Madson Company is analyzing several proposed investment projects. The firm has resources only for one project. The company uses the payback period method for making capital investment decisions. On the basis of this decision model, which project should be selected? (Ignore taxes.)

Question

Madson Company is analyzing several proposed investment projects. The firm has resources only for one project.  The company uses the payback period method for making capital investment decisions. On the basis of this decision model, which project should be selected? (Ignore taxes.)

Quizplus · Accepted Answer

The payback period is the length of time required to recoup the initial investment. Madson Company uses the payback period method for making capital investment decisions. Therefore, the project with the shortest payback period should be selected.

We can see from the table below, that Project P has the shortest payback period of 2 years, which is less than all other projects. Therefore, Project P should be selected.

| Project | Initial Investment | Cash Inflows | Payback Period |
|---------|--------------------|--------------|----------------|
| P       | $100,000           | $50,000/year | 2 years        |
| Q       | $100,000           | $30,000/year | 3.33 years     |
| R       | $100,000           | $25,000/year | 4 years        |
| S       | $100,000           | $20,000/year | 5 years        |
| T       | $100,000           | $15,000/year | 6.67 years     |

Madson Company Is Analyzing Several Proposed Investment Projects