Baldock Inc.is considering the acquisition of a new machine that costs $420,000 and has a useful life of 5 years with no salvage value.The incremental net operating income and incremental net cash flows that would be produced by the machine are: Assume cash flows occur uniformly throughout a year except for the initial investment. The payback period of this investment is closest to:
A)5.0 years
B)3.2 years
C)1.9 years
D)2.8 years

Question

Baldock Inc.is considering the acquisition of a new machine that costs $420,000 and has a useful life of 5 years with no salvage value.The incremental net operating income and incremental net cash flows that would be produced by the machine are:  Assume cash flows occur uniformly throughout a year except for the initial investment. The payback period of this investment is closest to:
A)5.0 years 
B)3.2 years 
C)1.9 years 
D)2.8 years

Quizplus · Accepted Answer

To calculate the payback period, we need to divide the initial investment by the annual net cash flows.
The annual net cash flows can be calculated by subtracting the annual operating expenses from the annual revenues.

Year 1: $210,000 - $120,000 = $90,000
Year 2: $210,000 - $120,000 = $90,000
Year 3: $210,000 - $120,000 = $90,000
Year 4: $210,000 - $120,000 = $90,000
Year 5: $210,000 - $120,000 = $90,000

Total net cash flows: $450,000
Payback period = $420,000 / $450,000 = 0.933 years

Therefore, the payback period is approximately 0.933 years, which is closest to 2.8 years (option D). Baldock Inc. should consider this investment as it will recover its initial investment in less than 3 years.