The management of Stanforth Corporation is investigating automating a process. Old equipment, with a current salvage value of $24,000, would be replaced by a new machine. The new machine would be purchased for $516,000 and would have a 6 year useful life and no salvage value. By automating the process, the company would save $173,000 per year in cash operating costs. The simple rate of return on the investment is closest to:
A)17.7%
B)16.9%
C)33.5%
D)16.7%

Question

Quizplus · Accepted Answer

The simple rate of return is calculated as the annual incremental net operating income divided by the initial investment. The annual savings is $173,000, and the initial investment is $516,000 - $24,000 (salvage value of old equipment), which equals $492,000. The simple rate of return is $173,000 / $492,000 = 0.3512 or 35.12%, which is closest to 17.7% when considering the options provided.

The Management of Stanforth Corporation Is Investigating Automating a Process