Alicia is considering adding toys to her gift shop. She estimates that the cost of inventory will be $7,500. The remodeling expenses and shelving costs are estimated at $1,500. Toy sales are expected to produce net cash inflows of $1,800, $2,700, $3,200, and $3,400 over the next four years, respectively. Should Alicia add toys to her store if she assigns a three-year payback period to this project? Why or why not?

Question

Quizplus · Accepted Answer

To calculate the payback period, we need to add up the net cash inflows until they equal the initial investment. 
Year 1: $1,800
Year 2: $2,700
Year 3: $3,200
Total: $7,700
Since the total net cash inflows of $7,700 exceed the initial investment of $9,000, the payback period is less than 3 years, indicating that the project will pay for itself within the assigned time frame. However, the payback period itself is 3.38 years, which means that it takes longer than three years to recoup the initial investment. Therefore, Alicia should not add toys to her gift shop if she assigns a three-year payback period to this project. The correct answer is B.

Alicia Is Considering Adding Toys to Her Gift Shop