Question

The following data are accumulated by Eco Labs, Inc. in evaluating two competing capital investment proposals:

	Testing Equipment		Vehicle
Amount of investment	$56,000			$40,000
Useful life	4 years			5 years
Estimated residual value	0			0
Estimated total income over the useful life	$8,400			$10,500

Determine the expected average rate of return for each proposal. If required, round your answers to one decimal place.

Testing Equipment	%
Vehicle	%

Answer 1

Average rate of return for testing Equipment:

Formula for average rate of return = Estimated total income per annum/Average investment

         Estimated total income per annum = $ 8400/4

                                                                    = $ 2100

Average investment = (Investment – salvage value)/2

                                 = ($56,000-0)/2 = $28000

ARR = $ 2100 / $ 28000 = 7.50%

Average rate of return for testing Equipment:

Estimated total income per annum = $10500/5

                                                        = $2100

Average investment = $40,000/2 = $20,000

            ARR = $2100/$20,000

                     = 10.50%