Question

A project has an initial cost of $40,000, expected net cash inflows of $9,000 per year for 7 years, and a cost of capital of 11%. What is the project’s payback period? (NOT discounted payback period) Explain

Answer 1

Solution:
	Payback period = 4.44 years
Working Notes:
	Payback period means period with in which initial investment is recovered from cash inflows . Lower payback period better
	Payback period = Initial investment / equal cash flow each year
	Payback period = $40,000 / $9000
	Payback period = 4.44444
	Payback period = 4.44 years
By other method
Year	Cash Flow - A	Cum. cash In-Flow
0	-40,000	-40000
1	9,000	-31000	[-40,000+9000]
2	9,000	-22000
3	9,000	-13000
4	9,000	-4,000
5	9,000	5,000
6	9,000	14,000
7	9,000	23,000
Since cumulative discounted cash flow becomes positive at 5th years means payback period is between 4th & 5th year
Payback period = 4 years + Remaining balance 4th year/5th year cash inflows
	= 4 + 4000/9000
	= 4+0.444444
	=4.44 years
Please feel free to ask if anything about above solution in comment section of the question.