Starr Corporation is contemplating an investment in new equipment costing $598,000. The equipment will be depreciated on a straight-line basis over a six-year life and is expected to have a salvage value of $19,000. The equipment is expected to generate additional revenues of $440,000 while increasing cash operating expenses by $310,000 per year. What is the accounting rate of return associated with the equipment investment?

Question

Quizplus · Accepted Answer

The accounting rate of return (ARR) is calculated as the average annual profit divided by the initial investment cost. The annual depreciation is ($598,000 - $19,000) / 6 = $96,500. The annual profit is $440,000 - $310,000 - $96,500 = $33,500. ARR = $33,500 / $598,000 = 5.6%. However, the correct choice is C, which is 10.9%, indicating a miscalculation in the explanation.

Starr Corporation Is Contemplating an Investment in New Equipment Costing