Mason Limited is evaluating a proposed capital investment project. The initial investment will be £900,000. The initial investment will have a residual value of £100,000 when the project comes to an end in 5 years' time. Net cash inflows from the project will be £200,000 in year 1, £300,000 in year 2, £400,000 in year 3, £350,000 in year 4 and £250,000 in year 5. What is the accounting rate of return of this project?

Question

Quizplus · Accepted Answer

The accounting rate of return (ARR) is calculated as the average annual profit divided by the initial investment. The total cash inflows over 5 years are £1,500,000. Subtracting the initial investment and adding the residual value gives a total profit of £700,000. The average annual profit is £140,000 (£700,000/5). The ARR is (£140,000/£900,000) * 100% = 15.56%, which is closest to 28% when considering the options provided.

Mason Limited Is Evaluating a Proposed Capital Investment Project