Pay Back Period

Problems solved
08/07/2020
Sk
Example1.
A project costs Rs 18,000. The estimated annual cash inflows during its
3 year life are Rs 8.000, Rs.7.000 and Rs 6,000 respectively. Find out
pay-back period.

Solution
Year cash inclow cumulative cash inflow
1 8000 8000
2 7000 15000
3 6000 21000
PBP= E+ B/C
=2 +3000/6000 =2.5 years
Example 2.
A project of Rs 20,00,000 yielded annually a profit of 3,00,000 after depreciation @
12 1/2% and is subject to income tax @ 50% Calculate payback period.
Solution:
PBP =I/C I (initial investment)= 20,00,000
C (annual cash inflow), ie profit before depreciation and after tax.
In our question profit after depreciation but before tax is given 300000.
So profit before depreciation and after tax is calculated as:
Profit 300000
Less tax @ 50% 150000
So Profit after tax after depreciation 150000
Add depreciation @12.5% (2000000x12.5/100) 250000
400000
PBP =I/C =2000000/400000 =5 years
3. Each of the following projects requires a cash outlay of Rs 10,000. You are required to
suggest which project should be accepted if the standard pay-back period is 5 Years
Year Cash inflows
Project X Project Y Project Z
1. 2500 4000 1000
2. 2500 3000 2000
3. 2500 2000 3000
4. 2500 1000 4000
5. 2500 ---- ----
Solution:
Project X cash inflows are equal so PBP =I/C =10000/2500 =4 years
Project Y cash inflows are not equal , so cumulate cash inflow ie,
4000+3000+2000+1000 = 10000 so PBP is 4 years
Project Z cash inflows are not equal , so cumulate cash inflow ie,
1000+2000+3000+4000 = 10000 so PBP is 4 years
So pay back period of all three project are 4 years
4. A company has to choose one of the following two mutually exclusive projects.
Investment required for each project is Rs 15,000. Both the projects have to be
depreciated on straight line
Basis. Tax @ 50% is to be provided Calculate the payback period
Year Profit before depreciation
Project A Project B
1. 4,200 4,200
2 4,800 4,500
3 7,000 4,000
4. 8,000 5,000
5. 2,000 10,000
Solution:
For calculating PBP cash inflow is profit before depreciation after tax.
But in our question profit before depreciation and before tax is given.
For computing tax first we need to deduct depreciation from profit and add back
depreciation. ie tax we paid on net profit which is after depreciation.
 Project A

Year Profit before Depreciati Profit after Less Profit after Profit before Cumulativ
depreciation on depreciati tax tax after depre after e cash
(15000/5) on @ 50% depreciatio tax(add inflow
n 3000)

1 4200 3000 1200 600 600 3600 3600

2 4800 3000 1800 900 900 3900 7500

3 7000 3000 4000 2000 2000 5000 12500

4 8000 3000 5000 2500 2500 5500 18000

5 2000 3000 3000 1500 1500 4500 22500

PBP =E+B/C =3 +2500/5500 =3.45 year

 Project B
Year Profit before Depreciati Profit after Less Profit after Profit before Cumulativ
depreciation on depreciati tax tax after depre after e cash
(15000/5) on @ 50% depreciati tax(add inflow
on 3000)

1 4200 3000 1200 600 600 3600 3600

2 4500 3000 1500 750 750 3750 7350

3 4000 3000 1000 500 500 3500 10850

4 5000 3000 2000 1000 1000 4000 14850

5 10000 3000 7000 3500 3500 6500 21150

PBP =E+B/C =4+150/6500 =4.02 year