Ranking investment proposals
A profitability index can be used to rank investment proposals.
i. Define the profitability index.
ii. Two projects are under consideration. Project 1 has net present value (NPV) of
$20 000, project 2 has NPV of $200 000. Which project is better? Explain. What weakness in the NPV analysis does the profitability index address? Explain.
iii. 'Capital rationing' is mentioned as one of the reasons why acceptable investment projects are 'ranked'.
(a) In this context, what is an 'acceptable capital project'?
(b) One interpretation of 'capital rationing' is that the firm has a limited amount of capital available. If this is true, what problem does this present in the use of the discounted cash flow model?
(c) What other reasons besides a lack of capital may lead to the phenomenon described as capital rationing?

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The Answer of Ranking investment proposals
A profitability index can be used to rank investment proposals.
i. Define the profitability index.
ii. Two projects are under consideration. Project 1 has net present value (NPV) of
$20 000, project 2 has NPV of $200 000. Which project is better? Explain. What weakness in the NPV analysis does the profitability index address? Explain.
iii. 'Capital rationing' is mentioned as one of the reasons why acceptable investment projects are 'ranked'.
(a) In this context, what is an 'acceptable capital project'?
(b) One interpretation of 'capital rationing' is that the firm has a limited amount of capital available. If this is true, what problem does this present in the use of the discounted cash flow model?
(c) What other reasons besides a lack of capital may lead to the phenomenon described as capital rationing?

Ranking Investment Proposals A Profitability Index Can Be Used to Rank Investment Proposals