Compute the payback period for each of these two separate investments: A new operating system for an existing machine is expected to cost $240,000 and have a useful life of five years. The system yields an incremental after-tax income of $69,230 each year after deducting its straight-line depreciation. The predicted salvage value of the system is $9,000. A machine costs $170,000, has a $13,000 salvage value, is expected to last nine years, and will generate an after-tax income of $38,000 per year after straight-line depreciation.

Investment                               Payback period(in years)

A                                               2.08

B                                               3.066

Explanation:

The payback period is the length of time in years it will take the net cash inflow of a project to recoup its initial cost

Payback period = Initial cost of investment /Annual net cash inflow

Investment A

Annual depreciation = (Cost - Salvage value)/Number of years

                               =  (240,000 - 9,000)/5 =

Annul cash inflow = 69,230 + 46200  = 115,430

Payback period = Initial cost of investment /Annual net cash inflow

                           = 240,000/ 115,430 = 2.079

Investment B

Annual depreciation = (Cost - Salvage value)/Number of years

                               =  (170,000 - 13,000)/9 = 17,444.444

Annul cash inflow= 38,000 + 17,444.44= 55,444.44

Payback period = 170,000 /55,444.44  =3.067

Investment                               Payback period(in years)

A                                               2.08

B                                               3.066

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