Assume a project has cash flows of -$54,300, $18,200, $37,300, and $14,300 for Years 0 to 3, respectively. What is the profitability index given a required return of 12.6 percent?
A) .946
B) .98
C) 1.02
D) 1.06
E) 1.00

Question

Assume a project has cash flows of -$54,300, $18,200, $37,300, and $14,300 for Years 0 to 3, respectively. What is the profitability index given a required return of 12.6 percent?
A) .946
B) .98 
C) 1.02
D) 1.06 
E) 1.00

Quizplus · Accepted Answer

The profitability index (PI) is calculated by dividing the present value of future cash flows by the initial investment. First, calculate the present value (PV) of each cash flow using the formula PV = FV / (1 + r)^n, where FV is the future value, r is the required return, and n is the number of periods. Then, sum these present values and divide by the initial investment.Year 0: -$54,300 (This is the initial investment, so it's already in present value terms.)Year 1: $18,200 / (1 + 0.126)^1 = $16,153.85Year 2: $37,300 / (1 + 0.126)^2 = $29,468.77Year 3: $14,300 / (1 + 0.126)^3 = $10,077.69Sum of present values = -$54,300 + $16,153.85 + $29,468.77 + $10,077.69 = $1,400.31Profitability Index = (Sum of present values) / Initial investment = $1,400.31 / $54,300 = 1.02

Assume a Project Has Cash Flows of -$54,300, $18,200, $37,300