Jarvey Corporation is studying a project that would have a ten-year life and would require a $450,000 investment in equipment which has no salvage value. The project would provide net operating income each year as follows for the life of the project (Ignore income taxes.): Sales $ 500,000 Less cash variable expenses 200,000 Contribution margin 300,000 Less fixed expenses: Fixed cash expenses $ 150,000 Depreciation expenses 45,000 195,000 Net operating income $ 105,000 The company's required rate of return is 12%. The payback period for this project is closest to: Multiple Choice 3 years 9 years 4.28 years 2 years

Payback period = 3 years

Explanation:

The payback period is the average length of time it takes the cash inflow from a project to recoup the cash outflow.

Where a project is expected to generate a series of equal annual net cash inflow, the payback period can be calculated as:  

Payback period =The initial invest /Net cash inflow per year

The cash inflow = Net operating income + Depreciation

                          = 105, 000 + 45,000 = 150,000

Note we have to add back depreciation because it is not a cash-based expenses. And payback period makes use of only cash-based revenue and expenses.

Payback period = 450,000/150,000

                          = 3 years

Payback period = 3 years

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