Question

Food Harvesting Corporation is considering purchasing a machine for $1,000,000. The machine is expected to generate a constant after-tax income of $80,000 per year for 12 years. The firm will use straight-line (SL) depreciation for the new machine over 6 years with no residual value. What is the estimated accounting (book) rate of return (rounded to two decimal places) on the initial investment?

A) 4.00%
B) 5.33%
C) 6.67%
D) 8.00%

Answer 1

The estimated accounting (book) rate of return on the initial investment is 96.00%.

Step-by-step explanation:

To calculate the estimated accounting (book) rate of return on the initial investment, we need to divide the average annual after-tax income by the initial investment cost. In this case, the machine is expected to generate a constant after-tax income of $80,000 per year for 12 years, so the total after-tax income over the 12 years is $80,000 x 12 = $960,000. The initial investment cost is $1,000,000.

Therefore, the estimated accounting (book) rate of return is $960,000 / $1,000,000 = 0.96 or 96%.

Rounded to two decimal places, the estimated accounting (book) rate of return is 96.00%, which corresponds to option D).