Skip to content

CS Executive · Corporate Accounting and Financial Management · Capital Budgeting

Kaveri Industries has a project with PV of future cash inflows (at the cost of capital) of Rs 6,00,000 and an initial investment of Rs 5,00,000. What are its Profitability Index (PI) and the correct decision under the PI rule?

PI is 1.20 and the project should be accepted. The profitability index is present value of inflows divided by the initial outlay, Rs 6,00,000 divided by Rs 5,00,000. Since it exceeds 1, NPV is positive at Rs 1,00,000, so the project adds value.

  1. API = 0.83; reject
  2. BPI = 1.20; acceptCorrect
  3. CPI = 1.20; reject
  4. DPI = 0.20; accept

Explanation

PI = PV of inflows / initial outlay = 6,00,000 / 5,00,000 = 1.20. A PI above 1 means NPV is positive (Rs 1,00,000), so the project is accepted. 0.83 comes from inverting the ratio, and 0.20 is NPV divided by outlay (net PI), not the PI itself.

Did you get it right without looking?

One question tells you little. A timed set on Capital Budgeting shows your real accuracy, how long you take and where you lose marks.

Practise Capital BudgetingFree diagnostic mock

More Capital Budgeting questions