Assume a $105,000 investment and the following cash flows for the 2 alternatives
ID: 2769322 • Letter: A
Question
Assume a $105,000 investment and the following cash flows for the 2 alternatives.
Year Investment A Investment B
1 $45,000 $55,000
2 $30,000 $30,000
3 $15,000 $25,000
4 $30,000 -
5 $10,000 -
What is the payback for Investment A? In years?
What is the payback for Investment B? In years?
Explanation / Answer
Payback period for Investment A:
Year
Investment A
Cumulative
cash inflows
1
$ 45,000
$ 45,000
2
$ 30,000
$ 75,000
3
$ 15,000
$ 90,000
4
$ 30,000
$ 1,20,000
5
$ 10,000
$ 1,30,000
Payback period = Year of cumulative cash inflows before exceeding initial expenditure + (Difference in cash inflows) / next year cash inflows
= 3 + ($120,000-$105,000) / $30,000
= 3 years 6 months (3.50 years)
Payback period for Investment B:
Year
Investment B
Cumulative
cash inflows
1
$ 55,000
$ 55,000
2
$ 30,000
$ 85,000
3
$ 25,000
$ 1,10,000
Payback period = Year of cumulative cash inflows before exceeding initial expenditure + (Difference in cash inflows) / next year cash inflows
= 2 + ($110,000-$105,000) / $25,000
= 2 years 2 month (2.24 years)
Year
Investment A
Cumulative
cash inflows
1
$ 45,000
$ 45,000
2
$ 30,000
$ 75,000
3
$ 15,000
$ 90,000
4
$ 30,000
$ 1,20,000
5
$ 10,000
$ 1,30,000
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