Profitability index

Estimating the cash flow generated by $1 invested in a project

The profitability index (PI) is a capital budgeting tool that is defined as the present value of a projects cash inflows divided by the absolute value of its initial cash outflow. Consider this case:

Blue Moose Home Builders is considering investing $2,500,000 in a project that is expected to generate the following net cash flows:

Year	Cash Flow
Year 1	$350,000
Year 2	$400,000
Year 3	$475,000
Year 4	$450,000

Blue Moose Home Builders uses a WACC of 10% when evaluating proposed capital budgeting projects. Based on these cash flows, determine this projects PI (rounded to four decimal places):

0.5252

0.6302

0.5515

0.5777

Blue Moose Home Builderss decision to accept or reject this project is independent of its decisions on other projects. Based on the projects PI, the firm should (accept or reject) the project?

By comparison, the NPV of this project is (-$1,424,411, -$1,187,009,-$1,305,710) . On the basis of this evaluation criterion, Blue Moose Home Builders should (not invest or invest) in the project because the project (will or will not) increase the firms value?

A project with a negative NPV will have a PI that is (greater than 1.0, less than 1.0 or equal to 1.0) ; when it has a PI of 1.0, it will have an NPV (equal to $0, greater than $0 or less than $0)?