1. What is the Profitability Index?

The Profitability Index (PI) is a financial metric used to evaluate the attractiveness of an investment or project. It represents the ratio between the present value of future cash inflows and the present value of cash outflows.

2. How Does the Calculator Work?

The calculator uses the Profitability Index formula:

Where:

• \( PV\ Inflows \) — Present value of future cash inflows (USD)
• \( PV\ Outflows \) — Present value of cash outflows (USD)

Interpretation:

• PI > 1 indicates a potentially profitable investment
• PI = 1 means the project breaks even
• PI < 1 suggests the project may not be profitable

3. Importance of PI Calculation

Details: The Profitability Index helps in capital budgeting decisions by considering both the magnitude and timing of cash flows. It's particularly useful when comparing projects of different sizes.

4. Using the Calculator

Tips: Enter the present value of all expected future cash inflows and the present value of all required cash outflows. Both values must be positive numbers.

5. Frequently Asked Questions (FAQ)

Q1: How is PI different from NPV?
A: While NPV gives absolute dollar value, PI provides a relative measure (ratio) that's useful for comparing projects of different scales.

Q2: What are the limitations of PI?
A: PI doesn't indicate project size and may favor smaller projects with high ratios but low absolute returns.

Q3: When should PI be used?
A: PI is most useful when capital is rationed and you need to prioritize among several investment opportunities.

Q4: How accurate is PI?
A: PI accuracy depends on the accuracy of cash flow estimates and discount rate assumptions.

Q5: Can PI be negative?
A: No, since both numerator and denominator are present values (always positive), PI ranges from 0 to infinity.