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CS Professional · Strategic Management and Corporate Finance · Project Evaluation

Kaveri Textiles plans a new line needing Rs 10 lakh of additional net working capital at the start. The working capital is expected to be fully recovered at the end of the project's 4-year life. In the cash flow schedule, how should it be treated?

Show Rs 10 lakh as an outflow at year 0 and an equal inflow at year 4. Working capital is a real cash investment that is released when the project ends, and it is not an expense charged against profit, so it must not be ignored or spread annually.

  1. AOutflow of Rs 10 lakh in year 0 and inflow of Rs 10 lakh in year 4Correct
  2. BOutflow of Rs 10 lakh in year 0 only, as working capital is not recovered
  3. CDeducted as annual expense of Rs 2.5 lakh over 4 years
  4. DIgnored, since it is not a fixed asset

Explanation

Working capital is a cash investment made at the outset and released when the project ends, so it appears as an initial outflow and a terminal inflow. Treating it as annual expense or ignoring it misstates the cash flows because it is not charged to profit.

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