Fitzgerald Company is planning to acquire a $250,000 machine that will provide increased efficiencies, thereby reducing annual cash operating costs by $80,000. The machine will be depreciated by the straight-line method over a five-year life, with no salvage value at the end of five years. Assuming a 40% income tax rate, t, and that cash flows occur evenly throughout the year, the machine's estimated payback period (rounded to two decimal places) is:
A) 3.13 years.
B) 3.21 years.
C) 3.68 years.
D) 4.81 years.
E) 5.21 years.

Question

Quizplus · Accepted Answer

The payback period is calculated by dividing the initial investment by the annual cash inflow after taxes. The annual depreciation is $250,000 / 5 = $50,000. The annual cash savings before taxes is $80,000. The tax savings from depreciation is $50,000 * 40% = $20,000. Therefore, the net annual cash inflow is $80,000 - ($80,000 * 40%) + $20,000 = $68,000. The payback period is $250,000 / $68,000 = 3.68 years.

Fitzgerald Company Is Planning to Acquire a $250,000 Machine That