Clarity, Inc., is evaluating a project that has an initial outlay of $55,000. Expected cash flows are as follows:
Year 1 $17,000
Year 2 $10,000
Year 3 $10,000
Year 4 $17,000
Year 5 $40,000
The company’s cost of capital is 12%. It does not accept projects that have a Payback Period (PP) longer than 3.5 years. Calculate the following and determine if the project is acceptable using each of the following methods.
a. What is this project’s Internal Rate of Return (IRR)? Is the project acceptable?
b. What is this project’s Profitability Index (PI)? Is this project acceptable?