Net Present Value Analysis Hermson Company must evaluate two capital expenditure

Question

Net Present Value Analysis
Hermson Company must evaluate two capital expenditure proposals. Hermson's cutoff rate is 12%. Data for the two proposals follow.

What is the cash payback period for Proposal X? For Proposal Y?

Hint: For Proposal Y, in what year (3, 6, 9 or 12) will the full original investment be recovered?

Round Proposal X answer to one decimal place, if applicable.

Proposal X

Answer

years

Proposal Y

Answer

years

Proposal X Proposal Y Required investment $280,000 $280,000 Annual after-tax cash inflows 41,250 After-tax cash inflows at the end of years 3, 6, 9, and 12 95,000 Life of project 12 years 12 years

Explanation / Answer

Ans. Calculationof payback period of X = 41250+41250+41250+41250+41250+41250+32500/41250

                                                              = 6 .79 years

Payback period for Proposal Y =

end of 3rd year           = 95000

end of 6th year           = 95000

Balance end of 9th yr = 90000 (280000-95000-95000)

during the period of 7 to 9 for the 3yrrs cash flow is 95000, monthly cashflow is (95000/3) = 31667

cumulative cash flow for 7th and 8th year (31667X2) = 63333, Balance amt to cover investment cost is (90000-63333) = 26667,

Payback period is = 6+2+ 26667/31667 = 8.84 years

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