MB0029 - P.Srinath - Completely Solved

8/9/2019 MB0029 - P.Srinath - Completely Solved

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MB0029: FinancialManagement[Assignment SET1 & SET2]

Name : P. Srinath

SMDUE ID : 520923307

Center : Mehbub College Campus, SecunderabadSubject Code : MB0029

Subject : Financial Management


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ASSIGNMENT MBA SEM II Subject Code:

MB0029 SET 1

1. Why wealth maximization is superior to profit maximization intodays context? Justify your answer.

Profit Maximization has been considered as the legitimate objective ofa firm because profit maximization is based on the cardinal rule ofefficiency. Under perfect competition aallocation of resources shall be basedon the goal of profit maximization.

A firms performance is evaluated in terms of profitability.Investors perception of companys performance can be traced to the goalof profit maximization. But, the goal of profit mmaximization has been

criticized on many accounts.

Wealth Maximization has, been accepted by the financemanagers, because it overcomes the limitations of profit maximisation.Wealth maximization means maximizing the net wealth of the Companysshare holders. Wealth maximization is possible only when the companypursues policies that would increase the market value of shares of thecompany.

Superiority of Wealth Maximization over Profit Maximization

It is based on cash flow, not based on accounting profit.

Through the process of discounting it takes care of thequality of cash flows. Distant cash flows are uncertain. Convertingdistant uncertain cash flows into comparable values at base periodfacilitates better comparison of projects. There are various ways ofdealing with risk associated with cash flows. These risks areadequately considered when present values of cash flows are taken toarrive at the net present value of any project.

In todays competitive business scenario corporates play akey role. In company form of organization, shareholders own thecompany but the management of the company rests with the board

of directors. Directors are elected by shareholders and henceagents of the shareholders. Company management procures fundsfor expansion and diversification from Capital Markets. In theliberalized set up, the society expects corporate to tap the capitalmarkets effectively for their capital requirements. Therefore tokeep the investors happy through the performance of value of sharesin the market, management of the company must meet the wealthmaximisation criterion.

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When a firm follows wealth maximization goal, it achievesmaximization of market value of share. When a firm practices wealthmaximisation goal, it is possible only when it produces quality goods atlow cost. On this account society gains because of the societalwelfare.

Maximization of wealth demands on the part of corporate todevelop new products or render new services in the most effectiveand efficient manner. This helps the consumers as it will bring to themarket the products and services that consumers need.

Another notable features of the firms committed to themaximization of wealth is that to achieve this goal they are forced torender efficient service to their customers with courtesy. Thisenhances consumer welfare and hence the benefit to the society.

From the point of evaluation of performance of listed firms,

the most remarkable measure is that of performance of thecompany in the share market. Every corporate action finds itsreflection on the market value of shares of the company. Therefore, shareholders wealth maximization could be considered asuperior goal compared to profit maximization.

Since listing ensures liquidity to the shares held by theinvestors, shareholders can reap the benefits arising from theperformance of company only when they sell their shares. Therefore, it is clear that maximization of market value of shareswill lead to maximization of the net wealth of shareholders

2. Your grandfather is 75 years old. He has total savings of Rs.80,000.He expects that he live for another 10 years and will like to spendhis savings by then. He places his savings into a bank accountearning 10 per cent annually. He will draw equal amount each year-the first withdrawal occurring one year from now in such a way thathis account balance becomes zero at the end of 10 years. How muchwill be his annual withdrawal?

Present Value (PV) =80000/-

Amount (A) =?

Interest Rat e (I) =10%

No. of Year (N) =10

PVAn = A {1+i)n-1} /{ i(1+i)n}

80000=A{1+.10)10 }/{.10(1+.10)10}

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80000=A{ 1.593742/0.259374}

A =80000/ 6.144567

A = 13019.63 Yrly

3. What factors affect financial plan?

Factors Affecting Financial Plan

Nature of the industry Here, we must consider whether it isa capital intensive or labour intensive industry. This will have a majorimpact on the total assets that the firm owns.

Size of the Company The size of the company greatlyinfluences the availability of funds from different sources. A smallcompany normally finds it difficult to raise funds from long X Ds X1000 , term sources at competitive terms. On the other hand, largecompanies like Reliance enjoy the privilege of obtaining funds bothshort term and long term at attractive rates.

Status of the company in the industry A wellestablished company enjoying a good market share, for itsproducts normally commands investors confidence. Such a companycan tap the capital market for raising funds in competitive terms for

implementing new projects to exploit the new opportunitiesemerging from changing business environment.

Sources of finance available Sources of financecould be grouped into debt and equity. Debt is cheap but riskywhereas equity is costly. A firm should aim at optimum capitalstructure that would achieve the least cost capital structure. Alarge firm with a diversified product mix may manage higherquantum of debt because the firm may manage higher financialrisk with a lower business risk. Selection of sources of finance isclosely linked to the firms capacity to manage the risk exposure.

The Capital structure of a company is influenced by thedesire of the existing management (promoters) of the company toretain control over the affairs of the company. The promoters who donot like to lose their grip over the affairs of the company normallyobtain extra funds for growth by issuing preference shares anddebentures to outsiders.

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Matching the sources with utilization The prudenpolicy of any good financial plan is to match the term of the sourcewith the term of investment. To finance fluctuating workingcapital needs the firm resorts to short terms finance. All fixed assetsfinanced investments are to be financial by long term sources. It is acardinal principle of financial planning.

Flexibility: The financial plan of a company should possessflexibility so as to effect changes in the composition of capitalstructure when ever need arises. If the capital structure of acompany is flexible, it will not face any difficulty in changing thesources of funds. This factor has become a significant one todaybecause of the globalization of capital market.

Government Policy: SEBI guidelines, finance ministrycirculars, various clauses of Standard Listing Agreement andregulatory mechanism imposed by FEMA and Department of

corporate affairs (Govt of India) influence the financial plans ofcorporates today. Management of public issues of shares demands thecompliances with many statues in India. They are to be compliedwith a time constraint.

Economic factors: Many economic factors will significantlyaffect your financial plan, i.e. supply and demand, various institutions,business, labor force, and government. Supply and demand will formprice. Price level will change your consumption pattern, so do yourinvestment and others. Labor force will determine your income. Whenunemployment rate is high, it will be more difficult to find job. Whenjob is rare, people are willing to work for less money, and vice versa.

Financial institutions and others business are the user of labors. Theiractivities will shape the economic and eventually affect your financial.Government will influence economic by monetary and fiscal policy. Thesteps government take will affect you financially. When governmentraise the interest rate, economic will cool down. When economicslowdown, government will lower the interest rate. When interest rateis low, invest your money in bank will not give you decent return. Itmeans take longer time for your investment to reach your financialgoals. Therefore, in order to get higher return people invest in stockmarket or business.

Global influence: Since the advance of technology causes this

globe to become smaller, especially in the era of globalization. Nowpeople do business across the country boundary, therefore whathappen in other country will have an effect on people in anothercountry Rain at Wall Street, drizzle around the world. The economicof particular country depend on foreign investment. When manyforeign investors come, they will create new businesses. New businesswill absorb many labors, therefore lowering unemployment rate andincreasing wages. However higher wage does not always guaranteethe prosperity of workers in certain country. When you earn high

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income but everything is so expensive there. It is identical with makelittle, since your much money actually cannot buy many things. Forinstance, average worker in Indonesia make approximately 1 millionRupiah monthly. Can you imagine make 1 million dollars monthly here?Unfortunately, that 1 million Rupiah is only around $ 108, since thecurrency exchange of Rupiah is around Rp. 9,200 to $ 1 USD. Currency

exchange surely will impact your purchasing power and your financialsituation. Currency of a country is usually base on its economiccondition i.e. governments budget, balance trade, inflation level andgrowth. Foreign exchange is the biggest financial market in the world,we definitely will learn about it in later articles.

Economic condition: Consumer price, consumer spending,interest rate, money supply, unemployment, house started, grossdomestic product, trade balance and market indication are amongeconomic condition that affect your decision in handling your moneymatters.

Consumer price measure the value of your money throughinflation rate. It influences your personal financial planning becauseconsumer price alter your money purchasing power. When consumerprice increase beyond your income, you will unable to buy as muchthing as you used to. Consumer spending measures the demand ofgood and service by individuals and household. When consumerspending is up, more jobs will be available and wage will be higher.Increase in consumer spending will drive consumer price to increaseand inflation level as well.

Interest rate measure cost of money or credit and return

of investment. Increase in interest rate will make credit moreexpensive and discourage borrowing. With high interest, people aremore likely to invest their money to earn interest than take higher riskto do business. Excessive investment from investor with inability ofbank lending to third party will create over supply of fund. In which willdrive down the interest rate eventually.

Money supply measures money available for spending in aneconomic. More money make people have more to save. Therefore,increases in money supply tend to decrease interest rate as morepeople save. Moreover, higher saving and lower spending will reduce job opportunity. Unemployment measures number of people, who

willing and able to work, out of work. High unemployment rate reduceconsumer spending and job opportunity. It is wiser to setup higheremergency fund and reduce debt to cope with high unemploymentrate, since it is harder to get new job when unemployment rate arehigh. House started measures the number of new house built. Newhouse build is sign of economic expansion. When new house buildincrease, it creates more jobs, higher wage and higher consumerspending. Gross domestic product measures the total value producewithin a countrys border. GDP indicate country prosperity. High GDP

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will increase employment opportunity and opportunity for personalfinancial wealth.

Trade balance measures different between export andimport. Deficit happen, when import exceed export. Large deficit overlong run will hurt employment and GDP. Surplus happen, when exportexceed import. Large surplus will raise the value of the currency,reducing the future opportunity of export, since commodity becomemore expensive to foreigner. Market indication (stock market index)measures the relative value of stocks. These indexes provideindication of the price movement of stocks. Since you will invest yourmoney in the market to help you reach your financial goals,understand how the market work will benefit you.

Q.4:- Suppose you buy a one-year government bond that has amaturity value of Rs.1000. The market interest rate is 8 per cent. (a)How much will you pay for the bond? (b) If you purchase the bondfor Rs.904.98, what interest rate will you earn from this investment?

Case Study:

Deepak Hand tools Private Limited

DHPL is a small sized firm manufacturing hand tools. It manufacturingplan is situated in Haryana. The companys sales in the year ending on 31stMarch 2007 were Rs.1000 million (Rs.100 crore) on an asset base of Rs.650million. The net profit of the company was Rs.76 million. The management ofthe company wants to improve profitability further. The required rate ofreturn of the company is 14 percent.

The company is currently considering an investment proposal. One isto expand its manufacturing capacity. The estimated cost of the newequipment is Rs.250 million. It is expected to have an economic life of 10years. The accountant forecasts that net cash inflows would be Rs.45 millionper annum for the first three years, Rs.68 million per annum from year four toyear eight and for the remaining two years Rs.30million per annum. The plantcan be sold for Rs.55 million at the end of its economic life.

The company would need to raise debt to the extent of Rs.200 million.The company has the following options of borrowing Rs.200 million:

a. The company can borrow funds from a nationalized bank at theinterest rate of 14 percent for 10 years. It will be required to pay equal

annual installment of interest and repayment of principal.

b. A financial institution has offered to lend money to DHPL at 13.5 perannum but it needs to pay equated quarterly installment of interest andrepayment of principal.

1. Should the company expand its capacity? Show the computationof NPV

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2. What is the annual installment of bank loan?

3. Calculate the quarterly installments of the Financial Institutionloan

4. Should the company borrow from the bank or from the financial

institution?

Answer 1. Investment in New Equipment : 250000000

Life of machine : 10 Years

Salvage : 55000000

Years Cash inflows PV factors at 14 %

PV of cashinflows

1 45,000,000 0.877 39,473,684

245,000,00

0 0.76934,62

6,039

345,000,00

0 0.67530,37

3,718

468,000,00

0 0.59240,26

1,459

5

68,000,00

0 0.519

35,31

7,069

668,000,00

0 0.45630,97

9,885

768,000,00

0 0.40027,17

5,338

868,000,00

0 0.35123,83

8,016

930,000,00

0 0.3089,22

5,238

1030,000,00

0 0.2708,09

2,314

Salvage

55,000,000 0.270

14,835,910

PV of cash inflows 294,1

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98,670

Initial cash out flow250,00

0,000

NPV

44,1

98,670

Here NPV is positive it is advisable to the company to expand its capacity.

Answer 2.

Loan Amount : 200000000

Interest rate : 14 %

No of Year(N) : 10 Years

Installment X PVIFA (14%,10) =20,00,00,000

Installment = 20,00,00,000 / 5.216

= 3,83,43,558

Answer 3.

Loan Amount : 20,00,00,000

Interest rate : 13.5 %

No of Year(N) Quarterly : 10 Years

Installment X PVIFA (13.5% / 4, 40) =20,00,00,000

Installment = 20,00,00,000 / 5.176

= 3,86,39,876

Answer 4.The company should borrow from bank because paybackinstallment is lesser than the financial institution.

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ASSIGNMENT MBA SEM II Subject Code:

MB0029 SET 2

1. A. What is the cost of retained earnings?

B. A company issues new debentures of Rs.2 million, at par; the netproceeds being Rs.1.8 million. It has a 13.5 per cent rate of interestand 7 years maturity. The companys tax rate is 52 per cent. What isthe cost of debenture issue? What will be the cost in 4 years if themarket value of debentures at that time is Rs.2.2 million?

A. Cost of Retained Earnings

A companys earnings can be reinvested in full to fuel the ever-increasing demand of companys fund requirements or they may be paid off

to equity holders in full or they may be partly held back and invested andpartly paid off. These decisions are taken keeping in mind the companysgrowth stages. High growth companies may reinvest the entire earnings togrow more, companies with no growth opportunities return the funds earnedto their owners and companies with constant growth invest a little and returnthe rest.

Shareholders of companies with high growth prospects utilizing fundsfor reinvestment activities have to be compensated for parting with theirearnings. Therefore the cost of retained earnings is the same as the cost ofshareholders expected return from the firms ordinary shares. That is,Kr=Ke

There are three methods one can use to derive the cost of retainedearnings:

(a) Capital-asset-pricing-model (CAPM) approach

To calculate the cost of capital using the CAPM approach, you mustfirst estimate the risk-free rate (rf), which is typically the U.S. Treasury bondrate or the 30-day Treasury-bill rate as well as the expected rate of return onthe market (rm).

The next step is to estimate the companys beta (bi), which is an

estimate of the stocks risk. Inputting these assumptions into the CAPMequation, you canthen calculate thecost of retained

earnings.

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(b) Bond-yield-plus-premium approach

This is a simple, ad hoc approach to estimating the cost of retainedearnings. Simply take the interest rate of the firms long-term debt and add a

risk premium (typically three to five percentage points):

ks = long-term bond yield + risk premium

(c) Discounted cash flow approach

Also known as the dividend yield plus growth approach. Using thedividend-growth model, you can rearrange the terms as follows todetermine ks.

(F+P)/2Where kd is post tax cost of debenture capital,I is the annual interest payment per unit of debenture,T is the corporate tax rate,

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ks= D1 + g;P0

where:D1 = next years dividendg = firms constant growth rateP0 = price

and


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F is the redemption price per debenture,P is the net amount realized per debenture,N is maturity period13.5(0.52) + (1.8)/ 13.5*.48+2/76.51---------------------------------------

(2+1.8)/2 1.9=3.43(b) 13.5(1-.52) + (2-2.2)/4 13.5*.48-.2/4---------------------------------------(2+2.2)/2 2.1=6.43/.21=3.06

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2. Volga is a large manufacturing company in the private sector. In2007 the company had a gross sale of Rs.980.2 crore. The otherfinancial data for the company are given below:

Items Rs. In crore

Net worth 152.31

Borrowing 165.47

EBIT 43.17

Interest 34.39

Fixed cost(excluding interest)

118.23

You are required to calculate:

a. Debt equity ratio

b. Operating leverage

c. Financial leverage

d. Combined leverage. Interpret your results and comment onthe Volgas debt policy

a. Debt equity ratio=Borrowing/Interest=165.47/34.39=4.81

b. Operating leverage DOL=Q(S-V)/Q(S-V)-F where F= fixed cost

Now EBIT=Q(S-V)-FSo Q(S-V) =EBIT+F

= 43.17+118.23=161.47

So DOL=161.47/43.17=3.74

c. Financial leverage DFL=EBIT/{EBIT-I-{Dp/(1-T)}}

Where I is interest, Dp is dividend on preference shares; T is taxrate

= 4.92

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d. Combined leverage= DOL*DFL= 3.74*4.92=18.4

As combined leverage is high so it is risky.

3. Explain Miller and Modigliani Approach to capital structure theory.

The Modigliani-Miller theorem (of Franco Modigliani, Merton Miller)forms the basis for modern thinking on capital structure. The basic theoremstates that, in the absence of taxes, bankruptcy costs, and asymmetricinformation, and in an efficient market, the value of a firm is unaffected byhow that firm is financed. It does not matter if the firm's capital is raised byissuing stock or selling debt. It does not matter what the firm's dividendpolicy is. Therefore, the Modigliani-Miller theorem is also often called the

capital structure irrelevance

Principle Modigliani was awarded the 1985 Nobel Prize in Economicsfor this and other contributions. Miller was awarded the 1990 Nobel Prize inEconomics, along with Harry Markowitz and William Sharpe, for their "work inthe theory of financial economics," with Miller specifically cited for"fundamental contributions to the theory of corporate finance."

Historical background Miller and Modigliani derived the theoremand wrote their path breaking article when they were both professors at theGraduate School of Industrial Administration (GSIA) of Carnegie MellonUniversity. In contrast to most other business schools, GSIA put an emphasis

on an academic approach to business questions. The story goes that Millerand Modigliani were set to teach corporate finance for business studentsdespite the fact that they had no prior experience in corpora the finance.When they read the material that existed they found it inconsistent so theysat down together to try to figure it out. The result of this was the article inthe American Economic Review and what has later been known as the MMtheorem.

Propositions The theorem was originally proved under theassumption of no taxes. It is made up of two propositions which can also b eextended to a situation with taxes. Consider two firms which are identicalexcept for their financial structures. The first (Firm U) is unlevered: that is, itis financed by equity only. The other (Firm L) is levered: it is financed partlyby equity, and partly by debt. The Modigliani-Miller theorem states that thevalue of the two firms is the same.

Without taxes

Proposition I: where VU is the value of an unlevered firm = price ofbuying a firm composed only of equity, and VL is the value of a levered firm= price of buying a firm that is composed of some mix of debt and equity.

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To see why this should be true, suppose an investor is consideringbuying one of the two firms U or L. Instead of purchasing the shares of thelevered firm L, he could purchase the shares of firm U and borrow the sameamount of money B that firm L does. The eventual returns to either of these iinvestments would be the same. Therefore the price of L must be the sameas the price of U minus the money borrowed B, which is the value of L's debt.

This discussion also clarifies the role of some of the theorem's assumptions.We have implicitly assumed that the investor's cost of borrowing money isthe same as that of the firm, which need not be true in the presence ofasymmetric information or in the absence of efficient markets.

4. How to estimate cash flows? What are the components ofincremental cash flows?

Cash flow estimation is a must for assessing the investmentdecisions of any kind. To evaluate these investment decisions there are someprinciples of cash flow estimation. In any kind of project, planning the outputsproperly is an important task. At the same time, the profits from the project

should also be very clear to arrange finances in a proper way. Theseforecasting are some of the most difficult steps involved in the capitalbudgeting. These are very important in the major projects because any kindof fault in the calculations would result in huge problems. The project cashflows consider almost every kind of inflows of cash. The capital budgeting isdone through the coordination of a wide range of professionals who are goingto be involved in the project. The engineering departments are responsiblefor the forecasting of the capital outlays. On the other hand, there are thepeople from the production team who are responsible for calculating theoperational cost. The marketing team is also involved in the process and theyare responsible for forecasting the revenue.

Next comes the financial manager who is responsible to collect all thedata from the related departments. On the other hand, the finance managerhas the responsibility of using the set of norms for better estimation. One ofthese norms uses the principles of cash flow estimation for the process.

There are a number of principles of cash flow estimation. These are theconsistency principle, separation principle, post-tax principle and incrementalprinciple. The separation principle holds that the project cash flows can bedivided in two types named as financing side and investment side. On theother hand, there is the consistency principle. According to this principle,some kind consistency is necessary to be maintained between the flow ofcash in a project and the rates of discount that are applicable on the cashflows. At the same time, there is the post-tax principle that holds that theforecast of cash flows for any project should be done through the after-taxmethod.

Incremental Principle The incremental principle is used to measurethe profit potential of a project. According to this theory, a project is sound ifit increases total profit more than total cost. To have a proper estimation ofprofit potential by application of the incremental principle, several guidelinesshould be maintained:

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Incidental Effects: Any kind of project taken by a company remainsrelated to the other activities of the firm. Because of this, the particularproject influences all the other activities carried out, either negatively orpositively. It can increase the profits for the firm or it may cause losses.These incidental effects must be considered.

Sunk Costs: These costs should not be considered. Sunk costsrepresent an expenditure done by the firm in the past. These expendituresare not related with any particular project. These costs denote all thoseexpenditures that are done for the preliminary work related to the project,unrecoverable in any case.

Overhead Cost: All the costs that are not related directly with aservice but have indirect influences are considered as overhead charges.There are the legal and administrative expenses, rentals and many more.Whenever a company takes a new project, these costs are assigned.

Working Capital: Proper estimation is essential and should be

considered at the time when the budget for the project's profit potential isprepared.

5. What are the steps involved in capital rationing?

Capital budgeting decisions involve huge outlay of funds. Fundsavailable for projects may be limited. Therefore, a firm has to prioritizethe projects on the basis of availability of funds and economiccompulsion of the firm. It is not possible for a company to take up all theprojects at a time. There is the need to rank them on the basis of strategiccompulsion and funds availability. Since companies will have to chooseone from among many competing investment proposal the need to developcriteria for Capital rationing cannot be ignored. The companies may have

many profitable and viable proposals but cannot execute because ofshortage of funds. Another constraint is that the firms may not be ableto generate additional funds for the execution of all the projects. When afirm imposes constraints on the total size of firms capital budget, it isrequires Capital Rationing.

Capital rationing refers to a situation in which the firm is under aconstraint of funds, limiting its capacity to take up and execute all theprofitable projects. Such a situation may be due to external factors or due tothe need to impose internal constraints, keeping in view of the need toexercise better financial control.

Capital Rationing may be due to:-

1. External Capital Rationing: External Capital Rationing is dueto the imperfections of capital markets Imperfection may be caused by:

(a) Deficiencies in market information

(b) Rigidities that hamper the force flow of Capital between firms.

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When capital markets are not favorable to the company the firmcannot tap the capital market for executing new projects even though theprojects have positive net present values. The following reasons attribute tothe external capital rationing:

Inability of the firm to procure required funds from Capital

market because the firm does not command the requiredinvestors confidence.

National and international economic factors may make themarket highly volatile and instable.

Inability of the firm to satisfy the regularity norms forissue of instruments for tapping the market for funds.

High Cost of issue of Securities I,e High floatation cost. Smallerfirms smaller firms may have to incur high costs of issue ofsecurities. This discourages small firms from tapping the capitalmarkets for funds.

2.Internal Capital Rationing Impositions of restrictions by a firm onthe funds allocated for fresh investment is called internal capital rationing.This decision may be the result of a conservative policy pursued by a firm.Restriction may be imposed on divisional heads on the total amount thatthey can commit on new projects. Another internal restriction for Capitalbudgeting decision may be imposed by a firm based on the need togenerate a minimum rate of return. Under this criterion only projectscapable of generating the managements expectation on the rate of returnwill be cleared. Generally internal capital rationing is used by a firm as ameans of financial control.

6. Equipment A has a cost of Rs.75,000 and net cash flow of Rs.20000per year for six years. A substitute equipment B would cost

Rs.50,000 and generate net cash flow of Rs.14,000 per year for sixyears. The required rate of return of both equipments is 11 per cent.Calculate the IRR and NPV for the equipments. Which equipmentshould be accepted and why?

For equipment AAverage cash flow Rs. 20000/- per yearAnd the initial investment Rs. 75000/-So the ratio of initial cash flow & initial investment=75000/20000=3.75

From the PVIFA table for 6 years annuity factor vary near 3.75 is 16%

So PV of cash flow at 16% is 73600/-

For next trial rate 15% so PV of cash flow is 75706So IRR of the for the equipment A is 16+ (75706-75000)/ (75706-73600)=16.34%

For equipment B average cash flow Rs. 14000/- per yearAnd the initial investment Rs. 50000/-

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So the ratio of initial cash flow & initial investment=50000/14000=3.57

From the PVIFA table for 6 years annuity factor vary near 3.75 is 18%So PV of cash flow at 18% is 49000/-

For next trial rate 17% so PV of cash flow is 50257/-So IRR of the for the equipment A is 18+ (50257-50000)/ (50257-49000)=18.2%

Now NPV of equipment A = PV of net cash flow initial cost= (20000/- of PVIF 11% for 6 y)-75000/-=9610/-

& NPV for the equipment B= PV of net cash flow-initial cost= (14000/- of PVIF 11% for 6 y)-50000/-=9227/-So Bis preferable because ofhighest rate of Profitability index

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MB0029 - P.Srinath - Completely Solved

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