Answer:
Net present value of Solar = $13,080
Net present value of Wind = $23,150
Profitability index of Solar = 1.33
Profitability index of Wind = 1.22
Ranger Corporation should choose Solar.
Explanation:
Net present value (NPV) refers to the difference between the present value of cash flows and initial investment of a project. It can be calculated as follows:
Net present value = Present value of annual cash flows - Initial investment ...... (1)
Profitability index refers to the ratio of the present value of cash flows to the initial investment of a project. It shows the amount of returns in present value for every one dollar invested. It can be calculated as follows:
Profitability index = Present value of annual cash flows / Initial investment ...... (2)
Using equation (1) and (2), we have:
Net present value of Solar = $52,580 - $39,500 = $13,080
Net present value of Wind = $128,450 - $105,300 = $23,150
Profitability index of Solar = $52,580 / $39,500 = 1.33
Profitability index of Wind = $128,450 / $105,300 = 1.22
Ranger Corporation should choose Solar. This is because despite that its NPV of $13,080 is lower than $23,150 of Wind, its Profitability index of 1.33 is higher. This indicates that the amount of returns in present value for every one dollar invested in Solar is higher than that of Wind.
