Question

Suppose your firm is considering investing in a project with the cash flows shown below, that the required rate of return on projects of this risk class is 11 percent, and that the maximum allowable payback and discounted payback statistics for your company are 3.0 and 3.5 years, respectively.

Time: 0 1 2 3 4 5

Cash flow –$237,000 $66,000 $84,200 $141,200 $122,200 $81,400

Use the payback decision rule to evaluate this project. (Round your answer to 2 decimal places.)

Payback years?

Answer 1

The payback period of the project is between Time 3 and Time 4, with the exact payback year being Time 4.38.

Step-by-step explanation:

The payback period is a method used to evaluate the time it will take for savings from an investment to equal the initial cost of the investment. To calculate the payback period for the given project, we need to sum up the cash flows until the payback is achieved. In this case, the payback period would be:

Time 0: $237,000

Time 1: $237,000 - $66,000 = $171,000

Time 2: $171,000 - $84,200 = $86,800

Time 3: $86,800 - $141,200 = -$54,400

Time 4: -$54,400 - $122,200 = -$176,600

The payback year would be between Time 3 and Time 4, since the cumulative cash flow becomes negative in Time 4. To find the exact payback year, we can calculate the fraction of the last cash flow that is needed to reach the payback point:
Payback year: Time 3 + ($122,200 / ($122,200 - (-$54,400)) * 1) = Time 3 + 1.38 = Time 4.38

Answer 2

The payback period for the investment is 4 years.

Step-by-step explanation:

The payback period is a financial metric used to evaluate the time it takes for an investment to recover its initial cost. To calculate the payback period, we sum up the cash flows until they equal or surpass the initial investment. In this case, the cash flows are as follows:

Year 0: -$237,000

Year 1: $66,000

Year 2: $84,200

Year 3: $141,200

Year 4: $122,200

Year 5: $81,400

Based on the cash flows, we can see that the investment is recouped in Year 4. Therefore, the payback period is 4 years.