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 8 percent, and that the maximum allowable payback and discounted payback statistics for the project are 2.5 and 3.5 years, respectively. 2 5 6 Time: Cash flovw $4,600 $1,120 $2,320 $1,520 $1,520 $1,320 $1,120 Use the payback decision rule to evaluate this project (Round your answer to 2 decimal places) project. (Round your answer to 2 decimal places.) Payback 3.53 years Should it be accepted or rejected? ORejected Accepted

Explanation / Answer

This would go on upto year 6.

Payback period=Last period with a negative cumulative cash flow+(Absolute value of cumulative cash flows at that period/Cash flow after that period).

=2+(1160/1520)=2.76 years(Approx)

Hence since payback is greater than 2.5 years;the project should be rejected.

Year Cash flows Cumuative Cash flows 0 (4600) (4600) 1 1120 (3480) 2 2320 (1160) 3 1520 360

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