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BRILLIANT’S Capital Budgeting 423

Once the cash inflows and outflows are EH$ ~ma H¡$e BZâbmo VWm H¡$e AmCQ>âbmo kmV hmo
determined, the next step is to discount each OmZo Ho$ ~mX AJbm ñQ>on àË`oH$ H¡$e BZâbmoO H$mo {S>ñH$mCÝQ>
cash inflows and work out its present value. H$aZm VWm CgH$m àoOoÝQ> d¡ë`y kmV H$aZm hmoVm h¡Ÿ& Bg
For this purpose, the discounting rate must be CÔoí` Ho$ {cE, {S>ñH$mCpÝQ>¨J aoQ> Adí` {ZYm©[aV H$s
determined. Normally, the discounting rate OmZr Mm{hEŸ& gm_mÝ`V: {S>ñH$mCpÝQ>¨J aoQ>, H¡${nQ>c H$s
equals the cost of capital since a project must H$m°ñQ> Ho$ ~am~a hmoVr h¡ Š`m|{H$ {H$gr àmoOoŠQ> H$mo H$_-
earn atleast that much, as is paid out on the go-H$_ CVZm Adí` H$_mZm Mm{hE {OVZm \$ÊS> ãcm°H$
funds blocked in the project. hmoZo Ho$ H$maU Cgo ì`` H$aZm n‹S>oJmŸ&
Similarly, the present value for other cash Bgr àH$ma, AÝ` H¡$e âcmoO H$m dV©_mZ _yë` ^r
inflows would be as follows: kmV {H$`m Om gH$Vm h¡…

Year end Cash inflows Discount Present
(in `) factors at 10% value of cash inflow

1 2,30,000 0.909 2,09,070
2 2,28,000 0.826 1,88,328
3 NPP 0.751 2,08,778
2,78,000
4 2,83,000 0.683 1,93,289
5 2,73,000 0.621 1,69,533
6 80,000 0.564 45,120

The total present value of all cash inflows g^r H¡$e BZâcmoO Ho$ dV©_mZ _yë`m| H$m `moJ
is ` 10,14,118 as compared to the total cash ` 10,14,118 h¡Ÿ& BgH$s VwbZm H¡$e AmCQ>âcmo go H$s
outflows of ` 10,00,000. Hence, ` 14,118 is the
OmEJr Omo {H$ ` 10,00,000 h¡Ÿ& BZH$m AÝVa ` 14,118
net present value, i.e., the difference between the
total of discounted cash inflows and the ewÕ dV©_mZ _yë` _mZm OmEJmŸ& `{X YZ dV©_mZ _| ì``
discounted cash outflows. There is no need to {H$`m J`m h¡ Vmo Eogr pñW{V _| H¡$e AmCQ>âcmo H$mo {S>ñH$mCÝQ>
discount the cash outflows in the case since the H$aZm Amdí`H$ Zht h¡Ÿ& XmoZm| H$s VwcZm go h_ nmVo h¢ {H$
money is immediately spent. Comparing the
10% H$s Xa na H¡$e BZâcmoO H$m dV©_mZ _yë`, AmCQ>âcmo
two, we know that the present value of inflows
is higher than the present value outflows at 10%. H$s VwbZm _| A{YH$ h¡Ÿ&
A point to note is that this method will `h ~mV Ü`mZ XoZo `mo½` h¡ {H$ `h {d{Y V^r _mÝ`
give valid results only if money can be imme- n[aUm_ XoVr h¡, O~ én`m| H$m dm§{N>V ã`mO Xa na nwZ:
diately re-invested at the chosen rate of interest. BÝdoñQ> {H$`m Om gHo$Ÿ&

Merits JwU
1. It considers the time value of money. A 1. Bg nÕ{V _| _Zr H$s Q>mB_ d¡ë`y H$mo Ü`mZ _| aIm
rupee received today is worth more than OmVm h¡Ÿ& AmO {_bZo dmbo EH$ énE H$m _yë` ^{dî`
a rupee received tomorrow.
_| {_bZo dmbo EH$ énE go A{YH$ hmoVm h¡Ÿ&
2. NPV is not based on arbitrary assumpti- 2. ewÕ dV©_mZ _yë` H$mën{ZH$ _mÝ`VmAm| na AmYm[aV
ons. It relies on discount rate and estimated Zht hmoVm& ~pëH$ `h gå^m{dV H¡$e âcmoO Ed§
cash flows.
{S>ñH$mCÝQ> aoQ> na AmYm[aV hmoVm h¡Ÿ&