| Nick’s Novelties, Inc., is considering the purchase of new electronic games to place in its amusement houses. The games would cost a total of $225,000, have an fifteen-year useful life, and have a total salvage value of $22,500. The company estimates that annual revenues and expenses associated with the games would be as follows: |
| Revenues | $ | 220,000 | ||||
| Less operating expenses: | ||||||
| Commissions to amusement houses | $ | 70,000 | ||||
| Insurance | 25,000 | |||||
| Depreciation | 13,500 | |||||
| Maintenance | 80,000 | 188,500 | ||||
| Net operating income | $ | 31,500 | ||||
Garrison 15e Recheck 2014-12-29, 03_03_2015_QC_CS-9557
References
Section BreakExercise 13-8 Payback Period and Simple Rate of Return [LO13-1, LO13-6]
Exercise 13-8 Part 1
| Required: | |
| 1a. | Compute the pay back period associated with the new electronic games. |
| 1b. | Assume that Nick’s Novelties, Inc., will not purchase new games unless they provide a payback period of five years or less. Would the company purchase the new games? | ||||
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Garrison 15e Recheck 2014-12-29, 03_03_2015_QC_CS-9557
References
eBook & Resources
Expanded tableExercise 13-8 Part 1
Check my work
3.
Exercise 13-8 Part 2
| 2a. | Compute the simple rate of return promised by the games. (Round your answer to 1 decimal place. i.e. 0.123 should be considered as 12.3%.) |
| 2b. | If the company requires a simple rate of return of at least 13%, will the games be purchased? | ||||
|
| Net operating income | 31500 |
| Add noncash deduction for depreciation | 13500 |
| Annual net cash inflow | 45000 |
The payback computation would be
Payback period
=Investment required /Annual net cash inflow
= 225,000/ 45000
= 5 year
1 B
Assume that Nick’s Novelties, Inc., will not purchase new games unless they provide a payback period of five years or less. Would the company purchase the new games?
Answer : Yes
2 a
Compute the simple rate of return promised by the games
Answer:
:Simple rate of return=Annual incremental /net income Initial investment
=31500 /225000
=14%
2 C
If the company requires a simple rate of return of at least 13%, will the games be purchased?
answer:
Yes, the machines would be purchased. The 14% return exceeds 13%
