Question

FUN-FOOD Ltd is a manufacturer of ready-made meals. In order to keep up with competition and decrease its costs, FUN-FOOD is considering the purchase of a highly specialised machine to replace its existing production line. Further information pertaining to the installation of this machine are as follows: The machine will require an initial outlay of $400,000. The machine is expected to be used for 10 years, after which FUN-FOOD intends to sell it for $75,000. As a result of the installation of the machine, FUN-FOOD expects a significant reduction in running costs along with an increase in production capacity. Overall, FUN-FOOD expects the net cash flows to be $80,000 per year, every year for the 10 years of useful life. Required (show all workings): Calculate the payback period (rounded to 2 decimal places) of this investment.

Answer 1

The payback period of this investment is 5 years.

Step-by-step explanation:

The payback period is a method used to analyze the time it takes for an investment to generate enough cash flows to recover the initial investment. To calculate the payback period, you need to determine the number of years it takes for the cumulative cash inflows to equal or exceed the initial investment. In this case, the initial investment is $400,000 and the net cash flow per year is $80,000. Dividing the initial investment by the net cash flow per year gives us the payback period:

Payback Period = Initial Investment / Net Cash Flow per Year

Payback Period = $400,000 / $80,000

Payback Period = 5 years

Answer 2

The payback period of this investment is 5 years.

Step-by-step explanation:

The payback period of an investment is the time it takes for the savings generated by the investment to equal the initial cost of the investment. To calculate the payback period, you need to divide the initial cost of the investment by the net cash flow per year. In this case, the initial cost is $400,000 and the net cash flow per year is $80,000.

In the case of FUN-FOOD Ltd, they are considering an initial investment of $400,000 in a new machine.

They expect yearly net cash flows to be $80,000.

The payback period would then be the initial investment divided by the net annual cash flow.

So, the calculation would be as follows: Payback Period = $400,000 / $80,000 = 5 years.

This means it should take just 5 years for FUN-FOOD Ltd to recoup their initial investment in the machine through reduced operating costs and increased production capacity.