Should Tangshan Mining company accept a new project if its maximum payback is 3.25 years and its initial after-tax cost is $5,000,000 and it is expected to provide after-tax operating cash inflows of $1,800,000 in year 1, $1,900,000 in year 2, $700,000 in year 3, and $1,800,000 in year 4?
A) Yes, since the payback period of the project is less than the maximum acceptable payback period.
B) No, since the payback period of the project is more than the maximum acceptable payback period.
C) Yes, since the risk exposure of the project is less than the maximum acceptable risk exposure.
D) No, since the risk exposure of the project is more than the maximum acceptable risk exposure.

Question

Quizplus · Accepted Answer

The payback period is calculated by adding the cash inflows from the project until the initial investment is recovered. The cash inflows are $1,800,000 in year 1, $1,900,000 in year 2, $700,000 in year 3, and $1,800,000 in year 4. By the end of year 2, the total inflow is $3,700,000, which does not cover the initial cost of $5,000,000. By the end of year 3, the total inflow is $4,400,000, still not covering the initial cost. It is only by adding the year 4 inflow that the total reaches $6,200,000, surpassing the initial cost. Therefore, the payback period is just over 3 years, which is more than the maximum acceptable payback period of 3.25 years.

Should Tangshan Mining Company Accept a New Project If Its