Solution
Chapter 9: Net Present Value and Other Investment Criteria
Page 293 Questions: 3, 4, 6, 7, 9, 10, 12
3.
Project A has cash flows of $19,000 in Year 1, so the cash flows are short by
$21,000 of recapturing the initial investment, so the payback for Project A is:
Payback = 1 + ($21,000 / $25,000) = 1.84 years
Project B has cash flows of:
Cash flows = $14,000 + 17,000 + 24,000 = $55,000
during this first three years. The cash flows are still short by $5,000 of recapturing
the initial investment, so the payback for Project B is:
B:
Payback = 3 + ($5,000 / $270,000) = 3.019 years
Using the payback criterion and a cutoff of 3 years, accept project A and reject
project B.
4.
When we use discounted payback, we need to find the value of all cash flows today.
The value today of the project cash flows for the first four years is:
Value today of Year 1 cash flow = $4,200/1.14
=
$3,684.21
Value today of Year 2 cash flow = $5,300/1.14
2
= $4,078.18
Value today of Year 3 cash flow = $6,100/1.14
3
= $4,117.33
Value today of Year 4 cash flow = $7,400/1.14
4
= $4,381.39
To find the discounted payback, we use these values to find the payback period. The
discounted first year cash flow is $3,684.21, so the discounted payback for a $7,000
initial cost is:
Discounted payback = 1 + ($7,000 – 3,684.21)/$4,078.18 = 1.81 years
For an initial cost of $10,000, the discounted payback is:
Discounted payback = 2 + ($10,000 – 3,684.21 – 4,078.18)/$4,117.33 = 2.54 years
Notice the calculation of discounted payback. We know the payback period is