Question

Investment​ A:

​Year:                                                           0                                                                                    1                                                                                     2                                                                                    3                                                                                    4                                                                                    5

Cash​ flow:                           

minus−​$14,000

                               

$ 6 comma 000$6,000

                                                   

$ 6 comma 000$6,000

                                                  

$ 6 comma 000$6,000

                                                   

$ 6 comma 000$6,000

                                                  $ 6 comma 000$6,000

Investment​ B:

​Year:                                                           0                                                                                    1                                                                                     2                                                                                    3                                                                                    4                                                                                    5                                        

Cash​ flow:                           

minus−​$15,000

                               

$ 5 comma 000$5,000

                                                   

$ 5 comma 000$5,000

                                                  

$ 5 comma 000$5,000

                                                   

$ 5 comma 000$5,000

                                                  $ 5 comma 000$5,000

Investment​ C:

​Year:                                                           0                                                                                    1                                                                                     2                                                                                    3                                                                                    4                                                                                    5

Cash​ flow:                           

minus−​$18,000

                               ​$12,000                                              

$ 2 comma 500$2,500

                                                  

$ 2 comma 500$2,500

                                                   

$ 2 comma 500$2,500

                                                  $ 2 comma 500$2,500

The cash flows for three projects are shown above. The cost of capital is

8.58.5​%.

If an investor decided to take projects with a payback period two years or​ less, which of these projects would he​ take?

Answer 1

Investment A:

Initial Investment is 14000. Cumulative cashflows upto two years is 12000. Remaining amount (14000-12000) of 2000 is covered in third year. Payback period is 2.33 Years.

Investment B:

Initial Investment is 15000. Cumulative cashflows upto thre years is 15000. Payback period is 3 years.

Investment C:

Initial Investmeng is 18000. Cumulative cashflows upto three years is 17000. Remaining amount (18000-17000) is covered in fourth year. Payback period is 3.4 Years.

As all the three investments have payback period more than two years, Investor should not take up any of the project.