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How do you calculate the payback of mutually exclusive projects with depreciation?

You are considering the following two mutually exclusive projects. Both projects will be depreciated using straight-line depreciation to a zero book value over the life of the project. Neither project has any salvage value.

Reference: 06_02

Project A Project B

Year Cash Flow Year
0 -75,000 0 -70,000
1 19,000 1 10,000
2 48,000 2 16,000
3 12,000 3 72,000

Required rate of return 10% 13%
Required Payback Period 2.0 2
Required accounting return 8% 11%

Based upon the payback period and the information provided in the problem, you should:
a. accept both project A and project B.
b. reject both project A and project B.
c. accept project A and reject project B.
d. accept project B and reject project A.
e. require that management extend the payback period for project A since it has a higher initial cost.

Solution Preview

Project A Project B

Year Cash Flow Year
0 -75,000 0 -70,000
1 ...

Solution Summary

This solution shows how to determine the payback period with step by stap calculations and an interpretation of the answer.