Question

peng company is considering buying a machine that will yield income of $3,400 and net cash flow of $17,500 per year for three years. the machine costs $51,000 and has an estimated $8,700 salvage value. compute the accounting rate of return for this investment.

Answer 1

The Accounting Rate of Return (ARR) for Peng Company's investment in the new machine is calculated by dividing the average annual profit by the initial investment. The ARR is found to be 34.31%.

Step-by-step explanation:

To calculate the Accounting Rate of Return (ARR), we must first understand that it is the ratio of the average annual profit from an investment to the initial investment cost. The formula for ARR is ARR = (Average Annual Profit / Initial Investment) x 100%. For the Peng Company, the average annual profit can be calculated as the average annual income minus the depreciation of the machine.

The average annual depreciation is (Cost of Machine - Salvage Value) / Useful Life, which in this case is ($51,000 - $8,700) / 3 = $14,100 per year.

Therefore, the average annual profit is Income - Depreciation, which equals $3,400 - $14,100. However, since the net cash flow already factors in depreciation, we can simply use the net cash flow of $17,500 as the average annual profit for calculating ARR.

To compute the ARR:

• Average Annual Profit = $17,500
• Initial Investment = $51,000
• ARR = ($17,500 / $51,000) x 100%
• ARR = 34.31%

Therefore, the Accounting Rate of Return for the Peng Company's investment in the new machine is 34.31%.