Question

Bellinger Industries is considering two projects for inclusion in its capital budget, and you have been asked to do the analysis. Both projects' after-tax cash flows are shown on the time line below. Depreciation, salvage values, net operating working capital requirements, and tax effects are all included in these cash flows. Both projects have 4-year lives, and they have risk characteristics similar to the firm's average project. Bellinger's WACC is 11%.

	0		1		2		3		4
Project A	-1,100		650		350		230		280
Project B	-1,100		250		285		380		730

What is Project A and Project B's discounted payback? Round your answer to four decimal places. Do not round intermediate calculations.

Answer 1

A:

Year	Cash flows	Present value@11%	Cumulative Cash flows
0	(1100)	(1100)	(1100)
1	650	585.59	(514.41)
2	350	284.07	(230.34)
3	230	168.17	(62.17)
4	280	184.44	122.27(Approx).

Hence discounted Payback period=Last period with a negative cumulative cash flow+(Absolute value of cumulative cash flows at that period/Cash flow after that period).

=3+(62.17/184.44)

=3.3371 years(Approx).

B:

Year	Cash flows	Present value@11%	Cumulative Cash flows
0	(1100)	(1100)	(1100)
1	250	225.23	(874.77)
2	285	231.31	(643.46)
3	380	277.85	(365.61)
4	730	480.87	115.26(Approx).

Hence discounted Payback period=Last period with a negative cumulative cash flow+(Absolute value of cumulative cash flows at that period/Cash flow after that period).

=3+(365.61/480.87)

=3.7603 years(Approx).