The profitability index can be helpful when a financial manager encounters a situation where capital rationing is required.

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The profitability index (PI) is a financial ratio that measures the relationship between the costs and benefits of a proposed project. It is calculated by dividing the present value of expected cash inflows by the initial investment outlay. When a financial manager encounters a situation where capital rationing is required, they must choose among competing projects that require different amounts of investment. In this context, the profitability index can be helpful because it provides a way to rank the projects by their relative profitability, based on the return on investment. By comparing the PI of each project, the financial manager can make informed decisions about which projects to select or reject, given the constraints of the capital budget.

The Profitability Index Can Be Helpful When a Financial Manager