X Company is considering an upgrade to its computer equipment that will cost $19,000 but result in less operating costs. Estimated annual operating costs are as follows:
| Year | no upgrade | upgrade |
| 1 | $-100,000 | $-110,000 |
| 2 | -100,000 | -120,000 |
| 3 | -120,000 | -60,000 |
| 4 | -130,000 | -90,000 |
| 5 | -120,000 | -70,000 |
| 6 | -110,000 | -70,000 |
| 7 | -130,000 | -100,000 |
If X Company decides to replace the equipment, what is the estimated payback period (in years)?
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Answer : the estimated payback period (in years) = 2 year and 173.38 Days is almost 2.5 years
Working notes for the above answer is as under
| 2 Year | no upgrade | upgrade | Saving in costDiffrance | Incremental Cash Flow |
| a | b | c = a-b | ||
| 1 | $-100,000 | $-110,000 | 0 | 0 |
| 2 | -100,000 | -120,000 | -20,000 | -20,000 |
| 3 | -120,000 | -60,000 | 60,000 | 40,000 |
| 4 | -130,000 | -90,000 | 40,000 | 80,000 |
| 5 | -120,000 | -70,000 | 50,000 | 130,000 |
| 6 | -110,000 | -70,000 | 40,000 | 170,000 |
| 7 | -130,000 | -100,000 | 30,000 | 200,000 |
From the above table we could see that real cash flow generate in the year 3 .During the year 3 we could recover 40,000 as incremental cash Flow
The calculation for the days are as under
= 19000*365/40000
=173.38
So payback period is 2 year and 173.38 Days
