A23. (Capital budgeting—payback method) Allenby Corp. has $10 million to invest.

Question

A23. (Capital budgeting—payback method) Allenby Corp. has $10 million to invest. Listed below are the expected future cash inflows to be received for four alternative investments, in millions of dollars.

Investment A,     Investment B,     Investment C,     Investment D
Year 1    7,     1,     0,     7
Year 2    1,     2,     0,     3
Year 3    2,     7,     3,     0
Year 4    2,     8,     7,     0
Year 5    2,     9,     10,     0

    A. Compare investments A and B.
        a. Compute the payback periods for Investments A and B.
        b. Which one would you pick, based only on payback period?
        c. Do you think one is a better investment?

    B. Compare investments C and D.
        a. Compute the payback periods
        b. Which one would you pick, based on the payback periods?
        c. Do you think this is the better investment? Why, or why not?

Explanation / Answer

(A.a.) Payback peirod for Investment A and B.

(A.b) As per payback period Investment B should be opt. (A.c) In Investment B return of investment is eariler then in Investment A option.

(B.a)

(B.b) As per payback period Investment C should be opt. (B.c) In Investment C return of investment is eariler then in Investment D option.

Best Investment is Investment B and worst Investment is Investment D.

1 7 7 2 1 2 3 2 6 4 2 8 5 2 10 15 Years 33 million Average Return 33/15=2.2 Million Payback period= Investment/return 10/2.2 = 4.545 Years

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