The following information pertains to questions 13 through 17 Buchanan enterpris

Question

The following information pertains to questions 13 through 17

Buchanan enterprises is considering investing in a machine that costs $400,000. The machine expected to generate revenues of $175,000 per year for five years. The machine would be depreciated using the straight line method over its five year life and have no salvage value company has a 40 percent income tax rate and desires a rate of return of 10 percent on its capital investments.

13) The internal rate of return of the machine is:

a) Greater than 20%

b) Between 18% and 20%

c) Between 16% and 18%

d) Less than 16%

14. The accounting rate of return of the machine is (round your answer to two decimal places)

a) 11.25%

b) 12.25%

c) 13.25%

d) 14.25%

15. The pay period of the machine is(round your answer to 2 decimal places)

a) 2.82 yrs

b) 2.92 yrs

c) 3.02 yrs

d) 3.12 yrs

16. The net present value of the machine is

a) $179,992

b) $(13,338)

c) $119,367

d) $ (1,966)

17) The profitability index of the machine is(round your answer to two decimal places)

a) 1.10

b) 1.20

c) 1.30

d) 1.40

Explanation / Answer

13)d

14)a

15)b) 2.92 yrs

16)c) $119,367

17)b) 1.20

Accounting rate of return(ARR) = Averagenet income/ Average investment

Whereby,

Average net income = $2,850

Average investment = (Book valueat beginning of year 1 + Book value at end of useful life) / 2
Book value at beginning of year 1 is your purchase price, which is $60,000.
Book value at end of useful life is the residual value, which is $0.
Therefore, average investment = ($60,000 + $0) / 2 = $30,000

Insert the above values into ARR formula,
ARR = Average net income / Average investment = $2,850 / $30,000 = 9.5%

Using Excel and summing over $61,000/(1+r)^t for t=1...9 I find 9.00% for r.

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