Question

Consider the following projects: Cash Flows (S) -10,600 -20,600 C1 21,200 36,050 Assume that the projects are mutually exclusive and that the opportunity cost of capital is 11%. a. Calculate the profitability index for each project. (Do not round intermediate calculations. Round your answers to 2 decimal places.) Project Profitability Index b-1. Calculate the profitability-index using the incremental cash flows. (Do not round intermediate calculations. Round your answer to 2 decimal places.) Profitabillty-Index b-2. Which project should you choose? Project D ProjectE References eB ook &Resources Worksheet Difficulty: Intermedlate Check my work

Answer 1

Profitability Ratio = PV of the project's future cash flows / Initial Investment

a). Profitability Ratio_{Project D} = ($21,200 / 1.11) / $10,600 = $19,099.10 / $10,600 = 1.80

Profitability Ratio_{Project E} = ($36,050 / 1.11) / $20,600 = $32,477.48 / $20,600 = 1.58

b1). Profitability Ratio_{Incremental CFs} = [($21,200 - $36,050) / 1.11] / ($10,600 - $20,600)

= -$13,378.38 / -$10,000 = 1.34

b2). Project D should be selected as its Profitability Ratio is higher.