Question

Major Corp. is considering the purchase of a new machine for $5,000 that will have an estimated useful life of 5 years and no salvage value. The machine will increase Major’s after-tax cash flow by $2,000 annually for 5 years. Major uses the straight-line method of depreciation and has an incremental borrowing rate of 10%. The present value factors for 10% are as follows:Using the payback method, how many years will it take to pay back Major’s initial investment in the machine?

Answer 1

2.5 years

Step-by-step explanation:

The payback method calculates how many years it will take the company to recover the investment's cost without considering any discount rate. The formula sued to calculate the payback period is:

payback period = investment cost / annual cash flow

payback period = $5,000 / $2,000 = 2.5