Joyous Corporation is considering an investment in equipment for $25,000. Data related to the investment are as follows: Cash Flow before
Year Depreciation and Taxes
1 $12,500
2 12,500
3 12,500
4 12,500
Joyous uses the straight-line method of depreciation with no mid-year convention. In addition, its tax rate is 40 percent and the life of the equipment is four years with no salvage value. Cost of capital is 12 percent.
What is the payback period in years approximated to two decimal points?

Question

Quizplus · Accepted Answer

To calculate the payback period, we need to find out the time it takes to recover the initial investment. We do this by adding up the cash flows until they equal the initial investment. 
Year 1: $12,500
Year 2: $12,500 + $12,500 = $25,000 (payback period = 2 years)
The best choice is B because it has the shortest payback period (2 years) compared to the life of the equipment (4 years) and the cost of capital (12 percent).

Joyous Corporation Is Considering an Investment in Equipment for $25,000