Question

Compute the payback period for each of these two separate investments:

1. A new operating system for an existing machine is expected to cost $280,000 and have a useful life of six years. The system yields an incremental after-tax income of $80,769 each year after deducting its straight-line depreciation. The predicted salvage value of the system is $11,000.
2. A machine costs $190,000, has a $15,000 salvage value, is expected to last eleven years, and will generate an after-tax income of $44,000 per year after straight-line depreciatiation

3. Payback Period
   	Choose Numerator:	/	Choose Denominator:	=	Payback Period
   		/		=	Payback period
   a.				=	0
   b.				=	0

Answer 1

Payback period is the period within which initial investment is covered back in form of cash flow.

a. Cash flow = Net income + Depreciation

Depreciation = Cost -Salvage /useful years

=[$280,000-$11,000]/6

=$44,833

Cash flow = $80,769+$44,833

=$125,602 per period

Payback period = initial investment/cash flow per period

=$280,000/$125,602

=2.23 years

b.

Cash flow = Net income + Depreciation

Depreciation = Cost -Salvage /useful years

=[$190,000-$15,000]/11

=$15,909

Cash flow = $44,000+$15,909

=$59,909 per period

Payback period = initial investment/cash flow per period

=$190,000/$59,909

=3.17 years

	Choose Numerator:	/	Choose Denominator:	=	Payback Period
	Initial investment	/	Cash flow per year	=	Payback period
a.	$280,000	/	$125,602	=	2.23 years
b.	$190,000	/	$59,909	=	3.17 years

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