Suppose your firm is considering investing in a project with the cash flows show

Question

Suppose your firm is considering investing in a project with the cash flows shown below, that the required rate of return on projects of this risk class is 7 percent, and that the maximum allowable payback and discounted payback statistics for the project are 2.0 and 3.0 years, respectively Time Cash flow 0 -$4,500 $1,110 $2,310 $1,510 $1,510 $1,310 $1.110 2 3 5 6 Use the discounted payback decision rule to evaluate this project. (Round your answer to 2 decimal places.) Discounted payback Should it be accepted or rejected? O Accepted O Rejected Hints References eBook & Resources

Explanation / Answer

CF0 = -4,500

CF1 = 1,110

CF2 = 2,310

CF3 = 1,510

CF4 = 1,510

CF5 = 1,310

CF6 = 1,110

Discount Rate = 7%

Discounted Cash Flows:

Discounted CF1 = 1,110/ (1.07)

Discounted CF1 = 1,037.38

Discounted CF2 = 2,310/ (1.07)2

Discounted CF2 = 2,017.64

Discounted CF3 = 1,510/ (1.07)3

Discounted CF3 = 1,232.61

Discounted CF4 = 1,510/ (1.07)4

Discounted CF4 = 1,151.97

Cash flow left after year 3 = -4,500 + 1,037.38 + 2,017.64 + 1,232.61

Cash flow left after year 3 = -212.36

Discounted Payback Period = 3 + 212.36/ 1,151.97

Discounted Payback Period = 3.18

As discounted payback period is greater than 3, we should reject the project

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