Question

Profitability Index (PI)	Show formulas
Wild Horse Corporation is considering a major expansion that will cost SAR 22,000,000.
Annual cash flows from the project are expected to be SAR 4,950,000 for 6 years.
The firm uses a discount rate of 8%.
Calculate the Profitablility Index (PI) of the project. (Round to 2 decimal places.)

Answer 1

The profitability index of project A is computed as shown below:

= Present value of future cash flows / Initial investment

Present value is computed as follows:

= Future value / (1 + r)ⁿ

= SAR 4,950,000 / 1.08¹ + SAR 4,950,000 / 1.08² + SAR 4,950,000 / 1.08³ + SAR 4,950,000 / 1.08⁴ + SAR 4,950,000 / 1.08⁵ + SAR 4,950,000 / 1.08⁶

= SAR 22,883,254.34

So, the profitability index is computed as follows:

= SAR 22,883,254.34 / SAR 22,000,000

= 1.04 Approximately

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