Question

4. While Taking the Help of Capital Budgeting for Accepting or Rejecting Mutually Exclusive Projects Decisions
Which of the Method i.e. Either Net Present Value (NPV) Or Profitability Index (PI.) Method should be given
Priority and Why? Explain with an Example?​

Answer 1

Answer:

I don't know sorry for this

Answer 2

Concept:

Mutually Exclusive projects are the projects among which only one project can be accepted while the others have to be rejected.

Net Present Value method of Capital Budgeting uses the discounted cash flows (inflows and outflows) of the project to determine the net present value of the project to take the decision.

Profitability Index method of Capital Budgeting uses the profitability index to determine if the project is to be accepted of rejected. Profitability Index is calculated by dividing the Present value of the future cash flows with the initial project cost.

Explanation :

• Projects with positive and highest NPV is selected, but there may be cases when the NPV of two projects are same, in such a case Profitability Index plays major role.

• For example,

Particulars                              Project A Project B

Initial Cash Outflow                200000 400000

Present value of Cash Inflow 600000 800000

Net present value                         400000 400000

Profitabilty Index                                  3 2

• From the above example we can conclude that, we may be indifferent between Project A and B while selecting them using NPV method but we will definitely choose Project A when we consider Profitability Index.

Hence, we can conclude that, Profitability Index is to be given priority over the NPV method as with PI we can easily know the net present value added by each  project per Rs.1 of the initial investment.

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