Question

Your selection committee is debating between two projects. Project A has a payback period of 18 months. Project B has a cost of $125,000, with expected cash inflows of $50,000 the first year and $25,000 per quarter after that. Which project should you recommend?

Answer 1

Answer:

Project A

Explanation:

Given:

The payback period for the project A = 18 months

Cost of project B = $125,000

Expected cash flow for the first year for the project B = $50,000

Cash flow per quarter after first year = $25,000

Now,

Remaining cost for project B after the first year payment

= $125,000 - $50,000

= $75,000

payback period for the project B after the first year

= $\frac{\textup{Remaining cost}}{\textup{cash flow per quarter}}$

= $\frac{\textup{75,000}}{\textup{25,000}}$

= 3 quarters = 9 months

therefore,

the total payback period for project B = 1 year + 9 months = 21 months

hence, Project A should be recommended as the payback period for project A is less i.e 18 months