Question

Use the following mutually exclusive investment cash flows for the question(s) below:

Project	Year 0	Year 1	Year 2	Year 3
A	-$200	$100	$100	$100
B	-$275	$125	$125	$125

Based on the payback criterion, which of the following is NOT true?

Multiple Choice

• With a payback cutoff of 2.5 years, both projects are acceptable.

• With a payback cutoff of 1.75 years, only Project A is acceptable.

• With a payback cutoff of three years, both projects are acceptable.

• With a payback cutoff of 1.5 years, neither project is acceptable.

• If you choose the project that pays back the fastest, Project A is preferred.

Answer 1

Calculation Payback Period of the project
Year	Project A	Project B
Cash Flows	Cumulative Cash Flows	Cash Flows	Cumulative Cash Flows
0	-200	-200	-275	-275
1	100	-100	125	-150
2	100	0	125	-25
3	100	100	125	100
			Unrecovered cost at the beginning of year
Payback Period          =	Completed Years +
			Total Cost during the year
Payback period for Project A = 2 years
Payback Period for Project B = 2 years + ($25 / $125) = 2.2 years
The following statement is NOT true
With a payback cutoff of 1.75 years, Only project A is acceptable