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CA Final · Advanced Financial Management · Advanced Capital Budgeting Decisions

Bharat Polymers Ltd is evaluating a new moulding line. Which of the following items should be EXCLUDED from the incremental cash flows of the project when computing its NPV?

The Rs 4 lakh consultant fee already paid is a sunk cost and is excluded from incremental cash flows. It cannot be recovered or altered by accepting or rejecting the project, whereas working capital, cannibalised contribution and salvage value all depend on the decision.

  1. AWorking capital that the project will require at start and recover at the end
  2. BRs 4 lakh already paid last year to a consultant for a feasibility study, which is non-refundableCorrect
  3. CLoss of contribution on an existing product that the new line will cannibalise
  4. DSalvage value of the machine at the end of the project life

Explanation

The feasibility fee is a sunk cost; it is spent regardless of whether the project is accepted, so it is not incremental. Working capital, cannibalisation loss and salvage value all change future cash flows because of the decision and must be included.

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