Describe about profitability index, Financial Management

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Q. Describe about Profitability Index?

Profitability Index OR (PI):- Second method of estimate a project through discounted cash flows is profitability index method. This method is also called Benefit-Cost Ratio.

This method is alike to NPV approach. A main drawback of the NPV method was that it doesn't give satisfactory results while evaluating the projects requiring different initial investments. PI method offers a solution to this problem.

PI = Present Value of Cash Inflows/ Present Value of Cash Outflows

Accept-Reject Criteria:-

If PI is in excess of one the project will be accepted
If PI is below one, the project will be rejected.
If PI is one project perhaps accepted only on the basis of non-financial considerations.

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