A piece of laborsaving equipment has just come onto the market that Mitsui Elect

Question

A piece of laborsaving equipment has just come onto the market that Mitsui Electronics, Ltd., could use to reduce costs in one of its plants in Japan. Relevant data relating to the equipment follow:

If the company requires a payback period of four years or less, would the equipment be purchased?

Compute the simple rate of return on the equipment. Use straight-line depreciation based on the equipment’s useful life.

A piece of laborsaving equipment has just come onto the market that Mitsui Electronics, Ltd., could use to reduce costs in one of its plants in Japan. Relevant data relating to the equipment follow:

Explanation / Answer

Solution:

(a) Payback period = Cost of the project / Annual cash inflows

= 392,000 / 80,000

= 4.9 years

(b) No. Since payback period is 4.9 years the company should not accept the project if the expected payback period is 4years or less.

(c) Simple rate of return:

Annual returns = $80,000

Total outflow = $392,000

Simple rate of return = $80,000 / $392,000 * 100 = 20.41%

(d) Yes. The equipment should be purchased if the required rate of return is 16% as the actual rate of return on the investment is 20.41% which is higher than the expected rate of return.

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