Question

In order to improve its liquidity position Anchors Investors Ltd is considering investing in three projects; Project P, Project Q and Project R with initial investments of $2,00,000, $4,000,000 and $5,000,000 respectively. Each project is expected to have a life of five (5) years. The profits generated by the projects are as follows:

                                         After tax and depreciation profits

Year	Project P	Project Q	Project R
1	500,000	1,200,000	1,600,000
2	500,000	1,000,000	1,100,000
3	500,000	1,250,000	1,300,000
4	500,000	1,200,000	1,400,000
5	500,000	900,000	1,200,000
Total	2,500,000	5,550,000	6,600,000

Calculate the average profits for each project on initial capital.

Calculate the average capital for each project.

Calculate the accounting rate of return (ARR) on initial capital.

Calculate the accounting rate of return (ARR) on average capital.

Assuming that finance is available briefly outline three factors that will influence the investors decision.

State two (2) advantages associated with the use of the Payback method of project appraisal. .

Answer 1

1.Average profits for each project on initial capital
	Project P	Project Q	Project R
Av.Profit	2500000/5=	5550000/5=	6600000/5=
	500000	1110000	1320000
Initial capital	2000000	4000000	5000000
Av. Pfofit% on initial capital= Av.Profit/Initial capital	25%	28%	26%
2. Average capital for each project
Initial capital	2000000	4000000	5000000
Expected life(in Yrs.)	5	5	5
Av. Capital(Initial Capital/No.of yrs.)	400000	800000	1000000
3..Accounting rate of return (ARR) on initial capital
Av.Profit	500000	1110000	1320000
Initial capital	2000000	4000000	5000000
ARR=Av.Profit/Av. Capital	25.00%	27.75%	26.40%
4..Accounting rate of return (ARR) on average capital
Av.Profit	500000	1110000	1320000
Av. Capital	400000	800000	1000000
ARR=Av.Profit/Av. Capital	125.00%	138.75%	132.00%

Assuming that finance is available briefly outline three factors that will influence the investors decision

1.. Profitability of the investment

2.. Time taken to recoup the investment , with the above profit,ie. Net income over expenses of the different projects.

3..Risks involved in the different investment opportunities available, to be compared with their returns.

Two (2) advantages associated with the use of the Payback method of project appraisal

1. Timing of recovery of the initial investment can be known with certainty, so that the investor knows how quickly he can recover his investment.

2. Comparison of the above figure , between different projects , helps to decide on selecting the investment .

3. Simple to calculate & also easy to understand.