BDS Limited is planning to invest in a new project. The project will last for four years. Depreciation on project assets is provided on the straight line basis over the period of the project and depreciation of £560,000 will be charged on the project assets over the four years. £560,000 represents 70% of the cash outlay on non-current assets for the project. Net cash inflows from the project in years 1 to 4 are expected to be £190,000, £240,000, £260,000 and £264,000. It is anticipated that the project assets will be sold for their carrying amount at the end of year 4. What is the payback period for this project to the nearest month?

Question

Quizplus · Accepted Answer

The total cash outlay on non-current assets is £800,000 (£560,000 / 70%). The cumulative cash inflows are: Year 1: £190,000, Year 2: £430,000, Year 3: £690,000, Year 4: £954,000. The payback period is reached between Year 3 and Year 4. By the end of Year 3, £690,000 has been recovered, leaving £110,000 to be recovered in Year 4. Since Year 4's inflow is £264,000, the payback period is 3 years and 5 months.

BDS Limited Is Planning to Invest in a New Project