The directors of Hybrid Ltd intend expanding the company and they have the choice of investing in one of two projects at the start of 2025 viz. Project A or Project B. Each project is expected to have a five-year life, with only Project A having a residual/scrap value of R300 000. The annual cash inflows from each project are estimated at R3 100 000. The company desires a minimum rate of return of 14%. 
Project A is anticipated to cost R4 800 000 excluding R300 000 for installation. The annual cash outflows are estimated to be R1 300 000 for year one. These cash outflows are expected to increase by R100 000 per year thereafter. Depreciation is estimated to be R960 000 per year. 
Project B cost is expected to cost R5 100 000 including R400 000 for installation. The annual cash outflows are estimated to be R1 500 000. Depreciation is estimated to be R1 020 000 per year. 
Refer to the investment opportunities for 2025 and calculate the following. Ignore taxes. Use only the four decimals present value tables that appear after question 2.3.
2.1	Accounting Rate of Return on average investment of Project B (expressed to two decimal places). Note: Profit per year = Net cash flow per year – Depreciation per year (5 marks)


To calculate the Accounting Rate of Return (ARR) on average investment for Project B, we need to follow these steps:

1. **Determine the Net Cash Flow per Year:**

   \[
   \text{Net Cash Flow} = \text{Annual Cash Inflows} - \text{Annual Cash Outflows}
   \]

   For Project B:

   \[
   \text{Net Cash Flow} = R3,100,000 - R1,500,000 = R1,600,000
   \]

2. **Determine the Profit per Year:**

   \[
   \text{Profit per Year} = \text{Net Cash Flow} - \text{Depreciation}
   \]

   For Project B:

   \[
   \text{Profit per Year} = R1,600,000 - R1,020,000 = R580,000
   \]

3. **Calculate the Average Investment:**

   The average investment is calculated by taking the average of the initial investment and the residual value (if any). Since Project B does not have a residual value, the average investment is calculated as:

   \[
   \text{Average Investment} = \frac{\text{Initial Investment} + \text{Residual Value}}{2}
   \]

   For Project B:

   \[
   \text{Average Investment} = \frac{R5,100,000 + 0}{2} = R2,550,000
   \]

4. **Calculate the Accounting Rate of Return (ARR):**

   \[
   \text{ARR} = \frac{\text{Profit per Year}}{\text{Average Investment}} \times 100
   \]

   For Project B:

   \[
   \text{ARR} = \frac{R580,000}{R2,550,000} \times 100 \approx 22.75\%
   \]

So, the Accounting Rate of Return (ARR) on average investment of Project B is **22.75%**.

---

Do you need further details or have any other questions? Here are some related questions you might consider:

1. What is the Net Present Value (NPV) of Project B given the minimum rate of return?
2. How do the cash outflows in Project A affect its profitability over time?
3. What is the impact of the depreciation method on the ARR of Project A?
4. How would the ARR change for Project B if the installation cost increased?
5. What are the implications of the residual value in Project A for long-term financial planning?

**Tip:** ARR is useful for comparing profitability but doesn't account for the time value of money, unlike methods like NPV or IRR.

Learn how to calculate the Accounting Rate of Return (ARR) for Project B in 2025. This problem involves analyzing investment options, calculating net cash flows, determining profitability, and applying financial analysis techniques. Explore detailed calculations with specific financial data.

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