CH – 2 Basic Investment Appraisal : Payback Period method

KAPLAN Study text
Pg. no – 47
Answer – 54

TYU – 12
Acorn Co is considering purchasing a new machine at a cost of $110,400 that will be operated for four years, after which time it will be sold for an estimated $9,600. Acorn uses a straight-line policy for depreciation.
Forecast operating profits to be generated by the machine are as follows:
Year & Cashflows($)
1 – 39,600
2 – 19,600
3 – 22,400
4 – 32,400

Select the payback period (PP) and the average return on capital employed (ROCE), calculated as average annual profits divided by
the average investment.
A – PP: 2.02 years ROCE: 47.5% {ANSWER}
B – PP: 3.89 years ROCE: 25.8%
C – PP: 3.89 years ROCE: 47.5%
D – PP: 2.02 years ROCE: 25.8%

Answer A
PP:
Depreciation must be added back to the annual profit figure to derive the annual cash flows.
Annual depreciation = ($110,400 – $9,600)/4 years = $25,200
Adding $25,200 to each year’s profit figure produces the following cash flows.
YEAR – 0 1 2 3
cash flow – (110400) 64800 44800 47600
cum. cf – (110400) (45600) (800) 46800

Payback period in years = 2 + (800/47,600) = 2.02 years
If you selected a payback period of 3.89 years, you based your calculations on the accounting profits after the deduction of depreciation.
The calculation of the payback period should be based on cash flows.
ROCE:
Average profit = $(39,600 + 19,600 + 22,400 + 32,400)/4 = $28,500
Average investment = $(110,400 + 9,600)/2 = $60,000
ROCE = $(28,500/60,000) × 100% = 47.5%

My doubt –
I have a question: why was the depreciation amount included in the cash flows when calculating the Payback Period (PBP)? Additionally, I noticed that only three years were considered (Y0 for the initial investment, Y1, Y2, and Y3), but year 4 was not included.
Why wasnt the depreciation amount not subtracted in the ARR calculation?

Thank you in advance!