Cheryl Peck purchased a computer network for her classroom.The computer network cost $100,000.She estimates that she can charge $500 for one session in the classroom.Cheryl knows that enrollment will increase over time.She estimates 50 students the first year,75 students the second year,100 students the third year,and 150 students the fourth year.If her cost of capital is 12 percent,what is the approximate profitability index?

Question

Quizplus · Accepted Answer

The profitability index is calculated by dividing the present value of the future cash flows by the initial investment. The present value of the future cash flows is calculated by multiplying the cash flow in each year by the present value factor for that year. The present value factor is calculated by dividing 1 by (1 + r)^n, where r is the cost of capital and n is the number of years.In this case, the initial investment is $100,000. The cash flow in each year is calculated by multiplying the number of students by the charge per session. The present value of the future cash flows is calculated as follows:Year 1: $500 * 50 * (1 / (1 + 0.12)^1) = $22,321.43Year 2: $500 * 75 * (1 / (1 + 0.12)^2) = $30,402.68Year 3: $500 * 100 * (1 / (1 + 0.12)^3) = $36,492.53Year 4: $500 * 150 * (1 / (1 + 0.12)^4) = $45,590.63The total present value of the future cash flows is $134,807.27. The profitability index is calculated by dividing the present value of the future cash flows by the initial investment, which is $134,807.27 / $100,000 = 1.35.Therefore, the approximate profitability index is 1.35, which is closest to choice A.

Cheryl Peck Purchased a Computer Network for Her Classroom