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CA Final · Advanced Financial Management · Advanced Capital Budgeting Decisions

Narmada Auto is considering a project needing ₹4,00,000 on equipment and an additional ₹50,000 of working capital, both paid at time zero. The working capital is fully recovered at the end of the project. The present value of all future inflows, including the discounted working capital recovery, is ₹5,67,000. What is the profitability index?

The profitability index is 1.26. The initial outlay includes both the ₹4,00,000 equipment and the ₹50,000 working capital, totalling ₹4,50,000, and dividing the ₹5,67,000 present value of inflows by this outlay gives 1.26.

  1. A1.42
  2. B1.26Correct
  3. C0.26
  4. D1.13

Explanation

Working capital is a time-zero outflow, so total initial outlay is 4,00,000 + 50,000 = 4,50,000. PI = 5,67,000 / 4,50,000 = 1.26. The 1.42 option omits the working capital from the outlay, while 0.26 is NPV per rupee of outlay, not PI.

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