You are evaluating a project to build an oil pipeline in one of the emerging markets. Building the pipeline will take 8 annual investments, each of which is paid at the beginning of the year, starting immediately. The first of these investments is $20 million and the amount of the remaining 7 investments is expected to decrease by 3% per year. The pipeline will commence its operations in year 9 and will transport 3,500,000 barrels of oil per year in perpetuity. As the pipeline owner, you will collect an annual cash flow equal to 10% of the total value of transported oil, with cash flows occurring at the end of each year.

If the discount rate is 12%, what is the minimum price of oil per barrel under which the Profitability Index is 1.05? For simplicity, assume that oil prices are constant over time and that the costs of running the pipeline are negligible.

Answer rating: 100% (QA)

To calculate the Profitability Index PI we need to discount all future cash flows to their present value and then divide this by the initial investmen... View the full answer