Question

Payson Manufacturing is considering an investment in a new automated manufacturing system. The new system requires an investment of $1,200,000 and either has: Even cash flows of $400,000 per year or The following expected annual cash flows: $150,000, $150,000, $400,000, $400,000, and $100,000. Required: Calculate the payback period for each case. Round your answer to one decimal place.

Answer 1

The payback period in case of even cash flows is 3 years.

The payback period in case of uneven cash flows is 5 years.

Step-by-step explanation:

The payback period is a term used in capital budgeting and is one of the ways of assessing a project. It calculates the time required to recover the total cost invested in the project initially.

Payback period for Even cash flows

Payback period = Number of years till last period + Unrecovered cost at the beginning of the last period for payback / Total cash flows during the last period

The last period here refers to the period in which the cost will be recovered.

The initial cost is $1200000

Recovery till last year of payback = 400000 + 400000 = $800000

Payback period = 2 + 400000 / 400000 = 3 years

Payback under uneven cash flows

Initial cost = $1200000

Recovery till last year of payback = 150000 + 150000 + 400000 +400000 = 1100000

Payback period = 4 + 100000 / 100000 = 5 years