Question

Exercise 13-1 Payback Method [LO13-1]

The management of Unter Corporation, an architectural design firm, is considering an investment with the following cash flows:

Year	Investment		Cash Inflow
1	$	54,000	$	5,000
2	$	7,000	$	10,000
3			$	16,000
4			$	17,000
5			$	20,000
6			$	18,000
7			$	16,000
8			$	14,000
9			$	13,000
10			$	13,000

Required:

1. Determine the payback period of the investment.

2. Would the payback period be affected if the cash inflow in the last year were several times as large?

Answer 1

1.Payback Period = ( Last Year with a Negative Cash Flow ) + [( Absolute Value of negative Cash Flow in that year)/ Total Cash Flow in the following year)]

= 4 + (13000/20000)

= 4.65 years

Answer: 4.65 years

Note:

Year	Investment	Cash Inflow	Net Cash Flow
1	-54,000	5,000	-49,000	(Investment + Cash Inflow)
2	-7,000	10,000	-46,000	(Net cash Flow +Investment + Cash Inflow)
3	-	16,000	-30,000	(Net Cash Flow + Cash Inflow)
4	-	17,000	-13,000	(Net Cash Flow + Cash Inflow)
5	-	20,000	7,000	(Net Cash Flow + Cash Inflow)
6	-	18,000	25,000	(Net Cash Flow + Cash Inflow)
7	-	16,000	41,000	(Net Cash Flow + Cash Inflow)
8	-	14,000	55,000	(Net Cash Flow + Cash Inflow)
9	-	13,000	68,000	(Net Cash Flow + Cash Inflow)
10	-	13,000	81,000	(Net Cash Flow + Cash Inflow)

2.The last year of the project is 10 years and the payback period is 4.65 years. Since the payback period is before the last year of the cash flow, the last year's cash flow would not affect the payback period.