Question

A piece of labor-saving 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: Purchase cost of the equipment $ 412,500 Annual cost savings that will be provided by the equipment $ 75,000 Life of the equipment 10 years

Answer 1

Complete question:

piece of labor-saving 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: Purchase cost of the equipment $ 412,500 Annual cost savings that will be provided by the equipment $ 75,000 Life of the equipment 10 years.

a) compute the payback period for the equipment.

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

Yes or No

2a)Compute the simple return rate on the equipment. Use staight-line depreciation based on the equipment's useful life.

2b) Would the equipment be purchased if the company's required rate of return is 13%?

Yes or No

Answer:

1a) 5.5 years

1b) No

2a) 9.8%

2b) No

Explanation:

Given:

•Purchase cost of equipment = $412,500

• Annual cost of savings that will be provided by the equipment = $75,000

• Life of equipment= 10 years

a) To find payback period, we use:

$\frac{cost of equipment}{annual savings cost}$

= $412,500/$75,000

= 5.5 years => 5 years and 6months

b) If the company requires a payback period of four years, the equipment should not be purchased, because the required payback period (4 years), is lesser than the actual payback period(5.5 years).

2a) Annual depreciation =

Cost of equipment/months per year

= $412,500/12

= $34,375

Net income =

Annual savings cost - annual depreciation

= $75,000-$34,375 = $40,625

Simple rate of return will be:

Net income/ cost

= $40,625/$412,500

= 0.098

= 9.8%

2b) No, the equipment should not be purchased because required rate of return is higher than actual return