Question

The following are the cash flows of two projects:

Year	Project A	Project B
0	-290	-290
1	170	190
2	170	190
3	170	190
4	170

If the opportunity cost of capital is 11%, what is the profitability index for each project? (Do not round intermediate calculations. Round your answers to 4 decimal places.)

Project	Profitability Index
a
b

Answer 1

Solution:
	Project	Profitability Index
	a	1.8187
	b	1.6011
Working Notes:
	I	II	III = I x II	IV	V = I x IV
		Project A		Project B
Year	PVF @ 11%	Cash Flow	Present value	Cash Flow	Present value
0	1	-290.00	(290.000)	-290	-290.00
1	0.900901	170.00	153.153153	190	171.171171
2	0.811622	170.00	137.975814	190	154.208262
3	0.731191	170.00	124.302535	190	138.926362
4	0.658731	170.00	111.984266	0	0.00
	NPV of Project	390.00	237.415767	NPV of Project	174.305796
	Notes: PVF is calculated @ r% = 1/(1+r%)^n     where n is the period for which PVF is calculated.
		Profitability Index = PV of Inflows / PV of outflows
		PV of inflows = Present value of cash inflows from year 1 to 4
	Project A
		from above table =( 1 to 4) = (153.15315315 + 137.97581365 + 124.3025348 + 111.9842656)
		PV of inflows	=$527.415767
		PV of outflows = Present value of cash out flows and in our case out flows is at initial stage years = 290
		Profitability Index = PV of Inflows / PV of outflows
			=$527.415767/290
			=1.8186751
			=1.8187
	Project B
		from above table =( 1 to 3) = (171.171171 + 154.20826 + 138.9263624)
		PV of inflows	=$464.3057959
		PV of outflows = Present value of cash out flows and in our case out flows is at initial stage years = 290
		Profitability Index = PV of Inflows / PV of outflows
			=$464.3057959/290
			=1.60105447
			=1.6011
	Please feel free to ask if anything about above solution in comment section of the question.