hard · Principles of Finance
Under capital rationing, why might a firm use the 'Profitability Index' (PI) instead of just ranking by the highest absolute NPV?
- Ranking by NPV is always mathematically identical to ranking by PI.
- PI identifies the 'bang for the buck', maximizing total NPV within a limited budget.
- PI ignores the discount rate, making it easier to use in volatile markets.
- PI is a more accurate measure of the project's IRR.
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