For many years, a motor hotel has been providing its room guests with room service of soft drinks and ice using the services of a part-time bellhop to deliver to the rooms. Typically, the service has been losing money.

The average figures for each of the past few years are as follows:

The motor hotel has an offer from a soft drink vending company to install vending machines at no cost to the motor hotel. The vending company would collect the sales revenue (forecast to be as above for the next several years) from the soft drink machines, paying the motor hotel a commission of 10% on that sales revenue. Customers would help themselves to both soft drinks (by inserting cash in the machine) and ice (which would be free), thus eliminating the labor cost.
An ice machine would have to be purchased by the motor hotel at a cost of $7,000. It would have a 5-year life and a residual value at the end of that time of $1,000. Use straight-line depreciation. Annual maintenance and operating costs of the ice machine are estimated to be $100 per year. The motor hotel is in a 30% tax bracket.

a. Calculate the payback period.

b. Calculate the ARR.

c. Calculate the NPV of the investment using a 12% discount factor and state whether the investment should be made.LO1

Transcribed Image Text:

Sales revenue: Soft drinks $25,550 Ice 2,400 $27,950 Expenses: Loss Cost of sales $12,200 Labor 17,900 30,100) ($ 2,150)