Figure 3
Glady, Inc., is considering the purchase of production equipment that costs £800,000. The equipment is expected to generate annual cash inflows of £250,000. The equipment is expected to have a useful life of five years with no salvage value. The firm's cost of capital is 14 percent.
-Refer to Figure 3. If depreciation is £190,000 per year, Glady's accounting rate of return based on the average investment would be

Question

Quizplus · Accepted Answer

The Accounting Rate of Return (ARR) is calculated as the average annual profit divided by the average investment. The average annual profit is the annual cash inflow minus annual depreciation. Here, it's £250,000 - £190,000 = £60,000. The average investment is the initial cost plus the salvage value (here £0), divided by 2, which is £800,000 / 2 = £400,000. So, ARR = (£60,000 / £400,000) * 100% = 15%.

Figure 3 Glady, Inc., Is Considering the Purchase of Production Equipment That