Question

a firm is viewing a project that has an initial cost of $71,000. the project will produce annual cash flows, starting with year 1, of $8,000, $13,400,$18,600,$24,100, and in year 5, $37,900. discount rate is 11%. what is the profitability index?

a. .99

b. 1.05

Answer 1

a.0.99.

first we shall know the present value of cash inflows:

year	cash flows	PV factor @11%	PV factor * cash flows
1	$8,000	1/(1.11)^1=>0.9009	8,000*0.9009=>7,207.20
2	13,400	1/(1.11)^2=>0.8116	13,400*0.8116=>10,875.44
3	18,600	1/(1.11)^3=>0.73119	18,600*0.73119=>13,600.135
4	24,100	1/(1.11)^4=>0.6587	24,100*0.6587=>15,874.67
5	37,900	1/(1.11)^5=>0.5935	37,900*0.5935=>22,493.65
		Total	70,051.095

PI = present value of cash inflows / present value of outflows

=>70,051.095 / 71,000

=>0.99