5. (Capital rationing) Consider the following capital budgeting projects: PROFIT
ID: 2787192 • Letter: 5
Question
5. (Capital rationing) Consider the following capital budgeting projects: PROFITABILITY INDEX PROJECT OUTLAY NPV PV RANK (1 = HIGHEST PD $150 60 $210 105 405 60 260 9 1.40 1.35 1.30 300 200 105 a. With no limit on capital outlays, which projects should be accepted? What is the t outlay and the total NPV is the total outlay and the total NPV? is the total outlay and the total NPV? b. Assume the capital budget is limited to $450. Which projects should be accepted? Whit c. Assume the capital budget is limited to $400. Which projects should be accepted e accepted? WhExplanation / Answer
(a).
Project A, B and C all should be accepted because each projcet has positive NPV. Apart from this we have also seen that each project has profitability index more than 1 and there is no limit on maximum outlay.
Total Outlay:
Total outlay will be calculated as follow;
Project A $150 + Project B $300 + Project C $200 = $650
Total NPV:
Total NPV will be calculated as follow;
Project A $60 + Project B $105 + Project C $60 = $225
(b).
Project A and B should be accepted because Project A and B have higher profitability index in compare to Project C . Apart from this there is a maximum limit of $450 on outlay that is why only project A and B can be accepted.
Total Outlay:
Total outlay will be calculated as follow;
Project A $150 + Project B $300 = $450
Total NPV:
Total NPV will be calculated as follow;
Project A $60 + Project B $105= $165
(c).
Project A should be accepted because Project A has higher profitability index in compare to Project B & C . Apart from this there is a maximum limit on outlay of $400 that is why only project A can be accepted.
Total Outlay:
Total outlay will be calculated as follow;
Project A $150 = $150
Total NPV:
Total NPV will be calculated as follow;
Project A $60 = $60
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