A firm is considering the following projects. Its opportunity cost of capital is

Question

A firm is considering the following projects. Its opportunity cost of capital is 12% Cash Flows, $ Project Time: 0 -9,000 5,000 9,000 2 +2,000 +5,000 +2,000 3 +5,000 +4,000 +5,000 4 +2,000 +5,000 +9,000 +2,000 a. What is the payback period on each project? Project A Project B Project C What is the discounted payback period on each project? (Round your answers to 2 decimal places. If years years years any of the projects does not pay back on a discounted basis, enter zero ("O").) Project A Project B Project C years years years

Explanation / Answer

Project A:

CF0 = -9,000

CF1 = 2,000

CF2 = 2,000

CF3 = 5,000

CF4 = 0

Payback period = -9,000 + 2,000 + 2,000 + 5,000

Payback period = 3 years

Project B:

CF0 = -5,000

CF1 = 0

CF2 = 5,000

CF3 = 4,000

CF4 = 5,000

Payback period = -5,000 + 0 + 5,000

Payback period = 2 year

Project C:

CF0 = -9,000

CF1 = 2,000

CF2 = 2,000

CF3 = 5,000

CF4 = 9,000

Payback period = -5,000 + 2,000 + 2,000 + 5,000

Payback period = 3 year

Discounted Payback period:

Project A:

CF0 = -9,000

CF1 = 2,000

CF2 = 2,000

CF3 = 5,000

CF4 = 0

Discounted Payback period = -9,000 + 2,000/(1.12) + 2,000/ (1.12)2 + 5,000/ (1.12)3

Discounted Payback period couldn't be calculated as project is not able to recover its cost

Project B:

CF0 = -5,000

CF1 = 0

CF2 = 5,000

CF3 = 4,000

CF4 = 5,000

Discounted Payback period = -5,000 + 0 + 5,000/ (1.12)2 + 4,000/ (1.12)3

Discounted Payback period = 2 + 0.36

Discounted Payback period = 2.36

Project C:

CF0 = -9,000

CF1 = 2,000

CF2 = 2,000

CF3 = 5,000

CF4 = 9,000

Discounted Payback period = -5,000 + 2,000/ (1.12) + 2,000/ (1.12)2 + 5,000/ (1.12)3

Discounted Payback period = 2.46 years

Payback period = 3 year

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