Economics Capital Budgeting Questions
The accounting rate of return (ARR) is a financial metric used to evaluate the profitability of an investment project. It measures the average annual profit generated by an investment as a percentage of the initial investment cost.
The formula to calculate the accounting rate of return is as follows:
ARR = (Average Annual Profit / Initial Investment Cost) x 100
The average annual profit is calculated by subtracting the annual expenses from the annual revenue generated by the investment project. The initial investment cost refers to the total cost incurred to acquire and set up the investment project. The resulting ARR percentage indicates the profitability of the investment, with a higher ARR indicating a more favorable return.