
Concept explainers
a.
Ascertain the payback period and unadjusted rate of
a.

Explanation of Solution
The annual
The annual rate of return is the amount of income which is earned over the life of the investment. It is used to measure the annual income as a percent of the annual investment of the business, and it is also known as the accounting rate of return.
The annual rate of return is computed as follows:
Payback period:
Payback period is the expected time period which is required to recover the cost of investment. It is one of the capital investment method used by the management to evaluate the proposal of long-term investment (fixed assets) of the business.
Ascertain the payback period for each alternative as follows:
Alternative 1:
Alternative 2:
Ascertain the unadjusted rate of return for each alternative as follows:
Alternative 1:
Alternative 2:
Working note:
Calculate the amount of
Particulars | Alternative 1 | Alternative 2 |
Cash revenue | 50,000 | $85,000 |
Less: Cash expenses | 28,000 | 47,000 |
Amortization expense | 15,000 (4) | |
20,000 (5) | ||
Income before tax | 7,000 | 18,000 |
Income tax expense | 1,750(2) | 4,500 (3) |
Net Income | 5,250 | 13,500 |
Add: Amortization expense | 15,000 | |
Add: Depreciation expense | 20,000 | |
Cash flow per year | 20,250 | 33,500 |
Table (1)
…… (1)
Calculate the amount of income tax expense for alternative 1:
…… (2)
Calculate the amount of income tax expense for alternative 2:
…… (3)
Calculate the amount of amortization expense for alternative 1:
…… (4)
Calculate the amount of depreciation expense for alternative 2:
…… (5)
b.
Indicate the investment alternative that is recommendable and explain the reason behind it.
b.

Explanation of Solution
Indicate the investment alternative that is recommendable and explain the reason behind it as follows:
From the above calculation it is clear that alternative 2 appears better than alternative 1. This is because alternative 2 has a shorter payback period and higher unadjusted rate of return, while alternative 1 has a higher payback period and shorter unadjusted rate of return.
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Chapter 10 Solutions
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