The Coffee Corporation has been presented with an investment opportunity which will yield cash flows of R30,000 per year in Years 1 through 4, R35,000 per year in Years 5 through 9, and R40,000 in Year10.This investment will cost the firm R150,000 today, and the firm's required rate of return is 10 percent.Assume cash flows occur evenly during the year, 1/365th each day.What is the payback period for this investment?

Question

Quizplus · Accepted Answer

To calculate payback period, we need to find the amount of time it takes for the investment to generate enough cash flows to recoup the initial investment. 
First, we calculate the total cash flows for each year:

Year 1-4: 30,000 x 4 = 120,000 
Year 5-9: 35,000 x 5 = 175,000 
Year 10: 40,000

Next, we calculate cumulative cash flows each year:

Year 1: 30,000 
Year 2: 30,000 x 2 = 60,000 
Year 3: 30,000 x 3 = 90,000 
Year 4: 30,000 x 4 = 120,000 
Year 5: 120,000 + 35,000 = 155,000 
Year 6: 155,000 + 35,000 = 190,000 
Year 7: 190,000 + 35,000 = 225,000 
Year 8: 225,000 + 35,000 = 260,000 
Year 9: 260,000 + 35,000 = 295,000 
Year 10: 295,000 + 40,000 = 335,000

The payback period is the amount of time it takes for cumulative cash flows to equal the initial investment. In this case, it takes approximately 4.86 years (Year 4 + (150,000-120,000)/35,000). Therefore, the best choice is B.

The Coffee Corporation Has Been Presented with an Investment Opportunity