Profitability Index: How Businesses Evaluate Investment Opportunities
Not all investments that may seem to be good ideas will be value adding for a business. Projects could be the same size, but one may provide much higher returns over a long period of time. Thus, investment appraisal techniques are used by financial managers before deciding on investing the money of the company in any opportunity. Profitability Index (PI) is one of the most useful tools employed in the process of capital budgeting. The profitability index shows the value gained, per dollar invested, as opposed to the total profit which is the value gained in general. This is particularly valuable when the business doesn't have a lot of money, and the projects have to be done that provide the highest returns. Profitability Index Profitability index: It is a financial ratio, which compares the present value of future cash inflows against the initial investment in the project. Rather than considering profit alone, it is an indicator of the efficiency of the investment. PI > 1 indi...