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Notation: ROR = rate of return of a cash flow (sometimes denoted i* )
ROR is the interest rate that results in equivalent benefits equal to equivalent costs.
One of two decision criteria should be used when performing rate of return analysis, as follows:
|Only one investment alternative is under consideration||Invest in the alternative if its ROR is greater than or equal to the MARR. Otherwise do not invest in the alternative.|
|Two or more investment alternatives are under consideration||Perform incremental ROR analysis. At each step, choose the higher cost alternative if the incremental ROR is greater than or equal to the MARR. Otherwise choose the lower cost alternative.|
Example: An investment proposal is presented to an investor with a MARR of 15%. The ROR of the investment is 27.1%. Should the investor accept the proposal and make the investment?
Yes, the proposal should be accepted because ROR = 27.1% > MARR = 15%.
There is onlyone question here; issues related to incremental analysis will be covered later in this chapter.
Return to Rate of return analysis decision criteria
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An investor with a MARR of 20% has been asked to invest in a project that has an expected rate of return (ROR) of 15%. Should the investor invest in this project?
Choose an answer by clicking on one of the letters below, or click on "Review topic" if needed.
A Yes, because MARR < ROR
B No, because MARR < ROR
C Yes, because ROR < MARR
D No, because ROR < MARR