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A company is considering the purchase of a piece of equipment costing $120,000 that would save
$30,000 each year for five years. The equipment could be sold at the end of its useful life for $15,000.
How to calculate return on investment?we know, ROI=(Annual return/Cost of investment) * 100
Here depreciation; 120000-15000/5 =21000
so in this case ROI will be; (30000-21000/120000-15000)*100 = 8.57%
My question is; is my calculation wrong? if wrong, then what will be the right answer?
Do we consider the Cost of investment as the initial cost (i.e 120000) or Cost – Sales value (i.e 105000)Why are you attempting a question for which you do not have an answer? You should be using a Revision Kit from one of the ACCA Approved Publishers – they have answers and explanations!
For Paper PM, the return on investment is calculated each year and therefore changes each year. Questions in the exam ask for it to be calculated just for one year and use either the opening book value, or the closing book value, or the average book value of the asset depending on the wording of the question.
(In paper FM you can be asked for the ARR which is effectively the same, but is calculated as an average and for your question would be the average profit of 30,000 – 21,000, expressed as a % of the average investment which is (120,000 + 15,000) / 2 )
I can’t understand the calculation of average investment cost. why the disposal price is added with 120000? and why the sum divided by 2?
average investment cost= initial cost+disposal price/2 !!!!!!
whats the explanation of this formula?
The value on the SOFP is falling each year because of depreciation.
It is 120,000 at the start and 15,000 at the end.
Therefore the average over the period is the average of the two.
I do explain this in detail in my free lectures on investment appraisal.
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