The profitability index (PI) of a project is 1.1, and the initial investment (cost) is $10,000
. What do you know about the project's net present value (NPV) and its internal rate of return (IRR)?
Profitability Index = Present Value of Cash Flows / Initial Investment
1.1 =Present Value of Cash Flows / 10,000
Present Value of Cash Flows= 10,000 * 1.1
Present Value of Cash Flows = $11,000
Now, We know that
Net Present Value = Present Value of Cash flows - Initial Investment
= 11,000 - 10,000
Net present value = $1000
Internal rate of return : The Irr is the average return of the project gives through all the years of operations.
Initial Investment = Present value of cash flows / (1 + Internal rate of return)
10,000 = 11,000 / (1 + IRR)
(1 + IRR) = 11,000 / 10,000
(1 + IRR) = 1.1
IRR = 1.1 - 1
IRR = 0.10 or 10%
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