How to compute Normal rate of return?
Pratheeksha (nil) (24 Points)
30 April 2014How to compute Normal rate of return?
CA Saroj Kumar
(Keen to learn something new every moments)
(2588 Points)
Replied 30 April 2014
The normal rate of return is used to describe the rate of loses or gains from an investment. That is to say that it is the calculation of the profits made from an investment after subtracting the capital, investment and operating costs. It is a benchmark that investors use to decide if a business is a worthy investment, or if they should look elsewhere. Businesses also use it to calculate if the business is making any reasonable profits and by what percentage.
This assessment may be used by someone trying to start a new business. The information may be obtained by studying the posted profits of a spectrum for a similar business in the industry, taking into consideration factors like the environment and other issues that may affect that particular business in its proposed location. For instance, a potential watch manufacturing entrepreneur may study the rate of loses or gains for that industry with regards to aspects like government regulations, taxes, import duties and other factors that may affect business profitability. The profit of a business is usually affected by such considerations even if the sales and prices of the products are similar in different markets.
Two companies might make the same product, sell the same quantity per month at the same price, and yet the normal rate of return might be different. This may be due to the locations of the businesses. One of the businesses could be located in an environment where the government grants certain tax concessions and reduces custom duties for some necessary raw materials. Another factor that may affect the rate is if the company is able to hire a cheap work force. The operating cost will be cheaper than another similar company where the environment is not so favorable and leading to higher profits.
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