Question

Suppose your firm is considering investing in a project with the cash flows shown below, that the required rate of return on projects this risk class is 7 percent, and that the maximum allowable payback and discounted payback statistics for the project are 2.5 and 3.5 years, respectively. Timet Cash flow: Tash flow $4,500 $1,110 $4,500 $1,110 $2,310 31,510 sa, 51 s1,51 Use the payback decision rule to evaluate this project. (Round your answer to 2 decimal places.) Payback years Should it be accepted or rejected? rejected accepted

Answer 1

Following is the calculaltion of the Present value of cash flow

Time Cashflow Pv Factor Present value Cumulative cash flow 0 -4500 1 - 4500.00 1100 0.9346 1028.04 1100 2310 0.8734 2017.55 3410 1510 0.8163 1232.61 4920 1510 0.7629 1151.98 6430 1310 0.713 934.03 7740 1110 0.6663 739.59 8850 Total 7103.81

Payback Year = 2 year + (4500-3410) / 1510

= 2 + 0.72

= 2.72 Year

Ideal Payback year = 2.5 Year

Discounted Payback = 3 years + (4500-4278.2) / 1174.87

= 3.19 Year

Ideal payback years = 3.5 years.

as per Discounted payback it can be accepted but as per normal payback it should not be accepted.