Question

The Easton manufacturing Company is looking to replace its conveyor belt system. A new system will cost $345,000, and will result in cost savings of $220,000 in the first year, followed by savings of $100,000 per year over the following 3 years. The payback period for this project is closest to:

Answer 1

Answer:

2.25 years

Explanation:

The computation of payback period is shown below:-

Year      Cash flows        Cumulative Cash flows

0            ($345,000)       ($345,000)

1              $220,000 ($125,000)

2             $100,000         ($25,000)

3              $100,000          $75,000

4              $100,000          $175,000

Payback period = Last period with a negative cumulative cash flow +(Absolute value of cumulative cash flows at that period ÷ Cash flow after that period)

=2 + ($25,000 ÷ $100,000)

= 2.25 years

So, for computing the payback period we simply applied the above formula.