Question

Broxton Group, a consumer electronics conglomerate, is reviewing its annual budget in wireless technology. It is considering investments in three different technologies to develop wireless communication devices. Consider the following cash flows of the three independent projects. Assume the discount rate is 11 percent. Further, the company has only $33 million to invest in new projects this year. Cash Flows (in $ millions) Year L6 G5 Wi-Fi 0 −$ 10.0 −$ 23 −$ 33 1 14.0 21 31 2 10.5 36 45 3 7.5 33 33 a. Calculate the profitability index for each investment. (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.) Profitability index L6 G5 Wi-Fi b. Calculate the NPV for each investment. (Enter your answers in dollars, not millions of dollars. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 1,234,567.89.) NPV L6 $ G5 $ Wi-Fi $

Answer 1

a. profitability index = sum of present value (PV) of cash inflows/initial investment or cash outflow at Year 0

present value (PV) of cash inflows = Year 1 cash inflow/(1+discount rate) + Year 2 cash inflow/(1+discount rate)² + Year 3 cash inflow/(1+discount rate)³

profitability index of project L6 is 2.66, project G5 is 3.14 and project Wi-Fi is 2.68.

	Project L6	Project G5	Project Wi-Fi
Year	Cash flows	PV of cash inflows	Cash flows	PV of cash inflows	Cash flows	PV of cash inflows
0	-$10		-$23		-$33
1	$14	$12.61	$21	$18.92	$31	$27.93
2	$10.5	$8.52	$36	$29.22	$45	$36.52
3	$7.5	$5.48	$33	$24.13	$33	$24.13
Discount rate	11%		11%		11%
Total		$26.62		$72.27		$88.58
Profitability index		2.66		3.14		2.68

Calculations

b. NPV is the difference between sum of present value of cash inflows and initial investment or cash outflow at Year 0.

present value (PV) of cash inflows = Year 1 cash inflow/(1+discount rate) + Year 2 cash inflow/(1+discount rate)² + Year 3 cash inflow/(1+discount rate)³

NPV of project L6 is $16.62, project G5 is $49.27 and project Wi-Fi is $55.58.

Years	Project L6	Project G5	Project Wi-Fi
0	-$10	-$23	-$33
1	$14	$21	$31
2	$10.5	$36	$45
3	$7.5	$33	$33
Discount rate	11%	11%	11%
NPV	$16.62	$49.27	$55.58

Calculations