What is profitability index formula?

Profitability Index = (PV of future cash flows) ÷ Initial investment. Or = (NPV + Initial investment) ÷ Initial Investment: As one would expect, the NPV stands for the Net Present Value of the initial investment.

How is profitability index used?

The profitability index indicates whether an investment should create or destroy company value. It takes into consideration the time value of money and the risk of future cash flows. There are many types of CF through the cost of capital. It is useful for ranking and choosing between projects when capital is rationed.

What is meant by profitability index?

The profitability index (PI) is a measure of a project’s or investment’s attractiveness. The PI is calculated by dividing the present value of future expected cash flows by the initial investment amount in the project.

How do you find the probability index?

The formula for Profitability Index is simple and it is calculated by dividing the present value of all the future cash flows of the project by the initial investment in the project. It can be further expanded as below, Profitability Index = (Net Present value + Initial investment) / Initial investment.

What do you need to know about the profitability index?

The Profitability Index (PI) measures the ratio between the present value of future cash flows and the initial investment. The index is a useful tool for ranking investment projects and showing the value created per unit of investment. The Profitability Index is also known as the Profit Investment Ratio (PIR)…

How is the profitability index ( Pir ) calculated?

It is calculated by dividing the present value of future cash flows by the initial amount invested. If the profitability index is greater than or equal to 1, it is termed a good and acceptable investment. The calculator given below helps in the calculation of the PI or PIR based on the amount of investment, discount rate, and the number of years.

How to calculate NPV with profitability index formula?

So the NPV in this case would be = (US $6277.63 – US $5000) = US $1277.63. By using the NPV method, we would now calculate profitability index (PI) – Profitability Index Formula = 1 + NPV / Initial Investment Required PI = 1 + 0.26 PI = 1.26

What is the appropriate discount rate for profitability index?

The higher the profitability index, the more attractive the investment. Company A is considering two projects: The appropriate discount rate for this project is 10%. Project B requires an initial investment of $3,000,000 to yield estimated annual cash flows of: The appropriate discount rate for this project is 13%.