What is the payback period for a $20,000 project that is expected to
return $6,000 for the first 2 years and $3,000 for years 3 through 5?
a)3-1/2
b)4-1/2
c)4-2/3
d)5

Helle again!!

Payback Period (PB):

If CFs are equal each year, then

  PB = I/CF             where I = Initial Investment


If CFs are not equal each year, then 

           Year before full       Unrecovered cost at start of last
year
  PB =     recovery of       +   
--------------------------------------           investment           
   Total CF during the last year


In this case the CFs are:

Year               CFs             Recovery

 1 _____________ $6,000 __________  $6,000	   
 2 _____________ $6,000 __________ $12,000
 3 _____________ $3,000 __________ $15,000 
 4 _____________ $3,000 __________ $18,000 
 5 _____________ $3,000 __________ $21,000

As you can see the annual CFs are not equal, so we will use the second
formula:

The year before full recovery of investment is 4.
Need $2,000 more from year 5 CF of $3,000 = $2,000/$3,000 = 2/3.

Then the payback period PB is 4 years and 2/3 (4 years and 8 months).
The correct answer is c).

Hope this helps. 
remember to request for a clarification if it is needed.

livioflores-ga

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Clarification of Answer by livioflores-ga on 11 Feb 2003 01:22 PST

Here you need the same clarification that I did in the Question ID: 159474 .

Payback Period (PB): 
 
If CFs are equal each year, then 
 
  PB = I/CF             where I = Initial Investment 
 
 
If CFs are not equal each year, then if  
  
Y = the year before full recovery of investment; 
U = Unrecovered cost at the start of last year; 
TY = Total CF during the last year; 
 
  PB = Y + U/TY .

Hope this clarify.

livioflores-ga

Thank you again! Very thorough & fast!