Which one of the following is true if the managers of a firm accept only projects...

Which one of the following is true if the managers of a firm accept only projects that have a profitability index greater than 1.5?

Group of answer choices

The internal rate of return on each new project is zero.

The net present value of each new project is zero.

The price of the firm's stock should remain constant.

The firm is most likely steadily losing value.

The firm should increase in value each time it accepts a new project.

Expert Solution

The profitability index is computed as shown below:

= Present value of future cash flows / Initial investment

Whenever a project's profitability index is greater than 1, it implies that the present value of the future cash flows is greater than the initial investment or in other words that the NPV of the project is positive.

In the present case, it is clearly mentioned that the firm will accept only those projects where the profitability index is greater than 1.5, which implies that the NPV of the acceptable projects will always be greater than zero and as a result they will add value to the firm.

So, the correct answer is option of The firm should increase in value each time it accepts a new project.

jeff jeffy answered 2 years ago

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