Average Rate of return Method (ARR)
ARR is considered to be an improvement over the PB method for it considers the earnings of a project during its entire economic life. It is also known as ‘Return on investment method’.
Average earnings or return
ARR = ————————————————– x 100
The average return is computed by adding all the earnings after depreciation, and dividing them by the project’s economic life. Average investment is the simple average of the values of assets at the beginning and end of the useful life of the asset which in most cases, Would be zero. Though sometimes initial investment is used, average investment is more logical.
Selection Criteria: The decision rule is that a project with the highest rate of return on investment is selected on condition that such rate is above the standard rate set, or the cut-off rate.
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