Question

You have recently assumed the role of CFO at your company. The company's CEO is looking to expand its operations by investing in new property, plant, and equipment. You are asked to do some capital budgeting analysis that will determine whether the company should invest in these new plant assets.

-The firm is looking to expand its operations by 10% of the firm's net property, plant, and equipment= 2018 = $61,797 million, increase 10% = $6,179.7 million to total $67,976.7 million

-The estimated life of this new property, plant, and equipment will be 12 years. The salvage value of the equipment will be 5% of the cost.

-EBIT = 18% of the project's cost

-The hurdle rate for this project will be the WACC = 8.5%

Calculate the discounted payback period.

Answer 1

Discounted payback is the point of time where NPV is zero                  
Outflow at year 0=   -6179.7              
Cash inflows = 18% of cost                   
(6179.70*18%)   1112.346              
Salvage value = 5% of cost                  
(6179.7*5%)   308.985              
                  
For payback We will calculate Cumulative present value of cash flow                  
Year   cash inflows   [email protected]%   PV of cash flows   Cumulative cash inflows   Cumulative PV of Cash flows
year 0   -6179.7   1.0000   -6,179.70   -6179.7   -6,179.70
Year 1   1112.346   0.9217   1,025.20   -5067.354   -5,154.50
Year 2   1112.346   0.8495   944.89   -3955.008   -4,209.61
Year 3   1112.346   0.7829   870.86   -2842.662   -3,338.74
Year 4   1112.346   0.7216   802.64       -2,536.10
Year 5   1112.346   0.6650   739.76       -1,796.34
Year 6   1112.346   0.6129   681.81       -1,114.54
Year 7   1112.346   0.5649   628.39       -486.14
Year 8   1112.346   0.5207   579.16       93.02
Year 9   1112.346   0.4799   533.79       626.81
Year 10   1112.346   0.4423   491.97       1,118.79
Year 11   1112.346   0.4076   453.43       1,572.22
year 12   1421.331   0.3757   534.00       2,106.22
                  
Disconted Payback year = year before positive cumulative pv of cash flow + (cumulative cash flow to make cum. npv to 0/Cash flow of first positive cumulative CF)                  
   7.84 years

So Discounted Payback is 7.84 years.