A SURVEY OF CAPITAL BUDGETING

PRACTICES IN CORPORATE INDIA

Satish Verma, Sanjeev Gupta and Roopali Batra

The present study aims to unveil the status of capital budgeting in India particularly after the advent of
full-fledged globalisation and in the era of cutthroat competition, where companies are being exposed to
various degrees of risk. For the above objective a comprehensive primary survey was conducted of 30
CFOs/CEOs of manufacturing companies in India, so as to find out which capital budgeting techniques
is more preferred, discounted or non-discounted. The study also aims at examining the capital budgeting
methods used for incorporating risk in investment proposals. It further endeavours to evaluate the impact
of different factors or variables on the selection of a particular capital budgeting technique. For example,
it was investigated that whether there exists any relationship between a size of company’s capital budget
and the method of capital budgeting adopted by it. Similarly it was discovered that is there any systematic
relationship between different company related factors like age of a company, CEO education/qualification
and the capital budgeting method adopted by it.

Key Words: Capital Budgeting, Discounted Cash Flow, Non Discounted Cash Flow, NPV, IRR, Payback
Period, ARR, Discount Rate, Cost of Capital, Risk

INTRODUCTION multinational companies in India was restricted. In the

F
irms invest in long term assets in anticipation of
an expected flow of benefits over the lifetime of
the capital asset. It involves sacrifice of a certain
amount of present resources in exchange for a future
return and an arbitrage over the time that involves risk.
For evaluating these investments or projects, various
capital budgeting techniques or methods are available.
While certain companies still prefer old non-discounted
less sophisticated techniques, others have moved
towards more sophisticated discounted cash flow (DCF)
techniques. The traditional non-discounted techniques
though used rigorously initially, are today mostly applied
as a supplementary method in combination with the
discounted cash flow techniques.
The earlier studies conducted in India emphasised
mainly on the capital budgeting practices in times
when the level of competition and the entry and exit of
post liberalisation era, after the government relaxed the
entry and exit rules for foreign companies in India and
gave a vent to full fledged globalisation, no major Indian
study except that by Anand (2002) has been conducted.
However, even after this time a number of changes
further took place in the Indian economic environment. The
government was opening up in other sectors like power,
insurance, banking and allowing private participation in
many new areas. As a result of these measures initiated by
the government, in the years 2005-06 the economy grew
at a steady pace. There was a spurt in foreign investment
through Foreign Institutional Investors (FIIs) and the
rupee strengthened against the dollar. Unprecedented
changes took place in various financial sectors like
banking, insurance etc and a number of global mergers
took place with MNCs entering in each and every sphere
of business. There was a boom in the foreign trade with
increasing exports and foreign reserves resulting in
2 l Verma, Gupta and Batra
mounting Indian stock markets. By the end of the year
2007, the economy and its stock market reached at its
peak.
However, there was a sudden slowdown of Indian
markets after 2007 (January, 2008). The year 2008 was
indeed very turbulent and unstable for Indian corporate
sector, under the adverse impact of gloomy and miserable
foreign markets. As a consequence, Indian stock markets
crashed down, dollar became stronger resulting in
expensive imports and reducing foreign exchange
reserves.
Thus, the Indian business environment today has
become highly turbulent with companies being prone
to numerous risks like exchange rate risk, interest rate
risk, inflation etc and only the globally competitive
and professionally managed companies can thrive in
such an unstable environment. For achieving this, the
companies are focusing even more on effective financial
management practices and are greatly concerned about
core financial issues like capital structure, cost of capital,
working capital management and most of all investment
appraisal or capital budgeting.
Thus, in the current era, there is a need to re-examine
and re-study the corporate practices regarding capital
budgeting decision particularly when a number of
changes have taken place in the economic and business
environment both in domestic as well as in global markets
since the last few years, which had a considerable impact
on the investment scenario that has been very risky. This
may as well influence the investment appraisal techniques
especially risk techniques employed by the companies
for evaluating their investment proposals. There is also a
need to study different factors which affect the choice of
capital budgeting techniques including risk techniques.
The present study is an attempt to fill the void in this
context.
REVIEW OF LITERATURE
In the 1960s, the capital budgeting studies (Miller (1960)
and Mao (1969)) observed an increasing preference for
non-discounted capital budgeting techniques especially
the Payback period method. In the 1970’s the studies
(Petty (1975), Chandra (1975), Porwal (1976), Schall;
Sundem and Geijsbeck (1978) and Bhattacharya (1979))
observed an inclination towards the use of Discounted
Cash Flow method especially IRR method. A trend
towards incorporation of risk was also indicated by
these studies. It was during this time that certain studies
(Hertz, 1979) focused specifically on the risk aspect of
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capital budgeting. However the studies of 1980’s (like
Pandey (1989) found that Payback Period Method
was most popular followed by IRR Method. Further,
sensitivity analysis and conservative forecasts were
found as the most preferred method for evaluation of
investment risk. Beginning from the early 1990s, Ken
Leonore and U. Rao Cherukuri (1991) in the case of
large U.S. companies concluded that IRR was the most
preferred choice followed by the NPV method. They
found that evaluators used multiple evaluation methods.
The most widely accepted discount rate was ‘weighted
average cost of capital’ (78%) and for measuring risk
‘sensitivity analysis’ (80%). Similar results were found
by Bierman (1993) in a survey of 74 Fortune 100 firms.
Similarly Drury, Braund and Tayles’ (1993) survey of
300 manufacturing units, pointed towards preference for
payback (86%) and IRR (80%) techniques of investment
evaluation. Sensitivity analysis was found to be the most
widely used project risk analysis technique. The use of
sophisticated risk analysis techniques like CAPM or
Monte Carlo simulation was very limited due to lack
of understanding. Petry and Sprow (1993) found that
about ninety percent of the firms use NPV and IRR and
60 percent used the traditional payback period, either as
a primary or as a secondary method for capital budgeting
decisions.
Babu and Sharma (1995) observed that discounted
cash flows (DCF) methods were applied by as many
as 75 percent of the respondent companies. Sensitivity
analysis and adjustment of discount rate methods were
found popular for handling risk. Similarly Dhanker’s
(1995) study revealed that 16 percent companies used
DCF techniques and 33 percent traditional methods like
Payback and Accounting Rate of Return (ARR). Further,
51 percent of companies incorporated risk by adjusting
the discount rate and 45 percent used Capital Asset
Pricing Model (CAPM). The studies of Jog and Srivastava
(1995) and Pike (1996) supported this and found that
payback period method was the most preferred method
in companies of Canada and the United Kingdom.
Cherukuri (1996) selected top 300 non-government
companies and compared their capital budgeting practices
with those of Hong Kong, Malaysia and Singapore.
The study revealed that 51 percent of the respondent
companies used IRR, 30 percent used NPV and 38
percent and 19 percent respondents used respectively
the payback period and ARR methods. About 90 percent
of respondent firms used shortening the payback period
and 59 percent used sensitivity analysis for incorporating
risk. Further, Cherukuri (1996) in his survey of 74 Indian
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 A Survey of Capital Budgeting Practices in Corporate India
companies found that a majority of these (51 percent)
used IRR as investment evaluation criteria. The non-
discounted techniques like ARR and Payback Period
Methods were mainly employed as supplement to the
DCF techniques.
Chadwell-Hatfield, et al., (1997) found that more
than 70 percent preferred high IRR and 84 percent NPV
as one of the methods in appraising projects. Nearly two-
thirds of the firms believe that acceptable project should
have shorter payback period in addition to either high IRR
or NPV. Stanley Block (1997) studied the small business
firms for evaluating capital budgeting techniques used by
them in 1990’s and found that payback period (42.7%)
was most popular method, followed by ARR (22.4%).
However, it was noticed that the small business owners
have increased their sophistication as over 27 percent used
discounted cash flow as the primary method of analysis.
For inclusions of risk consideration, higher required
returns either in form of increasing the cut-off rate or
shortening the minimum payback period was preferred
by 46.3 percent of the firms.
Jain and Kumar (1998) in a study of 96 non-
government companies listed on Bombay Stock
Exchange in India and 5 companies of South East Asia
observed that the most preferred method was Payback
Period Method (80% companies) followed by NPV and
IRR. For incorporation of risk companies’ preferred
sensitivity analysis followed by higher cut off rate and
shorter payback period. However Kester and Chang’s
(1999) survey of 226 CEOs from Australia, Hong Kong,
Indonesia, Malaysia, Philippines, and Singapore, found
that DCF techniques such as NPV/IRR are the most
important techniques for project appraisal and sensitivity
analysis and scenario analysis for project risk assessment
in all these countries
The beginning of 2000 was marked by certain
ground–breaking landmark studies in the area of capital
budgeting. Graham and Harvey’s (2001) survey of 392
CFOs revealed that the firms which are large, with high
debt ratios, having CEOs with MBA are significantly
more likely to use DCF techniques like NPV and IRR
than their counterparts. Similarly large firms are more
likely to use risk-adjusted discount rate while small
firms prefer Monte Carlo simulation for risk adjustment.
Similar results were observed by Ryan and Ryan (2002)
in a study of Fortune 1000 companies. He observed NPV
was most popular technique followed closely by IRR.
Additionally, firms with larger capital budgets tend to
prefer NPV and IRR. Popular supplemental methods used
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along with NPV and IRR included sensitivity analysis,
scenario analysis, inflation adjusted cash flows, economic
value added, and incremental IRR.
Over these years certain noteworthy studies in India
were also conducted. In a study of Indian corporate
finance practices by Anand (2002), NPV criterion was
observed to be a widely used capital budgeting technique
followed by IRR. For incorporation of risk, risk adjusted
discount rate; sensitivity analysis and scenario analysis
were also widely preferred techniques for project risk
analysis. However, the use of decision tree analysis and
Monte Carlo techniques was limited .The study also
confirmed findings of Graham and Harvey (2001) and
Ryan and Ryan (2002) that size significantly affects the
practice of corporate finance and large firms rely heavily
on NPV techniques and CAPM, while small firms are
relatively more likely to use payback criterion. Similarly
large firms are more likely to use sophisticated project
risk analysis techniques, such as risk-adjusted discount
rate, decision tree, and Monte Carlo simulation, than the
small firms. Another study by Parkash Singh and Gaur
(2004) concluded that in case of acceptance or rejection
of a project in real life situation, an IRR criterion does
not conflict with NPV but in case of comparison across
projects, the two methods give different ranking. As
per the study, the best method is to transform NPV into
proportion and thus benefit cost ratio is used to avoid
contradictions.
A contemporary study by Holmen (2005) of capital
budgeting techniques used for FDI’s by Swedish firms
also reaffirmed the findings of earlier studies of 2000.
The study indicated that larger firms are more likely to
use NPV method or IRR method than small firms. As
per the survey, payback method was the most preferred
capital budgeting technique, used by nearly 79 percent
of the sampled units.
Truong, Peat and Partington (2007), in a survey of
capital budgeting practices of Australian listed companies
observed that NPV, IRR and Payback were the most
popular project evaluation techniques. It was also found
that real options techniques have gained a foothold in
capital budgeting but are not yet part of the mainstream. In
another study by Brijlal, Pradeep (2008), he investigated
a number of variables and associations relating to
capital budgeting practices in small, medium and large
businesses in the Western Cape Province of South Africa.
The results revealed that payback period, followed by
NPV, is preferred across different sizes and sectors of
business. Moreover, 64 percent of businesses surveyed
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used only one technique, while 32 percent used two to
three different types of capital budgeting techniques.
The large businesses favoured IRR and NPV more as
compared to that of small businesses and more than two
thirds of businesses used non-quantitative techniques to
consider risk while investing in fixed assets.
OBJECTIVES OF THE STUDY
The overall objective of the study is to examine the capital
budgeting practices being adopted by Indian companies.
Specifically this study aims at:
(i) Examining the corporate practices regarding the
methods of capital budgeting used for evaluating
an investment proposal.
(ii) Analysing the corporate practices regarding
risk techniques of capital budgeting used for
adjusting risk in investment proposals.
(iii) Evaluating the impact of different factors or
variables affecting capital budgeting on the
selection of a particular method of capital
budgeting technique.
HYPOTHESES OF THE STUDY
Delhi, Mumbai, Calcutta, Chennai, Bangalore, Ludhiana
etc.
The structured questionnaire included closed ended
questions regarding use of discounted/non-discounted and
risk adjusted techniques of capital budgeting, and the cost
of capital on the Likert scale of 1 to 5. The questionnaire
prepared was finally put on a website so that it could be
filled online and directly submitted to the investigator.
An attachment file of the copy of questionnaire was also
sent along with covering letter CFO/Finance Manager/
Director Finance of nearly 100 companies, so that in
case the respondent has problem in accessing the web
link, he/she can download the questionnaire from the
file attached. From these 100 mails sent, 15 companies
responded. Subsequently the questionnaire was re-mailed
for follow up in order to maximise the response rate. It
was indicated to the CFOs that the individual responses
would be kept strictly confidential and only aggregate
generalisations would be published. On repeated mails
15 more companies responded taking total usable
responses to 30. The detailed description of the sample
characteristics is discussed in Table 1 below
Table 1: Descriptive Statistics of the Sampled Units
Panel A:Classification of Sampled Companies on Basis of Size
of Capital Budget

The following null hypotheses were framed and tested: Size of Capital Budget No. of %Age of
(In Rs.) Companies Companies
Ho: The size of a company’s capital budget does <10 million 2 6.7
not affect the selection of capital budgeting
10-99 million 9 30.0
technique including risk techniques.
100-499 million 6 20.0
Ho1: The education of CEO does not affect the 500-999 million 2 6.7
selection of capital budgeting method including > 1 Billion 11 36.6
risk techniques.
Total 30 100.0
Ho2: The age of the company does not affect the Panel B: Industry-wise Classification of Sampled Companies
selection of capital budgeting method including
risk techniques. Type of Industry No. of % Age of
Companies Companies
Mining/Construction 1 3.3
DATABASE AND RESEARCH METHODOLOGY
Electronics and Electrical 2 6.7
To identify corporate finance practices in India, a Equipments
structured questionnaire after pre-testing was served to Transport and Automobiles 4 13.3
collect data. Hardware /Software Development 1 3.3

All manufacturing companies in India applying Chemicals/Dyes/ Pharmaceutical/ 2 6.7

Fertilizer
capital budgeting techniques comprehend the universe
of the study. The size of sample taken for the above study Textiles 7 23.3
was 100 manufacturing companies covering a broad Automotive Parts and Equipments 5 16.7
cross-section of various size-groups, industry–groups, Others 8 26.7
age-groups, ownerships and various geographical areas. Total 30 100.0
These companies covered big cities like Hyderabad,
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 A Survey of Capital Budgeting Practices in Corporate India l 5

Panel C: Age-wise Classification of Sampled Companies Panel B: Purpose of Investment Formal Capital Budgeting
Analysis
Age of Company No. of % Age of
(In Years) Companies Companies Purpose of Investment No. of
5-19 8 26.7 Companies
20- 6 20.0 Expansion into new business/ 0
>39 16 53.3 Diversification only (1)
Total 30 100.0 Expansion of existing business only (2) 11
Equipment replacement and 2
Panel D: Ownership-wise Classification of Sampled Companies
modernisation only (3)
Nature of No. of % Age of Expansion into new and existing 2
Ownership Companies Companies
business (1)+(2)
Public 27 90.0
Expansion of existing business and 9
Private 3 10.0 equipment replacement (2)+(3)
Total 30 100.0
Expansion into new business and 0
equipment replacement (1)+(3)
Panel E: Educational Status of CEOs
Expansion into new business, existing 6
Qualifications No. of % Age of business and equipment replacement
Companies Companies (1)+(2)+(3)
Undergraduate/Graduate 2 6.7
Total 30
MBA 8 26.7
Non MBA Masters 8 26.7
> Masters Degree 12 40.0 Panel C: Companies’ Discount /Cut off Rate
Total 30 100.0 Discount Rate No. of % Age of
Companies Companies
The different panels of the table reveal classification
of sample on the basis of different criteria. The data Weighted average Cost 12 40.0
thus collected, was analysed by applying mean, mode, of Capital (WACC)
summated scores and Chi-square analysis. Chi-square Cost of debt 14 46.7
Test was used to test various hypotheses which are Cost of retained earnin 1 3.3
indicative of the relationship between two or more
Cost of new equity 0 0.0
variables.
Arbitrary rate 0 0.0

RESULTS OF THE STUDY Historical Rate of 3 10.0

Return
Corporate Practices of Capital Budgeting
Total 30 100.0
Table 2 below discusses various aspects of capital
budgeting along with the techniques used commonly for
investment evaluation. Panel D: Most Popular Capital Budgeting Technique

Table 2: Corporate Practices of Capital Budgeting Capital Budgeting No. of % Age of

Technique Companies Companies
Panel A: Level of Investment Required For Panel
Level of No. of % Age of Payback Period 12 40.0
Investment Companies Companies NPV 12 40.0
<1million 16 53.3
IRR 3 10.0
1-9 million 11 36.7
10-29 million NPV+IRR 3 10.0
3 10.0
30-59 million 0 0 Total 30 100.0
>60 million 0 0
Total 30 100.0

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6 l Verma, Gupta and Batra
Panel E: Factors Deciding Capital Budgeting Method

FACTORS RANKS
1 2 3 4 5 6 Summated
score
Finance Theory 6.7 (2) 16.7 (5) 3.3 (1) 6.7 (2) 43.3 (13) 23.3 (7) 130
Experience and Competency 30 (9) 26.7 (8) 20.0 (6) 16.7 (5) 6.7 (2) 0 (0) 73
Informal Rule of Thumb 6.7 (2) 0 (0) 3.3 (1) 6.7 (2) 23.3 (7) 60 (18) 156
Importance of the Project 36.7 (11) 26.7 (8) 10 (3) 16.7 (5) 10 (3) 0 (0) 71
Easy Under-standability 20.0 (6) 23.3 (7) 23.3 (7) 16.7 (5) 16.7 (5) 0 (0) 86
Top Management Familiarity 0 (0) 6.7 (2) 40 (12) 36.7 (11) 0 (0) 16.7 (5) 108
Note: *Figures in bracket represent the number of companies

Panel F: Capital Budgeting Techniques Preferred By Companies

Capital Budgeting Method % Age of Companies

Never [1] Rarely [2] Sometimes [3] Often [4] Always [5] Mode
NPV 23.3(7) 3.3(1) 10(3) 13.3(4) 50(15) 5
IRR 16.7(5) 0 (0) 6.7 (2) 20 (6) 56.7(17) 5
Adjusted Present Value 56.7(17) 20.0 (6) 6.7(2) 13.3(4) 3.3(1) 1
Payback Period 6.7(2) 0(0) 13.3(4) 43.3(13) 36.7(11) 4
Discounted Payback Period 46.7(14) 6.7(2) 23.3(7) 10(3) 13.3(4) 1
Profitability Index 36.7 (11) 16.7(5) 6.7(2) 26.7(8) 13.3(4) 1
Accounting Rate of Return 33.3(10) 16.7(5) 23.3(7) 10(3) 16.7(5) 1

Note: *Figures in bracket represent the number of companies

Level of Investment Required for Expansion of new business, equipment replacement and
Formal Capital Budgeting Analysis modernisation are the other motivators for investment. The
results in this study contradict the earlier studies which
Perusal of Panel A of Table 2 depicts that all the
show replacement, modernisation and diversification
companies require formal capital budgeting. For 16
as the most popular modes of investment by Indian and
respondent companies (53.3%) the minimum cut off
foreign companies (Jain and Kumar, 1998 and Stanley
level of investment in a project required for formal capital
Block, 1997).
budgeting analysis was less than rupees 1 million while
for 11 companies (36.7%) it varied between 1-9 million.
Only three companies mentioned rupees 30-59 million Determination of Cut Off Point or Discount Rate
as minimum cut off investment level in a project. No
The companies have to decide appropriate discount
company considered greater than 30 million as minimum
rate to provide financial justification to the capital
investment level for doing formal capital budgeting
project. However the consideration of risk and the
analysis. Thus in the current era of cutthroat competition,
need to earn sufficient return on investment make the
even for projects involving small investment outlays, the
choice complicated. Therefore, the choice of the best
companies go in for adoption of formal capital budgeting
discount rate varied substantially among the financial
analysis so as to avoid any mistakes resulting in losses.
managers of different companies. Panel C of Table 2
indicates that fourteen (46.7%) respondent companies
Purpose of Making Investment mentioned cost of debt as the best discount rate followed
by the weighted average cost of capital preferred by
Panel B of Table 2 reveals that the dominant motivation for
12 companies (40%). Historical rate of return and cost
making investment is the expansion of existing business.
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 A Survey of Capital Budgeting Practices in Corporate India
of retained earnings were mentioned by three and one
company respectively.
Most Popular Method
The survey further reveals that majority of the Finance
Managers/Director (Finance) of the respondent
companies considered Payback Period Method and NPV
method (12 companies each) as the most popular capital
budgeting techniques. Three companies consider IRR
and an equal number considered both IRR and NPV as
popular capital budgeting techniques. Thus payback
period, NPV and IRR were three most popular capital
budgeting techniques as revealed by Panel D of Table
2 .The companies’ favoured Payback Period Method
because of its simplicity. The lack of willingness to
adopt the advanced discounted cash flow techniques,
in certain small companies explains the non-use of
sophisticated discounted flow methods.
Usage of Multiple Capital Budgeting Techniques
When asked about usage of multiple capital budgeting
methods, 27 companies (90%) said that they were using
more than one capital budgeting technique for evaluating
their investment proposals. Only 3 companies said that
they relied on single method for evaluation of investment
proposals. These results are consistent with the results
of Petry (1975), which depicted that 74 percent of the
companies studied were using more than one method for
evaluating investment proposals.
Role of Education and Experience
The survey reveals that experience and education of the
finance personnel play an important role in selection of
the capital budgeting techniques. Most finance managers
of the respondent companies believe that companies with
more educated and highly qualified personnel preferred
more sophisticated techniques like NPV, IRR whereas the
non-discounted techniques like payback period criterion
were preferred by the less qualified ones.
Consideration of Factors for
Deciding Capital Budgeting Method
Factors considered for deciding capital budgeting method
by the respondents are shown in Panel E of Table 2. The
Panel shows that 11 companies regarded importance of
the project as the most important factor for selecting
method of capital budgeting while 8 regarded it as the
second most important factor while selecting the capital
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l 7
budgeting technique to be used. This was followed by
experience and competency, which was considered by 9
companies as the most important and by 8 as the second
most important factor. Easy understandability of the
method was considered the most important factor by 6
companies though different companies gave it varied
ranks. The familiarity of top management with the
method is not given topmost priority by any company. The
remaining two factors, i.e. Finance Theory and Informal
Rule of Thumb, are considered least important by the
companies in deciding the capital budgeting method.
Preference for
Different Capital Budgeting Techniques
Previous studies indicate that IRR and payback period
methods are the primary methods for evaluation (Pandey,
1989 and Gitman, 1977). In our analysis, we also asked
whether firms used all the seven important methods of
capital budgeting and how frequently they used these
methods on a scale of 1 to 5. Panel F of Table 2 shows
that IRR and NPV are the two most preferred methods
of capital budgeting where IRR is being preferred as
‘always’ by 56.7 percent of the selected companies and
NPV ‘always’ by 50 percent of the companies. Payback
Period Method, is next preferred as ‘always’ by nearly
36.7 percent companies and in 43.3 percent companies as
‘often.’Among the rest methods, only Profitability Index is
preferred. The use of the other capital budgeting techniques
like Adjusted Present Value Method, Discounted Payback
Period Method and Accounting Rate of Return Method as
revealed by the table is very limited.
Thus the results indicate that in the current era of
globalisation, majority of the manufacturing companies in
India have shifted to the use of discounted capital budgeting
techniques. Among these modern methods also, the highly
sophisticated ones like IRR, NPV and Profitability Index
are preferred more than the less sophisticated ones like
Adjusted Present Value or Discounted Payback Period.
In practice IRR is thus preferred over NPV. These results
are however not in conformity with the theory which
considers NPV as a superior method to IRR especially in
situations where both give contradictory results. Though,
financial management theory recommends NPV as the
best method and however, among the traditional ones
Payback Period Method is still very popular with the
companies. Majority of the companies make use of
this method as a supplementary method along with the
sophisticated discounted techniques because of its easy
understandability and simplicity.
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Corporate practices regarding Cost of Capital and capital. These field results correspond to the academic
Cost of Equity Capital theory, which regards WACC to have the superior base
level for cost of capital determinations.
Table 3 depicts corporate practices regarding cost of
capital and cost of equity capital in detail.
Table 3: Corporate Practices regarding Cost of Capital and
Calculation of Cost of Equity Capital
Cost of Equity The Panel B of Table 3 reveals the number of respondent
Panel A: Methods Used by Companies to Calculate Cost of companies estimating cost of equity capital. The Panel
Capital shows that out of the 30 respondent companies 18 (60%)
Method No. of Percentage of
make an estimation of Cost of Equity Capital while 12
Companies Companies companies (40%) do not make any such estimation.
Weighted Average Cost of
Perusal of Panel C of Table 3 shows how frequently
13 43.3 companies use different methods for calculating Cost of
Capital
Equity Capital on a scale of 1 to 5. It reveals that out of
Cost of Capital using the 6.7
CAPM Model
2 the 18 companies, which estimate Cost of Capital, none
of them prefer any single method for calculating cost of
Cost of Debt 13 43.3
equity capital. The methods of average historical returns
Average Historical Return
0 0.0 on common stock, CAPM model, CAPM model with
on Stock
extra risk factors are being preferred almost equally, either
Expected Growth Rate 2 6.7
‘sometimes, ‘often’ or ‘always’ by 9, 10 and 8 companies
Total 30 100.0 respectively. The methods of discounted dividend/

Panel B: Methods Used by Companies to Calculate Cost of Equity Capital

Method to Calculate Cost of Equity Capital Percentage Of Companies
Never [1] Rarely [2] Some-times Often [4] Always [5] Mode
[3]
Average Historical Returns on Common Stock 50 (9) 0 (0) 11.1 (2) 27.78 (5) 11.11 (2) 1
CAPM Model (The “Beta Approach”) 44.44 (8) 0 (0) 0 (0) 50 (9) 3.33 (1) 1
CAPM with Some Extra Risk Factors 55.56 (10) 0 (0) 0 (0) 38.88 (7) 5.56 (1) 1
As per the Choice of the Investors 96.7 (17) 0 (0) 0 (0) 3.3 (1) 0 (0) 1
Regulatory Decisions 61.11 (11) 11.11 (2) 0 (0) 11.11 (2) 16.67 (3) 1
Discounted Dividend/earnings Model 44.44 (8) 22.22 (4) 5.56 (1) 11.11 (2) 16.67 (3) 1

Note: *Figures in bracket reveal the number of companies

Methods for Calculating Cost of Capital earnings model and method of calculating cost of capital
by regulatory decisions are the less preferred ones.
Panel A of Table 3 reveals methods adopted by the
respondent companies to calculate the cost of capital.
Thirteen companies (43.3%) reported that they use Corporate Practices Regarding
Weighted Average Cost of Capital (WACC) for calculating Incorporating Risk in Capital Budgeting
cost of capital. Cost of Debt is used by 13 companies
The business investments generally have risk associated
(43.3%) for calculating the same. Each of the other
with their future cash inflows because there are a number
two methods viz. Cost of Capital using CAPM model
of uncertainties associated with the future like changes
and the Expected Growth Rate Method, is being used
in demand, changes in government policies, inflation,
by very less percentage (6.7 percent) of the companies
interest rate changes etc. Increasingly the companies are
only. However, none of the companies used the method
realising this and making adjustment for different risk
of Average Historical Return on Stock. The results of
factors by adopting various capital budgeting techniques
the present study are consistent with those by Jog and
Srivastava (1995) which found that WACC is used by incorporating risk. Table 4 discusses the corporate practices
47 percent of the Canadian firms for calculating cost of regarding incorporating risk in Capital Budgeting.

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 A Survey of Capital Budgeting Practices in Corporate India l 9

Table 4: Corporate Practices Regarding Incorporating Risk Type of Risk Involved in Investment
in Capital Budgeting
Panel A: Type of Risk Involved in Investment Panel Perusal of Panel A of Table 4 indicates what makes an
investment risky according to different companies. It
Risk Factors % Age of Companies evidently shows that 22 companies considered non-
Adjust Adjust Both Neither recoverable investment as the most important factor that
discount cash flow
makes any investment a risky investment, followed by
rate
fluctuations in expected return considered most important
Risk of unexpected 46.7 33.3 13.3 6.7
inflation (14) (10) (4) (2) by 4 companies. Only three and one companies out of
the thirty considered fear of obsolescence and changes
Interest Rate Risk 50 26.6 16.7 6.7
(change in general (15) (8) (5) (2) in economic, social and political factors respectively
level of interest rates) as most important risk factor associated with an
Term Structure Risk 60 20 6.7 13.3 investment. However, these two factors are considered
(change in the long- (18) (6) (2) (4) by 13 companies each, as the third important factor for
term vs. short Term risk.
interest rate)
GDP or Business 10 53.3 6.7 30
Cycle Risk (3) (16) (2) (9) Risk Factors and their Adjustments
Commodity Price 23.3 53.3 6.7 16.7 The prominent risk factors like risk of unexpected
Risk (7) (16) (2) (5)
inflation, interest rate, business cycle, commodity price
Foreign Exchange 53.3 16.7 13.3 16.7 and foreign exchange are generally adjusted by either
Risk (16) (5) (4) (5)
increasing the discount rate or by reducing the cash flows
or by changing both. Panel B of Table 4 reveals how
B: Adjustments for Risk Factors the respondent companies adjust different risk factors.
Type of Risk Ranks Majority of the companies nearly 28 are making an
1 2 3 4 Summated adjustment for the risk of unexpected inflation and interest
Score rate risk followed by 26 companies making an adjustment
Fluctuations in 13.3 36.7 10 40 83 for term structure risk. Similarly the Commodity Price
Expected Return (4) (11) (3) (12) Risk and Foreign Exchange Risk are being adjusted by
Non-recoverable 73.3 13.3 3.3 10 45 most of the companies that is 25 companies each. It is also
Investment (22) (4) (1) (3) noted that majority of the companies (almost greater than
Changes in 3.3 26.7 43.3 26.7 88
50 percent in each case) are adjusting the discount rate for
Economic, (1) (8) (13) (8) the Risk of Unexpected Inflation, Interest Rate Risk, Term
Social and Structure Risk and Foreign Exchange Risk. In contrast to
Political Factors this for GDP/Business Cycle Risk and Commodity Price
Fear of 10 23.3 43.3 23.3 84 Risk, majority of the companies nearly 16 companies
Obsolescence (3) (7) (13) (7)
(53.3%) each are adjusting the Cash flows rather than
Note: *Figures in bracket represent the number of companies adjusting the Discount Rate or both.

Panel C: Method of Incorporating Risk

Capital Budgeting Method Never Rarely Some-times Often Always
Sensitivity Analysis 13.3 (4) (0) 13.3 (4) 36.7 (11) 36.7 (11)
Value at Risk or other Simulation Analysis 46.7 (14) 26.7 (8) 6.7 (2) 6.7 (2) 13.3 (4)
Incorporation of Real Options of a Project while its Evaluation 56.7 (17) 13.3 (4) 13.3 (4) 6.7 (2) 10 (3)
CAPM 36.7 (11) 16.7 (5) 10 (3) 20 (6) 16.7 (5)
High Cut off Rates 26.7 (8) 23.3 (7) 33.3 (10) 16.7 (5) (0)

Shorter Pay Back Period 20 (6) 3.3 (1) 26.7 (8) 23.3 (7) 26.7 (8)

Note: *Figures in bracket represent the number of companies

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10 l Verma, Gupta and Batra
Methods for Incorporating Risk
Panel C of Table 4 reveals the methods through which
companies incorporate risk in capital budgeting decisions.
It shows that Sensitivity Analysis is the method preferred
by majority of the companies for incorporating risk.
Nearly 11 of the sampled companies revealed that they
‘always’ prefer this method for incorporating risk and
in total 26 companies are making use of this technique
in one way or the other. The results are consistent with
those of Bhattacharya (1979) and Ken Leonore and
U. Rao Cherukuri (1991) Jain and Kumar (1998), who have
concluded Sensitivity Analysis to be the most preferred
technique for incorporating risk. Shorter Payback Period
is the second most preferred method for incorporating risk
followed by High Cut off Rates method. CAPM method
and Simulation method are the less preferred methods.
Testing of Hypothesis
Table 5 tests different hypotheses formulated above. It
shows the impact of different variables like size of capital
budget, CEO education and age of company on the choice
of the capital budgeting technique.

Panel A: Relationship between Size of Capital Budget and Capital Budgeting Techniques
Capital Budgeting Tool Size of Capital Budget Never Rarely Sometimes Often Always
(Chi Square Value) (in Rs.)
NPV* Less than 10 Million – – – – 100%
(31.085) 10-99 Million 44.4% – 11.1% 22.2% 22.2%
100-499 Million 50% – – – 50%
500-999 Million – 50% – 50% –
More than 1 billion – – 18.2 9.1 72.7%
Total 23.3% 3.3% 10% 13.3% 50%
IRR Less Than 10 Million – – – – 100%
(19.430) 10-99 Million 22.2% – 33.3% 44.4% 66.7%
100-499 Million 50% – – 50% 42.9%
500-999 Million – – 50% 50% –
More than I Billion – – 18.2% 9.1% 72.7%
Total 16.7% – 6.7% 20% 56.7%
Adjusted Present Less than 10Million – – – 50% 50%
Value Method 10-99 Million 66.7% 11.1% 11.1% 11.1% –
(24.179) 100-499 Million 83.3% – – 16.7% –
500-999 Million 50% 50% – – –
More than 1 billion 45.5% 36.4% 9.1% 9.1% –
Total 56.7% 20% 6.7% 13.3% 3.3%
Pay Back Period Less than 10 Million – – – – 100%
(17.205) 10-99 Million – - 33.3% 44.4% 22.2%
100-499 Million 16.7% – – 16.7% 66.7%
500-999 Million – – 50% 50% –
More than 1 billion 9.1% – – 63.6% 27.3%
Total 6.7% – 13.3% 43.3% 36.7%
Discounted* Payback Less than 10 Million – – – – 100%
Period 10-99 Million 55.6% 11.1% 11.1% 22.2% –
(34.877) 100-499 Million 66.7% – – – 33.3%
500-999 Million 50% 50% – – –
More than billion 36.4% – 54.5% 9.1% –
Total 46.7% 6.7% 23.3% 10% 13.3%
Profitability Index Less than 10 Million – – – – 100%
(23.099) 10-99 Million 44.4% 22.2% – 22.2% 11.1%
100-499 Million 50% 16.7% – 16.7% 16.7%
500-999 Million 50% 50% – – –
More than 1 billion 27.3% 9.1% 18.2% 45.1% –
Total 36.7% 16.7% 6.7% 26.7% 13.3%
ARR Less than 10 million – – – 50.0% 50%
(21.189) 10-99 million 33.3% 11.1% 11.1% 11.1% 33.3%
100-499 million 50% 33.3% – – 16.7%
500-999 million 50% 50% – – –
More than 1 billion 27.3% 9.1% 54.5% – 9.1%
Total 33.3% 16.7% 23.3% 10% 16.7%
Note: *Significant at 5% level of significance.
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Panel B: Relationship between Size of Capital Budget and Capital Budgeting Techniques Incorporating Risk
Capital Budgeting Size of Capital Budget Never Rarely Sometimes Often Always
Tool (in Rs.)
(Chi Square Value)
Sensitivity Analysis Less than 10 million – – – – 100%
(14.122) 10-99 million 11.1% – 11.1% 55.6% 22.2%
100-499 million 16.7% – 16.7% – 66.7%
500-999 million 50% – – – 50%
More than 1 billion 9.1% – 18.2% 54.5% 18.2%
Total 13.3% – 13.3% 36.7% 36.7%
Simulation Analysis* Less than 10 Million – – – 50% 50%
(29.927) 10-99 Million 44.4% 11.1% – 11.1% 33.3%
100-499 Million 100% – – – –
500-999 Million 50% 50% – – –
More than 1 billion 27.3% 54.5% 18.2% – –
Total 46.7% 26.7% 6.7% 6.7% 13.3%

Real Options* Less Than 10 Million – – – – 100%

(32.802) 10-99 Million 66.7% – 11.1% 11.1% 11.1%
100-499 Million 83.3% – – 16.7% –
500-999 Million 50% – 50% – –
More than I Billion 45.5% 36.4% 18.2% – –
Total 56.7% 13.3% 13.3% 6.7% 10%
CAPM Analysis Less than 10 Million 50% – – 50% –
( 19.492) 10-99 Million 77.8% 11.1% – – 11.1%
100-499 Million – 33.3% 16.7% 16.7% 16.7%
500-999 Million 50% – 50% – –
More than 1 billion 18.2% 18.2% 9.1% 27.3% 27.3%
Total 36.7% 16.7% 10% 20% 16.7%

High Cut Off Rates Less than 10 Million 50% – – 50% –

(12.620) 10-99 Million 33.3% 11.1% 33.3% 22.2% –
100-499 Million – 16.7% 50% 33.3% –
500-999 Million 50% – 50% – –
More than 1 billion 27.3% 45.5% 27.3% – –
Total 26.7% 23.3% 33.3% 16.7% –
Shorter Payback Less than 10 Million 50% – – 50% –
Period 10-99 Million 33.3% 11.1% 22.2% 22.2% 11.1%
(14.884) 100-499 Million 16.7% – 16.7% 33.3 % 33.3%
500-999 Million – – – – 100%
More than billion 9.1% – 45.5% 18.2% 27.3%
Total 20% 3.3% 26.7% 23.3% 26.7%

Note: *Chi Square significant at 5% level of significance

Relationship between Size of Capital Budget and of the method increased with the increase in size of
Capital Budgeting Technique capital budget. Larger companies were making more
extensive use of NPV method as compared to the
Panel A of Table 5 reveals that only in case of NPV
smaller companies. However, the reverse was observed
method and Discounted Payback Period Method, the
in case of Discounted Payback Period Method. The use
Pearson Chi-square test of independence was significant
of the method decreased with the increase in size of
at 5% level. This indicates a significant relationship
company’s capital budget and the smaller companies
between size of capital budget and these two methods.
were making more use of this method as compared
In case of NPV method, it was discovered that the use
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12 l Verma, Gupta and Batra
Panel C: Relationship between CEO Education and Capital Budgeting Techniques
Capital Budgeting Tool CEO Education Never Rarely Sometimes Often Always
(Chi Square value)

NPV Undergraduate /Graduate 100% – – – –

(14.679) MBA 25% – 12.5% 25% 37.5%
Non MBA masters 12.5% – – – 87.5%
> Masters degree 16.7% 8.3% 16.7% 16.7% 41.7%
Total 23.3% 3.3% 10% 13.3% 50%
IRR Undergraduate /Graduate 100% – – – –
(15.593) MBA 12.5% – – 37.5% 50%
Non MBA masters 12.5% – – 12.5% 75%
> Masters degree 8.3% – 16.7% 16.7% 58.3%
Total 16.7% – 6.7% 20% 56.7%
APV Undergraduate /Graduate 100% – – – –
(14.093) MBA 75% – – 25% –
Non MBA masters 50% 50% – – –
> Masters degree 41.7% 16.7% 16.7% 16.7% 8.3%
Total 56.7% 20% 6.7% 13.3% 3.3%
Pay Back period ∗ Undergraduate /Graduate – – 100% – –
(9.969) MBA 12.5% – – 50% 37.5%
Non MBA masters – – 75% 25%
> Masters degree 8.3% – 16.7% 25% 50%
Total 6.7% – 13.3% 43.3% 36.7%

Discounted Payback Undergraduate /Graduate 100% – – – –

(15.923) MBA 62.5% – 12.5% 25%
Non MBA masters 25% 62.5% 12.5%
> Masters degree 41.7% 16.7% 16.7% 8.3% 16.7%
Total 46.7% 6.7% 23.3% 10% 13.3%
Profitability Index Undergraduate /Graduate 100% – – – –
(13.168) MBA 50% – – 37.5% 12.5%
Non MBA masters 12.5% 12.5% 12.5% 50% 12.5%
> Masters degree 33.3% 33.3% 8.3% 8.3% 16.7%
Total 36.7% 16.7% 6.7% 26.7% 13.3%

ARR Undergraduate /Graduate – 100%

(19.869) MBA 50% 12.5% – 12.5% 12.5%
Non MBA masters 12.5% 25% 50% – 12.5%
> Masters degree 33.3% 16.7% 25% 16.7% 8.3%
Total 33.3% 16.7% 23.3% 10% 16.7%

Note: *Chi square significant at 5% level of significance.

to the large ones. In case of rest of the five methods,
the Pearson Chi-square showed an insignificant
relationship. This indicates that except for the above
mentioned two methods, no association was found
between the size of capital budget and the rest of the
capital budgeting methods (IRR, APV, Payback Period,
Profitability Index and ARR).
As far as the risk techniques of capital budgeting are
concerned, Panel B of Table 5 shows that only Simulation
Analysis and Real Options have a significant association
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with the size at 5% significance level. All the other
methods do not show any significant association with
the size of capital budget.
Relationship between CEO Education and Methods
of Capital Budgeting
Panel C of Table 5 depicts as to whether there exists
significant association between education of CEO and
different methods of capital budgeting. Perusal of Panel
C shows that the value of Chi-square is insignificant for
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 A Survey of Capital Budgeting Practices in Corporate India l 13

Panel D: Relationship between CEO Education and Capital Budgeting Techniques Incorporating Risk
Capital Budgeting Tool CEO Education Never Rarely Sometimes Often Always
(Chi Square value)

Sensitivity Analysis Undergraduate /Graduate – – – 100% –

( 13.693) MBA 25% – – 37.5% 37.5%
Non MBA masters 12.5% – 12.5% 62.5% 12.5%
> Masters degree 8.3% – 25% 8.3% 58.3%
Total 13.3% – 13.3% 36.7% 36.7%
Simulation Analysis* Undergraduate /Graduate – – – – 100%
(25.268) MBA 75% 12.5% – 12.5% –
Non MBA masters 25% 62.5% – – 12.5%
> Masters degree 50% 16.7% 16.7% 8.3% 8.3%
Total 46.7% 26.7% 6.7% 6.7% 13.3%
Real Options* Undergraduate /Graduate 100% –- –- –- –-
(25.833) MBA 75% – – 25% –
Non MBA masters 37.5% 50% – – 12.5%
> Masters degree 50% – 33.3% – 16.7%
Total 56.7% 13.3% 13.3% 6.7% 10%

CAPM Analysis Undergraduate /Graduate 100% –- –- –- –-

( 18.246) MBA 37.5% 25% – 25% 12.5%
Non MBA masters – 37.5% – 37.5% 25%
> Masters degree 50% – 25% 8.3% 16.7%
Total 36.7% 16.7% 10% 20% 16.7%

High Cut Off Rates Undergraduate /Graduate –- –- –- 100% –-

(15.911) MBA 25% 12.5% 37.5% 25% –-
Non MBA masters 25% 50% 25% –- –-
> Masters degree 33.3% 16.7% 41.7% 8.3% –-
Total 26.7% 23.3% 33.3% 16.7% –-
Shorter Payback Period* Undergraduate /Graduate 100% –- –– –- –-
(21.488) MBA –- –- 25% 50% 25%
Non MBA masters 25% –- 50% 25% –-
> Masters degree 16.7% 8.3% 16.7% 8.3% 50%
Total 20% 3.3% 26.7% 23.3% 26.7%

Note: *Chi Square significant at 5% level of significance

all the methods of capital budgeting except the Payback
Period Method. This shows that only in case of Payback
Method, there is significant association between the two
variables. The use of Payback Period Method is observed
to increase with improvement in CEO education and
qualifications. Thus the highly qualified CEOs are
making more use of the method as compared to the
less qualified ones. For all other methods, the relation
was found to be insignificant depicting no association
between these methods (NPV, IRR, APV, Discounted
Payback Period, Profitability Index and ARR) and the
CEO education.
Panel D of Table 5 reveals that in case of risk
techniques, only Simulation Analysis and Real Options
showed significant association with CEO education at
VISION—The Journal of Business Perspective Vol. 13 No. 3 July–September 2009
5% significance level and all the other techniques showed
no association
Relationship between Age of Company and Capital
Budgeting Technique
Panel E of Table 5 shows the relationship between age
of the company and capital budgeting tools. Perusal of
this Panel shows that at 5% level of significance except
in case of the Payback Period Method, for all other
methods of capital budgeting no significant association
was found between the methods and age. This shows
that only in case of Payback Period Method, Chi Square
is significant revealing association between the method
and age of the company. It was observed that older the
company, lesser is its preference for this method while
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14 l Verma, Gupta and Batra
Panel E: Relationship between Age of Company and Capital Budgeting Techniques
Capital Budgeting Tool Age of Company Never Rarely Sometimes Often Always
(Chi Square Value)

NPV 5-19 50% – 12.5% – 37.5%

(10.405) 20-39 33.3% – – – 66.7%
>39 6.3% 6.3% 12.5% 25% 50%
Total 23.3% 3.3% 10% 13.3% 50%
IRR 5-19 50% – 12.5% – 37.5%
(12.105) 20-39 – – – 16.7% 83.3%
>39 6.3% – 6.3% 31.3% 56.3%
Total 16.7% – 6.7% 20% 56.7%
APV 5-19 87.5% – – 12.5% –
(14.32) 20-39 66.7% – 16.7% – 16.7%
>39 37.5% 37.5% 6.3% 18.8% –
Total 56.7% 20% 6.7% 13.3% 3.3%

Pay Back Period * 5-19 12.5% – 25% – 62.5%

(13.13) 20-39 16.7% – – 33.3% 50%
>39 – – 12.5% 68.8% 18.8%
Total 6.7% – 13.3% 43.3% 36.7%

Discounted Payback Period 5-19 87.5% – – 12.5% –

Method 20-39 33.3% – 16.7% 16.7% 33.3%
(2.42) >39 31.3% 12.5% 37.5% 6.3% 12.5%
Total 46.7% 6.7% 23.3% 10% 13.3%

Profitability Index 5-19 62.5% 25% – – 12.5%

(7.881) 20-39 33.3% – 16.7% 33.3% 16.7%
>39 25% 18.8% 6.3% 37.5% 12.5%
Total 36.7% 16.7% 6.7% 26.7% 13.3%

ARR 5-19 12.5% 25% 25% – 37.5%

(10.568) 20-39 66.7% – – 16.7% 16.7%
>39 31.3% 18.8% 31.3% 12.5% 6.3%
Total 33.3% 16.7% 23.3% 10% 16.7%

Note: *Chi Square significant at 5% level of significance.

the younger companies are making more use of this
method.
Panel F of Table 5 above reveals that in case of risk
techniques, only Sensitivity Analysis and Simulation
Analysis showed significant association with age of
company at 5% level of significance. All the other
techniques showed insignificant relation.
CONCLUSION
The survey reveals that with the advent of globalisation
and mounting competition among manufacturing
companies, these companies are paying increasingly
greater emphasis on making sound investment decisions.
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l l
Even for projects involving small investment outlays,
majority of the companies go in for adoption of formal
capital budgeting analysis so as to avoid any mistakes
resulting in losses. Moreover, instead of relying on one
single technique of evaluation, multiple techniques are
applied for evaluation of investments. There is change
in trend towards increased adoption of sophisticated
discounted capital budgeting practices like NPV, IRR
as compared to the non-discounted capital budgeting
techniques. However, among the traditional techniques,
Payback Period Method is still preferred in majority
of companies as a supplement to the DCF techniques.
Majority of the companies in India, use the Weighted
Average Cost of Capital (WACC) to calculate the Cost
of Capital, which is used as a discount or cut off rate
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 A Survey of Capital Budgeting Practices in Corporate India l 15

Panel F: Relationship between Age of Company and Capital Budgeting Techniques Incorporating Risk
Capital Budgeting Tool Age of Company Never Rarely Sometimes Often Always
(Chi Square Value)

Sensitivity 5-19 25% 37.5% 25% 12.5% 12.5%

Analysis* 20-39 – – – 9.1% 83.3%
(13.224) >39 12.5% – 6.3% 50% 31.3%
Total 13.3% – 13.3% 36.7% 36.7%
Simulation Analysis* 5-19 50% – 12.5% – 37.5%
(16.54) 20-39 66.7% – 16.7% 16.7% –
>39 37.5% 50% – 6.3% 6.3%
Total 46.7% 26.7% 6.7% 6.7% 13.3%
Real Options 5-19 75% – 12.5% – 12.5%
(6.906) 20-39 66.7% – 16.7% – 16.7%
>39 43.8% 25% 12.5% 12.5% 6.3%
Total 56.7% 13.3% 13.3% 6.7% 10%

CAPM Analysis 5-19 37.5% 12.5% – 12.5% 37.5%

(7.481) 20-39 33.3% 33.3% – 16.7% 16.7%
>39 37.5% 12.5% 18.8% 25% 6.3%
Total 36.7% 16.7% 10% 20% 16.7%
High Cut Off Rates 5-19 12.5% 25% 25% 37.5% –
( 6.48) 20-39 33.3% – 50% 16.7% –
>39 31.3% 31.3% 31.3% 6.3% –
Total 26.7% 23.3% 33.3% 16.7% –
Shorter Payback Period 5-19 50% – 25% 12.5% 12.5%
(10.286) 20-39 16.7% – 16.7% 50% 16.7%
>39 6.3% 6.3% 31.3% 18.8% 37.5%
Total 20% 3.3% 26.7% 23.3% 26.7%

Note: * Chi Square significant at 5% level of significance.

in case of companies using the Discounted Cash Flow
Techniques. The companies have also realised that
in the current unpredictable and turbulent business
environment, how important it is to account for various
types of risk like risk of unexpected inflation, interest
rate risk, commodity price risk, foreign exchange risk
etc while evaluating investment proposals. For the
purpose of incorporating risk in investment decision,
companies tend to adopt advanced risk techniques
like ‘Sensitivity’ analysis along with the traditional
supplements like ‘Shorter Payback Period,’ ‘High Cut
off rates’ etc.
Various foreign and Indian studies on capital
budgeting have revealed that the size of firm significantly
affects the practice of corporate finance. For example,
majority of the studies reveal that large companies were
much more likely to use Net Present Value technique,
while small firms tend to rely on the payback criterion.
Our study is also consistent with these previous studies
VISION—The Journal of Business Perspective Vol. 13 No. 3 July–September 2009
as a significant association was found between NPV
and the size of companies. The use of NPV increased
with the increase in scale of companies, confirming the
belief that larger companies make more use of NPV
but payback period was preferred as a supplementary
method by most of the companies irrespective of their
size. However, except for NPV, Discounted Payback
Period, and risk techniques of Simulation and Real
options, no significant association was found between
the size of capital budget and the capital budgeting
methods adopted by the same. It was also revealed
that leaving apart Payback Period Method and certain
risk techniques like Simulation and Real options, no
significant relation could be established between the
CEO education and the capital budgeting techniques.
In fact, it was observed that Payback Period Method
was preferred more by the young companies and highly
qualified CEOs. Similarly, no significant association
could be determined between the age of the company
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16 l Verma, Gupta and Batra
and the method used except in case of payback period,
Sensitivity and Simulation Analysis capital budgeting
techniques.
Therefore, it can be concluded that Capital
Budgeting Practices in manufacturing companies of
India have undergone a drastic change in the current
times. The companies have moved from the traditional
non-discounted techniques towards adoption of the
sophisticated discounted cash flow techniques. However,
companies ought to give due consideration to the size of
capital budget and nature of the company in selecting the
method of capital budgeting. Wherever the budget is large
or the nature of industry demands, more sophisticated
discounted techniques should be used.
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 A Survey of Capital Budgeting Practices in Corporate India l 17

Satish Verma (sv_gndu@yahoo.co.in) is a Professor in the Department of Economics, Guru Nanak Dev University, Amritsar. He was
Head of the Department of Economics in the university from 1997-2000 and thereafter Dean of the Faculty of Economics and Business
during 1998-2000. He has published 35 articles in refereed Journals of National and International repute. He has been organising number
of conferences and seminars, notably as Local Organising Secretary of the annual conference of the Indian Economic Association (1999)
and of the Association of Indian Universities’ Workshop on Internationalisation of Higher Education.
Sanjeev Gupta (sanjeevguptaeco@gmail.com) is a Faculty of Management in the Department of Humanities and Management at Dr. B.R.
Ambedkar National Institute of Technology, Jalandhar. He has Ph.D in Economics and PGDOR. He has teaching and research experience of
14 years. He has to his credit papers published in national and international journals. His research interest includes forecasting techniques,
time series econometrics and survey research quantitative as well qualitative. He is an expert in multivariate statistical tools and applied
econometrics.
Roopali Batra (roopalibatra@rediffmail.com) is a Faculty in Management at Apeejay Institute of Management, Jalandhar. She is M.Phil
in Management and is currently pursuing her Ph.D in the area of Capital Budgeting. She has teaching and research experience of six years.
She has to her credit several research papers in reputed national referred journals including Productivity, ICFAI Journal of Applied Finance,
ICFAI Journal of Management Research etc. Her research interest includes Capital Budgeting, Stock Market and Balanced Scorecard.

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