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 $329,000 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	$	384,000
Costs
Materials, labor, and overhead (except depreciation)		192,000
Depreciation on new equipment		47,000
Selling and administrative expenses		33,500
Total costs and expenses		272,500
Pretax income		111,500
Income taxes (40%)		44,600
Net income	$	66,900

Required:
(1) Compute the payback period.

	Payback Period Choose Numerator: / Choose Denominator: = Payback Period / = Payback period = 0

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

Accounting Rate of Return
Choose Numerator:	/	Choose Denominator:	=	Accounting Rate of Return
	/		=	Accounting rate of return
				0

Answer 1

Payback Period=	Choose Numerator/	Choose Denominator	=	Payback period
	Expected Cost/	Annual Cash Flow	=	Payback period
	329000/	113900		2.888498683
* Annual Cash Flow= $66900+47000=113900
Accounting Rate of Return=	Choose Numerator/	Choose Denominator	=	ARR
	Net Income /	Average Cost of Equipment	=	ARR
	66900/	164500		40.67%
* Average cost of Equipment = 329000/2= $164500

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