Question

Nick’s Novelties, Inc., is considering the purchase of new electronic games to place in its amusement houses. The games would cost a total of $332,000, have a fifteen-year useful life, and have a total salvage value of $33,200. The company estimates that annual revenues and expenses associated with the games would be as follows:

Revenues				$	280,000
Less operating expenses:
Commissions to amusement houses	$	80,000
Insurance		57,000
Depreciation		19,920
Maintenance		60,000			216,920
Net operating income				$	63,080

Garrison 16e Rechecks 2017-05-22

2a. Compute the simple rate of return promised by the games.

2b. If the company requires a simple rate of return of at least 12%, will the games be purchased?

Answer 1

Answer 2a.

Simple rate of return = Net operating income / Purchase cost of electronic games

= $63,080 / $332,000

= 19 %.

Answer 2b. Yes , the games be purchased

Explanation: Since  simple rate of return promised by the games ie 19 % is more than the company requirement of a simple rate of return of at least 12%. It is advisable to purchase the games.