Question

# Cardinal Company is considering a five-year project that would require a \$2,915,000 investment in equipment with...

Cardinal Company is considering a five-year project that would require a \$2,915,000 investment in equipment with a useful life of five years and no salvage value. The company’s discount rate is 16%. The project would provide net operating income in each of five years as follows:

 Sales \$ 2,863,000 Variable expenses 1,014,000 Contribution margin 1,849,000 Fixed expenses: Advertising, salaries, and other fixed out-of-pocket costs \$ 781,000 Depreciation 583,000 Total fixed expenses 1,364,000 Net operating income \$ 485,000

Click here to view Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using table.

rev: 05_11_2019_QC_CS-168512

5. What is the project profitability index for this project?

The Project profitability index for this project

Annual cash flow = Net operating income + Depreciation expenses

= \$485,000 + \$583,000

= \$1,068,000

Present Value of annual cash inflows = Annual cash flow x (PVF 16.00%, 5 Years)

= \$1,068,000 x 3.274

= \$3,496,632

Therefore, the Profitability Index = Present Value of annual cash inflows / Initial investment cost

= \$3,496,632 / \$2,915,000

= 1.20

“Hence, the Project profitability index for this project will be 1.20”

NOTE

The Formula for calculating the Present Value Factor is [1/(1 + r)n], Where “r” is the Discount/Interest Rate and “n” is the number of years.

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