Suppose the following two independent investment opportunities are available to
ID: 2784862 • Letter: S
Question
Suppose the following two independent investment opportunities are available to Scott, Inc. The appropriate discount rate is 8 percent. Year Project Alpha Project Beta $4,500 2,300 2,200 1,450 -$6,100 1,350 4,500 4,000 0 2 Compute the profitability index for each of the two projects. (Do not round intermediate calculations Round your answers to 3 decimal places (e.g., 32.161).) Profitability Index Project Alpha Project Beta Which project(s) should the company accept based on the profitability index rule? Project Alpha Project Beta Both projects Neither projectExplanation / Answer
Project Alpha
Year
Cash flows
PV Factor @ 8%
PV
0
$ (4,500)
1
$ (4,500.00)
1
$ 2,300
0.9259
$ 2,129.63
2
$ 2,200
0.8573
$ 1,886.15
3
$ 1,450
0.7938
$ 1,151.06
NPV
$ 666.83
Profitability Index= NPV+ Initial Investment/ Initial Investment
=$666.83+$4,500/$4,500
=$5,166.83/$4,500
=1.15
Project Beta
Year
Cash flows
PV Factor @ 8%
PV
0
$ (6,100)
1
$ (6,100.00)
1
$ 1,350
0.9259
$ 1,250.00
2
$ 4,500
0.8573
$ 3,858.02
3
$ 4,000
0.7938
$ 3,175.33
NPV
$ 2,183.35
Profitability Index= NPV+ Initial Investment/ Initial Investment
=$2,183.35+$6,100/$6,100
=$8,283.35/$6,100
=1.36
Requirement 1:
Project
Profitability Index
Project Alpha
1.15
Project Beta
1.36
Requirement 2:
Both Projects can be accepted as Profitability index is greater than 1
Project Alpha
Year
Cash flows
PV Factor @ 8%
PV
0
$ (4,500)
1
$ (4,500.00)
1
$ 2,300
0.9259
$ 2,129.63
2
$ 2,200
0.8573
$ 1,886.15
3
$ 1,450
0.7938
$ 1,151.06
NPV
$ 666.83
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