Jasper Company has a payback goal of three years on acquisitions of new equipment. A new piece of equipment that costs $450,000 and that has a five-year life is being considered. Straight-line (SL) depreciation will be used, with zero salvage value. Jasper is subject to a 40% combined income tax rate, t. To meet the company's payback goal, the equipment must generate reductions in annual cash operating costs of at least:
A) $60,000.
B) $114,000.
C) $150,000.
D) $190,000.
E) $285,000.

Question

Quizplus · Accepted Answer

The payback period is calculated as the initial investment divided by annual cash inflows. To meet a 3-year payback, the equipment must generate $450,000 / 3 = $150,000 in annual after-tax cash savings. Depreciation tax shield is $450,000 / 5 * 0.4 = $36,000. Therefore, the required pre-tax savings is $150,000 + $36,000 = $186,000, rounded to $190,000.

Jasper Company Has a Payback Goal of Three Years on Acquisitions