Question

The proposed costs to operate this new facility are as follows:

Expected Monthly Revenue (Membership Fee): $125 per person

Monthly Fixed Costs

• Utilities: $590

• Health/Wellness Staff: $2,500

• Arts/Crafts Staff: $2,000

• Supplies: $800

• Fitness Equipment Maintenance Contract: $200

Variable Costs

• Monthly Lunch Cost: $25

• Monthly Breakfast Cost: $15

Based on the information above, once the minimum threshold of participants is reached, the initial investment to establish the center is $317,880. The organization anticipates that it will generate $46,920 of net revenues in the first year, $68,166 in the second year, $93,404 in the third year, $123,287 in the fourth year, and $158,573 in the fifth year.

1. Calculate the payback period to determine how long it will take for the organization to recover its initial investment of establishing the senior multipurpose center.

Answer 1

As, we have not been provided with individual sales (in units/members) per year, we will take net revenues per year as the cash flow for each year. The payback period is calculated as below:

Year	Cash Flow	Cumulative Cash Flows
0	-317,880	-317,880
1	46,920	-270,960
2	68,166	-202,794
3	93,404	-109,390
4	123,287	13,897
5	158,573	172,470

The payback period is the period within which initial investment is recovered with the use of annual cash flows. As can be seen from the above table that cumulative cash flows turn positive from negative between Year 3 and Year 4. Therefore, the payback period will lie between Year 3 and Year 4. The formula for payback period can be derived as below:

Payback Period = Years Upto which Partial Recovery is Made + Balance Amount/Cash Flow of the Year in which Full Recovery is Made = 3 + 109,390/123,287 = 3.89 Years (answer)