Hearne Company has a number of potential capital investments. Because these proj

Question

Hearne Company has a number of potential capital investments. Because these projects vary in nature, initial investment, and time horizon, management is finding it difficult to compare them. Assume straight line depreciation method is used.

This project would require an initial investment of $5,150,000. It would generate $919,000 in additional net cash flow each year. The new machinery has a useful life of eight years and a salvage value of $1,072,000.

The patent would cost $3,610,000, which would be fully amortized over five years. Production of this product would generate $559,550 additional annual net income for Hearne.

Hearne could purchase 25 new delivery trucks at a cost of $145,000 each. The fleet would have a useful life of 10 years, and each truck would have a salvage value of $5,600. Purchasing the fleet would allow Hearne to expand its customer territory resulting in $561,900 of additional net income per year.

Determine each project's payback period (Round your answers to 2 decimal places.)

Hearne Company has a number of potential capital investments. Because these projects vary in nature, initial investment, and time horizon, management is finding it difficult to compare them. Assume straight line depreciation method is used.

Explanation / Answer

Project 1: Payback period = Initial Investment / Annual net cash inflows = $ 5,150,000 / $ 919,000 = 5.60 years

Project 2: Payback period = Initial investment / Annual net cash inflows = $ 3,610,000 / $ 1,281,550 = 2.82 years

Project 3: Payback period = Initial investment / Annual net cash inflows = $ 3,625,000 / $ 910,400 = 3.98 years

Workings: Annual net cash inflows for Project 2 = Annual net income + Annual amortization expense of patent

Annual net cah inflows for Project 3 = Annual net income + Annual depreciation expense of fleet of trucks

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