Nick’s Novelties, Inc., is considering the purchase of new electronic games to p

Question

Nick’s Novelties, Inc., is considering the purchase of new electronic games to place in its amusement houses. The games would cost a total of $300,000, have an eight-year useful life, and have a total salvage value of $30,000. The company estimates that annual revenues and expenses associated with the games would be as follows:

35,000

158,750

41,250

A: Compute the pay back period associated with the new electronic games.

B: Assume that Nick’s Novelties, Inc., will not purchase new games unless they provide a payback period of 6 years or less. Would the company purchase the new games?

C: Compute the simple rate of return promised by the games.

D: If the company requires a simple rate of return of at least 11%, will the games be purchased?

Nick’s Novelties, Inc., is considering the purchase of new electronic games to place in its amusement houses. The games would cost a total of $300,000, have an eight-year useful life, and have a total salvage value of $30,000. The company estimates that annual revenues and expenses associated with the games would be as follows:

Explanation / Answer

Question A. Operating Cashflow = Net Income + Depreciation = 41250+33750=75,000 Payback Payback Year Initial Cash Solvage Net Income Net Cashflow Amount Year 0 -300000 -300000 1 75000 75000 75000 1 2 75000 75000 75000 1 3 75000 75000 75000 1 4 75000 75000 75000 1 5 75000 75000 0 6 75000 75000 0 7 75000 75000 0 8 30000 75000 105000 0 total -300000 30000 600000 330000 300000 4 Answer: 4 year Question B. Because Payback period is 4 year and it is less than 6 years standard, Nick will purchase the Games. Question C. Simple rate of return = 41250/(300000-30000)= 15.28% Question D. As the actual rate of return is 15.28% which is higher than the standard of 11%, Nick will purchase the Games

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