Question

Cardinal Company is considering a five-year project that would require a $3,025,000 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 $2,737,000

Variable expenses $1,001,000

Contribution margin $1,736,000

Fixed expenses:

Advertising, salaries, and other fixed out-of-pocket costs $610,000

Depreciation $605,000

Total fixed expenses $1,215,000

Net operating income $521,000

5. What is the project profitability index for this project? (Round your answer to 2 decimal places.)

Answer #1

**Answer:**

**Calculation of profitability index of the project as
follows:**

Profitability index = Present value of cash inflow / Present value of cash outflow

= $3,686,524 / 3,025,000

= 1.22

**Therefore, profitability
index for this project is 1.22**

**Working Note-1:**

**Calculation of present value of cash inflow and outflow
as follows:**

Present value of cash inflow = (Cash inflow x PV factor for 1-5 year)

= $1,126,000 x 3.274

= $3,686,524

Present value of cash outflow = (Initial investment x PV Factor for 0 period)

= $3,025,000

**Working Note-2:**

**Calculation of cash inflow of project for each of the
five years as follows:**

Cash inflow = (Net operating income + Depreciation)

= ($521,000 + $605,000)

= $1,126,000

Cardinal Company is considering a five-year project that would
require a $3,025,000 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 $2,737,000
Variable expenses $1,001,000
Contribution margin $1,736,000
Fixed expenses:
Advertising, salaries, and other fixed out-of-pocket costs
$610,000
Depreciation $605,000
Total fixed expenses $1,215,000
Net operating income $521,000
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