Average Rate of Return—Cost Savings Midwest Fabricators Inc. is considering an i

Question

Average Rate of Return—Cost Savings

Midwest Fabricators Inc. is considering an investment in equipment that will replace direct labor. The equipment has a cost of $111,000 with a $10,000 residual value and a ten-year life. The equipment will replace one employee who has an average wage of $26,945 per year. In addition, the equipment will have operating and energy costs of $5,350 per year.

Determine the average rate of return on the equipment, giving effect to straight-line depreciation on the investment. If required, round to the nearest whole percent.
%

Explanation / Answer

Calculation of Incremental Profit: Savings in Direct Labor Cost     26,945.00 Operating & Energy Cost     (5,350.00) Depreciation - ($111,000 - $10,000) / 10 Years (10,100.00) Annual net Income     11,495.00 Average Rate of Return = Average Net Income / Intial Investment Average Rate of Return = $11,495 / $111,000 Average Rate of Return = 10.36% (Approx.)

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