Question

Compute the Payback statistic for Project X and recommend whether the firm should accept or reject the project with the cash flows shown below if the appropriate cost of capital is 9 percent and the maximum allowable payback is 3 years.

Time:	0	1	2	3	4	5
Cash flow:	-2,800	875	600	850	800	550

Answer 1

of pay back Year Cash flows Cumulative cash flows 0 (S2,800) 1S875 2S600 3$850 4S800 5 S550 (S2,800) (S1,925) ($1,325 (S475) S325 $875 Pay back period - A+ B/C) Here , A - Year in which last negative cumulative cash flow B - Last negative cumulative cash flow C - Normal cash flow immediately next to last negative cumulative cash flow Pay back period-3 Years t (S475/ S800) - 3 Years +0.59375 Years 3.59375 Years - 3.6 Years (Rounded) Maximum allowable payback period is 3 year Since payback period is more than maximum allowable pay back period, it is better to reject the project.