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Payback and Return

Study the information below and answer the following questions:

1.1.1 Calculate the payback period for project B (answers expressed in years, months and days). (3)
1.1.2 Calculate the accounting rate of return (on average investment) for each project. (4)
1.1.3 Calculate the net present value for each project. (6)
1.1.4 Based on the NPV, which project should be chosen? Why? (1)

Project A Project B

Initial Capital Expenditure 90 000 90 000
Profit per year:
Year 1 45 000 18 000
Year 2 36 000 18 000
Year 3 27 000 43 000
Year 4 18 000 47 000
Expected resale value at end of year 4 18 000 0

Profit is calculated after deducting straight line depreciation.
The cost of capital is 15%.

1.2 Required
1.2.1 Calculate the internal rate of return (5)
1.2.2 Should the machine be considered for purchase? Why? (1)


Universal Limited has identified a new machine that it is considering for purchase. The machine would cost R 345 000 and its cash operating expenses would total R 81 000 per year. The machine would last five years and the straight line method of depreciation is used. At the end of five years, the machine would be scrapped. On the benefit side, it is estimated that the new machine would generate cash income of R180 000 per year. The cost of capital is 15%.

Solution Summary

The payback and returns are examined.