Capital Budjeting Main Report

INTRODUCTION
INTRODUCTION OF CAPITAL BUDGETING:
Capital budgeting is an essential part of every company’s

financial management. Capital budgeting is a required managerial tool. One
duty of a financial manager is to choose investment with satisfactory cash
flows and rates of return. Therefore a financial manager must be able to
decide whether an investment is worth undertaking and be able to choose
intelligently between two or more alternatives. To do this, a sound
procedure to evaluate, compare, and select Projects is needed.
Capital budgeting is represents a long term investment decision,
involves the planning of expenditures for project with life of many year,
usually requires a large initial cash outflow with the expectation of future
cash inflows, uses present value analysis, emphasizes cash flows rather than
income
Capital budgeting is the planning process used to determine a
firm’s long-term investment such as new machinery, replacement
machinery, new plants, new products and research and development
projects.
NEED FOR THE STUDY:

Capital budgeting decisions are of paramount importance in
financial decision-making. Special care should therefore be taken in making
these decisions on account of following reasons.
 Heavy investments.
 Long term commitment on funds
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 Irreversible decisions
 Long term impact of profitability
 Most difficult to make.
 Wealth maximization of shareholders.
 Cash forecast.
OBJECTIVES OF THE STUDY
The objectives of the study are:
 To understand the need of organizations to identify and invest in high

quality capital projects.
 To prepare a list of the main financial variables required for a project

appraisal.
 To evaluate capital projects using traditional methods of investment

appraisal and discounted cash flow methods.
 To illustrate the important differences, which can arise in evaluating

projects when using net present value (NPV) and internal rate of
returns (IRR).
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SCOPE OF THE STUDY:
The scope of the study is that the following areas:
 How money is acquired and from what sources?
 How individual capital project alternatives are identified and

evaluated?
 How minimum requirements of acceptability are set?
 How final project selections are made?
 How post mortem are conducted?
METHODOLOGY OF THE STUDY
DATABASE:
This study will be based on both primary and secondary data. The
primary data will be collected interact with financial Manager of HAL
company and The secondary data will be collected from various books,
journals, newspapers, websites, reports and other published sources of
company.
PERIOD OF STUDY:
The present study is made during the IVth semester of the

MBA course. i.e., from 17th December 2007 to 10th may 2008.
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CAPITAL BUDGETING DECISIONS
Capital expenditure decisions are of considerable significance as

the future success and growth of the firm depends heavily on them. But they
are best with a number of difficulties.
The benefits from investment are received in some future period.
The future is uncertain. Therefore, an element of risk is involved. Future
revenue involves estimation of the size of his market for product and
expected share of the firm. These estimates depend on the variety of factors,
including price, advertising and promotion, sales effort and so on. The cost
incurred and benefits received from a capital budgeting decision occurred in
different periods. They are the time value of the money.
So a firm must replace worn and obsolete plant and machinery,
acquired fixed assets for current and new products and makes strategic
investment decisions. This will enable the firm to achieve its objectives of
maximizing profits either by the way of increased revenues or cost
reduction. The quality of these decisions is improved by capital budgeting.
Capital budgeting decisions can be of two types and are as follows:
(a) Expanding revenues
(b) Reduce costs
INVESTMENT DECISIONS AFFECTING REVENUES

Investment decisions are expected to bring in additional revenues
there by raising the size of the firms total revenue. That can be the result of
the either expansion of present operations or the development of new
product lion.
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INVESTMENT DECISIONS REDUSING COST
Cost reduction investment decisions are subject to less uncertainty
in comparison to the revenue affecting investment decisions. This is so
because the firm has a better feel for potential cost savings as it can examine
past production and cost data. So it is difficult to precisely estimate the
revenue and cost resolution from a new product line.
KINDS OF DECISIONS
• Accept / reject decision
• Mutually exclusive project decision
• Capital rationing decision
Accept / reject decision:
This is the fundamental decision in capital budgeting. If the project is
accepted the firm would invest it, if the proposal were rejected, the firm does
not invest in it. In general those entire proposal, which yield a rate of return
greater than a certain required rate of return or cost of capital, are accepted
and the rest are rejected. Under accept-reject decision, all independent
projects that satisfy the minimum investment criterion should be
implemented.
Mutually exclusive project decision:

Mutually exclusive project decisions are those, which compete with
other projects in such a way that the acceptance of one will exclude
acceptance of the other projects. The alternatives are mutually exclusive and
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only one may be chosen. Some technique has to be used to determine the
best one. The acceptance of the best alternative automatically eliminates the
other alternatives.
Capital rationing decision:
In a situation where the firm has unlimited funds, all independent
investments proposal-yielding returns greater than some predetermined level
are accepted. However, the situation does not prevail in most of the firms in
actual practice. They have fixed capital budget. A large number of
investment proposals compete for these limited funds. The firm must
therefore ration them. The firm allocates funds to projects in a manner that
maxims long term returns. Thus capital rationing refers to a situation in
which a firm has more acceptable investment that it can finance. It is
concern with the selection of the group of investment proposals out of many
investment proposals accepted under accept or reject decisions. The projects
are ranked in the descending order rate of return
TECHNIQUES OF CAPITAL BUDGETING
Capital budgeting is the process of making investment in capital

expenditures. A capital expenditure may be defined as expenditure and the
benefits of which are expected to be received over a period of time
exceeding one year. The main characteristics of capital expenditure incurred
at a point of time and benefits of expenditure incurred at one point of time in
future are realized. The following are some examples of capital expenditure.
(a) Cost of acquisition of permanent assets i.e. buildings, plant and
machineries etc.
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(b) Cost of replacement of old permanent asset.
Investment decisions required special attention because of the following
reasons:
(a) They influence the firm’s growth path.
(b) They affect the risk of the firm.
(c) They involve large amount of funds of the firm.
(d) They are unchangeable or reversed at high cost.
(e) They are most difficult decisions to make.
Capital expenditure involves non-flexible long-term commitment of funds.
Thus capital expenditure decisions are also called as long-term investment
decision-making, capital expenditure decisions, planning capital expenditure
and analysis of capital expenditure.
DEFINITIONS: -
“Capital budgeting is long term planning for making and

financing proposed capital outlays”.
--Charles T Hangmen.
According to GC Philppatos, “Capital budgeting concern

with allocation of firms scarce financial resources among the available
market opportunities. The considerations of investment opportunities
involve the comparison of the expected future of the streams of earning from
a project, with immediate end subsequent streams of expenditure for it”.
Capital budgeting decision from day to day is: -
Capital budgeting decision involves the exchange of the current
funds for the benefits future.
The future benefits are expected to be realized over a series of years.
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The funds are invested in non-flexible and long-term activities.
They have long-term and significant effect on the probability of the
concern.
They are invariable decisions.
INVESTMENT EVALUATION CRITERIA
Three steps are involved in the evaluation of an investment.
(a) Estimation of cash flows.
(b) Estimation of the required rate of return.
(c) Application of the decision rule for making the choice.
Characteristics:
It should consider all cash flows to determine true value of the project. It
should help in ranking the various projects according to their true benefits.
It should recognize the fact that the bigger cash are preferable than the
smaller ones and early cash flows are preferable than later ones.
It should help to choose among mutually exclusive projects that project
which maximizes the shareholders wealth.
It should be a criterion, which is applicable to many conceivable
investment projects independent of other.
The capital budgeting technique, which has all these characteristics, is
the method to be used for the project appraisal purpose. A number of capital
budgeting techniques are in use in practice. They may be grouped in two
categories that the following chart tries to show:
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EXHIBIT-II.1
INVESTMENT CRITERIA
Investment criteria
Discounting criteria Non-discounting criteria
Net Profitability Internal Payback Accounting

present index rate of period rate of
value return return
TRADITIONAL OR NON-DISCOUNTING TECHNIQUES:
1) Payback period:
The payback period is one of the most popular and widely recognized
traditional methods of evaluating investment proposals. It is defined as the
number of years required to recover the original cash outlay invested in a
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project. If the project generates constant annual cash flows, the payback
period can be computed by dividing cash outlay by the annual cash inflow.
Payback period = Average income / Annual cash flow
Acceptance rule:
Payback method is the simplest and easy to understand and easy to

calculate. As a ranking method, it gives highest ranking to the project, which
has the shortest payback period and lowest among two mutually exclusive
projects, the project with shorter payback period.
2) Accounting rate of return (ARR):
The accounting rate of return (ARR) is known as average rate of return and
also returns on investment (ROI). It is found out by dividing the average
after tax profit by the average investment. The average investment would be
equal it half of the original investment if it is depreciated constantly.
Alternatively, it can be found out dividing the total of the investments boo
vales after depreciation by the life of the project.
Accounting rate of return = average income / Average investment.

Average investment = (Original investment – Scrap value)/2
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Average income = Total income / Number of years.
Acceptance rule:
This method will accept all those projects whose ARR is higher than
the minimum rate established by the management and reject those projects
which have ARR less than the minimum rate. This method would rank a
project as number one if it has higher ARR and lowest rank would be
assigned to the project with lowest ARR.
DISCOUNTING TECHNIQUES:
1) Net present value (NPV):

The net present value (NPV) method is the classic economic method of
evaluating the investment proposals. It is a method in which we can convert
future cash profits to today’s cash profit based on the interest rate by which
we can equate today’s value of the future profit. The interest rate is nothing
but cost of capital or the inflation rate or the rate expected by the investor. If
the rate of interest is not given, in India maximum return expected is 10% so
find out the NPV at 10% only. If the NPV is positive(+) we will get profits
on projects. Accordingly accept / reject decision will be taken.
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Net present value = Summation of present value of cash inflows in each year
– The summation of present values of the net present value of two mutually
exclusive projects X and Y.
Acceptance of project:
NPV<0 reject
NPV>0 accept
NPV=0 May accept
2) Internal rate of return (IRR):

The second discounted cash flow or time-adjusted method for apprising
capital investment decisions is the internal rate of return (IRR) method. This
technique is also known as yield on investment, marginal efficiency of
capital, marginal productivity of capital. The internal rate of return is usually
the rate of return that a project earns. It is defined as the aggregate present
value of cash outflows of a project.
IRR = Lower rate of return + present value of Cash at lower rate – present
value of investment / Different between present values ∗ Different between
the discount rate chosen.
Accept – if IRR > cost of capital

Reject - if IRR < cost of capital
3) Profitability Index (PI):
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Another time adjusted capital budgeting technique is profitability index
or benefit cost of ratio. It is similar to the NPV approach. The profitability
index approach means the present value of returns per rupee invested, while
the NPV is a base on the difference between the present value of future cash
in inflows and the present value of cash outlays. A major disadvantage of
NPV method is that being an absolute measure, it is not a reliable method to
evaluate projects requiring different initial investments. The PI method
provides a solution to this kind of problem. It may be defined as the ratio,
which is obtained dividing the present value of future cash in flows by
present value of cash outlays.
PI = Present value cash inflows / Present value of cash outflows
If the present value sum of total of the compounded reinvested cash

inflows (PVTs) is greater than the present value of the outflows (PVO), the
project is accepted if:
PVTs > PVO accepted.
PVTs < PVO rejected
A variation terminal value method (TV) is net terminal value
method (NTV) it can be represented as NTV = PVTs – PVO.
If the NTV is positive, accept the project. If the NTV is negative,
reject the project. The NTV method is similar to NPV method. Initially the
values are compounded, and in the later they are discounted. Both the
methods will give the same results. The same interest rates are used for both
the discounting and compounding.
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EVALUATION OF PROJECT CASH FLOWS
The role of finance manager is to coordinate the different

departments and obtain information from departments, ensure that the
forecast are based on set of consistent economic assumptions, keep the
exercise focused on the relevant variables and minimize the problems in
cash flow fore casting.
(a) Times factors for the analysis.
(b) Physical life of the plant.
(c) Technological life of the plant.
Investment planning horizon of the firm. For the capital budgeting cash
flows have to be estimated. There are certain ingredients of cash flow
streams.
Tax effect:
It has been already observed that cash flows to be considered for the
purpose of capital budgeting are net of taxes. Special consideration needs to
be given to tax effects on cash flows if the firms is incurring losses and,
therefore paying no taxes. The tax laws permit carrying losses forward to set
off against future income. In such cases, therefore, the benefits of tax
savings would accrue in future years.
Effect on other projects:
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Cash flow effects of the projects under the consideration. For
instance if the company is considering the production of new product, which
competes with the existing products in the product line, it is likely that as a
result of new proposal, the cash flows related to the old product will be
affected.
Effect on indirect expenses:
The indirect expenses/overheads are allocated to the different products

on the basis of wages paid, materials used, floor space occupied or some
other similar common factor. The question that arises is should such
allocation of the overheads be taken into the account in the cash flows? If
yes, it should be taken into account. If however the overheads will not
change as a result of the investment decision, they are not relevant.
Effect of depreciation:
Depreciation, although a non-cash item of cost, is deductible

expenditure in determining taxable income. Depreciation provisions are
prescribed by the company’s act for accounting purpose and by the income
tax for taxation purposes. The act that prescribes that rate of depreciation for
various types of depreciable assets. On written down value (WDV) basis as
well as straight-line basis. It also permits companies to charge depreciation
on any other basis provided it has the effect of writing off 95% of the
original cost of the asset on the expiry of the specified period and has the
approval of the government.
Depreciation is the charged with a view to simplify computation, not

on individual assets. A block of assets defined as group of assets, being
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building, machinery, plant or furniture in respect of which the same rate of
depreciation is prescribed.
Depreciation is computed at the block-wise rates on the basis of

written down value (WDV) method only. Presently, the block-wise for plant
and machinery are 25%, 40% and 100%.
The depreciation allowance on office buildings, and furniture and

fitting is 10%. Where the actual cost of plan and machinery does not exceed
Rs.5000 the entire cost is allowed to be written off in the first year of its use.
If an asset acquired during a year has been used for a period less than
180days during the year, depreciation on such assets is allowed only a 50%
of the computed depreciation according to the relevant rate.
Working capital effect:
Working capital constitutes another capital ingredient of the cash flow

stream, which is directly related to an investment proposal. The term
working capital is used here in neatness, i.e. current assets – current
liabilities (Net Working Capital). If investment is expected to increase sales
it is likely that there will be an increase in current assets in the form of
account receivable, inventory and cash. But part of these increases in current
assets will be offset by an increase in current liabilities in the form of current
accounts and notes payable. The difference between these additional current
assets and current liabilities will be needed to carryout the investment
proposal. Sometimes, it may constitute a significant part of the total
investment in the project. The increased working capital forms part of an
initial cash outlay.
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The additional networking capital will however be returned to the
firm at the end of the projects file. Therefore, the recovery of the working
capital becomes the part of the cash in flows stream in the terminal year.
Determination of relevant cash flows:
The data requirements for capital budgeting are cash flows, outflows
and inflows. Their competition becomes on the nature of the proposal.
Capital proposals can be categorized into:
(a) Single proposal.
(b) Replacement situations.
(c) Mutually exclusive.
Single proposal:
The cash outflows, comprising cash outlays required to carryout the

proposal capital expenditure, while the computation of the inflows after
taxes (CFAT).
Format:
Cash outflows of the new project (beginning of the period at ZERO TIME)
Cost of new project xxx
+ Installation of plant and equipment xxx
+/- Working capital requirement xxx
Determination of cash inflows: Single investment proposal (t=n-1)
TABLE – II.1
Single investment proposal format
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Years
Particulars 1 2 3 N
Cash sales revenues
(-) Cash operating cost
Cash inflows before taxes (CFBT)
(-) Depreciation taxable income
(-) Tax earnings after taxes
(+) Depreciation
Cash inflows after tax(CFAT)
(+) Salvage value (in Nth year)
(+) Recovery of the working capital
Replacement situations:
In case of replacement of an existing machine by a new one the

relevant cash outflows are after tax incremental cash flows. If anew machine
is about to replace an existing machine the proceeds so obtained from its
sales reduce cash out flows required to purchase the new machine and part
of relevant cash outflows.
Mutually exclusive:
In case of mutually exclusive proposals the selection of one proposal

preludes the choice of other. The calculation of the cash flows is on lines of
similar to the replacement situations.
Element of cash flows streams:
To evaluate a project, we must determine the relevant cash flows,

which are the incremental after the cash flows associated with the project.
The cash flow stream of the conventional project, a project which involves
cash outflows followed by cash inflows comprises three basic components:
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(a) Initial investment.
(b) Operating cash flows.
(c) Terminal cash flows.
The initial investment is after tax cash outlay on capital expenditure and
networking capital.
The operating cash inflows are the after tax cash inflows resulting
from the operating of the project during the economic life.
The terminal cash inflow is after tax cash flow resulting from the
liquidation of the project at the end of its economic life.
Time horizon for analysis:
This time horizon for cash flow analysis usually established

generally the minimum of the following:
Physical life of the plant:
This refers to the period during which the plant remains in a

physically usable condition. This is the number of years the plant would
perform the function for which it had been acquired. This depends upon the
wear and tear which plant is subjected to. Suppliers of plant may provide the
information of the physical life under normal operating conditions. While
the concept of the physical life may be useful for determining the
depreciation charge, it is not very useful for investment decision-making
process.
Technological life of the plant:
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New technological developments tend to render the existing plant
obsolete. The technological life of the plant refers to the period of the time
for which the present plant would not be rendered obsolete by a new plant. It
is very difficult to estimate the technological life because any law does not
govern the phase of the new development. While it is almost certain that a
new development would occur when it would occur is anybody’s guess. Yet
an estimate of the technological life has to be made.
Product market life of the plant:
A plant may be physically usable, its technology may not be

obsolete, but the market for its products may disappear or shrink and hence
its continuance may not be justified. The product life of the plant refers to
the period for which the product of the plant enjoys reasonable satisfactory
market.
Investment horizon of the firm:
The time period for which a firm wishes to look ahead for the
purposes of investment analysis may be referred to as its investment horizon
planning. It naturally tends to vary with the complexity and size of
investment. For small investments (installation of lathe) it may be five years.
For medium size investments (expansion of the plant capacity) it may be ten
years. For large size investment (setting up a new division) it may be fifteen
years.
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COMPANY PROFILE
Hindustan Aeronautics Limited (HAL) came into existence on

1st October 1964. The Company was formed by the merger of Hindustan
Aircraft Limited with Aeronautics India Limited and Aircraft Manufacturing
Depot, Kanpur.
The Company traces its roots to the pioneering efforts of an

industrialist with extraordinary vision, the late Seth Walchand Hirachand,
who set up Hindustan Aircraft Limited at Bangalore in association with the
erstwhile princely State of Mysore in December 1940. The Government of
India became a shareholder in March 1941 and took over the Management in
1942.
Today, HAL has 16 Production Units and 9 Research and Design

Centers in 7 locations in India. The Company has an impressive product
track record - 12 types of aircraft manufactured with in-house R & D and 14
types produced under license. HAL has manufactured 3550 aircraft (which
includes 11 types designed indigenously), 3600 engines and overhauled over
8150 aircraft and 27300 engines.
HAL has been successful in numerous R & D programs developed

for both Defense and Civil Aviation sectors. HAL has made substantial
progress in its current projects:
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• Dhruv, which is Advanced Light Helicopter (ALH)
• Tejas - Light Combat Aircraft (LCA)
• Intermediate Jet Trainer (IJT)
• Various military and civil upgrades.
Dhruv was delivered to the Indian Army, Navy, Air Force

and the Coast Guard in March 2002, in the very first year of its
production, a unique achievement.
HAL has played a significant role for India's space programs by
participating in the manufacture of structures for Satellite Launch Vehicles
like
• PSLV (Polar Satellite Launch Vehicle)

• GSLV (Geo Stationary Launch Vehicle)
• IRS (Indian Remote Satellite)
• INSAT (Indian National Satellite)
There are three joint venture companies with HAL:
• BAeHAL Software Limited

• Indo-Russian Aviation Limited (IRAL)
• Snecma HAL Aerospace Pvt Ltd
Apart from these three, other major diversification projects are Industrial
Marine Gas Turbine and Airport Services. Several Co-production and Joint
Ventures with international participation are under consideration.
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HAL's supplies / services are mainly to Indian Defense Services, Coast
Guards and Border Security Forces. Transport Aircraft and Helicopters have
also been supplied to Airlines as well as State Governments of India. The
Company has also achieved a foothold in export in more than 30 countries,
having demonstrated its quality and price competitiveness.
HAL has won several International & National Awards for achievements in
R&D, Technology, Managerial Performance, Exports, Energy Conservation,
Quality and Fulfillment of Social Responsibilities.
• HAL was awarded the “INTERNATIONAL GOLD MEDAL

AWARD” for Corporate Achievement in Quality and Efficiency at
the International Summit (Global Rating Leaders 2003), London, UK
by M/s Global Rating and UK in conjunction with the International
Information and Marketing Center (IIMC).
• HAL was presented the International - “ARCH OF EUROPE” Award
in Gold Category in recognition for its commitment to Quality,
Leadership, and Technology and innovation.
• At the National level, HAL won the "GOLD TROPHY" for
excellence in Public Sector Management, instituted by the Standing
Conference of Public Enterprises (SCOPE).
The Company scaled new heights in the financial year 2004-2005 with a
turnover of Rs. 4534 Crores and export over Rs. 150.05 Crores.
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EVOLUTION AND GROWTH OF THE COMPANY
The company’s steady organizational growth over

the years with consolidation and enlargement of its operational base by
creating sophisticated facilities for manufacture of aircraft / helicopters, aero
engines, accessories and avionics is illustrated below.
EXHIBIT-III.1
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HAL MISSION
" To become a globally competitive aerospace industry while working as an

instrument for achieving self-reliance in design, manufacture and
maintenance of aerospace defense equipment and diversifying to related
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areas, managing the business on commercial lines in a climate of growing
professional competence”
HAL VALUES
CUSTOMER SATISFACTION
HAL is dedicated to building a relationship with its customers
where it becomes partners in fulfilling their mission. It strives to understand
our customer’s needs and to deliver products and services that fulfill and
exceed all their requirements.
COMMITMENT TO TOTAL QUALITY
It is committed to continuous improvement of all its activities. It
will supply products and services that conform to highest standards of
design, manufacture, reliability, maintainability and fitness for use as desired
by our customers
COST AND TIME CONSCIOUSNESS
It believes that our success depends on their ability to continually
reduce the cost and shorten the delivery period of its products and services.
It will achieve this by eliminating waste in all activities and continuously
improving all processes in every area of our work.
INNOVATION AND CREATIVITY
It believes that our success depends on our ability to continually
reduce the cost and shorten the delivery period of our products and services.
It will achieve this by eliminating waste in all activities and continuously
improving all processes in every area of our work.
TRUST AND TEAM SPIRIT
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It believes in achieving harmony in work life through mutual
trust, transparency, co-operation, and a sense of belonging. It will strive for
building empowered teams to work towards achieving organizational goals.
RESPECT FOR THE INDIVIDUAL
It values its people. it will treat each other with dignity and
respect and strive for individual growth and realization of everyone's full
potential.
INTEGRITY
It believes in a commitment to be honest, trustworthy, and fair
in all our dealings. It commits to be loyal and devoted to its organization. It
will practice self-discipline and own responsibility for its actions. It will
comply with all requirements so as to ensure that its organization is always
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EXHIBIT-III.2
BOARD OF DIRECTORS
CHAIRMAN
WHOLE TIME PART TIME OFFICIAL PART TIME NON-

DIRECTORS (7) DIRECTORS (2) OFFICIAL DIRECTORS (6)
MD (MIG COMPLEX) JOINT SECRETARY G P GUPTHA

(HAL)
DIRECTOR (PERSONNEL) RATAN NAVAL TATA
ADDL.FA (AM) & JS
DIRECTOR (CORP PLG & MKG) R N BHATTACHARYA
MD (ACCYS COMLLEX) M.K.MOITRA
DIRECTOR (DESIGN & DEV) S.RAVI
DIRECTOR (FINANCE) VICE ADMIRAL
MD (BANGALOOR COMPLEX) RAMAN PURI (Retd.)
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EXHIBIT-III.3
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TABLE – III.1
HAL CUSTOMERS
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International Customers Domestic Customers
• Airbus Industries, France • Air India
• APPH Bolton, UK • Air Sahara
• BAE Systems, UK • Airports Authority of India
• Chelton, UK • Bharat Electronics
• Coast Guard, Mauritius • Border Security Force
• Corporate Air, • Coal India
Philippines • Defense Research & Development
• Cosmic Air, Nepal Organization
• Dassault Aviation, • Govt. of Andhra Pradesh
France • Govt. of Jammu & Kashmir
• Dowty Aerospace • Govt. of Karnataka
Hydraulics, UK • Govt. of Maharashtra
• EADS, France • Govt. of Rajasthan
• ELTA, Israel • Govt. of Uttar Pradesh
• Gorkha Airlines, Nepal • Govt. of West Bengal
• Hampson, UK • Indian Air force
• Honeywell International, • Indian Airlines
USA • Indian Army
• Island Aviation Services, • Indian Coast Guard
Maldives • Indian Navy
• Israel Aircraft Industries, • Indian Space Research Organization
Israel • Jet Airways
• Messier Dowty Ltd., UK • Kudremukh Iron ore Company ltd.
• Mistubishi Heavy • NALCO
Industries, Japan • Oil & Natural Gas Corporation Ltd.
• MOOG, USA • Ordnance Factories
• Namibian Air Force, • Reliance Industries
Namibia • United Breweries
• Peruvian Air Force , Peru
• Rolls Royce Plc, UK
• Royal Air Force, Oman
• Royal Malaysian Air
Force, Malaysia
• Royal Nepal Army,
Nepal
• Royal Thai Air Force,
Thailand
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• Smiths Industries, UK
• Snecma, France
• Strong field
Technologies, UK
• The Boeing Aircraft
Company, USA
• Tran world Aviation,
UAE
• Vietnam Air Force,
Vietnam
FINANCIAL HIGHLIGHTS:
Hindustan Aeronautics Limited (HAL) has cruised past the

Rs.7,500-crore mark for the first time with a sales turnover of Rs.7,783.61
crores ($1.82 billion) during the Financial Year 2006-07, The Value of
Production has also gone up by 55.54% to Rs. 9,201.88 crores, while the
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Profit of the Company (Profit Before Tax) soared to Rs.1,743.60 crores,
which is an increase of 54.88% over the previous year's performance.
The highlights are given below:
Rupees in Crores
Growth over
Particulars 2005-06 2006-07 Previous Year
Sales 5342 7783 45.69%
VOP 5916 9202 55.54%
Profit before tax 1126 1744 54.88%
Profit after tax 771 1149 49.03%
Gross Block 1694 2081 22.85%
Welcome to the Avionics Division, Hyderabad of Hindustan Aeronautic
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s Limited.
In early sixties, it was strongly felt that our defense services

should be more self reliant in defense related equipment, electronics in
particular. This resulted in HAL setting up a full - fledged unit to cater to the
aviation electronics (AVIONICS). Thus Avionics Division, Hyderabad was
born in the year 1965.
To begin with, the Division's dedicated design team took up the task of
indigenising, the following critical avionics.
• Identification of Friend or Foe
• UHF Communication set
• V/UHF Communication System
• Automatic Direction Finder (ADF)
• Radio Altimeter
These systems were developed, qualified, flight tested and inducted
into the various MiG aircraft manufactured under license in India. Later on,
the same equipments were fine tuned to meet the requirement of other
aircraft like Kiran, Jaguar, Dornier, AN-32 and Helicopters.
Today the Division has spread its wings further to meet the
Communication and Navigation requirements of our defiance customers and
the Division is fully geared to enter the international market too.
35
Products in Current Manufacturing Range
36
SI.
EQUIPMENTFUNCTION HIGHLIGHTS SPECIFICATIONS
NO.
Power output: >
Identification ofMore than 2000350W< (24.5 dbw)
1. IFF 400
Friend or Foe in service PEAK No. of codes
available 4096
Automatic replies to
appropriate groundModular Additional secure
2. IFF 1410A
or airborneConstruction mode
interrogators
About 1000
Automatic Direction
3. ADF flying in variousAccuracy: ± 2%
Finder
aircraft
A combined V 100-156 MHz (2240
More than 2000
4. VUC-201 A /UHF main channels) 225-400
in service
communication set MHz (7000 channels)
Integrated Radio Communication in
INCOM-
5. Communication ECCM Facility AM/FM/Data/ECCM
1210A
System Mode
Operating Freq.: 225-
UHF standby
6. COM-150A Fully solid-state 400 MHz 7000
equipment
channels, 5 w
UHF standbyHybridized
7. COM-1150A 10 Preset Channels
equipment Version
VHF Operating Freq.: 116-
COM- Fully Solid -
8. Communication 136 MHz 720
104A/105A state
Equipment channels, 4W
2 to 27 MHz
Fitted in all
HF Single Sideband Channel spacing: 100
9. HFSSB military
Communication set Hz
Transport A/C
Sensitivity: 100 dbm
Supplied to
Range: 5 to 200
Measure speed ofmany state
10. SPEEDET KMPH
moving object police
Accuracy: ±1 KMPH
departments
A combined V/UHFMore than 150Freq. Range: 100-156
Communication set Operation inMHz
various ships
37
ANALYSIS OF THE PROJECTS
This project deals with the analysis of certain running

projects of HAL. The analysis is carried out based on the method of risk
analysis discussed in earlier chapter. Since H.A.L is a organization under the
ministry of the Defense which is engaged in the production of different
Defense products to be supplied to it’s various customers viz. Indian air
force, Indian army, Indian navy etc. The project names that are bean
analyzed in further chapters have been codified for data security.
Accordingly four running projects of H.A.L. have been

selected for analysis and are coded as PROJECT 1, PROJECT 2,
PROJECT 3, and PROJECT 4. Brief description of the project is
discussed below.
38
PROJECT-1
This project is for supply of Eqot. For a Helicopter and its total
investment is about Rs.1038 lakhs.
CASH FLOW AFTER TAX FOR PROJECT- 1
39
TABLE – IV.1
Qt Sale Total Gross Total Net Tax Add.

Year y Value Cost Earnings Dep Earnings 31% PAT Dep. CFAT
1 2 3 4 5=3-4 6 7=5-6 8 9=7-8 10 11=9+10
38.9 38.9
1 3 265.5 238.55 26.5 2 -12.42 -3.85 -8.57 2 30.35
2 5 441.75 397.58 44.17 51.9 -7.73 -2.4 -5.33 51.9 46.57
1325.2 1192.7 77.8 77.8
3 15 5 3 132.52 5 54.67 16.95 37.72 5 115.57
2208.7 1987.8
4 25 5 8 220.87 98.6 122.27 37.9 84.37 98.6 182.97
2208.7 2017.6 103. 103.
5 25 5 9 191.06 8 87.26 27.05 60.21 8 164.01
2047.9 103. 154.6 103.
6 30 2650.5 6 602.54 8 498.74 1 344.13 8 447.93
2078.6 103. 145.0 103.
7 30 2650.5 8 571.82 8 468.02 9 322.93 8 426.73
3092.2 2810.8 103. 103.
8 35 5 6 281.39 8 177.59 55.05 122.54 8 226.39
3092.2 2853.0 103. 103.
9 35 5 2 239.23 8 135.43 41.98 93.45 8 197.25
3092.2 2895.8 103. 103.
10 35 5 2 196.43 8 92.63 28.72 63.91 8 167.71
3092.2 2939.2 103. 103.
11 35 5 6 152.99 8 49.19 15.25 33.94 8 137.74
2385.4 2266.1 103. 44.1
12 25 5 8 119.27 8 75.14 23.29 51.85 3 95.98
Tota 30 1201.1
l 0 5 2239.15
40
PROJECT -2
This project is recording system with a capital investment is a

bout Rs.92.54 lakhs.
CASH FLOW AFTER TAX FOR PROJECT –2

TABLE –IV.2
Tota
Qt Sale Total Gross l Net Tax Add.
1 2 3 4 5=3-4 6 7=5-6 8 9=7-8 10 11=9+10
1 3 37.14 33.43 3.71 3.67 0.04 0.01 0.03 3.67 3.7

148.5
2 12 6 133.7 14.86 4.62 10.24 3.17 7.07 4.62 11.69
167.1
3 15 185.7 3 18.57 6.94 11.63 3.61 8.02 6.94 14.96
169.6
4 15 185.7 4 16.06 6.94 9.12 2.83 6.29 6.94 13.23
278.5
5 25 309.5 5 30.95 6.94 24.01 7.44 16.57 6.94 23.51
282.7
6 25 309.5 3 26.77 6.94 19.83 6.15 13.68 6.94 20.62
278.5
7 25 309.5 5 30.95 6.94 24.01 7.44 16.57 6.94 23.51
501.3 15.1
8 45 557.1 9 55.71 6.94 48.77 2 33.65 6.94 40.59
16 101.8
TOTAL 5 8 151.81
41
PROJECT- 3
This project is Adv. Computer system with a capital investment

about Rs.220.00 lakhs.
CASH FLOW AFTER TAX FOR PROJECT- 3

TABLE – IV.3
42
Tota
1 2 3 4 5=3-4 6 7=5-6 8 9=7-8 10 11=9+10
1 8 566.56 509.9 56.66 0.85 55.81 17.3 38.51 0.85 39.36

1593.4 54.6 121.5
2 25 1770.5 5 177.05 0.85 176.2 2 8 0.85 122.43
1912.1 1720.9 59.0 131.3
3 27 4 3 191.21 0.85 190.36 1 5 0.85 132.2
291.4
TOTAL 60 4 293.99
PROJECT – 4
This project is Radar Eqpt. With a capital investment is about

Rs.160 lakhs.
43
CASH FLOW AFTER TAX FOR PROJECT – 4
TABLE – IV.4
Tota
1 2 3 4 5=3-4 6 7=5-6 8 9=7-8 10 11=9+10
5379.9 44.1
1 5 5546.3 1 166.39 24 142.39 4 98.25 24 122.25
4437.0 4215.1 61.3 136.5
2 4 4 9 221.85 24 197.85 3 2 24 160.52
4437.0 4320.5 28.6
3 4 4 7 116.47 24 92.47 7 63.8 24 87.8
4437.0 4406.9
4 4 4 8 30.06 24 6.06 1.88 4.18 24 28.18
302.7
TOTAL 17 5 398.75
44
CALCULATION OF PAYBACK PERIOD
Payback period can be computed by dividing cash outlay by the annual cash
flow.
Payback period =Lower year + Original cost of product – AACIF of lower

year / AACIF of upper year – AACIF of lower year
In the case of unequal cash flow, the payback period can be found out by
adding of the cash inflows until the total is equal to the initial cash outlay.
Acceptance rule:
Payback method is the simplest and easy to understand and easy to

calculate. Companies used the payback period to accept or reject or it is used
as a method of ranking the project. As a ranking method, it gives highest
ranking to the project, which has the shortest payback period and lowest
ranking to the project with highest payback period. If the firm has to choose
among two mutually exclusive projects, the project with shorter payback
period is selected.
45
TABLE – IV.5
THE PAYBACK PERIOD OF PROJECT-1
(Rs in lakhs )
Year Annual cash inflows Cumulative cash inflows
1 30.35 30.35
2 46.57 76.92
3 115.57 192.49
4 182.97 375.46
5 164.01 539.47
6 447.93 987.4
7 426.73 1414.13
8 226.39 1640.47
9 197.25 1837.72
10 167.71 2005.43
11 137.74 2143.17
12 95.98 2239.15
Investment is Rs 1038 lakhs.

46
Payback period= 6+(1038-984.40)/(1414.13-987.40)
= 6.1 years.
Interpretation:
In this project the initial investment is Rs1038 lakhs are recovered in

6th year of 1st month.
TABLE – IV.6
(Rs in lakhs)
1 3.7 3.7
2 11.69 15.39
3 14.96 30.35
4 13.23 43.58
5 23.51 67.09
6 20.62 87.71
7 23.51 111.23
8 40.59 151.81
Investment is Rs 92.54 lakhs.

47
Payback period = 6+ (92.54-87.71) / (111.23-87.71)
= 6.2 years.
Interpretation:
In this project the initial investment is Rs 92.54 lakhs are

recovered in the 6th year of 2nd month.
TABLE – IV.7
(Rs in lakhs)
1 39.36 39.36
2 122.43 161.79
3 132.2 293.99
.
Investment is Rs 220.00 lakhs.

48
Payback period = 2 + (220 – 161.79) / (293.99 – 161.79)
= 2 + (58.21 / 132.2)
=2 + 0.44
= 2.4 years
Interpretation:
In this project the initial investment is Rs 220.00lakhs are

recovered in the 2nd year of 4th Month
TABLE – IV.8
(Rs in lakhs)
1 122.25 122.25
2 160.52 287.77
3 87.8 370.57
4 28.18 398.75
Investment is Rs 160 lakhs.
49
Payback period = 1+ (160-122.25) / (287.77-122.25)
= 1.2years.
Interpretation:
In this project the initial investment is Rs 160.00 lakhs are

recovered in the 1st year of 2nd month.
FIGURE – IV.1
50
PAYBACK PERIOD OF DIFFERENT PROJ ECTS
6.1 6.2
6
4
YEARS 1
2
3
2.4 3
4
2
1.2
1
0
1 2 3 4
PROJ ECTS
51
CALCULATION OF ACCOUTING RATE OF RETURN
The accounting rate of return thus is an Average Rate of Return,

which can be determined by the following equation.

Acceptance rule:
This method will accept all those projects whose ARR is higher than
the minimum rate established by the management and reject those projects
which have ARR less than the minimum rate. This method would rank a
project as number one if it has higher ARR and lowest rank would be
assigned to the project with lowest ARR. However, in HAL capital
investment in different projects is less since the company has already
established necessary infrastructure facilities. The expected rate of return
expected by the management from the entire project is 10%. Except for
certain exceptional projects such as TOT projects where the probability
values based on nature and Transfer of Technology. Based on this the ARR
52
of HAL is always likely to be higher. The ARR of four projects under
analysis is as below:
TABLE – IV.9
THE ARR OF PROJECT-1

(Rs in lakhs)
Year NPAT
1 -8.57
2 -5.33
3 37.72
4 84.37
5 60.21
6 344.1
7 322.9
8 122.5
9 93.45
10 63.91
11 33.94
12 51.85
Total 1201.2

53
Investment is Rs1038 lakhs
Average investment = 1038/2=519.
Average income =1201.15/12
=100.10
ARR= (100.10/519) 100
=19.28%
TABLE – IV.10
(Rs in lakhs)
Year NPAT
1 0.03
2 7.07
3 8.02
4 6.29
5 16.57
6 13.68
7 16.57
8 33.65
Total 101.9
54
Investment is Rs.92.54 lakhs.
Average investment = 92.54/2 = 46.27
Average income = 101.88/8 = 12.73
ARR = (12.73/46.27) 100 = 27.51
ARR = 27.51%
TABLE – IV.11
(Rs in lakhs)
Year NPAT
1 38.51
2 121.6
3 131.4
Total 291.4
55
Investment is Rs220.00 lakhs.
Average investment = 220/2
= 110
Average income = 291.44/3
= 97.14
ARR = (97.14/110) 100
ARR = 88%
TABLE – IV.12
(Rs in lakhs)
Year NPAT
1 98.25
2 136.5
3 63.8
4 4.18
56
Total 302.8

Investment is Rs.160 lakhs.
Average investment = 160/2
= 80
Average income = 302.75/4
= 75.68
ARR = (75.68/80) 100
=94.6%
57
FIGURE – IV.2
ARR OF DIFFERENT PROJ ECTS
100
94.6
90 88
80
70
60
1
ARR@%
50
2
40 3
4
30 27.51
20 19.28
10
0
1 2 3 4
PROJ ECTS
58
CALCULATION OF NET PRESENT VALUE OF HAL:
The following steps are involved in the calculation of NPV. Incase of

NPV is positive accept the project, if the NPV is negative reject the project.
NPV > 0 ACCEPT
NPV < 0 REJECT
NPV = 0 MAY ACCEPT
NPV is the true measure of an investment’s profitability. The NPV

method, therefore, provides the most investment rule. First, it recognizes the
time value of money. A rupee received today is worth more than a rupee
received tomorrow.
It uses all cash flows occurring over the entire of the project in
calculating its worth. The NPV relies on the time value of the estimated cash
flows and the discount rate rather than any arbitrary assumptions or
subjective considerations.
The NPV method can be selected between mutually exclusive

projects; the one with higher NPV should be selected. Using the NPV
method, projects would be ranked in order of net present values; that is, first
rank will be given to the project with the highest positive net present value
and so…on…
59
TABLE – IV.13
NET PRESENT VALUE OF THE PROJECT-1
(Rs in lakhs)
Year Cash flow P.V.factor@10% Cash flows of P.V
1 2 3 4(2*3)
1 30.35 0.909 27.58
2 46.57 0.826 38.46
3 115.57 0.751 86.79
4 182.97 0.683 124.96
5 164.01 0.621 101.85
6 447.93 0.564 252.63
7 426.73 0.513 218.91
8 226.39 0.467 105.7
9 197.25 0.424 83.63
10 167.71 0.386 64.73
11 137.74 0.35 48.2
12 95.98 0.319 30.61
Total 1184.05
Total CF of PV = 1184.05
(-) Investment = 1038.00
NPV = 146.05
60
Interpretation:
NPV of project-1 is positive (+) i.e. Rs 146.05 lakhs, so project is

acceptable for HAL.
TABLE – IV.14
(Rs in lakhs)
1 2 3 4 (2*3)
1 3.7 0.909 3.36
2 11.69 0.826 9.65
3 14.96 0.751 11.23
4 13.23 0.683 9.03
5 23.51 0.621 14.59
6 20.62 0.564 11.62
7 23.51 0.513 12.06
8 40.59 0.467 18.95
Total 90.49
Total CV of PV = 90.49
NPV = -2.05
61
Interpretation:
NPV of project-2 is Negative (-) i.e. – Rs 2.05 lakhs, so project is reject

for HAL.
TABLE – IV.15
(Rs in lakhs)
1 39.36 0.909 35.77
2 122.43 0.826 101.12
3 132.2 0.751 99.28
4 Total 236.17
NPV = 16.17
62
Interpretation:

acceptable for HAL.
TABLE – IV.16
(Rs in lakhs)
1 122.25 0.909 111.12
2 160.52 0.826 132.58
3 87.8 0.751 65.93
4 28.18 0.683 19.24
5 Total 328.87
63
NPV = 168.87
Interpretation:

acceptable for HAL.
64
FIGURE – IV.3
NPV OF DIFFERENT PROJ ECTS
180
168.87
160
146.05
140
120
100
RUPEES IN 1
80
LAKHS
2
60 3
4
40
20 16.17
0 -2.05
-20
1 2 3 4
PROJ ECTS
65
CALCULATION OF PROFITABILITY INDEX (PI)
The profitability index method provides a solution to this kind of

problem; it may be defined as the ratio, which is obtained dividing the
present value of future cash flows by the present values of cash outlays.
PI = PV of cash inflows / initial cash outlay
ACCEPTANCE OF THE PROJECT:
Using the B/C ratio or the PI, a project will accept if its PI exceeds
one. When the PI = 1, when the PI is greater than, equal to or less than 1, the
net present value is greater than or equal to or less than zero. In other wards,
the NPV will be positive when the PI is greater than one; NPV is negative
when the PI is less the one.
Therefore NPV and PI approaches give the same results regarding

the investment proposals.
66
TABLE – IV.17
PROFITABILITY INDEX OF PROJECT-1:
(Rs in lakhs)
1 2 3 4(2*3)
1 30.35 0.909 27.58
2 46.57 0.826 38.46
3 115.57 0.751 86.79
4 182.97 0.683 124.96
5 164.01 0.621 101.85
6 447.93 0.564 252.63
7 426.73 0.513 218.91
8 226.39 0.467 105.7
9 197.25 0.424 83.63
10 167.71 0.386 64.73
11 137.74 0.35 48.2
12 95.98 0.319 30.61
Total 1184.05
PV of cash inflows = 1184.05
(-) Investment =1038.00
NPV =146.05
67
PI = 1184.05/1038 = 1.14
Interpretation:
The profitability index value is 1.14, which is more than the value ‘0’,
and also the NPV is positive hence the project is viable to HAL.
TABLE – IV.18
(Rs in lakhs)
1 2 3 4 (2*3)
1 3.7 0.909 3.36
2 11.69 0.826 9.65
3 14.96 0.751 11.23
4 13.23 0.683 9.03
5 23.51 0.621 14.59
6 20.62 0.564 11.62
7 23.51 0.513 12.06
8 40.59 0.467 18.95
Total 90.49
NPV = -2.05
68
PI = 90.49/92.54 = 0.97
Interpretation:
and also the NPV is negative hence the project is not viable to HAL.
TABLE – IV.19
(Rs in lakhs)
1 39.36 0.909 35.77
2 122.43 0.826 101.12
3 132.2 0.751 99.28
4 Total 236.17
NPV = 16.17
69
PI = 236.17/220= 1.07
Interpretation:
TABLE – IV.20
(Rs in lakhs)
1 122.25 0.909 111.12
2 160.52 0.826 132.58
3 87.8 0.751 65.93
4 28.18 0.683 19.24
5 Total 328.87
NPV = 168.87
70
PI = 328.87/160 =2.05
Interpretation:
71
FIGURE – IV.4
PROFITABILITY INDEX OF DIFFERENT PROJ ECTS
2.5
2.05
2
1.5
1
VALUES 1.14
1.07 2
0.97 3
1
4
0.5
0
1 2 3 4
PROJ ECTS
72
INTERNAL RATE OF RETURN (IRR):
The second discounted cash flow or time-adjusted method for
apprising capital investment decisions is the internal rate of return (IRR)
method. This technique is also known as yield on investment, marginal
efficiency of capital, marginal productivity of capital. The internal rate of
return is usually the rate of return that a project earns. It is defined as the
aggregate present value of cash outflows of a project.
IRR = Lower rate of return + present value of Cash at lower rate – present
value of investment / Different between present values ∗ Different between
the discount rate chosen.
(OR)
IRR = r – (PBP – DFR) / (DFRL – DFRH)

Where PBP = Pay back period
DFR = Discount factor for interest Rate r
DFRL = Discount factor for Lower interest Rate r
DFRH = Discount factor for Higher interest Rate r
Accept – if IRR > cost of capital

Reject - if IRR < cost of capital
73
CALCULATION OF IRR OF PROJECT – 1
Pay Back Period = 6.1 years

Present value of annuity for PBP lies between 12% and 13%
12% ---------------------------- 6.1944
13% ---------------------------- 5.9176
IRR = 13 – (6.1-5.917) / (6.194-5.917)
IRR = 12.3%
Interpretation:
The minimum expected rate of return of HAL is 10%. Since the
IRR of ject-1 i.e 12.3% is grater than expected rate of return, it is observed
that project is viable to HAL.

6% ------------------------- 6.2098
7% ------------------------- 5.9713
IRR = 7 – (6.2 –5.9713) / (6.2098 –5.9713)
74
IRR = 6%
Interpretation:
The expected rate of return of HAL is 10%. Since the IRR of
project-2 i.e. 6% is less than expected rate of return, so it is observed that
project is not viable to HAL.

12% ------------------------- 2.402
13% ------------------------- 2.361
IRR = 13 – (2.4 –2.361) / (2.402 –2.361)
IRR = 11.88%
Interpretation:
The minimum expected rate of return of HAL is 10%. Since the IRR
of ject-3 i.e 11.88% is grater than expected rate of return, it is observed that
project is viable to HAL.
Invest of Project-3 is Rs.160 Lakhs.
NPV= 0
75
(Cash inflow - Investment) = 0
The IRR is the value of ‘r’, which satisfies the following equation.
160 = 122.25 + 160.52 + 87.80 + 28.18

(1+r) (1+r) 2 (1+r) 3 (1+r) 4
The calculation of ’r’ involves a process of trail and error. We try different
values of ‘r’ till we find that the RHS of the above equation is equal to
Rs.160Lakhs. Let us, to began with, try r=62%. This makes the RHS equal
to:
39.36 + 122.43 + 132.20 = 161.37

(1+0.62) (1+0.62) 2 (1+0.62) 3
The value is slightly Higher than our target valueRs.160lakhs. So we

increase the value of ‘r’ from 62% to 63%.
39.36 + 122.43 + 132.20 = 159.68

(1+0.63) (1+0.63) 2 (1+0.63) 3
Since this value is now less than 160, we conclude that value of ‘r’lies
between 62% to 63%. From most of the purposes this indication sufficient.
If a move-refined estimate of ‘r’ is needed, use the following procedure.
(1) Determine the NPV of Two closest rates of return.
(NPV/62%) 1.37
(NPV/63%) 0.32
(2) Find sum of the absolute values of the NPV obtained in step 1:
1.37 + 0.32 = 1.69
76
(3) Calculate the ratio of the NPV of the smaller discount rate identified in
step 1: to the sum obtained in step2:
0.32/1.69 = 0.18
(4) Add the number obtained in step3: to the smaller discount rate:
62+0.18 = 62.18%
Interpretation:
The minimum expected rate of return of HAL is 10%. Since the IRR
of ject-4 i.e 62.18% is grater than expected rate of return, it is observed that
project is viable to HAL.
FIGURE – IV.5
77
IRR OF DIFFERENT PROJECTS
70
62.18
60
50
40
IRR (%) 1
30 2
3
20 4
12.3 11.88
10
6
0
1 2 3 4
PROJECTS
FINDINGS / CONCLUSIONS
78
The study concerned with the capital budgeting with reference to HAL the
data is collected, organized, analyzed and interpreted. HAL has a good
organization culture, excellent working environment and a very precious
asset that is highly dedicated, hardworking, and well-qualified efficient and
knowledgeable workforce.
The following findings are obtained from the analysis of data:

1. The project is for supply of Eqot. For a helicopter and its total investment
is Rs.1038 lakhs.
• The non-discounted pay back period is 6.1 years. The
investment will recover in 6years and 1 month.
• The ARR is 19.28% more than the required rate of return.
Therefore, accept the project on ARR basis.
• NPV is positive (+) i.e.Rs146.05 lakhs, so accept the project.
• The profitability index is 1.14 times > 1.
• The IRR is 12.3% more than the required rate of return
2. The project is recording system with a capital investment is about Rs

92.54 lakhs.

investment will recover in 6years and 2 month.
• NPV is negative (-) i.e. –2.05 lakhs, so reject the project on
NPV basis.
79
• The profitability index is 0.97 times <1. So reject the project
on PI basis.
• The IRR is 6% less than the required rate of return. So reject
project on IRR basis.
3. The project is adv. Based computer system with a capital investment is
about Rs.8.12lakhs.
investment will recover in 2 year and 4th month only.
• The ARR is 88% more than the required rate of return.
• The IRR is 11.88% more than the required rate of return.
4. The project is Radar Eqpt. With a capital investment is about Rs.160lakhs.

investment will recover in 1year and 2 month.
• The IRR is 62.18% more than the required rate of return
80
TABLE – V.1
ACCEPT / REJECT THE NEW SCHEMES:
Project ARR PBP NPV IRR PI Accept/Reject
1 A A A A A Accept
2 A A R R R Reject
3 A A A A A Accept
4 A A A A A Accept
81
TABLE – V.2
COMPARATIVE ANALYSIS OF ALL THE 4 PROJECTS:
NPV (Rs in
Project ARR (%) PBP (Yrs) lakhs) IRR (%) PI (Times)
1 19.28 6.1 146.05 12.3 1.14
2 27.51 6.2 -2.05 6 0.97
3 88 2.4 16.17 11.88 1.07
82
4 94.6 1.2 168.87 62.8 2.05
 The ARR of all the projects is more than the companies minimum
required rate of return.
 All projects are recovering the investment in their project duration.
 Except the 2nd project, all of them are having positive NPV.
 Except the 2nd project, the IRR of all the projects is more than the
companies minimum required rate of return.
 The above projects profitability is more than 1 but again the 2nd
project fails and earns a profit of Rs.0.97 at per rupee of

investment.
RECOMMENDATIONS / SUGGESTIONS
1. The advanced computer system project is high quality project. It’s

profitable in all contexts PBP, ARR, NPV, IRR, PI are positive, accept the
project.
2. The recording system is not a profitability project; it is generating losses

at present. Therefore, Reject it.
83
3. The project of supply of Eqot. for a Helicopter is having a PBP of 6.1yrs,
NPV, IRR, ARR & PI are indicating a positive sign. Therefore accept the
project.
4. The project of Radar Eqpt is having a PBP of 1.2yrs, NPV, IRR; ARR &
PI are indicating a positive sign. Therefore accept the project.
BIBLIOGRAPHY:
BOOKS:
84
1) A Murthy, S Gurusamy, “Management Accounting”, Vijay
Nicole, 2006.
2) I M Pandey, “Financial Management”, 9/e, Vikas publishing,
2004.
3) M Y Khan and P K Jain,“Financial Management”,Tata Mc
Graw-Hill, New Delhi- 2003.
4) S.N.Maheswari, “Financial Management”, Vikas Publishers,
New Delhi-2003.
5) V K Bhalla, “Financial Management and Policies”, Anmol
Publications Pvt.Ltd. New Delhi.
WEB-SITES:
1) www.hal-india.com
2) www.wikipedia.com
3) www.google.com
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INTRODUCTION

INTRODUCTION OF CAPITAL BUDGETING:

Capital budgeting is an essential part of every company’s

NEED FOR THE STUDY:

 Long term commitment on funds

 Long term impact of profitability

 Most difficult to make.

 Wealth maximization of shareholders.

The objectives of the study are:

 To understand the need of organizations to identify and invest in high

 To prepare a list of the main financial variables required for a project

 To evaluate capital projects using traditional methods of investment

 To illustrate the important differences, which can arise in evaluating

The scope of the study is that the following areas:

 How money is acquired and from what sources?

 How individual capital project alternatives are identified and

 How minimum requirements of acceptability are set?

 How final project selections are made?

 How post mortem are conducted?

METHODOLOGY OF THE STUDY

The present study is made during the IVth semester of the

Capital expenditure decisions are of considerable significance as

INVESTMENT DECISIONS AFFECTING REVENUES

Mutually exclusive project decision:

TECHNIQUES OF CAPITAL BUDGETING

Capital budgeting is the process of making investment in capital

“Capital budgeting is long term planning for making and

According to GC Philppatos, “Capital budgeting concern

Discounting criteria Non-discounting criteria

Net Profitability Internal Payback Accounting

TRADITIONAL OR NON-DISCOUNTING TECHNIQUES:

Payback period = Average income / Annual cash flow

Payback method is the simplest and easy to understand and easy to

2) Accounting rate of return (ARR):

Accounting rate of return = average income / Average investment.

1) Net present value (NPV):

2) Internal rate of return (IRR):

Accept – if IRR > cost of capital

3) Profitability Index (PI):

PI = Present value cash inflows / Present value of cash outflows

If the present value sum of total of the compounded reinvested cash

The role of finance manager is to coordinate the different

(a) Times factors for the analysis.

(b) Physical life of the plant.

(c) Technological life of the plant.

Effect on other projects:

Effect on indirect expenses:

The indirect expenses/overheads are allocated to the different products

Depreciation, although a non-cash item of cost, is deductible

Depreciation is the charged with a view to simplify computation, not

Depreciation is computed at the block-wise rates on the basis of

The depreciation allowance on office buildings, and furniture and

Working capital effect:

Working capital constitutes another capital ingredient of the cash flow

Determination of relevant cash flows:

(a) Single proposal.

(b) Replacement situations.

(c) Mutually exclusive.

The cash outflows, comprising cash outlays required to carryout the

Cost of new project xxx

+ Installation of plant and equipment xxx

+/- Working capital requirement xxx