Eddie Corporation is considering the following three investment projects (Ignore income taxes.): The profitability index of investment project D is closest to:
A) 0.35
B) 1.35
C) 0.65
D) 0.26

Question

Eddie Corporation is considering the following three investment projects (Ignore income taxes.):  The profitability index of investment project D is closest to:
A) 0.35 
B) 1.35 
C) 0.65 
D) 0.26

Quizplus · Accepted Answer

To calculate the profitability index, we need to divide the present value of cash inflows by the initial investment.

For Project A:
PV inflows = $800,000
PV outflows = $750,000
Initial investment = $700,000
Profitability Index = PV inflows / Initial investment = $800,000 / $700,000 = 1.14

For Project B:
PV inflows = $1,500,000
PV outflows = $1,200,000
Initial investment = $1,000,000
Profitability Index = PV inflows / Initial investment = $1,500,000 / $1,000,000 = 1.5

For Project C:
PV inflows = $650,000
PV outflows = $700,000
Initial investment = $600,000
Profitability Index = PV inflows / Initial investment = $650,000 / $600,000 = 1.08

For Project D:
PV inflows = $350,000
PV outflows = $400,000
Initial investment = $500,000
Profitability Index = PV inflows / Initial investment = $350,000 / $500,000 = 0.7

Therefore, the best choice(s) would be Project B since it has the highest profitability index.

Eddie Corporation Is Considering the Following Three Investment Projects (Ignore