Pique Corporation wants to purchase a new machine for $310,000. Management predi
ID: 2564816 • Letter: P
Question
Pique Corporation wants to purchase a new machine for $310,000. Management predicts that the machine can produce sales of $220,000 each year for the next 5 years. Expenses are expected to include direct materials, direct labor, and factory overhead (excluding depreciation) totaling $85,000 per year. The firm uses straight-line depreciation with no residual value for all depreciable assets. Pique's combined income tax rate is 40.00%. Management requires a minimum after-tax rate of return of 10.00% on all investments. What is the annual book (accounting) rate of return based on the initial investment? 15.6% 13.1% 12.8% 16.1% 14.1%
Explanation / Answer
E. 14.1%
After tax income = (1 - 0.4) × ($220,000 - $62,000 - $85,000) = $43,800
ARR = Annual after-tax earnings / Initial investment outlay = $43,800 / $310,000 = 14.1%