Year Cash Flow 0 −$9,700 1 5,800 2 2,500 3 3,400 &nb

Year	Cash Flow
0	−$9,700
1	5,800
2	2,500
3	3,400

Required :

(a)	What is the profitability index for the cashflows if the relevant discount rate is 10 percent?

(b)	What is the profitability index for the cashflows if the relevant discount rate is 18 percent?

(c)	What is the profitability index for the cashflows if the relevant discount rate is 23 percent?

Expert Solution

Profitability index=(Present value of future cash flows)/(Initial investment)
Initial investment=−$9,700
Cash flows are:
Year 1: $5,800
Year 2: $2,500
Year 3: $3,400

Part a:
Present value of future cash flows at a discount rate is 10% is:
=5800/(1+10%)^1+2500/(1+10%)^2+3400/(1+10%)^3
=5272.727273+2066.115702+2554.470323
=9893.313298

Profitability index=9893.313298/9700 =1.0199

Part b:
Present value of future cash flows at a discount rate is 18% is:
=5800/(1+18%)^1+2500/(1+18%)^2+3400/(1+18%)^3
=8780.060279

Profitability index=8780.060279/9700=0.90516

Part c:
Present value of future cash flows at a discount rate is 23% is:
=5800/(1+23%)^1+2500/(1+23%)^2+3400/(1+23%)^3
=8195.008026

Profitability index=8195.008026/9700=0.844846

jeff jeffy answered 1 month ago

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