{"id":768,"date":"2018-04-19T23:01:25","date_gmt":"2018-04-19T23:01:25","guid":{"rendered":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/?post_type=chapter&#038;p=768"},"modified":"2024-04-29T17:40:03","modified_gmt":"2024-04-29T17:40:03","slug":"simple-rate-of-return","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/chapter\/simple-rate-of-return\/","title":{"raw":"Simple Rate of Return","rendered":"Simple Rate of Return"},"content":{"raw":"<div class=\"textbox learning-objectives\">\r\n<h3>Learning Outcomes<\/h3>\r\n<ul>\r\n \t<li>Describe the simple rate of return method<\/li>\r\n<\/ul>\r\n<\/div>\r\nThe simple rate of return is calculated by taking the annual incremental net operating income and dividing by the initial investment. When calculating the annual incremental net operating income, we need to remember to reduce by the depreciation expense incurred by the investment.\r\n<div class=\"textbox examples\">\r\n<h3>Watch IT<\/h3>\r\n<iframe src=\"\/\/plugin.3playmedia.com\/show?mf=6481481&amp;p3sdk_version=1.10.1&amp;p=20361&amp;pt=375&amp;video_id=ufyzH8AlIsc&amp;video_target=tpm-plugin-rixd5yst-ufyzH8AlIsc\" width=\"800px\" height=\"450px\" frameborder=\"0\" marginwidth=\"0px\" marginheight=\"0px\"><\/iframe>\r\n\r\n<\/div>\r\nLet\u2019s take a look at an example.\r\n\r\nHupana Running Company is looking at adding a stitcher that will add $40,000 to the revenues of the company per year. The incremental (additional) cash operating expenses of this piece of equipment would be $5,000 per year, and the equipment has a cost of $100,000 with a 5 year life and no salvage value. So let\u2019s pop these numbers into the formula:\r\n<table style=\"border-collapse: collapse; width: 100%;\" border=\"1\">\r\n<thead>\r\n<tr>\r\n<th style=\"width: 100%; text-align: center;\" colspan=\"2\">Hupana Running Company\u2014Stitcher Purchase<\/th>\r\n<\/tr>\r\n<\/thead>\r\n<tbody>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental revenue<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$40,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental operating expense<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$5,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual depreciation ($100,000\/5 years)<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$20,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental expenses<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$25,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental net operating income\/(loss)<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$15,000<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\n<div>\r\n\r\nSo the simple rate of return would be: annual incremental net operating income\/ initial investment cost\r\n\r\n$15,000\/$100,000= 15% simple rate of return\r\n\r\nSo it looks like the stitcher would be a good investment! \u00a0What if we change up the numbers a bit. The stitcher will still add the $40,000 to revenues, but will add $10,000 to annual operating costs and only have a useful life of three years.\r\n<table style=\"border-collapse: collapse; width: 100%;\" border=\"1\">\r\n<thead>\r\n<tr>\r\n<th style=\"width: 100%; text-align: center;\" colspan=\"2\">Hupana Running Company\u2014Stitcher Purchase<\/th>\r\n<\/tr>\r\n<\/thead>\r\n<tbody>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental revenue<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$40,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental operating expense<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$10,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual depreciation ($100,000\/ years)<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\">$33,333<\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental expenses<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\"><span style=\"text-decoration: underline;\">$43,333<\/span><\/td>\r\n<\/tr>\r\n<tr>\r\n<td style=\"width: 74.4%;\">Annual incremental net operating income\/(loss)<\/td>\r\n<td style=\"width: 25.6%; text-align: right;\"><em>\u2212$3,333<\/em><\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nWe now have a negative rate of return, so would probably pass on making this purchase. This brings home the point of how important it can be to know your numbers and do your research! Also noting, a small difference, can make a huge difference in the decision to make a capital budgeting decision, so as a manager, be clear on your information and perhaps use several of the available methods before making a final decision or before taking your analysis to your supervisor!\r\n\r\n<\/div>\r\n<div class=\"textbox tryit\">\r\n<h3>Practice Questions<\/h3>\r\nhttps:\/\/assess.lumenlearning.com\/practice\/91390f3d-640a-4782-9c1e-58fdb6efb023\r\n\r\n<\/div>\r\n<div class=\"textbox key-takeaways\">\r\n<h3>Learn More<\/h3>\r\nFor additional practice look at this exercise <a href=\"https:\/\/www.accountingformanagement.org\/exercise-12-cbt\/\" target=\"_blank\" rel=\"noopener\">on the simple rate of return method<\/a>.\r\n\r\n<\/div>","rendered":"<div class=\"textbox learning-objectives\">\n<h3>Learning Outcomes<\/h3>\n<ul>\n<li>Describe the simple rate of return method<\/li>\n<\/ul>\n<\/div>\n<p>The simple rate of return is calculated by taking the annual incremental net operating income and dividing by the initial investment. When calculating the annual incremental net operating income, we need to remember to reduce by the depreciation expense incurred by the investment.<\/p>\n<div class=\"textbox examples\">\n<h3>Watch IT<\/h3>\n<p><iframe loading=\"lazy\" src=\"\/\/plugin.3playmedia.com\/show?mf=6481481&amp;p3sdk_version=1.10.1&amp;p=20361&amp;pt=375&amp;video_id=ufyzH8AlIsc&amp;video_target=tpm-plugin-rixd5yst-ufyzH8AlIsc\" width=\"800px\" height=\"450px\" frameborder=\"0\" marginwidth=\"0px\" marginheight=\"0px\"><\/iframe><\/p>\n<\/div>\n<p>Let\u2019s take a look at an example.<\/p>\n<p>Hupana Running Company is looking at adding a stitcher that will add $40,000 to the revenues of the company per year. The incremental (additional) cash operating expenses of this piece of equipment would be $5,000 per year, and the equipment has a cost of $100,000 with a 5 year life and no salvage value. So let\u2019s pop these numbers into the formula:<\/p>\n<table style=\"border-collapse: collapse; width: 100%;\">\n<thead>\n<tr>\n<th style=\"width: 100%; text-align: center;\" colspan=\"2\">Hupana Running Company\u2014Stitcher Purchase<\/th>\n<\/tr>\n<\/thead>\n<tbody>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental revenue<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$40,000<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental operating expense<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$5,000<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual depreciation ($100,000\/5 years)<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$20,000<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental expenses<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$25,000<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental net operating income\/(loss)<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$15,000<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<div>\n<p>So the simple rate of return would be: annual incremental net operating income\/ initial investment cost<\/p>\n<p>$15,000\/$100,000= 15% simple rate of return<\/p>\n<p>So it looks like the stitcher would be a good investment! \u00a0What if we change up the numbers a bit. The stitcher will still add the $40,000 to revenues, but will add $10,000 to annual operating costs and only have a useful life of three years.<\/p>\n<table style=\"border-collapse: collapse; width: 100%;\">\n<thead>\n<tr>\n<th style=\"width: 100%; text-align: center;\" colspan=\"2\">Hupana Running Company\u2014Stitcher Purchase<\/th>\n<\/tr>\n<\/thead>\n<tbody>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental revenue<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$40,000<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental operating expense<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$10,000<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual depreciation ($100,000\/ years)<\/td>\n<td style=\"width: 25.6%; text-align: right;\">$33,333<\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental expenses<\/td>\n<td style=\"width: 25.6%; text-align: right;\"><span style=\"text-decoration: underline;\">$43,333<\/span><\/td>\n<\/tr>\n<tr>\n<td style=\"width: 74.4%;\">Annual incremental net operating income\/(loss)<\/td>\n<td style=\"width: 25.6%; text-align: right;\"><em>\u2212$3,333<\/em><\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<p>We now have a negative rate of return, so would probably pass on making this purchase. This brings home the point of how important it can be to know your numbers and do your research! Also noting, a small difference, can make a huge difference in the decision to make a capital budgeting decision, so as a manager, be clear on your information and perhaps use several of the available methods before making a final decision or before taking your analysis to your supervisor!<\/p>\n<\/div>\n<div class=\"textbox tryit\">\n<h3>Practice Questions<\/h3>\n<p>\t<iframe id=\"assessment_practice_91390f3d-640a-4782-9c1e-58fdb6efb023\" class=\"resizable\" src=\"https:\/\/assess.lumenlearning.com\/practice\/91390f3d-640a-4782-9c1e-58fdb6efb023?iframe_resize_id=assessment_practice_id_91390f3d-640a-4782-9c1e-58fdb6efb023\" frameborder=\"0\" style=\"border:none;width:100%;height:100%;min-height:300px;\"><br \/>\n\t<\/iframe><\/p>\n<\/div>\n<div class=\"textbox key-takeaways\">\n<h3>Learn More<\/h3>\n<p>For additional practice look at this exercise <a href=\"https:\/\/www.accountingformanagement.org\/exercise-12-cbt\/\" target=\"_blank\" rel=\"noopener\">on the simple rate of return method<\/a>.<\/p>\n<\/div>\n\n\t\t\t <section class=\"citations-section\" role=\"contentinfo\">\n\t\t\t <h3>Candela Citations<\/h3>\n\t\t\t\t\t <div>\n\t\t\t\t\t\t <div id=\"citation-list-768\">\n\t\t\t\t\t\t\t <div class=\"licensing\"><div class=\"license-attribution-dropdown-subheading\">CC licensed content, Original<\/div><ul class=\"citation-list\"><li>Simple Rate of Return. <strong>Authored by<\/strong>: Freedom Learning Group. <strong>Provided by<\/strong>: Lumen Learning. <strong>License<\/strong>: <em><a target=\"_blank\" rel=\"license\" href=\"https:\/\/creativecommons.org\/licenses\/by\/4.0\/\">CC BY: Attribution<\/a><\/em><\/li><\/ul><div class=\"license-attribution-dropdown-subheading\">All rights reserved content<\/div><ul class=\"citation-list\"><li>Accounting Rate of Return or ARR explained. <strong>Authored by<\/strong>: Finance &amp; Accounting Videos by Prof Coram. <strong>Located at<\/strong>: <a target=\"_blank\" href=\"https:\/\/youtu.be\/ufyzH8AlIsc\">https:\/\/youtu.be\/ufyzH8AlIsc<\/a>. <strong>License<\/strong>: <em>All Rights Reserved<\/em>. <strong>License Terms<\/strong>: Standard YouTube License<\/li><\/ul><\/div>\n\t\t\t\t\t\t <\/div>\n\t\t\t\t\t <\/div>\n\t\t\t <\/section>","protected":false},"author":62559,"menu_order":10,"template":"","meta":{"_candela_citation":"[{\"type\":\"original\",\"description\":\"Simple Rate of Return\",\"author\":\"Freedom Learning Group\",\"organization\":\"Lumen Learning\",\"url\":\"\",\"project\":\"\",\"license\":\"cc-by\",\"license_terms\":\"\"},{\"type\":\"copyrighted_video\",\"description\":\"Accounting Rate of Return or ARR explained\",\"author\":\"Finance & Accounting Videos by Prof Coram\",\"organization\":\"\",\"url\":\"https:\/\/youtu.be\/ufyzH8AlIsc\",\"project\":\"\",\"license\":\"arr\",\"license_terms\":\"Standard YouTube License\"}]","CANDELA_OUTCOMES_GUID":"306102d8-8943-4c52-867a-7d1f747fbe78, 6be48ff2-4c5e-451d-90c5-46bd5cfd7256","pb_show_title":"on","pb_short_title":"","pb_subtitle":"","pb_authors":[],"pb_section_license":""},"chapter-type":[],"contributor":[],"license":[],"class_list":["post-768","chapter","type-chapter","status-publish","hentry"],"part":114,"_links":{"self":[{"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/chapters\/768","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/chapters"}],"about":[{"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/wp\/v2\/types\/chapter"}],"author":[{"embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/wp\/v2\/users\/62559"}],"version-history":[{"count":12,"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/chapters\/768\/revisions"}],"predecessor-version":[{"id":4187,"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/chapters\/768\/revisions\/4187"}],"part":[{"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/parts\/114"}],"metadata":[{"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/chapters\/768\/metadata\/"}],"wp:attachment":[{"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/wp\/v2\/media?parent=768"}],"wp:term":[{"taxonomy":"chapter-type","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/pressbooks\/v2\/chapter-type?post=768"},{"taxonomy":"contributor","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/wp\/v2\/contributor?post=768"},{"taxonomy":"license","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-accountingformanagers\/wp-json\/wp\/v2\/license?post=768"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}