Question

Please do not use excel to solve problem

​(Capital rationing​) The Cowboy Hat Company of​ Stillwater, Oklahoma, is considering seven capital investment proposals for which the total funds available are limited to a maximum of ​$17 million. The projects are independent and have the costs and profitability indexes associated with them shown in the popup​ window:

PROJECT ---- COST ------ PROFITABILITY INDEX
A ------------- 4,000,000 ------------- 1.13
B ------------- 2,000,000 ------------- 1.03
C ------------- 6,000,000 ------------- 1.31
D ------------- 5,000,000 ------------- 1.35
E ------------- 4,000,000 ------------- 1.15
F ------------- 6,000,000 ------------- 1.29
G ------------- 3,000,000 ------------- 1.11

a. Under strict capital​ rationing, which projects should be​ selected? (Select the best choice​ below.)

A) Projects C, F, E, and B

B) Projects C, D, A, and G

C) Projects C, D, and F

D) Projects D, E, and A

E) Projects C, F, and B

b. ​"Capital rationing may force the firm to reject projects with positive net present​ values, which is contrary to the​ firm's goal of maximization of​ shareholder's wealth, and it is thus not an optimal​ strategy." 

 -Is the above statement about the capital rationing true or​ false?

Answer 1

1.
Option C

Keep accepting highest Profitability index projects first and then move lower til the budget is reached

Start with 17 million

First we accept Project D which is highest PI and our available funds decreases by 5 million and becomes 12 million

Then accept Project C which is second highest PI and our available funds decreases by 6 million and becomes 6 million

Then accept Project F which is third highest PI and our available funds decreases by 6 million and becomes 0

Project D, C, F

2.
Yes the statement is true

Because capital rationing forces the rejection of profitable projects, it is not an optimal strategy.