Scary Harry's has identified that the cost of a new computer will be $48,000, but with the use of the new computer, net income will increase by $5,000 a year. If depreciation expense is $3,000 a year, the cash payback period is:
Can somebody explain what I did wrong.
I use this formula to solve: Cash payback period= Cost of capital investment/Net annual cash flow
My answer is $48000/($5000-$3000)=24 years
Why is my answer incorrect
Your answer is incorrect because you're using net annual cash flow, which includes depreciation. However, depreciation is a non-cash expense and should not be included in the calculation of cash payback period.
To calculate the cash payback period, you need to use the net income increase as your net annual cash flow, which is $5,000.
Cash payback period = Cost of capital investment / Net annual cash flow
= $48,000 / $5,000
= 9.6 years
Therefore, the cash payback period is 9.6 years.
Than you
You're welcome! Let me know if you have any further questions.
Your answer is incorrect because you have used the wrong formula to calculate the cash payback period. The formula you used, Cash payback period = Cost of capital investment / Net annual cash flow, is not applicable in this case.
The correct formula to calculate the cash payback period is: Cash payback period = Cost of capital investment / Net annual cash inflow.
In this scenario, the cost of the new computer is $48,000, and the net increase in income from using the computer is $5,000 per year. However, the depreciation expense of $3,000 should not be subtracted from the net annual cash inflow.
So, the correct calculation would be:
Cash payback period = $48,000 / $5,000 = 9.6 years.
Therefore, the cash payback period for the new computer is approximately 9.6 years, not 24 years as you calculated.