Santana Rey is considering the purchase of equipment for Business Solutions that

Question

Santana Rey is considering the purchase of equipment for Business Solutions that would allow the company to add a new product to its computer furniture line. The equipment is expected to cost $385,000 and to have a seven-year life and no salvage value. It will be depreciated on a straight-line basis. Business Solutions expects to sell 100 units of the equipment’s product each year. The expected annual income related to this equipment follows.

Sales $ 380,000

Costs

Materials, labor, and overhead (except depreciation) 192,000

Depreciation on new equipment 55,000

Selling and administrative expenses 37,000

Total costs and expenses 284,000

Pretax income 96,000 Income taxes (40%) 38,400

Net income $ 57,600

Required:

(1) Compute the payback period.

(2) Compute the accounting rate of return for this equipment.

Payback Period Choose Numerator: / Choose Denominator: = Payback Period / = Payback period / =

Explanation / Answer

1) Payback period :

2) Accounting rate of return

Choose Numerator: / Choose Denomerator: = Payback period Initial investment / Annual cash flow = Payback period 385000 / (57600+55000) = 3.42 years

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