Question

The engineering team at Manuel’s Manufacturing Inc. is planning to purchase an enterprise resource planning (ERP) system. The software and installation from Vendor A costs $380,000 initially and is expected to have revenue $125,000 per year every year.Manuel’s uses a 4-year planning horizon and a 10% per year MARR.

What is the discounted payback period of the investment (do linear interpolation to answer)?

Answer 1

Investment = 380000

Annual return = 125000

t = 4 yrs

i = 10%

We need to find the present value of cash flow in each year and then find cumulative cash flow and find the year in which cash flow turns positive.

Year	Investment	Savings	PV Factor	Present value	Cumulative Cash Flow
0	-380000		1	-380000.00	-380000.00
1		125000	0.909090909	113636.36	-266363.64
2		125000	0.826446281	103305.79	-163057.85
3		125000	0.751314801	93914.35	-69143.50
4		125000	0.683013455	85376.68	16233.18

discounted Payback period = Last period with a negative cumulative cash flow + (Absolute value of cumulative cash flows at that period / present value of the Cash flow after that period).

discounted Payback period = 3 + (69143.18 / 85376.68)

= 3.8098 years = 3.81 years

Showing formula in excel

Year	Investment	Savings	PV Factor	Present value	Cumulative Cash Flow
0	-380000		=1/(1+0.1)^A16	=B16*D16	=E16
1		125000	=1/(1+0.1)^A17	=C17*D17	=F16+E17
2		125000	=1/(1+0.1)^A18	=C18*D18	=F17+E18
3		125000	=1/(1+0.1)^A19	=C19*D19	=F18+E19
4		125000	=1/(1+0.1)^A20	=C20*D20	=F19+E20