Question

Stone Inc. is evaluating a project with an initial cost of $11,500. Cash inflows are expected to be $1,500, $1,500 and $13,000 in the three years over which the project will produce cash flows. If the discount rate is 11%, what is the payback, net present value and profitability index of the project?

Answer 1

Cash Flows:
Year 0 = -$11,500
Year 1 = $1,500
Year 2 = $1,500
Year 3 = $13,000

Discount Rate = 11%

Payback Period:

Company can recoup initial investment of $3,000 in first 2 years and remaining $8,500 in 3rd year

Payback Period = 2 + $8,500 / $13,000
Payback Period = 2.65 years

Net Present Value:

Present Value of Cash Inflows = $1,500/1.11 + $1,500/1.11^2 + $13,000/1.11^3
Present Value of Cash Inflows = $12,074.27

Net Present Value = Present Value of Cash Inflows - Initial Investment
Net Present Value = $12,074.27 - $11,500
Net Present Value = $574.27

Profitability Index:

Profitability Index = Present Value of Cash Inflows / Initial Investment
Profitability Index = $12,074.27 / $11,500
Profitability Index = 1.05