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# Costs in year 0 165000 future cash flows are year 1 cf

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Unformatted text preview: nal cost • Decision Rule – Accept if the payback period is less than some preset limit 9-14 Computing Payback For The Project • • • Assume we will accept the project if it pays back within two years. Costs in year 0: -165,000. Future cash flows are: • Year 1: CF = 63,120 • Year 2: CF = 70,800 • Year 3: CF = 91,080 Answer: • Cumulative cash flows at the end of year 1 = 63,120 • Cumulative cash flows at the end of year 2 = 63,120 + 70,800 = 133,920. Not fully paid back yet since 133,920 is less than 165,000. • Cumulative cash flows at the end of year 3 = 133,920 + 91,080 = 225,000. It is therefore fully paid back by the end of year 3. If the preset limit is 4 years or less, do we accept or reject the project? • We would accept it, because payback occurs in year 3. 9-15 Payback period example 1 • Compute the payback period given the cash flows above. Would the project be approved if the acceptable payback period is 3 years or less? • Answer: the payback period is exactly two years so the project should be approved. 9-16 Payback period example 2 Time 0 1 2 3 4 • Compute the payback Cash flow period given the cash -85,000 100 flows. Would the project 500 be approved if the 300 acceptable payback 2,000,000 period is 3 years or less? • Answer: the payback period is four years so the project should NOT be approved. 9-17 Adding more precision • • • • Year 0: Year 1: Year 2: Year 3: • We already did this example above and showed that the cumulative cash flows at the end of year 2 are 133,920 and year 3 are 225,000. We can calculate the payback period with more precision by figuring out what percentage of year three is needed to completely pay off the 165,000. By the end of year 2, we’ve paid off 133,920 The remainder to payback is 165,000 – 133,920 = 31,080. This represents 31,080 / 91,080 = 0.34 = 34% So the precise payback period is 2.34. • • • • • • CF= -165,000 CF = 63,120 CF = 70,800 CF = 91,080 Casio fx9750: Enter the cash flows into a list. Set I=0 and choose F3 for PBP. 9-18 Compar...
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## This document was uploaded on 02/06/2014.

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