This

**preview**has**blurred**sections. Sign up to view the full version! View Full DocumentActSc 371 7.7 and 7.8 Practice Problems
1.
What is the profitability index for the following cash flows, if the relevant discount rate is 15%?
Year 0
$-10,000
Year 1
$6,500
Year 2
$4,000
Year 3
$2,500
A)
1
B)
1.03
C)
1.3
D)
1.05
E)
1.11
Solution: PV of cash flows after the initial investment is: 10,320.54.
The PI is this value divided
by the absolute value of the original investment
This is 10320.54/10000=1.03
2.
The Ziggy Trim and Cut Company can purchase equipment on sale for $4,300.
The asset has a
three-year life, will produce a cashflow of $1,200 in the first and second year, and $3,000 in the
third year.
The interest rate is 12%.
Calculate the project's discounted payback and Profitability
Index assuming end of year cash flows.
Should the project be taken?
Solution:
CF0=-4300
CF1=1200
CF2=1200
CF3=3000
Step 1: Calculate the NPV using the calculator = -136.60
Because NPV is less than zero, discounted payback cannot be calculated.
Step 2: to calculate the PI, first calculate the NPV without including the initial cashflow (i.e. -

This is the end of the preview. Sign up to
access the rest of the document.