Using net present value and payback period to evaluate investment opportunities Leona Rosato just won a lottery
Question:
Using net present value and payback period to evaluate investment opportunities Leona Rosato just won a lottery and received a cash award of $400,000 net of tax. She is 61 years old and would like to retire in four years. Weighing this important fact, she has found two possible investments, both of which require an immediate cash payment of $320,000. The expected cash inflows from the two investment opportunities are as follows.
464 Chapter 10 L.O. 3, 4, 6 L.O. 3, 6, 7 Year 1 Year 2 Year 3 Year 4 Opportunity A $182,400 $104,000 $ 59,200 $ 67,200 Opportunity B 45,600 53,600 118,400 270,400 Ms. Rosato decided that her required rate of return should be 10 percent.
Required
a. Compute the net present value of each opportunity. Which should Ms. Rosato choose based on the net present value approach?
b. Compute the payback period for each opportunity. Which should Ms. Rosato choose based on the payback approach?
c. Compare the net present value approach with the payback approach. Which method is better in the given circumstances?
Step by Step Answer:
Fundamental Managerial Accounting Concepts
ISBN: 9780073526799
4th Edition
Authors: Thomas Edmonds, Bor-Yi Tsay, Philip Olds