Quantitative Problem: Bellinger Industries is considering two projects for inclu

Question

Quantitative Problem: Bellinger Industries is considering two projects for inclusion in its capital budget, and you have been asked to do the analysis. Both projects' after-tax cash flows are shown on the time line below. Depreciation, salvage values, net operating working capital requirements, and tax effects are all included in these cash flows. Both projects have 4-year lives, and they have risk characteristics similar to the firm's average project. Bellinger's WACC is 12%.

What is Project A's payback? Round your answer to four decimal places. Do not round your intermediate calculations.

(?)years

What is Project A's discounted payback? Round your answer to four decimal places. Do not round your intermediate calculations.
(?) years

What is Project B's payback? Round your answer to four decimal places. Do not round your intermediate calculations.

(?)years

What is Project B's discounted payback? Round your answer to four decimal places. Do not round your intermediate calculations.
(?) years

   0 1 2 3 4 Project A -1,000 650 435 200 250 Project B -1,000 250 370 350 700

Explanation / Answer

Payback period for project A = 1.8 years

discounted payback for project A = 2.51 years

Payback period for project B = 3.04 years

discounted payback for project B = 3.52 years

The formula to calculate payback period of a project depends on whether the cash flow per period from the project is even or uneven. In case they are even, the formula to calculate payback period is:

When cash inflows are uneven, we need to calculate the cumulative net cash flow for each period and then use the following formula for payback period:

In the above formula,
A is the last period with a negative cumulative cash flow;
B is the absolute value of cumulative cash flow at the end of the period A;
C is the total cash flow during the period after A

Year Project A Discounted cash flows @ 12% cumulative cash flow payback discounted cumulative cash flow discounted payback Project B Discounted cash flows @ 12% cumulative cash flow payback discounted cumulative cash flow discounted payback 0         (1,000)                   (1,000)              (1,000)               (1,000) 1               650                         580                         650                         580                    250                     223               250            223 2               435                         347                      1,085                        1.80                         927                    370                     295               620            518 3               200                         142                      1,285                      1,069                        2.51                    350                     249               970            767 4               250                         159                      1,535                      1,228                    700                     445           1,670           3.04         1,212           3.52 NPV                         228                     212

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