How to Calculate Profitability Index
What is Profitability Index?
Profitability Index (PI) = Present Value of Future Cash Flows / Initial Investment. PI > 1 means positive NPV, useful for capital rationing.
Step-by-Step Guide
- 1Calculate PV of future cash flows
- 2Divide by initial investment
- 3PI > 1 accept, < 1 reject
Worked Examples
Input
PV future CF $120k, initial invest $100k
Result
PI = 1.20 (good project, create $0.20 per dollar invested)
Useful when capital limited
Common Mistakes to Avoid
- ✕Confusing PI with ROI
- ✕Not accounting for scale differences
Frequently Asked Questions
When is PI better than NPV?
With capital rationing constraints; allows ranking by efficiency.
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