Friday, June 4, 2010

New Equipment Rate of Return

A company is considering the purchase of a new piece of equipment.

Relevant information concerning the equipment follows:  

Purchase cost of Equipment......................................$180,000
Cost Savings by the Equipment..................$37,500
Lifespan of the Equipment.............................12 years

1. Compute the payback period for the equipment the company wants to purchase. If the company rejects proposals with a payback period greater than four years, would the company buy this machine? 

2.  Using straight line depreciation, would the equipment be purchased if the company mandates a rate of return (ROR) at least 14%? Compute the simple rate of return on the equipment.


Accounting Answers:

1. No, the company would not buy that equipment because the payback period = 4.8 years which is greater than the 4 years required.

2. Again, the company would not purchase this because the Rate of Return = 13%

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