George Company has the opportunity to purchase an asset that costs $40,000.The asset is expected to increase net income by $10,000 per year.Depreciation expense will be $5,000 per year.Based on this information the payback period is:

Question

Quizplus · Accepted Answer

To calculate the payback period, we need to divide the initial cost of the asset by the annual net income it generates:

Payback period = Cost of asset / Annual net income

In this case:

Payback period = $40,000 / $10,000
Payback period = 4 years

However, we also need to take into account the depreciation expense, which reduces the net income by $5,000 per year. The adjusted net income is therefore:

Adjusted net income = Annual net income - Depreciation expense
Adjusted net income = $10,000 - $5,000
Adjusted net income = $5,000

Using the adjusted net income, we can recalculate the payback period:

Payback period = Cost of asset / Adjusted net income
Payback period = $40,000 / $5,000
Payback period = 8 years

This means that it will take 8 years to recover the initial cost of the asset, considering both the net income and depreciation. Therefore, the best choice is not to purchase the asset.

George Company Has the Opportunity to Purchase an Asset That