Calculate the accounting rate of return

Reference no: EM133164276

Investment Appraisal

Task 1

BeautsLtd is a company which manufactures cosmetics which it sells on to the main high street retailers. Historically the containers for all its beauty products have been made from plastic, but this is increasingly gaining bad publicity due to its environmental impact. The company is currently considering expanding its operation and producing a new product, a lipstick in a biodegradable container called "Eco-Tint".

The owners of the business want you to evaluate the "Eco-Tint" against an alternative project, the production of a blusher in a biodegradable container. This alternative product is called "Eco-Blush". The two projects are mutually exclusive and only one of them will be undertaken by the business.

Eco-Tint

To produce the "Eco-Tint" the company needs to invest in some new machinery. The new machinery is expected to cost £1,000,000. Full payment for the machinery needs to be made on delivery/installation. At the end of the 5-year period the machinery will be sold back to the supplier for £50,000.

Year	Estimated cash income
1	300,000
2	320,000
3	350,000
4	320,000
5	250,000

Eco-Blush

To produce the "Eco-Blush" the company needs to invest in some new, different, machinery. The new machinery is expected to cost £800,000. Full payment for the machinery needs to be made on delivery/installation. At the end of the 5-year period the machinery will be sold back to the supplier for £20,000.

Year	Estimated cash income
1	200,000
2	200,000
3	220,000
4	300,000
5	400,000

The company is using a straight-line depreciation method. The owners of the business require at least 20% returnon any project. They require payback of any investment within 4 years.

Required

1. Calculate the Accounting Rate of Return (ARR) and the Payback Period for both investment projects

2. What would be your recommendation to the business about the investment?

Reference no: EM133164276

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