Question

What is the payback period for the following set of cash flows? Cash Flow Year -$ 3,900 1 1,200 2 2,500 3 1,500 4 2.900 Multiple Choice 2.08 years 215 years

Answer 1

1).

Year	Cash Flow	Cumulative Cash Flow
0	-3,900	-3,900
1	1,200	-3,900 + 1,200 = -2,700
2	2,500	-2,700 + 2,500 = -200
3	1,500	-200 + 1,500 = 1,300
4	2,900	1,300 + 2,900 = 4,200

Payback Period = Years before full recovery + [Unrecovered cost at start of the year / Cash Flow during the year]

= 2 + [200/1,500] = 2 + 0.13 = 2.13 years

So, 3rd option is correct.

2). Bond's Market Value = PV of Coupon Payment + PV of Maturity Value

= [Periodic Coupon Payment * {(1 - (1 + r)^-n) / r}] + [Face Value / (1 + r)^n]

= [{(8%/2)*$1,000} * {(1 - (1 + 0.11/2)^-(15*2)) / (0.11/2)}] + [$1,000 / {1 + (0.11/2)}^(15*2)]

= [$40 * {0.7994 / 0.055}] + [$1,000 / 4.9840]

= [$40 * 14.5337] + $200.64

= $581.35 + $200.64 = $781.99

3). To find the IRR, we need to put the following values in the financial calculator:

CF0 = -10,383; C01 = 5,200; F01 = 1; C02 = 5,000; F02 = 1; C03 = 4,900; F03 = 1;

Press IRR, then CPT, which gives us 21.6

So, IRR = 21.6%

Hence, 3rd option is correct.