Chapter 26, Problem 26.14EX

a.

To determine

Average rate of return method:

Average rate of return is the amount of income which is earned over the life of the investment. It is used to measure the average income as a percent of the average investment of the business, and it is also known as the accounting rate of return.

The average rate of return is computed as follows:

$\text{Average rate of return =}\frac{\text{Estimated average annual income}}{\text{Average investment}}$

Cash payback method:

Cash 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 long-term investment (fixed assets) of the business.

In simple, the cash payback period is computed as follows:

$\text{Cash payback period =}\frac{\text{Initial cost}}{\text{Annual net cash inflow}}$

Net present value method:

Net present value method is the method which is used to compare the initial cash outflow of investment with the present value of its cash inflows. In the net present value, the interest rate is desired by the business based on the net income from the investment, and it is also called as the discounted cash flow method.

To determine: The average rate of return on the equipment.

b.

To determine

The cash payback period for the equipment.

(c)

To determine

To calculate: The net present value of the investment.