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 $88,000 with a $8,000 residual value and a ten-year life. The equipment will replace one employee who has an average wage of $18,000 per year. In addition, the equipment will have operating and energy costs of $4,240 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

Calculate average rate of return :

Average rate of return = Annual saving*100/average investment

Average investment = (88000+8000)/2 = 48000

Straight line dep = (88000-8000)/10 = 8000

Annual saving = (18000-8000-4240) = 5760 per year

Average rate of return = 5760*100/48000 = 12%

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