Question

After 15 years of employment in the airline industry, John started his own consulting company to use physical and computer simulation in the analysis of commercial airport accidents on runways. He estimates his average cost of new capital at 9% per year for physical simulation projects, that is, where he physically reconstructs the accident using scale versions of planes, buildings, vehicles, etc. He has established 18% per year as the MARR. What net rate of return on capital investments for physical simulation does he expect?

Answer 1

Answer:

9%

Explanation:

The first step is to understand the relevant terms in the question

Average Cost of New Capital

The cost of capital represents a required return rate (in percentage)  an organisation or an individual ( in the case of John) will need to make a capital project advantageous, worthwhile or profitable.

In the case of John, the Average Cost of New Capital is 9%

MARR - Minimum Acceptable Rate of Return

This rate also in percentage represents the lowest or minimum rate of return a business or an individual is able to accept in order to start a given project. It is usually based on the risk of the project as well as the alternate benefit foregone if other projects were accepted.

It is also called the Hurdle rate, or the cutoff rate.

John's MARR is 18%

Based on these,

John's Net rate of  return is calculated as follows

Minimum Acceptable Rate of Return - Average Cost of the New Capital

= 18% - 9% = 9%