Jack is considering adding work jeans and T-shirts to the items he stocks in his general store provided that his payback period is less than 2.5 years. He estimates that the initial cost of inventory will be $6,750. The remodeling expenses required for this addition are $18,200. Jean and T-shirt sales are expected to produce net cash inflows of $10,200, $14,500, and $16,600 over the next three years, respectively. Jack _____ add the jeans and T-shirts to his offerings as the payback period is _____ years.
A) should; 1.67
B) should; 2.02
C) should; 3.67
D) should not; 2.02
E) should not; 3.67

Question

Quizplus · Accepted Answer

The total initial investment is $6,750 (inventory) + $18,200 (remodeling) = $24,950. The cumulative cash inflows over the years are $10,200 (Year 1), $24,700 ($10,200 + $14,500 for Year 2), and $41,300 ($24,700 + $16,600 for Year 3). The payback period is reached in the second year as the cumulative cash inflow exceeds the initial investment. To find the exact payback period: $24,950 (initial investment) - $10,200 (Year 1 inflow) = $14,750 remaining. $14,750 / $14,500 (Year 2 inflow) = 1.02 years into the second year. Therefore, the total payback period is 1 year + 1.02 years = 2.02 years. Since this is less than 2.5 years, Jack should add the jeans and T-shirts to his offerings.

Jack Is Considering Adding Work Jeans and T-Shirts to the Items