Question

Compute the payback period for each of these two separate investments: A new operating system for an existing machine is expected to cost $290,000 and have a useful life of six years. The system yields an incremental after-tax income of $83,653 each year after deducting its straight-line depreciation. The predicted salvage value of the system is $11,000. A machine costs $190,000, has a $15,000 salvage value, is expected to last eight years, and will generate an after-tax income of $46,000 per year after straight-line depreciation.

Answer 1

Answer:

Explanation:

Payback period is the number of years it takes a project's expected future cashflows to fully recover the initial outlay.

a.) New Operating system;

Year             CF               Net CF          

0                -290,000            -290,000

1                 83,653                -206,347

2                83,653                -122,694

3                 83,653               -39,041

4                 83,653                44,612

Payback period = last year with negative net CF +(absolute value of Net CF that year / Total CF the following year)

Payback = 3 +( 39,041 / 83,653 )

= 3 + 0.4667

= 3.47 years

b.) Machine

Year             CF               Net CF          

0                -190,000            -190,000

1                 46,000                -144,000

2                46,000                -98,000

3                 46,000               -52,000

4                 46,000                 -6,000

5                 46,000                40,000

Payback period = 4 + (6,000/46,000)

= 4+0.1304

= 4.13 years