A Company Is Trying to Decide Which of Two New

question 96

Essay

A company is trying to decide which of two new product lines to introduce in the coming year.The predicted revenue and cost data for each product line follows:
$\begin{array}{lrr}& \underline { \text { Product A } } & \underline { \text { Product B } } \\\text { Sales } & \$ 80,000 & \$ 96,000 \\\text { Direct materials } & 3,000 & 6,000 \\\text { Direct labor } & 30,000 & 45,000 \\\text { Other cash operating expenses } & 7,500 & 9,000\\\\\text { New equipment costs } & 75,000 & 100,000 \\\text { Estimated useful life (no salvage) } & 5 \text { years } & 5 \text { years }\end{array}$ The company has a 30% tax rate, uses the straight-line depreciation method, and predicts that cash flows will be spread evenly throughout each year.Calculate each product's payback period.If the company requires a payback period of three years or less, which, if either, product should be chosen?

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Definitions:

Accounting Equation

The foundational principle in accounting that states assets equal liabilities plus shareholders' equity.

Profitable

Refers to a financial state where income exceeds expenses, resulting in a positive gain.

Accounting Equation

The foundation of double-entry bookkeeping, which asserts that assets equal the sum of liabilities and shareholders' equity.

Owner's Equity

The residual interest in the assets of an entity after deducting liabilities; it represents the ownership interest of the shareholders or owner in the company.