Question

You are analyzing a project and have prepared the following data:

                                    Year                             Cash flow

                                       0                                 -$169,000

                                       1                                  $ 46,200

                                       2                                  $ 87,300

                                       3                                  $ 41,000

                                       4                                  $ 39,000

           Required payback period        2.5 years

           Required AAR                              7.25 percent

                  Required return                                   8.50 percent

C-1 What is the payback period? Should you accept the project?

C-2 What is the profitability index of the project? Should you accept the project?

C-3 What is the NPV of the project?

Answer 1

As per the details given in the question-
NPV = Pv of inflow - outflow
PV of inflow is calculated on excel by formula-
=PV(rate,nper,pmt,fv)
required return is the rate of discount

Year	Cashflow	Pv of CF
0	-169000	-169000
1	46200	42580.65
2	87300	74157.45
3	41000	32099.23
4	39000	28141.40
	NPV	7978.721

Year	Cashflow	Cummulative CF
0	-169000	-169000
1	46200	46200
2	87300	133500
3	41000	174500
4	39000	213500

Payback period = 2 year + {(169000 - 133500 ) / 41000

Payback period = 2.866 years
Project should not be accepted, because project required payback period is 2.5 years which is less than the payback period of 2.866 years

Profitability Index = Pv of inflow / Outflow
PI = 213500 / 169000
PI = 1.26,
project should be accepted as per PI because its greater than1
1.26 > 1

I hope this clear your doubt.

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