Question

Courtesy Caravan, Inc. may invest in only one of three new projects. Due to other capital constraints, they have decided to base their decision on each project’s profitability index. The company has a cost of capital of 9.0%. Cash Flows (millions) Year 0 Year 1 Year 2 Year 3 Year 4 Project A (280 ) 100 130 150 200 Project B (300 ) 130 150 180 190 Project C (380 ) 160 180 200 260

a. What is the profitability index for each project? (Round your answers to four decimal places.)

Answer 1

PROJECT A
Year		Project (i)	DF@ 9% (ii)	PV of Project A ( (i) * (ii) )
0		100	1.000	100.00
1		130	0.917	119.27
2		150	0.842	126.25
3		200	0.772	154.44
		PV		499.95
		Total of PV of Cash Inflows		499.95
		Cash Outflows		280
		Profitability Index =		1.7856
	Present value of cash Inflow / Initial Investment (Cash Outflows)			(499.95 / 280)
PROJECT B
Year		Project (i)	DF@ 9% (ii)	PV of Project A ( (i) * (ii) )
0		130	1.000	130.00
1		150	0.917	137.61
2		180	0.842	151.50
3		190	0.772	146.71
		PV		565.83
		Total of PV of Cash Inflows		565.83
		Cash Outflows		300
		Profitability Index =		1.8861
	Present value of cash Inflow / Initial Investment (Cash Outflows)			(565.83 / 300)
PROJECT C
Year		Project (i)	DF@ 9% (ii)	PV of Project A ( (i) * (ii) )
0		160	1.000	160.00
1		180	0.917	165.14
2		200	0.842	168.34
3		260	0.772	200.77
		PV		694.24
		Total of PV of Cash Inflows		694.24
		Cash Outflows		380
		Profitability Index =		1.8270
	Present value of cash Inflow / Initial Investment (Cash Outflows)			(694.24/380)