Project Divisibility

Selection of individual projects under capital rationing is carried out better when the divisibility or otherwise of the projects is considered. If a project has to be accepted or rejected in toto, and cannot be accepted partially, it is considered as an indivisible project. A divisible project, on the other hand, can be accepted or rejected in part. 

In the case of divisible projects, either the components can be separately worked out ab-initio, or the composite data can be split into the divisible components as a best possible approximation. 

To illustrate the splitting up of composite data, let us consider a project X which has an initial investment outlay of Rs. 6,00,000, with a BCR (or PI) of 1.30. [It is directly inferred that its NPV = Cost (BCR - 1) = Rs. 6,00,000 (1.3 - 1) = Rs. 1,80,000.] If it should be possible to split it into sub-projects X1 and X2 with respective initial outlays of Rs. 3,60,000 and Rs. 2,40,000 (by balance), and if the BCR of X1  is possibly computed as 1.40, then the NPV  of X1  would be Rs. 1,44,000 (being 0.4 x 3,60,000); then the NPV of 

X2  would be 36,000 (by balance : 1,80,000 - 1,44,000), this at the sany time being 0.15 of its cost of Rs. 2,40,000; hence the BCR of X2 would be 1.15. With this split-up information, X can be first considered in total for rationing funds for it out of the available total capital supply. If it gets its funds rationed out to it in toto, so much so good. If not, the split parts of X1 and X2 can then be considered for capital rationing, either without revising the capital rationing exercise and accepting X1  if possible and desirable; or revising the capital rationing exercise with keeping X1  and X2 as separate entities. Undoubtedly, it would have been better to have listed X1  and X2 separately to start with for drawing out the demand schedule (by laddering). In the unlikely event that X1  and X2 would each have the same BCR as the composite X, then the above-said process would continue to be validly applicable. In case X2 cannot be taken up unless X1 is completed, we consider X in toto; or X1  initially; and, if budget admits, consider X2, subject to maximisation of shareholders' wealth and utilising the budget fully or near-fully.