Question

A company is considering investing in project X. The company has a cost of capital of 10% p.a. Project X is a 9-year project with an initial cost of 400,000. The project will generate the following cash flows at the end of the years:

Years	Cash flows
1	90,000
2	80,000
3	50,000
4	50,000
5	50,000
6	50,000
7	50,000
8	50,000
9	15,000

a)    Calculate the payback period (in years) for project X. Round your answer to 2 decimal places. Do not include the unit. Do not use comma separators. E.g. 1234.56

Answer

b)    Calculate the net present value (NPV) for project X. Round your answer to the nearest dollar. Do not include the $ symbol. Do not use comma separators. E.g. 123456

Answer

Answer 1

Part A:

Payback period:

Payback period is the period in which initial investment is recovered.
If Actual PBP > Expected PBP - Project will be rejected
Actual PBP </= Expected PBP - Project will be accepted

It ignores cash flows after Pay back period & Time Value of money

Year	Opening Balance	Cash Flow	Closing Balance
1	$       4,00,000.00	$     90,000.00	$    3,10,000.00
2	$       3,10,000.00	$     80,000.00	$    2,30,000.00
3	$       2,30,000.00	$     50,000.00	$    1,80,000.00
4	$       1,80,000.00	$     50,000.00	$    1,30,000.00
5	$       1,30,000.00	$     50,000.00	$       80,000.00
6	$          80,000.00	$     50,000.00	$       30,000.00
7	$          30,000.00	$     50,000.00	$      -20,000.00
8	$        -20,000.00	$     50,000.00	$      -70,000.00
9	$        -70,000.00	$     15,000.00	$      -85,000.00

PBP = Year in which least +ve Closing Balance + [ Closing balance at that year / Cash flow in Next Year ]
= 6 Years + [ $ 30000 / $ 50000 ]
= 6 Years + 0.6 Years
= 6.6 Years

Payback Period is 6.6 Years

Answer is 6.60

PBP Refer Payback Period

Part B:

NPV :
NPV = PV of Cash Inflows - PV of Cash Outflows
If NPV > 0 , Project can be accepted
NPV = 0 , Indifference point. Project can be accepted/ Rejected.
NPV < 0 , Project will be rejected.

Year	CF	PVF @10 %	Disc CF
0	$ -4,00,000.00	1.0000	$    -4,00,000.00
1	$      90,000.00	0.9091	$         81,818.18
2	$      80,000.00	0.8264	$         66,115.70
3	$      50,000.00	0.7513	$         37,565.74
4	$      50,000.00	0.6830	$         34,150.67
5	$      50,000.00	0.6209	$         31,046.07
6	$      50,000.00	0.5645	$         28,223.70
7	$      50,000.00	0.5132	$         25,657.91
8	$      50,000.00	0.4665	$         23,325.37
9	$      15,000.00	0.4241	$           6,361.46
NPV			$       -65,735.20

NPV is -65,735.20