Question

Spacely Sprockets Inc is a new start-up evaluating a new project. They worry that they don't have all the requisite operating information they will need to estimate Cash Flows From Assets and that they wouldn't be able to evaluate this project based on NPV and IRR (which both use the CFFA's to evaluate). Instead they have decided to use the Average Accounting Return (AAR) rule to evaluate the project. What is the AAR for this project? (Enter your answer as a percentage and Round to 2 decimals)

Accounting Info for Spacely Sprockets

	Net Income	Book Value of Assets
Year 1	64,000	556,000
Year 2	42,000	702,000
Year 3	110,000	508,000

Answer 1

Average Accounting return:

Average accounting return is used to estimate the value of th project. It's sometimes referred as accounting rate of return and is designed to help business owners decide if a project is worthwhile.To calculate it, you would work out the average operating profits before interest and taxes but after depreciation, and divide this by the book value of the average amount invested. It is expressed as a percentage.

Average accounting return = average accounting profits/a average book value of the assets*100

Average  accounting profits = 64000+42000+110000/3

= 72000

Average book value of assets = 556000+702000+508000/3

=588667

Average accounting return = 72000/588667*100

= 12.23%