Question

Campbell Company has an opportunity to purchase a forklift to use in its heavy equipment rental business. The forklift would be leased on an annual basis during its first two years of operation. Thereafter, it would be leased to the general public on demand. Campbell would sell it at the end of the fifth year of its useful life. The expected cash inflows and outflows follow:

  

Year	Nature of item	Cash Inflow	Cash outflow
2018	Purchase price		$82,600
2018	Revenue	$32,000
2019	Revenue	32,000
2020	Revenue	27,000
2020	Major overhaul		8,400
2021	Revenue	18,000
2022	Revenue	16,000
2022	Salvage value	7,200

Determine the payback period using the accumulated and average cash flows approaches.

Answer 1

Payback period using accumulated cash flow method.

total investment to be recovered = $82,600+8,400 =>$91,000.

year	cash inflow	accumulated cash inflow
1	32,000	32,000
2	32,000	32,000+32,000=>64,000
3	27,000	64,000+27,000=>91,000

Since the investment is recovered by year 3.

The payback period is 3 years.

payback period using average cash flow approach:

average cash inflows = (32,000+32,000+27,000+18,000+16,000+7,200) / 6 years.

=>$22,033.33.

payback period = investment to be recovered / average cash inflows

=>$91,000/ 22,033.33

=>4.13 years.