Question

Purple Pumpkins Inc is considering purchasing a pumpkin carving machine with a cost of $320,000 and a salvage value equal to zero at the end of its 8-year useful life. If the machine is purchased, annual revenues are projected to be $98,000 and annual operating expenses exclusive of amortization expense are expected to be $38,000. The straight-line method of amortization would be used.

If the machine is purchased, the annual rate of return expected is

Select one:

a. 8%

b. 5.33%

c. 5.00%

d. 16.3%

e. None of the above

Answer 1

Ans:

Calculation of expected rate of Return:

Inititial Cost : $320,000

Life 8 Years.

Annual Amortisation : $320,000/8 = $40,000

Annual Inflow : $98,000

Annual Outflow : $38,000

Net Annual Income : $98,000 - $38,000 - $40,000 = $20,000

Annual rate of Return : Net Income / Initial Outflow

: $20,000/ $320,000 = 6.25%

So correct answer is option E.

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