at higher rate= 11 + 7390 – 8125 ---------------------

7975 - 7390

= 11 – 0.51 PAY BACK PERIODPay back period = based period + investment – CCFAT

----------------------------

55

Next CCFAT

= 5 + 8125 - 7225 --------------

1257 = 5 + .7

= 5.7 Months

RETURN ON INVESTMENT

Return on investment = Average cash inflow * 100----------------------------------Average investment

Average cash inflow = 13046/10 = 1304.6

Average investment = 8125/ 2 = 4062.5

ROI = 1304.6/4062.5 * 100 = 32%

PROJECT 5: (ESTIMATE BUDGET RS 1920 LAKHS)YEAR PBD

TLESSDEPRECIATIONAS PER TAX

PBT LESS TAX33%

PAT ADD DEPRECIATION

CFAT CCFAT

1 91.8 672 -580.2

191.5 388.7 672 283.3 283.3

2 136.8

187 -50.2 -16.6 -33.6 187 153.4 436.7

3 136. 159 -22.2 -7.3 -14.9 159 144.1 580.8

56

84 145.

8135 10.8 3.6 7.2 135 142.2 723

5 154.8

115 39.8 131.1 26.7 115 141.7 864.7

6 136.8

98 38.8 12.8 26.0 98 124.0 988.7

7 148.5

83 65.5 21.6 43.9 83 126.9 1115.6

8 136.8

71 65.8 21.7 44.1 71 115.1 1230.7

9 108.9

60 48.9 16.1 32.8 60 92.8 1323.5

10 117.9

51 66.9 22.1 44.8 51 95.8 1419.3

TOTAL

1314.9

1631 -316.1

-104.4

-211.7

1631 1419.3

YEARS CFAT PV@13%

TOTAL PV

PV@20%

TOTAL PV

CCFAT

1 283.3 .88496 251 .90090 257 283.32 153.4 .78315 120 .82654 127 436.73 144.1 .69305 100 .75131 108 580.84 142.2 .61332 87 .68301 97 7235 141.7 .54276 77 .62092 88 864.76 124.0 .48032 60 .56447 70 988.77 126.9 .42506 54 .51361 65 1115.68 115.1 .37616 43 .46651 54 1230.79 92.8 .33288 31 .42410 39 1323.5

57

10 95.8 .29459 28 .35009 37 1419.3TOTAL 1419.3 851 942

Present value cash inflow =851Present value cash outflow=1920

NET PRESENT VALUE METHOD

Net present value = cash inflow – cash outflow = 851 - 1920

NPV @ 13% =1069

PROFITABILITY INDEXP.I = Total present value of cash inflow / total investment

=851/1920 =0.44 Times

INTERNAL RATE OF RETURN

IRR = LOWER RATE + Inflows at lower rate- investment ----------------------------------------------------

Inflows at lower rate – inflow at higher rate

As a sum of pre-discounted cash inflow is less then cost of investment there can’t be IRR OR IRR < 0

PAY BACK PERIOD

Pay back period = based period + investment – CCFAT ---------------------------- Next CCFAT

58

Total investment has not been realised by cash inflow, so there is no pay back periodRETURN ON INVESTMENT

Return on investment = Average cash inflow * 100----------------------------------Average investment

Average cash inflow = 1419.3/10 = 141.93

Average investment = 1920/ 2 = 960

ROI = 141.93/960 * 100

= 14.78% OR 15%

FINDINGS AND CONCLUSION:

The study concerned with the capital budgeting with reference to HAERITAGE, the date

is collected, organised analysed and interpreted. HAERITAGE has a good organisation

culture, excellent working environment and a very precio9us asset that is highly dedicate,

hardworking well qualified efficient and knowledgeable workforce.

The following findings are obtained from the analysis of data

The first project ie., generation is the unequal cash flows for 10 years, the initial

investment is Rs 5,125 lakhs.

59

1) NPV and IRP are positive for the proposal. Then the required rate of

return 17.7%

2) The profitability index is 1.22 times >1

3) The return of investment is 43.8 %.

The second project ie., generation is the unequal cash flows for 10 years. The

initial investment is Rs 10,250 lakhs

1) The discounted PBP is 3.1 years, the investment will recover in 3 years

and 1 month

2) NPV and IRR are positive for the proposal then the required rate of

return 28 %

3) The profitability index is 1.74 times.

4) The return of investment is 62.9 %

The third project ie., generation is the unequal cash flows for 10 years. The initial

investment is Rs 4125 lakhs

1) Total investment has not been realised by the cash inflow. So there is no

pay back period (PBP).

2) NPV and IRR are negative for the proposal as a sum of pre-discounted

cash inflow is less than cost of investment there can’t be IRR (or)IRR<0.

3) The profitability index is 0.58 times, it is not good.

4) The return of investment is 19.8 %.

60

The fourth project ie., generate is the unequal cash flows for 10 years. The initial

investment is Rs:8125 lakhs.

1) The discounted PBP is 5.7 years. The investment will recover in 5 years

and 7 months.

2) NPV and IRR are negative for the proposal then th required rate of return

10.4%.

3) The profitability index is 0.9 times, it is not good sign.

4) The return of investment is 32 %.

The fifth project ie., generation is the unequal cash flows for 10 years. The initial

investment is Rs 1920 lakhs

1) Total investment has not been realised by the cash inflow. So there is no

pay back period (PBP).

2) NPV and IRR are negative for the proposal as a sum of pre-discounted

cash inflow is less than cost of investment there can’t be IRR (or)IRR<0.

3) The profitability index is 0.44 times, it is not good.

4) The return of investment is 14.78 %.

61

CHAPTERV

RECOMMENDATIONS AND SUGGESTIONS

RECOMMENDATIONS AND SUGGESTIONS

62

First project in all contexts PBP of 4.2 years, NPV, IRR, ROI and PI are positive

as its return are positive sign therefore the project is accepted.

Second project in all contexts PBP of 3.1 years, NPV, IRR, ROI and PI are

indicating of positive sign therefore the project is accepted.

Third project NPV and IRR are negative for the proposal as a sum of pre

discounted cash inflow is less than cost of investment there can’t be IRR (or) IRR

<0. Total investment has not been realised by the cash inflow, so there no PBP.

The P> I is 0.58 times, it is not a good, ROI is 20%, it indicating values so the

project is required.

Fourth project NPV is negative sign and IRR is 10.4%, PI is 0.9 times this is not

good sign, PBP is 5.7 months, ROI is 32% the project if may increase the NPV

may get profits so the project is accepted.

Fifth project NPV and IRR are negative for the proposal as a sum of pre

discounted cash inflow is less than cost of investment there can’t be IRR (or) IRR

<0. Total investment has not been realised by the cash inflow, so there no PBP.

The P> I is 0.44 times, it is not a good, ROI is 15 %, it indicating values so the

project is required.

63

CHAPTERVI

BIBILIOGRAPHY

BIBILIOGRAPHY

64

LIST OF BOOKS

Gupta Shahi K & Sharma, R.K. Financial Management; theory and practice 3rd

edition 2001, Kalyani Publishers.

Khan M.Y. & Jain P.K; Text, problems and cases 4th edition, 2004.

I.M. Pandey: Financial Management 9th edition 2005 Vikas Publishing House

Private Limited.

Prasanna Chandra: Financial Management: Theor4y and Practise 5th edition 2001.

WEBSITES

www.haeritage.com

www.planwre.com

www.studyfinance.com

www.haeritagehyderabad.com

[email protected]

www.investopida.com

www.freemba.com

www.managementparadise.com

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