Lopez Co.is interested in purchasing equipment that would improve its operational efficiency.The cost of the equipment is $400,000 with an estimated residual value of $30,000 and a useful life of ten years.The equipment is expected to fetch cash inflows of $60,000 a year.The company's minimum rate of return is 8 percent.The present value of $1 for ten years at 8 percent is 0.463,and the present value of an annuity of $1 at 8 percent and ten years is 6.710.
-Using the above information for Lopez,the actual rate of return that the project earns is

Question

Lopez Co.is interested in purchasing equipment that would improve its operational efficiency.The cost of the equipment is $400,000 with an estimated residual value of $30,000 and a useful life of ten years.The equipment is expected to fetch cash inflows of $60,000 a year.The company's minimum rate of return is 8 percent.The present value of $1 for ten years at 8 percent is 0.463,and the present value of an annuity of $1 at 8 percent and ten years is 6.710. 
-Using the above information for Lopez,the actual rate of return that the project earns is

Quizplus · Accepted Answer

To calculate the actual rate of return, we need to find the present value of cash inflows, subtract the initial cost and the residual value, and divide the result by the initial cost.

PV of cash inflows = $60,000 x 6.710 = $402,600 
Net cost = $400,000 - $30,000 = $370,000 
NPV = PV of cash inflows - net cost = $32,600 
Actual rate of return = NPV / net cost = $32,600 / $370,000 = 0.0881 or 8.81%

Since the actual rate of return is greater than the minimum rate of return of 8%, the project is acceptable.

Lopez CoIs Interested in Purchasing Equipment That Would Improve Its Operational