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What is the payback period for a project with an initial investment of $190,000 that provides an...

Question:

What is the payback period for a project with an initial investment of $190,000 that provides an annual cash inflow of $30,000 for the first three years and $40,000 per year for years four and five, and $45,000 per year for years six through eight?

Pay Back Period

Payback period is capital budgeting technique used for evaluating projects. It determines the period within which initially invested amount will be covered back in form of cash inflows. However, it is less reliable as it does not consider time value of money.

Answer and Explanation:

We will find accumulated cash flows

Year Cash flows Accumulated cash flows
1 $30,000 $30,000
2 $30,000 $60,000($30,000+$30,000)
3 $30,000 $90,000($60,000+$30,000)
4 $40,000 $130,000($90,000+$40,000)
5 $40,000 170,000($130,000+$40,000)
6 $45,000 $215,000($170,000+$45,000)
7 $45,000 $260,000($215,000+45,000)
8 $45,000 $305,000($260,000+$45,000)

Initial Outlay = $190,000

{eq}Payback~ period = Year ~before~full~recovery +\displaystyle \frac{uncovered ~investment}{cash~ flow~ in ~next~ year} {/eq}

{eq}Payback~ period = 5 +\displaystyle \frac{(190,000-170,000)}{45,000} {/eq}

=5.44 years

Thus, Payback period is 5.44 years_


Learn more about this topic:

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Payback Analysis: Formula & Example

from Introduction to Management: Help and Review

Chapter 16 / Lesson 12
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