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Rate of Return Method 97
PW 2 (22%) = – 8,00,000 + 2,70,000 ( P / A , 22%, 5) = – 8,00,000 + 2,70,000 (2.8636) = Rs. –26,
Thus, the rate of return of alternative 2 is
i = 20% +
Since the rate of return of alternative 1 is greater than that of the alternative 2, select alternative 1.
QUESTIONS
1. Consider the following cash flow of a project:
Year 0 1 2 3 4 5 Cash flow –10,000 4,000 4,500 5,000 5,500 6,
Find the rate of return of the project.
2. A person invests a sum of Rs. 2,00,000 in a business and receives equal net revenue of Rs. 50,000 for the next 10 years. At the end of the 10th year, the salvage value of the business is Rs. 25,000. Find the rate of return of the business. 3. A company is in the process of selecting the best alternative among the following three mutually exclusive alternatives:
Alternative Initial Annual revenue Life investment (Rs.) (years) A 1 Rs. 5,00,000 1,00,000 10 A 2 Rs. 8,00,000 1,40,000 10 A 3 Rs. 3,00,000 70,000 10
Find the best alternative based on the rate of return method of comparison.
4. A shipping firm is considering the purchase of a materials handling system for unloading ships at a dock. The firm has reduced their choice to three different systems, all of which are expected to provide the same unloading speed. The initial costs and the operating costs estimated for each system are now tabulated.
98 Engineering Economics
System Initial cost Annual operating expenses S 1 Rs. 6,50,000 Rs. 91, S 2 Rs. 7,80,000 Rs. 52, S 3 Rs. 7,50,000 Rs. 68,
The life of each system is estimated to be five years and the firm’s minimum attractive rate of return is 15%. If the firm must select one of the materials handling systems, which one is the most desirable?.
5. A firm has identified three mutually exclusive alternatives. The life of all three alternatives is estimated to be five years. The minimum attractive rate of return is 12%. Find the best alternative based on the rate of return method.
Alternative A 1 A 2 A 3 Initial investment (Rs.) 2,00,000 2,80,000 3,60, Annual income (Rs.) 52,000 72,000 1,00,
6. An automobile company is planning to buy a robot for its forging unit. It has identified two different companies for the supply of the robot. The details of cost and incremental revenue of using robots are summarized in the following table:
Brand Speedex Giant Initial cost (Rs.) 5,00,000 9,00, Annual incremental revenue (Rs.) 80,000 2,50, Life (years) 8 8 Life-end salvage value (Rs.) 40,000 60,
The minimum attractive return for the company is 12%. Suggest the best brand of robot to the company based on the rate of return method.
7. A bank introduces two different investment schemes whose details are as follows: Find the best investment alternative from the investor’s point of view.
Alpha Bank Beta Bank Deposit amount (Rs.) 1,00,000 2,00, Period of deposit (years) 5 years 3 years Maturity amount (Rs.) 3,00,000 4,50,
