Check my work Check My Work button is now enabledItem 8 Item 8 10 points Seth Fi
ID: 2591258 • Letter: C
Question
Check my work Check My Work button is now enabledItem 8 Item 8 10 points Seth Fitch owns a small retail ice cream parlor. He is considering expanding the business and has identified two attractive alternatives. One involves purchasing a machine that would enable Mr. Fitch to offer frozen yogurt to customers. The machine would cost $7,650 and has an expected useful life of three years with no salvage value. Additional annual cash revenues and cash operating expenses associated with selling yogurt are expected to be $6,010 and $870, respectively. Alternatively, Mr. Fitch could purchase for $9,720 the equipment necessary to serve cappuccino. That equipment has an expected useful life of four years and no salvage value. Additional annual cash revenues and cash operating expenses associated with selling cappuccino are expected to be $8,430 and $2,350, respectively. Income before taxes earned by the ice cream parlor is taxed at an effective rate of 20 percent. Required Determine the payback period and unadjusted rate of return (use average investment) for each alternative.
Explanation / Answer
Answer: Formulas used : Payback period is the time when we get back the money invested with out taking time value of money in to consideration
Unadjusted rate of return: it is calculated using the return on the money invested before taxes and interests.it also does not take in to account time value of the money
Ideally depreciation should also be taken in to consideration for calculation but not mentioned here so assumed already included in expenses part
Yogurt 0 1 2 3 Cost of the machine 7650 Additional cash revenue 6010 6010 6010 Cash operating expenses 870 870 870 total cash inflow/outflow -7650 5140 5140 5140 Tax (20%) 1028 1028 1028 Net cash flow -7650 4112 4112 4112 Payback period 1.860409 Unadjusted rate of return 201.56% cappuccino 0 1 2 3 4 Cost of the machine 9720 Additional cash revenue 8430 8430 8430 8430 Cash operating expenses 2350 2350 2350 2350 total cash inflow/outflow -9720 6080 6080 6080 6080 Tax (20%) 1216 1216 1216 1216 Net cash flow -9720 4864 4864 4864 4864 Payback period 1.998355 Unadjusted rate of return 250.2%Ideally depreciation should also be taken in to consideration for calculation but not mentioned here so assumed already included in expenses part