Question

Legend Service Center just purchased an automobile hoist for $31,200. The hoist has an 8-year life and an estimated salvage value of $3,330. Installation costs and freight charges were $3,830 and $890, respectively. Legend uses straight-line depreciation. The new hoist will be used to replace mufflers and tires on automobiles. Legend estimates that the new hoist will enable his mechanics to replace 6 extra mufflers per week. Each muffler sells for $72 installed.

The cost of a muffler is $38, and the labor cost to install a muffler is $14.

(a) Compute the cash payback period for the new hoist. (Round answer to 2 decimal places, e.g. 10.50.) Cash payback period Entry field with correct answer 5.76 years

(b) Compute the annual rate of return for the new hoist. (Round answer to 1 decimal place, e.g. 10.5.) Annual rate of return Entry field with incorrect answer 6 %

i have also tried 7.7, 17.4 and all are incorrect for B, can you explain in detail B I only have 1 more chance at getting it correct,

Answer 1

Calculate cost of Automobile Hoist
Initial Investment/ Cash Flow (Cf0)
	Amount $
Purchase value of automobile hoist	31,200.00
Installation Costs	3,830.00
Freight charges	890.00
Total cost of Automobile Hoist(1+2+3)	35,920.00
Incremental Cash flows from purchase of Automobile Hoist
No. of Mufflers per week replaced	6
Selling price of each muffler replace/installed	72
Cost of each muffler	38
Labor cost to install each Muffler	14
Salvage value at the end of 8 years	3,330
No. of weeks per year	52
Depreciation ( Initial Cost - Salvage Value)/ Useful Life in years	4,073.75

Step 3	Map the Cash Flows
		Cf0	Cf1	Cf2	Cf3	Cf4	Cf5	Cf6	Cf7	Cf8
1	Initial Investment	(35,920.00)
2	Incremental Sales Income		22,464.00	22,464.00	22,464.00	22,464.00	22,464.00	22,464.00	22,464.00	22,464.00
Less
3	Incremental cost of Mufflers		11,856.00	11,856.00	11,856.00	11,856.00	11,856.00	11,856.00	11,856.00	11,856.00
4	Labor cost for installing Mufflers		4,368.00	4,368.00	4,368.00	4,368.00	4,368.00	4,368.00	4,368.00	4,368.00
5	Depreciation		4,073.75	4,073.75	4,073.75	4,073.75	4,073.75	4,073.75	4,073.75	4,073.75
6	Salvage Value									(3,330)
7	Incremental Income (2-(3+4+5+6))		2,166.25	2,166.25	2,166.25	2,166.25	2,166.25	2,166.25	2,166.25	5,496.25
8	Add : Depreciation		4,073.75	4,073.75	4,073.75	4,073.75	4,073.75	4,073.75	4,073.75	4,073.75
9	Cash Flow (7+8)		6,240.00	6,240.00	6,240.00	6,240.00	6,240.00	6,240.00	6,240.00	9,570.00

Q (a).	Payback period
	Formula = Initial Cash Outflow / Annual Cash Outflow	35920/6240
Answer	Payback period	5.76 years
Q (b)	Annual Rate of Return
Step 4	Compute total return
	Total Return = Total cash flows from 1 to 7+ (Cash Flow for year 8+ salvage value)
=>	6240*7 + (6240+3330)
=>	Cash flow * 8 ( Step 3 - Row 9 : Total Cash Flows year 1 to 8)
=>	53,250.00
Step 5	Use formula for Annual Rate of Return
=>	(Annual Net Income / Average Investment)*100
i	Annual Net Income	2,166.25
ii	Average Investment (Initial Cost + Salvage Value)/2
=>	(35920+3330)	19,625
iii	Answer : Annual Rate of Return (i/ii)*100	11.04%