What does a profitability index (PI) greater than 1 indicate for a project?

• A. PI > 1 indicates the project should be accepted.
• B. PI > 1 indicates the project should be rejected.
• C. PI > 1 indicates the project has a negative NPV.
• D. PI > 1 has no implication for acceptance.

Answer: (A)

A profitability index above 1 means the value created per unit of investment is positive. It’s calculated as the present value of expected cash inflows divided by the initial investment. If this ratio exceeds 1, the discounted inflows exceed the cost, which is the same as having a positive net present value (NPV). A positive NPV indicates the project adds value to the firm and should be pursued, assuming you’re evaluating independent projects or not constrained by capital. If the index were below 1, the project would destroy value, and at exactly 1 it would just break even.