Estimating the cash flow generated by $1 invested in investment

Consider the case of Purple Whale Foodstuffs Inc.:

Purple Whale Foodstuffs Inc. is considering investing $500,000 in a project that is expected to generate the following net cash flows:

Year 1 325,000

Year 2 500,000

Year 3 475,000

Year 4 500,000

Purple Whale uses a WACC of 8% when evaluating proposed capital budgeting projects. Based on these cash flows, determine this project's PI (rounded to four decimal places):

2.3587 or 3.0958 or

2.5061 or 2.9484

Purple Whale's decision to accept or reject this project is independent of its decisions on other projects. Based on the

project's PI, the firm should accept or reject the project. (which choice)

By comparison, the net present value (NPV) of this project is:

1,169,017 or 1,071,599 or 974,181 or 925,472 or 779,345 or -474,181

On the basis of this evaluation criterion, Purple Whale should invest or not invest in the project because the project will not or will increase the firm's value.

When a project has a PI greater than 1.00, it will exhibit an NPV equal to 0 , less than 0 or greater than 0; when it has a PI of 1.00, it will have an NPV equal to $0. Projects with PIs greater than, equal to or less than 1.00 will exhibit negative NPVs.