Problem

Simple Rate of Return; Payback

Saitama Amusements Corporation places electronic games and other amusement devices in supermarkets and similar outlets throughout Japan. Saitama Amusements is investigating the purchase of a new electronic game called Mythical Marauders. The manufacturer will sell 20 games to Saitama Amusements for a total price of ¥191,000. (The Japanese currency is the yen, which is denoted by the symbol ¥.) Saitama Amusements has determined the following additional information about the game:

a. The game would have a five-year useful life and a negligible salvage value. The company uses straight-line depreciation.

b. The game would replace other games that are unpopular and generating little revenue. These other games would be sold for a total of ¥27,000.

c. Saitama Amusements estimates that Mythical Marauders would generate annual incremental revenues of ¥231,000 (total for all 20 games). Annual incremental out-of-pocket costs would be (in total): maintenance, ¥50,000; and insurance, ¥9,400. In addition, Saitama Amusements would have to pay a commission of 43% of total revenues to the supermarkets and other outlets in which the games were placed. (Ignore income taxes.)

Required:

1. Prepare a contribution format income statement showing the net operating income each year from Mythical Marauders.

2a. Compute the simple rate of return on Mythical Marauders.

2b. Will the game be purchased if Saitama Amusements accepts any project with a simple rate of return greater than 11%?
Yes
No

3a. Compute the payback period on Mythical Marauders.

3b. If the company accepts any investment with a payback period of less than 5 years, will the game be purchased?
Yes
No.