Documente Academic
Documente Profesional
Documente Cultură
= - Rs.9.93 million
4.
Table 1
Social Costs Associated with the Initial Outlay
Rs. in million
Item Financial
cost
Basis of
conversion
Tradeable value
ab initio
T L R
Land 0.30 SCF = 1/1.5 0.20
Buildings 12.0 T=0.50, L=0.25
R=0.25
6.0 3.0 3.0
Imported equipment 15.0 CIF value 9.0
Indigeneous equipment 80.0 CIF value 60.0
Transport 2.0 T=0.65, L=0.25
R=0.10
1.3 0.5 0.2
Engineering and know-how
fees
6.0 SCF=1.5 9.0
Pre-operative expenses 6.0 SCF=1.0 6.0
Bank charges 3.7 SCF=0.02 0.074
Working capital
requirement
25.0 SCF=0.8 20.0
150.0 104.274 7.3 3.5 3.2
Table 2
Conversion of Financial Costs into Social Costs
Rs. in million
Item Financial
cost
Basis of
conversion
Tradeable value
ab initio
T L R
Indigeneous raw material
and stores
85 SCF=0.8 68
Labour 7 SCF=0.5 3.5
Salaries 5 SCF=0.8 4.0
Repairs and maintenance 1.2 SCF=1/1.5 0.8
Water, fuel, etc 6 T=0.5, L=0.25
R=0.25
3 1.5 1.5
Electricity (Rate portion) 5 T=0.71, L=0.13
R=0.16
3.55 0.65 0.8
Other overheads 10 SCF=1/1.5 6.667
119.2 82.967 6.55 2.15 2.3
As per table 1, the social cost of initial outlay is worked out as follows :
Rs. in million
Tradeable value ab initio 104.274
Social cost of the tradeable component 4.867
(7.3 / 1.5)
Social cost of labour component 1.75
(3.5 x 0.5)
Social cost of residual component 1.60
(3.2 x 0.5)
Total 112.491
As per Table 2, the annual social cost of operation is worked out as follows :
Tradeable value ab initio 82.967
Social cost of the tradeable component 4.367
( 6.55 x 1/1.5 )
Social cost of labour component 1.075
(2.15 x 0.5)
Social cost of residual component 1.150
(2.3 x 0.5)
Total 89.559
The annual CIF value of the output is Rs.110 million. Hence the annual social
net benefit will be : 110 89.559 = Rs.20.441 million
Working capital recovery will be Rs.20 million at the end of the 20
th
year.
Putting the above figures together the social flows associated with the project
would be as follows :
Year / s Social flow (Rs. in million)
0 -112.491
1-19 20.441
Chapter 15
MULTIPLE PROJECTS AND CONSTRAINTS
1. The ranking of the projects on the dimensions of NPV, IRR, and BCR is given below
Project NPV (Rs.) Rank IRR (%) Rank BCR Rank
M 60,610 3 34.1 2 2.21 1
N 58,500 4 34.9 1 1.59 3
O 40,050 5 18.6 4 1.33 5
P 162,960 1 26.2 3 2.09 2
Q 72,310 2 14.5 5 1.36 4
2. The ranking of the projects on the dimensions of NPV and BCR is given below
Project NPV (Rs.) Rank BCR Rank
A 61,780 5 1.83 2
B 208,480 2 1.52 3
C 315,075 1 2.05 1
D 411,90 6 1.14 6
E 95,540 4 1.38 4
F 114,500 3 1.23 5
3. The two hypothetical projects are:
A B
Initial outlay 10000 1000
Cash inflows
Year 1 5000 600
Year 2 5000 600
Year 3 5000 600
NPV @ 10% Rank IRR Rank
A 2435 1 about 23% 2
B 492 2 above 35% 1
4. The two hypothetical 4-year projects for which BCR and IRR criteria give different
rankings are given below
Project A B
Investment outlay 20000 20000
Cash inflow
Year 1 2000 8000
Year 2 2000 8000
Year 3 2000 8000
Year 4 31500 8000
Project NPV Rank IRR Rank
A 4822 1 19% 2
B 4296 2 about 22% 1
5. The NPVs of the projects are as follows:
NPV (A) = 6000 x PVIFA(10%,5) + 5000 x PVIF(10%,5) 20,000 = Rs.5851
NPV (B) = 8000 x PVIFA(10%,8) 50,000 = - Rs.840
NPV (C) = 15,000 x PVIFA(10%,8) 75,000 = Rs.5025
NPV (D) = 15,000 x PVIFA(10%,12) 100,000 = Rs.6,995
NPV (E) = 25,000 x PVIFA (10%,7) + 50,000 x PVIF(10%,7)
150,000 = Rs.2,650
Since B and E have negative NPV, they are rejected. So we consider only A, C,
and D. Further C and D are mutually exclusive. The feasible combinations, their
outlays, and their NPVs are given below.
Combination Outlay
(Rs.)
NPV
(Rs.)
A 20,000 5,851
C 75,000 5,025
D 100,000 6,995
A & C 95,000 10,876
A & D 120,000 12,846
The preferred combination is A & D.
6. The linear programming formulation of the capital budgeting problem under various
constraints is as follows:
Maximise 10 X
1
+ 15 X
2
+ 25 X
3
+ 40 X
4
+ 60 X
5
+ 100 X
6
Subject to
15 X
1
+ 12 X
2
+ 8 X
3
+ 35 X
4
+ 100 X
5
+ 50 X
6
+ SF
1
= 150 Funds constraint for year 1
5 X
1
+ 13 X
2
+ 40 X
3
+ 25 X
4
+ 10 X
5
+ 110 X
6
200 + 1.08 SF
1
Funds constraint for year 2
5 X
1
+ 6 X
2
+ 5 X
3
+ 10 X
4
+ 12 X
5
+ 40 X
6
60 Power constraint
15 X
1
+ 20 X
2
+ 30 X
3
+ 35 X
4
+ 40 X
5
+ 60 X
6
120 Managerial constraint
0 X
j
1 (j = 1,.8) and SF
1
0
Rupees are expressed in 000s. Power units are also expressed in 000s.
7. Given the nature of the problem, in addition to the decision variables X
1
through X
10
for the original 10 projects, two more decision variables are required as follows:
X
11
is the decision variable to represent the delay of projects 8 by one year
X
12
is the decision variable for the composite project which represents the
combination of projects 4 and 5.
The integer linear programming formulation is as follows:
Maximise 55 X
1
+ 75 X
2
+ 50 X
3
+ 60 X
4
+ 105 X
5
+ 12 X
6
+ 60 X
7
+ 120 X
8
+ 50 X
9
+ 40 X
10
+ 100 X
11
+ 178.2 X
12
Subject to 75 X
1
+ 80 X
2
+ 75 X
3
+ 35 X
4
+ 80 X
5
+ 20 X
6
+ 70 X
7
+ 155 X
8
+
55 X
9
+ 10 X
10
+ 109.3 X
12
+ SF
1
= 400
40 X
1
+ 85 X
2
+ 8 X
3
+ 100 X
4
+ 160 X
5
+ 9 X
6
+ 5 X
7
+ 100 X
8
+ 20
X
9
+ 90 X
10
+ 155 X
11
+ 247 X
12
+
SF
2
=
350 + SF
1
(1 + r)
X
3
+ X
7
1
X
5
+ X
8
+ X
9
+ X
10
2
X
2
X
6
X
8
X
9
X
4
+ X
5
+ X
12
1
X
8
+ X
11
1
X
j
= {0,1} j = 1, 2.12
SF
i
0 i = 1, 2
It has been assumed that surplus funds can be shifted from one period to the next
and they will earn a post-tax return of r percent.
+
8. Minimise [P
1
(3d
1
+ 2 d
2
+ d
3
) + P
2
(4 d
4
+ 2 d
5
+ d
6
) + P
3
(d
7
d
7
)]
Subject to:
Economic Constraints
12 X
1
+ 14 X
2
+ 15 X
3
+ 16 X
4
+ 11 X
5
+ 23 X
6
+ 20 X
7
65
Goal Constraints
1.2 X
1
+ 1.6 X
2
+ 0.6 X
3
+ 1.5 X
4
+ 0.5 X
5
+
+ 0.9 X
6
+ 1.8 X
7
+ d
1
d
1
= 6 Net income for year 1
1.1 X
1
+ 1.2 X
2
+ 1.2 X
3
+ 1.6 X
4
+ 1.2 X
5
+
+ 2.5 X
6
+ 2.0 X
7
+ d
2
d
2
= 8 Net income for year 2
1.6 X
1
+ 1.5 X
2
+ 2.0 X
3
+ 1.8 X
4
+ 1.5 X
5
+
+ 4.0 X
6
+ 2.2 X
7
+ d
3
d
3
= 10 Net income for year 3
1.0 X
1
+ 1.2 X
2
+ 0.5 X
3
+ 1.8 X
4
+ 0.6 X
5
+
+ 1.0 X
6
+ 2.0 X
7
+ d
4
d
4
= 6 Sales growth for year 1
1.5 X
1
+ 1.0 X
2
+ 1.2 X
3
+ 2.0 X
4
+ 1.4 X
5
+
+ 3.0 X
6
+ 3.0 X
7
+ d
5
d
5
= 8 Sales growth for year 2
1.8 X
1
+ 1.2 X
2
+ 2.5 X
3
+ 2.2 X
4
+ 1.8 X
5
+
+ 3.5 X
6
+ 3.5 X
7
+ d
6
d
6
= 10 Sales growth for year 3
4 X
1
+ 5 X
2
+ 6 X
3
+ 8 X
4
+ 4 X
5
+
+ 9 X
6
+ 7 X
7
+
d
7
d
7
= 50 NPV
+
X
j
> 0 d
i
, d
i
> 0
9. The BCRs of the projects are converted into NPVs as of now as follows
Project Outlay (Rs.) BCR NPV (Rs.)
1 800,000 1.08 64,000
2 200,000 1.35 70,000
3 400,000 1.20 80,000
4 300,000 1.03 9,000
5 200,000 0.98 - 4,000
6 500,000 1.03 15,000/1.10 = 13,636
7 400,000 1.21 84,000/1.10 = 76,364
8 600,000 1.17 102,000/1.10 = 92,727
9 300,000 1.01 3,000/1.10 = 2,727
The integer linear programming formulation of the problem is as follows :
Maximise 64,000 X
1
+ 70,000 X
2
+ 80,000 X
3
+ 9,000 X
4
+ 13,636 X
6
+ 76,364 X
7
+ 92,727 X
8
+ 2,727 X
9
Subject to
800,000 X
1
+ 200,000 X
2
+ 400,000 X
3
+ 300,000 X
4
+ SF
1
= 20,00,000
500,000 X
6
+ 400,000 X
7
+ 600,000 X
8
+ 300,000 X
9
500,000 + SF
1
(1.032)
X
j
= {0,1} j = 1, 2, 3, 4, 6, 7, 8, 9
Chapter 16
VALUATION OF REAL OPTIONS
1. S = 100 , uS = 150, dS = 90
u = 1.5 , d = 0.9, r = 1.15 R = 1.15
E = 100
C
u
= Max (uS E, 0) = Max (150 100,0) = 50
C
d
= Max (dS E, 0) = Max (90 100,0) = 0
C
u
C
d
50
A = = = 0.833
(u-d)S 0.6 x 100
u C
d
d C
u
0 0.9 x 50
B = = = - 65.22
(u-d)R 0.6 x 1.15
C = A S + B = 0.833 x 100 65.22 = 18.08
2. S = 60 , dS = 45, d = 0.75, C = 5
r = 0.16, R = 1.16, E = 60
C
u
= Max (uS E, 0) = Max (60u E, 0)
C
d
= Max (dS E, 0) = Max (45 60, 0) = 0
C
u
C
d
60u 60 u 1
A = = =
(u-d)S (u 0.75)60 u 0.75
u C
d
d C
u
0.75 (60u 60) 45 (1 u)
B = = =
(u-d)R (u 0.75) 1.16 1.16 (u 0.75)
C = A S + B
(u 1) 60 45 (1 u)
5 = +
u 0.75 1.16 (u 0.75)
Multiplying both the sides by u 0.75 we get
45
5(u 0.75) = (u 1) 60 + (1 u)
1.16
Solving this equation for u we get
u = 1.077
So Betas equity can rise to
60 x 1.077 = Rs.64.62
3. E
C
0
= S
0
N(d
1
) - N (d
2
)
e
rt
S
0
= 70, E = 72, r = 0.12, o = 0.3, t = 0.50
S
0
1
l
n
+ r + o
2
t
E 2
d
1
=
o t
70
l
n
+ (0.12 + 0.5 x .09) x 0.50
72
=
0.30 0.50
- 0.0282 + 0.0825
= = 0.2560
0.2121
d
2
= d
1
- o t = 0.2560 0.30 0.50 = 0.0439
N (d
1
) = 0.6010
N (d
2
) = 0.5175
E 72
= = 67.81
e
rt
e
0.12x 0.50
C
0
= S
0
x 0.6010 67.81 x 0.5175
= 70 x 0.6010 67.81 x 0.5175 = Rs.6.98
4. E
C
0
= S
0
N(d
1
) - N (d
2
)
e
rt
E = 50, t = 0.25, S = 40, o = 0.40, r = 0.14
S
0
1
l
n
+ r + o
2
t
E 2
d
1
=
o t
40
l
n
+ (0.14 + 0.5 x 0.16) 0.25
50
d
1
=
0.40 0.25
- 0.2231 + 0.055
= = - 0.8405
0.20
d
2
= d
1
- o t = - 0.8405 0.40 0.25 = -1.0405
N (d
1
) = 0.2003
N (d
2
) = 0.1491
E 50
= = 48.28
e
rt
e
0.14 x 0.25
C
0
= S
0
x 0.2003 48.28 x 0.1491
= 40 x 0.2003 48.28 x 0.1491 = 0.8135
5. The NPV of the proposal to make Comp-I is:
20 50 50 20 + 10
-100 + + + +
1.20 (1.20)
2
(1.20)
3
(1.20)
4
= -100 + 16.66 + 34.70 + 28.95 + 14.46
= - Rs.5.23 million
The present value of the cash inflows of Comp II proposal, four years from now
will be Rs.189.54 million (Two times the present value of the cash inflows of Comp-I).
So, we have
S
0
= present value of the asset = 189.54 x e
0.20 x 4
= Rs.85.17 million
E = exercise price = $ 200 million
o = 0.30
t = 4 years
r = 12
Step 1 : Calculate d
1
and d
2
S
0
o
2
l
n
+ r + t
E
1
2 -0.854 + (0.12 + (.09/2)) 4 -0.194
d
1
= = = = -0.323
o t 0.3 \4 0.6
d
2
= d
1
- o t = -0.323 0.60 = -0.923
Step 2 : Find N(d
1
) and N(d
2
)
N(d
1
) = 0.3733
N(d
2
) = 0.1780
Step 3 : Estimate the present value of the exercise price
E . e
-rt
= 200 / 1.6161 = Rs.123.76 million
Step 4 : Plug the numbers obtained in the previous steps in the Black-Scholes formula:
C
0
= 85.17 x 0.3733 123.76 x 0.1780
= Rs.9.76
6. Presently a 9 unit building yields a profit of Rs.1.8 million (9 x 1.2 9) and a 15 unit
building yields a profit of Rs.1.0 million (15 x 1.2 17). Hence a 9 unit building is
the best alternative if the builder has to construct now.
However, if the builder waits for a year, his payoffs will be as follows:
Market Condition
Alternative Buoyant (Apartment price:
Rs.1.5 million)
Sluggish (Apartment price:
Rs.1.1million)
9 unit building 1.5 x 9 9 = 4.5 1.1 x 9 9 = 0.9
15 unit building 1.5 x 15 17 = 5.5 1.1 x 15 17 = -0.5
Thus, if the market turns out to be buoyant the best alternative is the 15 unit
building (payoff: Rs.5.5 million) and if the market turns out to be sluggish the best
alternative is the 9 unit building (payoff: Rs.0.9 million).
Given the above information, we can apply the binomial method for valuing the
vacant land:
Step 1: Calculate the risk-neutral probabilities.
The binomial tree of apartment values is
Rs.1.60 million (1.6 + 0.1)
p
Rs.1.2 million
1- p Rs.1.20 million (1.1 + 0.1)
Given a risk free rate of 10 percent, the risk-neutral probabilities must satisfy the
following conditions:
p x 1.6 + (1 p) x 120
1.2 million =
1.10
Solving this we get p = 0.3
Step 2: Calculate the expected cash flow next year
The expected cash flow next year is:
0.3 x 5.5 + 0.7 x 0.9 = Rs.2.28 million
Step 3: Compute the current value
2.28/ 1.10 = Rs.2.07 million
Since Rs.2.07 million is greater than Rs.1.80 million, the profit from
constructing a 9 unit building now, it is advisable to keep the vacant land. The value of
the vacant land is Rs.2.07 million.
7.
S
0
= current value of the asset = value of the developed reserve discounted for
3 years (the development lag) at the dividend yield of 5% = $20 x 100/
(1.05)
3
= $1727.6 million.
E = exercise price = development cost = $600 million
o = standard deviation of l
n
(oil price) = 0.25
t = life of the option = 20 years
r = risk-free rate = 8%
y = dividend yield = net production revenue/ value of reserve = 5%
Given these inputs, the call option is valued as follows:
Step 1 : Calculate d
1
and d
2
S o
2
l
n
+ r y t
E 2
d
1
=
o t
l
n
(1727.6/ 600) + [.08 - .05 + (.0625/ 2)] 20
=
0.25 20
d
2
= d
1
- o t = 2.0417 1.1180 = 0.9237
Step 2 : Find N(d
1
) and N(d
2
)
N(d
1
) = N(2.0417) = 0.9794
N(d
2
) = N(0.9237) = 0.8221
Step 3 : Estimate the present value of the exercise price
E / e
rt
= 600 / e
.08 x 20
= 600/ 4.9530 = $121.14 million
Step 4 : Plug the numbers obtained in the previous steps in the Black-Scholes formula:
C = $1727.6 million x 0.9794 - $121.14 million x 0.8221
= $1592.42 million
Chapter 21
PROJECT MANAGEMENT
1.
a. Cost variance: BCWP ACWP = 5,500,000 5,800,000
= Rs.300,000
b. Schedule variance in cost terms: BCWP BCWS = 5,500,000
6,00,000 = Rs.500,000
5,500,000
c. Cost performance index: BCWP/ ACWP = = 0.948
5,800,000
5,500,000
d. Schedule performance index: BCWP/ BCWS = = 0.916
6,000,000
BCTW 10,000,000
e. Estimated cost performance index: =
(ACWP + ACC) 5,800,000 + 5,000,000
= 0.926
Chapter 22
NETWORK TECHNIQUES FOR PROJECT MANAGEMENT
2. The net work diagram with the earliest and latest occurrence times for each event is
shown in Exhibit 1.
Exhibit 1
Network for the Project
2 1 5
4 4 11 11
4 5
2 3
1 3 4 5 7
0 0 9 9 14 14
2 6
3
2 3
There are two critical paths: 1-2-4-5-7 and 1-2-4-7. The minimum time required
for completing the project is 14 weeks.
3. The time estimates for various activities are shown in Exhibit 2.
Exhibit 2
Time Estimates
Activity Optimistic t
o
Most likely t
m
Pessimistic t
p
Average
t
o
+ 4 t
m
+ t
p
t
e
=
4
1-2 4 6 10 6 1/3
1-3 3 7 12 7 1/6
1-4 5 6 9 6 1/3
1-7 2 4 6 4
2-4 6 10 20 11
2-6 3 4 7 4 1/3
2-7 5 9 15 9 1/3
3-4 3 7 12 7 1/6
4-5 2 4 5 3 5/6
5-6 1 3 6 3 1/6
3-7 2 5 8 5
6-7 1 2 6 2 1/2
(a) The network diagram with average time estimates is shown in Exhibit 3.
Exhibit 3
2
6 6 EOT LOT
11 4 9
6
3 3
4 5 6
17 17 21 21 24 24
7
6
3
7 10 2
5
7
1 4 7
0 0 26 26
(b) The critical path for the project is 1-2-4-5-6-7
(c) Exhibit 3 shows the event slacks.
Exhibit 3
Event slacks
Event LOT EOT Slack = LOT EOT
1 0 0 0
2 6 1/3 6 1/3 0
3 10 1/6 7 1/6 3
4 17 1/3 17 1/3 0
5 21 1/6 21 1/6 0
6 24 1/3 24 1/3 0
7 26 5/6 26 5/6 0
Exhibit 4 shows the activity floats
Exhibit 4
Activity Floats
Activity
(i j)
Duration
d
ij
Total Float
LOT(j) EOT(i) d
ij
Free Float
EOT(j) EOT(i) d
ij
Independent Float
EOT(j) LOT (i) d
ij
1-2 6 1/3 0 0 0
1-3 7 1/6 3 0 0
1-4 6 1/3 11 11 11
1-7 4 22 5/6 22 5/6 22 5/6
2-4 11 0 0 0
2-6 4 1/3 13 2/3 13 2/3 13 2/3
2-7 9 1/3 11 1/6 11 1/6 11 1/6
3-4 7 1/6 3 3 0
3-7 5 14 2/3 14 2/3 11 2/3
4-5 3 5/6 0 0 0
5-6 3 1/6 0 0 0
6-7 2 1/2 0 0 0
(d) Standard deviation of the critical path duration = [Sum of the variances of activity
durations on the critical path]
1/2
The variances of the activity durations on the critical path are shown in Exhibit 5.
Exhibit 5
Variances of Activity Durations on critical path
Activity t
p
t
o
t
p
t
o
o =
6
o
2
1-2 10 4 1.00 1.00
2-4 12 6 1.00 1.00
4-5 5 2 0.50 0.25
5-6 6 1 0.83 0.69
6-7 6 1 0.83 0.69
The standard deviation of the duration of critical path is:
= (1.00 + 1.00 + 0.25 + 0.69 + 0.69)
1/2
= (3.63)
1/2
= 1.91 weeks.
(e) Let D = specified completion date
T = mean of the critical path duration
o
c
= standard deviation of the critical path duration
T = sum of the mean values of the activity durations on the critical path
= 6 1/3 + 9 2/3 + 3 5/6 + 3 1/6 + 2
= 25
D T 30 25.5
Prob (D< 30) = Prob < = Prob [ Z < 2.356]
o
c
1.91
= 0.87
4. (a) The net work diagram is given in Exhibit 6.
Exhibit 6
Network Diagram
6
10 7
2 6 4 9 7
5 7 6
1 4 3 12 5 12 9
(b) The all-normal critical paths are 1-2-4-6-7-9 and 1-3-4-6-7-9. For all-normal
network, the project duration is 34 weeks and the total direct cost is
Rs.66,000.
(c) The time-cost slope of the activities constituting the project is given in
Exhibit 7.
Exhibit 7
Time-Cost Slope of Activities
Time
in weeks
Cost (Rs.) Cost to expedite per
week (Rs.)
(1) (2) (3) (4) (5) (6)
Activity Normal Crash Normal Crash [(5)-(4) (2)-(3)]
(1-2) 5 2 6,000 9,000 1,000
(2-4) 6 3 7,000 10,000 1,000
(1-3) 4 2 1,000 2,000 500
(3-4) 7 4 4,000 8,000 1333.35
(4-7) 9 5 6,000 9,200 800
(3-5) 12 3 16,000 19,600 400
(4-6) 10 6 15,000 18,000 750
(6-7) 7 4 4,000 4,900 300
(7-9) 6 4 3,000 4,200 600
(5-9) 12 7 4,000 8,500 900
Examining the time-cost slope of activities on the critical path, we find that
activity (6-7) has the lowest slope on both the critical paths. The project network after
crashing this activity is shown below in Exhibit 8.
Exhibit 8
6
10 4
2 6 4 9 7
5 7 6
1 4 3 12 5 12 9
As per Exhibit 8, the critical paths are (1-3-4-6-7-9) and (1-2-4-6-7-9) with a
length of 31 weeks and the total cost is Rs.66,900.
Looking at the time-cost slope of the activities on the critical paths (1-3-4-6-7-9)
and (1-2-4-6-7-9), we find that activities (1-3) and (7-9) have the least time-cost slopes
on the two critical paths respectively. The project net work after crashing these
activities is shown in Exhibit 9.
Exhibit 9
6
10 4
2 6 4 9 7
5 7 4
1 2 3 12 5 12 9
As per Exhibit 9, the critical path is (1-2-4-6-7-9) with a length of 29 weeks and
the total direct cost is Rs.(66,900 + 2,200) = Rs.69,100. Activity (4-6) has the least
time-cost slope on the critical path. Hence this is crashed the net work after crashing
(4-6) is shown in Exhibit 10.
Exhibit 10
6
6 4
2 6 4 9 7
5 7 4
1 2 3 12 5 12 9
As per Exhibit 10, the critical path is (1-3-5-9), with a length of 26 weeks, and
total direct costs of Rs.72,100. Looking at the time-cost slope of the non-crashed
activities on this path we find that activity (3-5) has the lowest slope. Hence it is
crashed. The project net work after such crashing is shown in Exhibit 11.
Exhibit 11
6
6 4
2 6 4 9 7
5 7
1 2 3 3 5 12 9
As per Exhibit 11, the critical path is (1-2-4-6-7-9), with a length of 25 weeks
and a total direct cost of Rs.75,700.
Looking at the time cost slope of the activities on this critical path, we find both
activities (1-2) and (2-4) have the same slope. We crash activity (2-4). The resulting
project network net work is given in Exhibit 12.
Exhibit 12
6
6 4
2 3 4 9 7
5 7
1 2 3 3 5 12 9
As per Exhibit 12, the critical path is (1-3-4-6-7-9), with a length of 23 weeks
and a total direct cost of Rs.78,700. Crashing activity (3-4), the only uncrashed activity
on this critical path, we get the net work shown in Exhibit 13.
Exhibit 13
6
6 4
2 3 4 9 7
5 4 4
1 2 3 3 5 12 9
As per Exhibit 13, the critical path is (1-2-4-6-7-9), with a length of 22 weeks
and a total direct cost of Rs.82,700. The only uncrashed activity on this critical path is
(1-2). Crashing this we get Exhibit 14.
Exhibit 14
6
6 4
2 3 4 9 7
2 4 4
1 2 3 3 5 12 9
As per Exhibit 14, the critical path is (1-3-4-6-7-9) with a duration of 20 weeks,
and a total direct cost of Rs.85,700. Since all activities on this path are crashed, there is
no possibility of further time reduction.
Exhibit 15 shows the time-cost relationship.
Exhibit 15
Project Duration and Total Cost
Exhibit Activities Crashed Project
duration
(in weeks)
Total
direct
cost (Rs.)
Total
indirect
cost (Rs.)
Total
cost (Rs.)
6 none 34 66,000 34,000 1,00,000
8 (6-7) 31 66,900 31,000 97,900
9 (6-7), (1-3) and (7-9) 29 69,100 29,000 98,100
10 (6-7), (1-3), (7-9) and (4-6) 26 72,100 26,000 98,100
11 (6-7), (1-3), (7-9), (4-6) and (3-5) 25 75,700 25,000 1,00,700
12 (6-7), (1-3), (7-9), (4-6), (3-5) and (2-4) 23 78,900 23,000 1,01,700
13 (6-7), (1-3), (7-9), (4-6), (3-5), (2-4) and (3-4) 22 80,500 22,000 1,02,500
14 (6-7), (1-3), (7-9), (4-6), (3-5), (2-4), (3-4) and
(1-2)
20 83,500 20,000 1,03,500
If the objective is to minimise the total cost of the project, the pattern to crashing
suggested by Exhibit 10 may appear as the best. However, it is possible to reduce the
cost further without increasing the project duration beyond 26 weeks by decrashing
some activities on the non-critical paths. To do so, begin with the activity which has the
highest time-cost slope and proceed in the order of decreasing time-cost slope.
Chapter 23
PROJECT REVIEW AND ADMINISTRATIVE PROJECTS
1. Calculation of Economic Rate of Return
Year 1 2 3 4 5 6
1. Cash flow 25 30 40 45 50 30
2. Present value at the
beginning of the year; 12
percent discount rate
146.895 139.518 126.268 101.408 68.543 26.786
3. Present value at the end
of the year, 12 percent
discount rate
139.518 126.268 101.408 68.543 26.786 0
4. Change in value during
the year (3 2)
-7.377 -13.250 -24.860 -32.865 -41.757 -26.786
5. Economic income
(1 + 4)
17.623 16.750 15.140 12.135 8.243 3.214
6. Economic rate of return
(5/2)
0.12 0.12 0.12 0.12 0.12 0.12
7. Economic depreciation 7.377 13.250 24.860 32.865 41.757 26.786
Calculation of Book Return on Investment
Year 1 2 3 4 5 6
1. Cash flow 25 30 40 45 50 30
2. Book value at the
beginning of the year,
straight line depreciation
146.895 122.412 97.929 73.446 48.963 24.480
3. Book value at the end of
the year, straight line
depreciation
122.412 97.929 73.446 48.963 24.480 -
4. Change in book value
during the year (3 2
-24.483 -24.483 -24.483 -24.483 -24.483 -24.483
5. Book income (1 + 4) 0.517 5.517 15.517 20.517 25.517 5.52
6. Book return on
investment (5/2)
.004 0.045 0.158 0.274 0.521 0.225
7. Book depreciation 24.483 24.483 24.483 24.483 24.483 24.483
2.
SV = Rs.120 million DV = Rs.175 million
30 35 45 50
PVCF = + + +
(1.12) (1.12)
2
(1.12)
3
(1.12)
4
30 25
= = Rs.148.21 million
(1.12)
5
(1.12)
6
Since DV > PVCF > SV
it is advisable to sell it to the third party at Rs.175 million