Problem:
The management of Revco Products is exploring four different investment opportunities. Information on the four projects under study follows:
Project 1 Project 2 Project 3 Project 4
Investment required $(270,000) $(450,000) $(360,000) $(480,000)
PV of cash flows at 10% 336,140 522,970 433,400 567,270
Net Present Value $ 66,140 $ 72,970 $ 73,400 $ 87,270
Life of project 6 years 3 years 12 years 6 years
Internal rate of return 18% 19% 14% 16%
The company's required rate of return is 10%; thus, a 10% discount rate has been used in the present value computations above. Limited funds are available for investment, so the company can't accept all of the available projects.
Required:
Question 1. Compute the project profitability index for each investment project.
Question 2. Rank the four projects according to preference, in terms of:
a. Net present value
b. Project profitability index
c. Internal rate of return
Question 3. Which ranking do you prefer? Why?