Answered Essay: The management of Ballard MicroBrew is considering the purchase of an automated bottling machine for $61,000. The machine wo

Exercise 13-6 Simple Rate of Return Method [LO13-6] The management of Ballard MicroBrew is considering the purchase of an automated bottling machine for $61,000. The machine would replace an old piece of equipment that costs $15,000 per year to operate. The new machine would cost $6,000 per year to operate. The old machine currently in use is fully depreciated and could be sold now for a scrap value of $20,000. The new machine would have a useful life of 10 yeans with no salvage value. Required: Compute the simple rate of return on the new automated bottling machine. Simple rate of return | | Choose Denominator: . Simple Rate of Return | Simple rate of return Choose Numerator:

The management of Ballard MicroBrew is considering the purchase of an automated bottling machine for $61,000. The machine would replace an old piece of equipment that costs $15,000 per year to operate. The new machine would cost $6,000 per year to operate. The old machine currently in use is fully depreciated and could be sold now for a scrap value of $20,000. The new machine would have a useful life of 10 years with no salvage value. Compute the simple rate of return on the new automated bottling machine.

Expert Answer

 

Answer: 7.07%
Workings and explanation:
The project is a cost reduction replacement project. The cash flows are to be worked out on incremental basis.
Annual incremental net operating income:
Annual operating cost of old machine 15000
Less: Annual operating cost of new machine 6000
Less: Annual depreciation of new machine (61000/10) 6100
Annual incremental net operating income 2900
Cost of the new machine 61000
Less: Scrap value of old machine 20000
Incremental initial investment 41000
Numerator /Denominator = Simple rate of return
Annual incremental net operating income Incremental initial investment = Simple rate of return
2900 /41000 = 7.07%
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