Question

Oahu Inc. is considering an investment in new equipment that will be used to manufacture a smartphone. The phone is expected to generate additional annual sales of 4,400 units at $242 per unit. The equipment has a cost of $491,000, residual value of $37,000, and an 8-year life. The equipment can only be used to manufacture the phone. The cost to manufacture the phone follows:

Line Item Description Amount
Cost per unit:
Direct labor $41.00
Direct materials 158.00
Factory overhead (including depreciation) 26.80
Total cost per unit $225.80
Determine the average rate of return on the equipment. If required, round to the nearest whole percent.
fill in the blank 1 of 1
%

Answer 1

The average rate of return on the equipment is approximately 2.67%.

Explanation:

To calculate the average rate of return on the equipment, we need to determine the net annual profit and divide it by the initial investment cost of the equipment.

First, let's calculate the net annual profit:

Net annual profit = Additional annual sales - Cost to manufacture the phone - Annual depreciation

Given:

Additional annual sales = 4,400 units

Sales price per unit = $242

Cost to manufacture the phone per unit = $225.80

Annual depreciation = (Initial cost - Residual value) / Useful life

Using the given information, we can calculate the net annual profit as follows:

Additional annual sales = 4,400 units * $242 = $1,064,800

Cost to manufacture the phone per year = 4,400 units * $225.80 = $993,920

Annual depreciation = ($491,000 - $37,000) / 8 = $57,750

Net annual profit = $1,064,800 - $993,920 - $57,750 = $13,130

Now, let's calculate the average rate of return:

Average rate of return = (Net annual profit / Initial investment cost) * 100

Given:

Initial investment cost = $491,000

Using the given information, we can calculate the average rate of return as follows:

Average rate of return = ($13,130 / $491,000) * 100 ≈ 2.67%

Note: It's important to note that the average rate of return is expressed as a percentage and rounded to the nearest whole percent, as requested in the question.