Exercise-8 (Computation of payback period – uneven cash flows)

The investment and expected cash inflows of a project over 8-year period is given below:

exercise-8-cbt-img1

Required: Compute the payback period of the project. Would the project be acceptable if the maximum desired payback period is 7 years?

Solution:

As the expected cash flows is uneven (different cash flows in different periods), the payback formula cannot be used to compute payback period of this project. The payback period for this project would be computed by tracking the unrecovered investment year by year.

exercise-8-cbt-img2

Payback period = years before full recovery + (Unrecovered investment at start of the year/Cash flow during the year)

= 5 + (3,000/6,000)

= 5 + 0.5

= 5.5 years or 5 years and *6 months

*0.5 × 12

The entire investment is expected to recover by the middle of sixth year. The payback period of this project is, therefore, 5.5 years or 5 years and six moths.

Conclusion:

The project is acceptable because payback period promised by the project is shorter than the maximum desired payback period of the management.

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14 Comments on Exercise-8 (Computation of payback period – uneven cash flows)

  1. Adam

    Perfect solution for my problem. Thank you for this work.

  2. sabirali

    Thanks, nice solution.

    1. Accounting for Management

      Welcome Sabirali.

  3. jony

    how to calculate month and day in payback period?

  4. willie

    I don’t understand the solution to this problem, need help.

  5. priya

    it was very useful

  6. priya

    need some more problems to practise

  7. Accounting For Management

    @Priya
    OK, will include.

  8. willie

    pls explain better

  9. Richard Branson

    You know that the money is paid back during the 6th year, but to work out the month you do this.

    (Unrecovered Investment at the Beginning of the year/Cash Inflow for that year) x 12 months

    So, if you look back at the table you can find these figures and put it into the equation (don’t worry about minus figures).

    (3000/6000)x 12 months = 6 months

    Therefore, the answer will be 6 years and 6 months.
    Understand?

  10. Yousuf

    Can anybody help me to calculate the ROI/IRR/PBP on investment of non revenue items

    Like : Kitchen stove heavy duty

  11. Aasha

    Good work… Must appreciate

  12. Azam

    if negative cash flows in first two years then how to use payback sheet

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