Question

Walton Airline Company is considering expanding its territory. The company has the opportunity to purchase one of two different used airplanes. The first airplane is expected to cost $18,090,000; it will enable the company to increase its annual cash inflow by $6,700,000 per year. The plane is expected to have a useful life of five years and no salvage value. The second plane costs $41,580,000; it will enable the company to increase annual cash flow by $9,900,000 per year. This plane has an eight-year useful life and a zero salvage value.

Required

1. Determine the payback period for each investment alternative and identify the alternative Walton should accept if the decision is based on the payback approach. (Round your answers to 1 decimal place.)

		Payback Period
a-1.	Alternative 1 (First plane)		years
	Alternative 2 (Second plane)		years
a-2.	Walton should accept

Answer 1

Answe-a-1)- Payback period-Alternative 1 (First plane) = 2.7 years.

Alternative 2 (Second plane) = 4.2 uears

Explanation- Payback period is the time in which the initial cash outflow of an investment is expected to be recovered from the cash inflows generated by the investment. It is one of the simplest investment appraisal techniques.

In case when cash inflow are even, the formula to calculate payback period is:

Payback period =Initial investment / Annual Cash Inflow per period

Alternative 1 (First plane) = $18090000/$6700000

= 2.7 years

Alternative 2 (Second plane) = $41580000/$9900000

= 4.2 years

a-2)- Walton should accept alternative 1 (First plane).