PA11-1 Calculating Accounting Rate of Return, Payback Period, Net Present Value,

Question

PA11-1 Calculating Accounting Rate of Return, Payback Period, Net Present Value, Estimating Internal Rate of Return [LO 11-1, 11-2, 11-3, 11-4]

Balloons By Sunset (BBS) is considering the purchase of two new hot air balloons so that it can expand its desert sunset tours. Various information about the proposed investment follows:  

Assume straight line depreciation method is used.
  

Required:
Help BBS evaluate this project by calculating each of the following:  

1. Accounting rate of return. (Round your answer to 1 decimal place.)

        

2. Payback period. (Round your answer to 2 decimal places.)

         

3. Net present value (NPV). (Future Value of $1, Present Value of $1, Future Value Annuity of $1, Present Value Annuity of $1.) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Negative amount should be indicated by a minus sign. Round the final answer to nearest whole dollar.)

         

4. Recalculate the NPV assuming BBS's cost of capital is 13 percent. (Future Value of $1, Present Value of $1, Future Value Annuity of $1, Present Value Annuity of $1.) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Negative amount should be indicated by a minus sign. Round the final answer to nearest whole dollar.)

    

Initial investment (for two hot air balloons) $ 437,000 Useful life 9 years Salvage value $ 41,000 Annual net income generated 39,767 BBS’s cost of capital 10 %

Explanation / Answer

1. Accounting rate of return = 9.1%

Accounting Rate of return = (Cash Flow / Initial Investments) * 100

Depreciation = ($437000 - $41000) / 9 = $44000

Cash Flow = Net Income + Depreciation

                   = $39767 + $44000

                   = $83,767

Accounting Rate of return       = ($39767 / $437000) * 100

                                                = 9.1 %

2. Payback period = 5.22 Years

= Initial Investment / cash flow

= $437000 / $83767

= 5.22 Years

3. Net present value (NPV) = $62,804

= [ $83767 x (PVAF 10%,9 Years) + $41000 x (PVF 10%,9Years) ] - $437000

= [ ($83767x5.7590) + ($41000x0.4241) ] - $437000

=$482416 + $17388 - $437000

= $62,804

4. Net present value (NPV) = $6,512

= [ $83767 x (PVAF 13%,9 Years) + $41000 x (PVF 13%,9Years) ] - $437000

= [ ($83767x5.1317) + ($41000x0.3329) ] - $437000

= $429864 + $13648 - $437000

= $6512

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