Q5SE - Horngren'S Financial And Managerial Accounting

Question

Using the payback method to make capital investment decisions

Refer to the Hunter Valley Snow Park Lodge expansion project in Short Exercise S26-4. Compute the payback for the expansion project. Round to one decimal place.

Step-by-Step Solution

Answer

The payback period is 4.1 years.

Step 1: Definition of Capital Budgeting

The process carried out to evaluate various available investments is known as capital budgeting. This process compares the benchmarks with the expected return from the investment. 

Step 2: Calculation of payback period

$\begin{array}{c}\mathrm{Payback} \mathrm{period}=\frac{\mathrm{Additional} \mathrm{investment}}{\mathrm{Expected} \mathrm{annual} \mathrm{net} \mathrm{cashflow}}\\ =\frac{\mathrm{\$}11,000,000}{121\times 142\left(241-83\right)}\\ =\frac{\mathrm{\$}11,000,000}{\mathrm{\$}2,714,756}\\ =4.1\text{\hspace{0.33em}}\mathrm{years}\end{array}$