Question

Omaha Plating Corporation is considering purchasing a machine for $1,300,000. The machine is expected to generate a constant operating income of $140,000 per year for 18 years. The firm will use straight-line (SL) depreciation for the new machine over 14 years with no residual value. What is the estimated accounting rate of return (rounded to two decimal places) on the initial investment?

Answer 1

The accounting rate of return is 5,21 %

Step-by-step explanation:

To determine the Accounting Rate of Return we first need to determine the depreciation amount. Depreciation will be 1300 000.

Annual operating income is given at 140000 x 18 = 2520 000

Our accounting profit over the 18 years will be 2520 000 - 1300 000 = 1220 000.

Annual accounting profit will be 67777,78 ( 1220000/18)

We work out the average as there are 4 years of income without any depreciation. thus using a ARR of 1 year figure will be inaccurate.

ARR = 67777,78 / 1300000 x 100%

= 5,21 %