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MGT201 GDB No. 01 Solution and Discussion Due Date Dec 08, 2014

Graded Discussion Board

Financial management (mgt201)

 

Dear Students!

This is to inform that Graded Discussion Board (GDB) No. 01 will be opened on December 03, 2014 for discussion and last date for posting your discussion will beDecember 08, 2014.

 

Topic/Area for Discussion

 “Capital Budgeting techniques”

 

This Graded Discussion Board will cover Audio/Video lessons 1 to 14.

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Replies to This Discussion

yup ans banta hi logical ha 

dear ap mathematically solve kar k daikho jo ans ay us base pay decide kar lein gay na 

Mr. F prepared two initial proposals for the intended plants. Plant – 1 requires Rs. 1 million as initial investment with the payback of 4 years and net present value of Rs. 0.6 million.  Plant – II requiring the same initial investment entails a positive net present value of Rs. 0.8 million with the payback period of 7 years.
 Sana Sunny solution to already added in Question see the highlighted figure.

sir nay logic mangi ha, so ans logically hi dyna thek ha

pay back have no effect in this working therefore I m confuse

Profitability index is an investment appraisal technique calculated by dividing the present value of future cash flows of a project by the initial investment required for the project.

In Question NPV figure is available so, in case of Plant-1

 Profitability Index= 1 + Net Present Value / Initial Investment Required

                                  =1+ (0.6million / 1000, 000)

                                  = 1+ (600,000 / 1000, 000)

                                  = 1+ .6

                           PI    = 1.6

 In case of Plant-11

 Profitability Index= 1 + Net Present Value / Initial Investment Required

                                  =1+ (0.8million / 1000, 000)

                                  = 1+ (800,000 / 1000, 000)

                                  = 1+ .8

                           PI    = 1.8

So, Explanation:

Profitability index is actually a modification of the net present value method. While present value is an absolute measure (i.e. it gives as the total dollar figure for a project), the profitability index is a relative measure (i.e. it gives as the figure as a ratio)                                 

 

Decision Rule

Accept a project if the profitability index is greater than 1, stay indifferent if the profitability index is zero and don't accept a project if the profitability index is below 1.

Here both proposals are greater than1. But the PI ratio is higher in case of Plant-11 than Plant- 1.

So, make your own decision on the basics of above comparison. 

asif bhai plant 1 bhe theek ha kyonke jitna jaldi payback hota hai.utna business ma faida hota ha.owners initial investment jaldi recover hojate hai.

Bhai Plant-11 ki PI zyda ha

2ndly

Payback ignores the time value of money.
Payback ignores cash flow beyond the payback period thereby ignoring the "profitability" of a project.
To calculate a more exact payback period: Payback Period = Amount to be Invested/Estimated Annual Net Cash Flow.

Friends, the case is simple and straight forward. The job of a financial manager is to increase the wealth of shareholders. Wealth will only be increased if its today value is more. More the value of the firm, more chances of increased wealth.

NPV despite being based on too much estimates in term of interest rate, life, sales etc is still a most reliable and commonly used capital budgeting technique. Project with better and positive NPV will be accepted.

Payback period does not take into account the concept of time value of money and may be leading us to wrong decisions. The sales / revenue are also assumed in payback period. The only advantage of payback period is that it is easy to calculate. Another advantage of selecting a project with shorter payback period project is that you can re-invest in an other project after its completion.

a)      On which ground, the firm’s owner is favoring the Plant-I?

 

As per the PI both the case are acceptable and profitability index is greater than 1, the firm's owner favoring the Plant -1 because the difference between the both cases is minimum and while duration(No. of years) difference between two plants are almost double.

 

b)     On which ground, Mr. S is favoring the Plant-II?

 

As per the PI both the case are acceptable and profitability index is greater than 1, Mr. S is  favoring the Plant -II because that the higher PI and guarantee 7 years.

 

c)   Which plant would be selected by you under the above scenario? Why?

Will prefer the Plant -1 as PI is difference is minimum between two plants  and not bond to longer duration of 7 years. 

Shakeel  bhai i am agreed with you, payback is not enough to evaluate any investment.

agreed with Fighting Falcon Shakeel

short term is good then logn term investment 

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