Question

7:01

Flexsteel Industries manufactures furniture for the retail, contract, and recreational vehicle furniture markets. The company is
considering the purchase of a new piece of equipment, which would have an initial cost of $521,000, a 7-year life, and $150,000
salvage value. The increase in cash flow each year of the equipment's life would be as follows:
Year 1
Year 2
Year 3
Year 4
Year 5
Year 6
Year 7
$106,000
$ 98,000
$ 96,000
$ 85,000
$ 82,000
$ 77,000
$ 71,000
What is the payback period?

Answer 1

The payback period for Flexsteel Industries' new equipment is 6 years, as calculated by adding the yearly cash flows until they equal or exceed the initial investment of $521,000.

Step-by-step explanation:

The payback period is the time it takes for a company to recover the initial investment in a new piece of equipment or project through cash flows produced by that investment. To calculate the payback period for Flexsteel Industries' new equipment, we can tally up the cash flows year by year until they equal or exceed the initial cost of $521,000. Here's the calculation:

• 
  
• Year 1: $106,000
• 
  
• Year 2: $106,000 + $98,000 = $204,000
• 
  
• Year 3: $204,000 + $96,000 = $300,000
• 
  
• Year 4: $300,000 + $85,000 = $385,000
• 
  
• Year 5: $385,000 + $82,000 = $467,000
• 
  
• Year 6: $467,000 + $77,000 = $544,000

As the cumulative cash flow exceeds the initial cost of $521,000 in year 6, the payback period is 6 years. Thus, Flexsteel Industries can expect to recover its initial investment in 6 years through savings generated by the new equipment.