Profitability Index Definition:
A ratio of discounted cash inflow to the discounted cash outflow is known as Profitability Index. Discounted cash inflow is our advantage in the project and the initial investment is our cost, which is why we as well call it benefit to cost ratio.
Profitability Index Method
The method utilized for arriving at profitability index of a proposed project is described step wise below:
a) Determine the expected cash inflows of the project
b) Determine the cash outflows of the project (Initial Investment + any other cash outflow)
c) Decide a suitable discount rate
d) Discount the expected cash inflows by using the discount rate
e) Discount the future cash outflows and add to initial investment
f) Divide step (d) by step (e)