Forrest Ltd is evaluating an investment proposal using the payback method. Cash inflows are expected to be $8000 in year 1, $8700 in year 2, $6000 in year 3, and $4800 in year 4. The initial investment required is $18 000. Assuming even cash inflows within each year what is the payback period?

Question

Quizplus · Accepted Answer

To calculate the payback period, we need to determine the time it takes for the cumulative cash inflows to equal the initial investment.

Year 1: $8,000
Year 2: $8,700
Year 3: $6,000
Year 4: $4,800

Cumulative cash inflows: 
Year 1: $8,000 
Year 2: $16,700 ($8,000 + $8,700) 
Year 3: $22,700 ($16,700 + $6,000) 
Year 4: $27,500 ($22,700 + $4,800)

The payback period is the amount of time it takes to reach the initial investment of $18,000.

Payback period = Year before full recovery + (Unrecovered cost at start of year / Cash inflow during year)

Payback period = 2 + (($18,000 - $16,700) / $6,000)

Payback period = 2.22 years

Therefore, the answer is C) 2.22 years.

Forrest Ltd Is Evaluating an Investment Proposal Using the Payback