Webley Corp. is considering two expansion options, but does not have enough capital to undertake both. Project W requires an investment of $100,000 and has an NPV of $10,000. Project D requires an investment of $80,000 and has an NPV of $8,200. If Webley uses the profitability index to decide, it would
A) choose D because it has a higher profitability index.
B) choose W because it has a higher profitability index.
C) choose D because it has a lower profitability index.
D) choose W because it has a lower profitability index.

Question

Quizplus · Accepted Answer

The profitability index (PI) is calculated as the ratio of the present value of future cash flows (or NPV + initial investment) to the initial investment. For Project W, PI = ($10,000 + $100,000) / $100,000 = 1.1. For Project D, PI = ($8,200 + $80,000) / $80,000 = 1.1025. Project D has a higher PI, making it the preferred choice.