An investment has a cost $40,000 with net cash flows of $20,000 each year for 4 years. The company has a required rate of return of 8%. If the first four periods' discount factors, based on 8%, taken from a "present value of 1" table are 0.9259, 0.8573, 0.7938, 0.7350, what is the break-even time of the investment?

 An investment has a cost $40,000 with net cash flows of $20,000 each year for 4 years. The company has a required rate of return of 8%. If the first four periods' discount factors, based on 8%, taken from a "present value of 1" table are 0.9259, 0.8573, 0.7938, 0.7350, what is the break-even time of the investment?

multiple choice
Between years 1 and 2
2 years
Between years 2 and 3 Correct
Between years 3 and 4

Answer
Between years 2 and 3 

 
Explanation
Knowledge Check 01

At the end of Year 1, the cumulative present value of the cash flows = Cost of $(40,000). At the end of Year 2, the cumulative present value of the cash flows = Year 1 amount of $(40,000) + Present value of year 2 cash flow of (or Cash flow of $20,000 × PV factor of 0.9259) = $(21,482). At the end of Year 3, the cumulative present value of the cash flows = Year 2 amount of $(21,482) + Present value of year 3 cash flow of (or Cash flow of $20,000 × PV factor of 0.8573) = $17,416. The cumulative present value of cash flows changes from a negative to a positive number between years 2 and 3.