Calculate the accrual accounting rate of return

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Reference no: EM13794902

Cassaro Corp. is considering building a new facility to extract natural gas, process the natural gas, and distribute it to buyers. Building such a facility is extremely complicated and time-consuming. Construction is anticipated to begin in July 2015. During 2015 Cassaro is expected to spend $1,000,000 in cash expenditures toward the new facility. The factory will take 5-1/2 years to complete, with cash expenditures of $2,000,000 in 2016, and $2,000,000, $$1,000,000, $1,000,000, and $500,000 in the subsequent years. The facility is expected to have a 15-year life (staring when the facility begins production) with a residual value of $1,500,000, and will be depreciated on a straight-line basis. The new facility will go online the year after the last cash expenditure is made, and cash flows from sales are anticipated to be $3,000,000 in the first two years of operation $5,000,000 for the next three years, $4,000,000 for the following five years, and $2,000,000 for the last five years of the estimated life. Operating expenses are expected to be $1,500,000 for each ear the facility operates. An additional capital expenditure of $500,000 cash will be required in the fifth and tenth year the facility is in operation. Cassaro has an effective tax rate of 30% and a required rate of return of 8%.

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Question

1. Excluding the additional capital expenditures required in fifth and tenth years of operation, what is the payback period on this investment?

2. Calculate the accrual accounting rate of return using the new initial investment as the denominator.

Reference no: EM13794902

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