Question

X Company must replace one of its current machines with either Machine A or Machine B. The useful life of both machines is seven years. Machine A costs $50,000, and Machine B costs $66,000. Estimated annual cash flows with the two machines are as follows:

Year	Machine A	Machine B
1	$-6,000	$-7,000
2	-8,000	-4,000
3	-8,000	-3,000
4	-8,000	-3,000
5	-6,000	-3,000
6	-5,000	-2,000
7	-4,000	-2,000

If X Company buys Machine B instead of Machine A, what is the payback period (in years)?

Answer 1

payback period
payback period means number of years in which investment will be recovered
If company buys machine B instead for machine A, the company need to be paid extra
amount = $66000-$50000 = $16000
Year	Machine A Cash Flow	Machine B Cash Flow	Incremental Cash flows	Cumulative Cash flows
a	b	c	d =c-b	e
0			-16000	-16000
1	-6000	-7000	-1000	-17000
2	-8000	-4000	4000	-13000
3	-8000	-3000	5000	-8000
4	-8000	-3000	5000	-3000
5	-6000	-3000	3000	0
6	-5000	-2000	3000	3000
7	-4000	-2000	2000	5000
	Therefore payback period is 5 Year