Sterling Corporation has borrowed $75,000 that must be repaid in two years.This $75,000 is to be invested in an eight-year project with an estimated annual net cash flow of $15,000.The payback period for this investment is:

Question

Quizplus · Accepted Answer

The payback period is the amount of time it takes to recover the initial investment. In this case, Sterling Corporation has borrowed $75,000 that must be repaid in two years. Therefore, the payback period for the investment must be less than two years in order to ensure that there is enough cash flow to cover the loan payments.

The annual net cash flow from the investment is $15,000, and the investment is for eight years. Therefore, the investment will generate a total net cash flow of $120,000 over the eight-year period.

To calculate the payback period, we need to divide the initial investment by the annual net cash flow.

Payback period = Initial investment / Annual net cash flow

Payback period = $75,000 / $15,000 = 5 years

Therefore, the payback period for this investment is five years, which is less than the two-year loan repayment period. This means that Sterling Corporation should be able to repay the loan from the net cash flow generated by the investment over the payback period.

Sterling Corporation Has Borrowed $75,000 That Must Be Repaid in Two