Question

O'Mally Department Stores is considering two possible expansion plans. One proposal involves opening 5 stores in Indiana at the cost of $1,890,000. Under the other proposal, the company would focus on Kentucky and open 6 stores at a cost of $2,500,000. The following information is available: Indiana proposal Kentucky_proposal Required investment $1,890,000 $2,500,000 Estimated life 5 years 5 years Estimated residual value $50,000 $40,000 Estimated annual cash inflows over the next 10 years $700,000 $900,000 Required rate of return 15% 15% The accounting rate of return for the Indiana proposal is closest to (Round any intermediary calculations to the nearest dollar, and round your final answer to the nearest hundredth of a percent, X.XX%.) O A. 37.04%. O B. 34.39%. OC. 16.32%. OD. 17.57%

Answer 1

Solution:

Annual depreciation = (Cost - residual value) / useful life = ($1,890,000 - $50,000)/5 = $368,000

Annual net income = Annual cash inflows - Depreciation = $700,000 - $368,000 = $332,000

Accounting rate of return - Indiana Proposal = Annual net income / Initial investment = $332,000 / $1,890,000 = 17.57%

Hence option D is correct.