Question

Evaluate the following projects using the payback method assuming a rule of 3 years for payback.

Year	Project A	Project B
0	-10,000	-10,000
1	4,000	4,000
2	4,000	3,000
3	4,000	2,000
4	0	1,000,000

Answer 1

PROJECT A:
Year	Cash flow	Cumulative Cash Flow
0	$          -10,000	$            -10,000
1	$              4,000	$              -6,000
2	$              4,000	$              -2,000
3	$              4,000	$                2,000
Payback period = 2+2000/4000 = 2.5 years
PROJECT B:
Year	Cash flow	Cumulative Cash Flow
0	$          -10,000	$            -10,000
1	$              4,000	$              -6,000
2	$              3,000	$              -3,000
3	$              2,000	$              -1,000
4	$     10,00,000	$          9,99,000
Payback period = 3+1000/100000 = 3.01 years
EVALUATION:
Project A is to be accepted as it has a payback
of less than 3 years and Project B has to be
rejected as it has a payback of more than 3
years.