Question

Suppose you are considering buying a machine that costs $7,000. It will generate revenues of $1,500 for the next 3 years, and then $1,000 for following 5 years. What is the payback period of this investment?

Answer 1

The payback period for the investment is 6 years.

Step-by-step explanation:

The payback period is a financial metric used to determine the time it takes to recoup the initial investment in a project.

To calculate the payback period, we need to consider the cash flows generated by the investment. In this case, the machine costs $7,000 and generates revenues of $1,500 per year for the first 3 years, and $1,000 per year for the following 5 years. We will be able to recoup the initial investment when the cumulative cash flows equal or exceed $7,000.

Let's calculate the payback period:

1. Year 1: $1,500 (cumulative cash flow: $1,500)
2. Year 2: $1,500 (cumulative cash flow: $3,000)
3. Year 3: $1,500 (cumulative cash flow: $4,500)
4. Year 4: $1,000 (cumulative cash flow: $5,500)
5. Year 5: $1,000 (cumulative cash flow: $6,500)
6. Year 6: $1,000 (cumulative cash flow: $7,500)
7. Year 7: $1,000 (cumulative cash flow: $8,500)
8. Year 8: $1,000 (cumulative cash flow: $9,500)

The payback period is the time it takes to reach or exceed the initial investment. In this case, the payback period is 6 years, as the cumulative cash flows surpass $7,000 in the sixth year.