Shell is considering two mutually exclusive projects , A and B. Each requires an

Question

Shell is considering two mutually exclusive projects, A and B. Each requires an initial investment of $100,000. The company's president set a maximum simple payback period of 5 years. If the company expects to receive the following after-tax cash inflows from each project, which project should the company invest in?

Project B

Either one

Project A

Neither one

Year Cash inflows project A Cash inflows project B 1 $10,000 $40,000 2 $20,000 $30,000 3 $30,000 $20,000 4 $40,000 $10,000 5 $20,000 $20,000

Explanation / Answer

A:

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

=4 years

B:

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

=4 years

Hence the correct option is B.

Year Cash flow Cumulative Cash flow 0 (100,000) (100,000) 1 10,000 (90,000) 2 20000 (70,000) 3 30000 (40,000) 4 40000 0 5 20000 20000

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