Question

An investment has an initial cost of $300,000 and a life of four years. This investment...

An investment has an initial cost of $300,000 and a life of four years. This investment will be depreciated by $60,000 a year and will generate the net income shown below. Should this project be accepted based on the average accounting rate of return (AAR) if the required rate is 29.5 percent? Why or why not?

Year Net income

1 14,500

2 16,900

3 19,600

4 23,700

A) Yes, because the AAR is greater than 29.5 percent

B) No, because the AAR is 29.5 percent
C) No, because the AAR is lower than 29.5 percent

D) Yes, because the AAR less than 29.5

E) Yes, because the AAR is 29.5 percent

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Answer #1
Total Depreciation = $60000* 4 =240000
Salvage value = $300000-240000 =$60000
Average Investment = ($300000+60000)/2
=$180000
Average Net Income = ($14500+16900+19600+23700)/4
=$18675
AAR = Average Net Income / Average Investment
=$18675/180000
=10.38%
Correct Answer =C) No, because the AAR is lower than 29.5 percent
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