Shamrock Company is considering the purchase of a new machine. The invoice price of the machine is $149,000, freight charges are estimated to be $3,700, and installation costs are expected to be $6,100. The salvage value of the new equipment is expected to be zero after a useful life of 4 years. Existing equipment could be retained and used for an additional 4 years if the company does not purchase the new machine. At that time, the equipment's salvage value would be zero. If the company purchases the new machine now, it would have to scrap the existing machine. Shamrock's accountant, Matthew King, has accumulated the following data regarding annual sales and expenses with and without the new machine: 1. Without the new machine, Shamrock can sell 12,200 units of product annually at a per-unit selling price of $100. With the new machine, the number of units produced and sold would increase by 25%, and the selling price would remain the same. 2. The new machine is faster than the old machine, and it is more efficient in its use of materials. With the old machine, the gross profit rate is 28.50% of sales, whereas the rate will be 30% of sales with the new machine. 3. Annual selling expenses are $195,000 with the current equipment. Because the new equipment would produce a greater number of units to be sold, annual selling expenses are expected to increase by 10% if it is purchased. 4. Annual administrative expenses are expected to be $122,000 with the old machine, and $137,000 with the new machine. 5. The current book value of the existing machine is $49,000. Shamrock uses straight-line depreciation. 6. Shamrock management has a required rate of return of 15% on its investments and a payback period of no more than 3 years. (a) Calculate the annual rate of return for the new machine. (Round calculations in percentages to 2 decimal places, e.g. 15.25% and final answer to 1 decimal place, e.g. 15.2%.) Solution Annual net cash inflow: Old New Sales (12,200; 15,250) * $100 $1,220,000 $1,525,000 Cost of goods sold (71.50%; 70.00%) 872,300 1,067,500 Gross profit 347,700 457,500 Less: Selling expenses 195,000 214,500 Administrative expenses 122,000 137,000 317,000 351,500 Net annual cash flow Depreciation ($158,8004) Annual net operating income $30,700 106,000 39,700 $66,300 Annual rate of return: $66,300+ [($158,800 + $0) + 2] = 83.5% ($149,000+ $3,700+ $6,100 = $158,800) (b) Calculate the payback period for the new machine. (Round answer to 3 decimal places, e.g. 15.251.) Payback period years