Question

The management of Ro Corporation is investigating automating a process. Old equipment, with a current salvage value of $12,000, would be replaced by a new machine. The new machine would be purchased for $402,000 and would have a 6 year useful life and no salvage value. By automating the process, the company would save $139,000 per year in cash operating costs. The simple rate of return on the investment is closest to (Ignore income taxes.):

Multiple Choice

18.5%

16.7%

34.6%

17.9%

Answer 1

Answer:

18.5%

Explanation

Ro Corporation

Annual incremental cost savings$139,000

Annual depreciation ($402,000 − $0)/6 $67,000

Annual incremental net operating income$72000

Simple rate of return = Annual incremental net operating income ÷ Initial investment

= $72,000 ÷ ($402,000 − $12,000)

=$72,000÷390,000

= 18.5% (rounded)

Therefore T

The simple rate of return on the investment is closest to 18.5%