Answer:
Explanation:
The profitability index (PI) is a measure used in capital budgeting to evaluate the financial viability of an investment. It is calculated by dividing the present value of the future cash flows by the initial investment. The formula for calculating the profitability index is:
PI = Present value of future cash flows / Initial investment
To calculate the present value of the future cash flows, we need to discount each cash flow to its present value using the required return of 8.4 percent. The present value of each cash flow is as follows:
Year 0: -$249,000 (no discounting necessary for the initial investment)
Year 1: $147,100 / (1 + 0.084)^1 = $135,870.37
Year 2: $164,600 / (1 + 0.084)^2 = $137,672.76
Year 3: $129,700 / (1 + 0.084)^3 = $100,636.20
The present value of the future cash flows is the sum of the present values of each cash flow:
PV = $135,870.37 + $137,672.76 + $100,636.20 = $374,179.33
Now we can calculate the profitability index:
PI = $374,179.33 / $249,000 = 1.5035
Therefore, the profitability index for this project is 1.5035. This means that for every dollar invested in the project, the project is expected to return $1.50 in present value of future cash flows. A profitability index greater than 1.0 indicates that the project is expected to generate positive net present value and is therefore a good investment.