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Herts & Co Ltd is considering a project to purchase a travel agency, for which the initial outlay would cost £ 200,000 , where scrap value is zero. Herts & Co Ltd's cost of capital is currently 12 % . Discount Factors at 12 % Year 1 & 0.893 Year 2 & 0.797 Year 3 & 0.712 Year 4. & 0.636 Year 5 & 0.567 The anticipated cash inflows and profits over the next 5 years are forecast as follows: Years & Cashflows £ & Profit £ 1 & 65,000 & 55,000 2 & 75,000 & 65,000 3 & 70,000 & 60,000 4 & 60,000 & 50,000 5 & 48,000 & 38,000 Using the formula for ARR below, which of the following options is the correct answer for ARR (Accounting rate of return)? - ARR = Average annual profit times 100 %

Question

Herts & Co Ltd is considering a project to purchase a travel agency, for which the initial outlay would cost £ 200,000 , where scrap value is zero. Herts & Co Ltd's cost of capital is currently 12 % .
Discount Factors at 12 % 

Year 1 & 0.893 
Year 2 & 0.797 
Year 3 & 0.712 
Year 4. & 0.636 
Year 5 & 0.567

The anticipated cash inflows and profits over the next 5 years are forecast as follows:

Years & Cashflows £ & Profit £ 
1 & 65,000 & 55,000 
2 & 75,000 & 65,000 
3 & 70,000 & 60,000 
4 & 60,000 & 50,000 
5 & 48,000 & 38,000

Using the formula for ARR below, which of the following options is the correct answer for ARR (Accounting rate of return)?
- ARR = Average annual profit times 100 %

Herts & Co Ltd is considering a project to purchase a travel agency, for which the initial outlay would cost £ 200,000 , where scrap value is zero. Herts & Co Ltd's cost of capital is currently 12 % . Discount Factors at 12 % Year 1 & 0.893 Year 2 & 0.797 Year 3 & 0.712 Year 4. & 0.636 Year 5 & 0.567 The anticipated cash inflows and profits over the next 5 years are forecast as follows: Years & Cashflows £ & Profit £ 1 & 65,000 & 55,000 2 & 75,000 & 65,000 3 & 70,000 & 60,000 4 & 60,000 & 50,000 5 & 48,000 & 38,000 Using the formula for ARR below, which of the following options is the correct answer for ARR (Accounting rate of return)? - ARR = Average annual profit times 100 %

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Answer

## Step1:<br />Sum of annual net profits: \(£55,000 + £65,000 + £60,000 + £50,000 + £38,000 = £268,000\)<br /><br />## Step2:<br />The average annual profit, \(AEP = \frac{£268,000 }{5} = £53,600 \)<br /> <br />## Step3 and 4: <br />Substitute the given values to the formula of ARR:<br />Substituting values into the formula give: <br />ARR\(= \frac{£53,600}{£200,000} \times 100\% = 26.8\% \)<br /><br />The Accounting Rate of Return (ARR) for the project is **26.8%**.

Explain

## Step1: <br />The first step in computing the Accounting Rate of Return is to calculate the average annual profit. From the provided data, the annual net profits are given: \(£55,000\), \(£65,000\), \(£60,000\), \(£50,000\), and \(£38,000\) for years 1 through 5 respectively. <br /><br />## Step2: <br />We now find the average profit by adding up all the annual net profits and divide by the number of years. <br /><br />## Step3: <br />Next, we use the formula for ARR. The ARR is computed by dividing the average annual profit by the initial investment and then changes that number into percentage form. <br /><br />## Step4: <br />The second part of the ARR formula specifies that initial investment is £200,000. <br /><br /># LaTeX formatting:<br /><br />### The formula for average annual profit: \(\frac{£55,000 + £65,000 + £60,000 + £50,000 + £38,000 }{5}\)<br />### The formula Accounting Rate of Return is : \(ARR= \frac{AEP}{INITIAL INVESTMENT} \times 100\% \)
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