2. A project has an initial cost of $6,500. The cash inflows are $900, $2,200, $3,600,...
2. A project has an initial cost of $6,500. The cash inflows are $900, $2,200, $3,600, and $4,100 over the next four years, respectively. What is the payback period? Should you accept this project if your company imposes a cutoff period of 3 years?
2.94 years. Yes. Please Show All Work
Homework Answers
Payback period is the time period in which the initial investment is recovered.
Initial Cost = $6,500
|
Year |
Inflows |
Cumulative Inflows |
|
1 |
900 |
900 |
|
2 |
2,200 |
3,100 |
|
3 |
3,600 |
6,700 |
|
4 |
4,100 |
10,800 |
Payback period = 2 + (6,500-3,100)/3,600
= 2 + 0.94
= 2.94 years
Explanation : Cumulative cash flows upto 2 years = $3,100, now required to recover initial investment = $6,500-$3,100= $3,400 but cash flows in year 3 are $3,600. Hence, proportionately taken.
Since the company accept the projects with a cut off period upto 3 years, this project should be accepted as it has a payback period of less than 3 years
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