PA11-1 Calculating Accounting Rate of Return, Payback Period, Net Present Value,
ID: 2528688 • Letter: P
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:
Initial investment (for two hot air balloons) $ 432,000
Useful life 9 years
Salvage value $ 45,000
Annual net income generated 37,152
BBS’s cost of capital 11 %
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 14 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.)
Explanation / Answer
1. Accounting rate of return = 8.6%
Accounting Rate of return = (Net Income / Initial Investments) * 100
Depreciation = ($432000 - $45000) / 9 = $43,000
Cash Flow = Net Income + Depreciation
= $37,152 + $43,000
= $80,152
Accounting Rate of return = (Net Income / Initial Investments) * 100
= ($37152 / $432000) * 100
= 8.6%
2. Payback period = 5.39 Years
= Initial Investment / cash flow
= $432000 / $80152
= 5.39 Years
3. Net present value (NPV) at 11% = $29,392
= [ $80152 x (PVAF 11%,9 Years) + $45000 x (PVF 11%,9Years) ] - $432000
= [ ($80152x5.5370) + ($45000x0.3909) ] - $432000
=$4,43,802 + $17,590 - $432000
= $29,392 (Rounded)
4. Net present value (NPV) at 14% = - $21698 (Negative)
= [ $80152 x (PVAF 14%,9 Years) + $45000 x (PVF 14%,9Years) ] - $432000
= [ ($80152x4.9464) + ($45000x0.30751 ] - $432000
=$396464 + $13838 - $432000
= - $21698 (Negative) (Rounded)
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