Capital Budgeting Practice Problems

1. Assume you are given the following information regarding a point-of-sale computer terminal: The net annual savings was calculated to be $1,400 on an average investment cost of $5,620. What is the accounting rate of return (ARR) on the terminal?

2. Information is provided on two machines, which had an original cost of $28,400 for Machine X and $26,200 for Machine Y.

	Machine X	Machine Y
Net Annual Savings	$1,440	$3,560
Add: Depreciation	$4,840	$5,240
Net Annual Cash Savings	$6,280	$8,800

a. Which is the best investment using the payback period method?

b. Will either of the machines provide the cash investment back in less than 4 years?

3. Investment in an item of equipment is $22,000. It has a five-year life and no salvage value and straight-line depreciation is used. The equipment is expected to provide an annual savings of $2,900, which does not include depreciation. What is the payback period?

4. You have the following information about three point of sale systems on the market. The owner of a restaurant asks for your help in deciding which of the three machines to buy.

	Adamo	Sitaara	Ensolarado
Cash Investment	$6,300	$6,000	$6,700
Estimated Machine Life	5 Years	5 Years	5 Years
Estimated Trade in Value after 5 years	500	0	300
Annual Operating Costs (does not include depreciation)	400	300	300
Annual Savings Before Deduction of Costs	$2,000	$2,000	$2,000

Assume a 30% income tax rate and straight-line depreciation.

a) Use the ARR method to decide which of the three POS systems would be the best investment.

b) If the restaurant wants a return on investment (ROI) of at least 10%, what would you advise?

c) What is the payback period for each POS system.