Exam based Return on Capital Employed Questions and Answers.
Problem: A new production plant is available for purchase at a cost of 80,000. It is expected to have a useful life of 5 years with a salvage value of 10,000 after the end of useful life. This new plant will generate additional profits before depreciation during the useful life as follows:
| Year | 1 | 2 | 3 | 4 | 5 |
| Amount (Rs.) | 20,000 | 40,000 | 30,000 | 15,000 | 5,000 |
Required: Calculate ROCE – Return on Capital Employed.
Answer
| Total profit before depreciation over the life of the machine = | Rs. 1,10,000 | |
| : Average profit p.a = Rs. 1,10,000/5 years = | Rs. 22,000 | |
| Total depreciation over the life of the machine (Rs. 80,000 – Rs. 10,000) | = | Rs. 70,000 |
| Average depreciation p.a. = Rs. 70,000/5 years | = | Rs. 14,000 |
| Average annual profit after depreciation = Rs. 22,000 – Rs. 14,000 | = | Rs. 8,000 |
| Original investment required | = | Rs. 80,000 |
| : Accounting rate of return = (Rs. 8,000/Rs. 80,000) X 100 | = | 10% |
| Average investment = (Rs. 80,000 + Rs. 10,000)/2 | = | Rs. 45,000 |
| Accounting Rate of Return = (Rs. 8,000/Rs. 45,000) X 100 | = | 17.78% |