The Bonkers Corp. is contemplating the purchase of a piece of equipment with the following cash flow data: Incremental
Year Initial Cost Contribution Terminal Value
0 $84,000
1 $30,000
2 25,000
3 20,000
4 15,000 $9,000
Ignoring income taxes, what is the payback period?

Question

Quizplus · Accepted Answer

The payback period is the time required to recover the initial investment. We start by subtracting the annual cash flows from the initial cost until the remaining cumulative cash flows reach zero or become positive.

Year 0: -$84,000
Year 1: -$54,000
Year 2: -$29,000
Year 3: -$9,000
Year 4: $6,000 (cumulative cash flow becomes positive)

Therefore, the payback period is in Year 4, which is 3.6 years (i.e. 2 years + $29,000/$20,000). The best choice is C)3)60 years.