Question

A project with an initial cost of $59,600 is expected to provide annual cash flows of $10,450 over the 7-year life of the project. If the required return is 8.3 percent, what is the project's profitability index?

Answer 1

Answer:

Initial Cost = $59,600
Annual Cash Flow = $10,450
Required Return = 8.30%
Life of Project = 7 years

Present Value of Cash Inflows = $10,450/1.083 + $10,450/1.083^2 + …. + $10,450/1.083^6 + $10,450/1.083^7
Present Value of Cash Inflows = $10,450 * (1 - (1/1.083)^7) / 0.083
Present Value of Cash Inflows = $10,450 * 5.153376
Present Value of Cash Inflows = $53,852.78

Profitability Index = Present Value of Cash Inflows / Initial Investment
Project’s Profitability Index = $53,852.78 / $59,600
Project’s Profitability Index = 0.90