Question

You are considering making a movie. The movie is expected to cost $ 10.9 million up front and take a year to produce. After​ that, it is expected to make $ 4.5 million in the year it is released and $ 2.1 million for the following four years. What is the payback period of this​ investment? If you require a payback period of two​ years, will you make the​ movie? Does the movie have positive NPV if the cost of capital is 10.7%​?

Answer 1

Payback period is the period in which initial investment is recovered.

Year	OB	CF	CB
1	$ 1,09,00,000.00	$ 45,00,000.00	$ 64,00,000.00
2	$    64,00,000.00	$ 21,00,000.00	$ 43,00,000.00
3	$    43,00,000.00	$ 21,00,000.00	$ 22,00,000.00
4	$    22,00,000.00	$ 21,00,000.00	$     1,00,000.00
5	$      1,00,000.00	$ 21,00,000.00	$ -20,00,000.00

PBP = Year in which least +ve CB + [ CB in that Year / CF in Next Year ]

= 4 + [ 100000 / 2100000 ]

= 4 + 0.05

= 4.05 years

As desired Payback period is 2 years, which is less than actual Payback period. Hence Project is rejected.

NPV = PV of Cash Inflows - PV of Cash Outflows

Year	CF	PVF @10.7%	Disc CF
0	$ -1,09,00,000.00	1.0000	$ -1,09,00,000.00
1	$      45,00,000.00	0.9033	$      40,65,040.65
2	$      21,00,000.00	0.8160	$      17,13,657.61
3	$      21,00,000.00	0.7372	$      15,48,019.52
4	$      21,00,000.00	0.6659	$      13,98,391.62
5	$      21,00,000.00	0.6015	$      12,63,226.39
NPV			$      -9,11,664.22

As NPV is -Ve, Project is Rejected.