Question

Play Life Products is considering producing toy action figures and sandbox toys. The products require different specialized machines, each costing $1 million. Each machine has a five-year life and zero residual value. The two products have different patterns of predicted net cash inflows. (Click the icon to view the data.) Calculate the toy action figure project's ARR. If the toy action figure project had a residual value of $225,000, would the ARR change? Explain and recalculate if necessary. Does this investment pass Play Life's ARR screening rule? First, enter the formula, then compute the ARR of the toy action figure project. (Enter amounts in dollars, not millions. Enter your answer as a percent rounded to two decimal places.) Accounting rate of return i Data Table - X 1 = Annual Net Cash Inflows Year Toy action Sandbox toy figure project project 1. .............. $ 428,750 $ 525,000 428,750 390,000 428,750 330,000 ......... 428,750 275,000 428,750 50,000 5. ... 2,143,750 $ 1,570,000 Total Play Life will consider making capital investments only if the payback period of the project is less than 3.5 years and the ARR exceeds 8%. Print Done

Answer 1

Solution:

Accounting rate of return = Annual net income / Initial investment

Annual net income = Annual cash inflows - Depreciation = $428,750 - ($1,000,000 / 5) = $228,750

Accounting rate of return of Toy action project = $228,750 / $1,000,000 = 22.88%

If residual value is $225,000 then

Annual depreciation = ($1,000,000 - $225,000) / 5 = $155,000

Annual net income = $428,750 - $155,000 = $273,750

Accounting rate of return of Toy action project = $273,750 / $1,000,000 = 27.38%

Yes ARR would change if residual value changes.

Yes, this investment pass Play life ARR screening rule.