Suppose Extensive Enterprises\'s CFO is evaluating a project with the following

Question

Suppose Extensive Enterprises's CFO is evaluating a project with the following cash inflows. She does nat know the project's initial cost; however, she does know that the project's regular payback period is 2.5 years. If the project's weighted average cost of capital (WACC) is 8%, what is its NPV? Year Cash Flow Year $325,000D Year 2 $425,000 Year3 $475,000 Ye O $363,604 O $404,004 O $343,403 O $424,204 ar4 $475,D00 which of the following statements indicate a disadvantage of using the discounted payback period for capital budgeting decisions? Check all that apply The discounted payback period is calculated using net income instead of cash flows. The discounted payback period does not take the time value of money into account. The discounted payback period does not take the project's entire life into acount.

Explanation / Answer

1

Option B

Project's payback=2.5 years

Payback is the time it requires the cash flows to recover the intiial investment

hence, in 2.5 years the cash flows would be 325000+425000+475000*0.5=987500

So, initial investment=987500

Hence, NPV=-987500+325000/1.08+425000/1.08^2+475000/1.08^3+475000/1.08^4=404004.4

2

Disadvantage: Does not take the project's entire life into account

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