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Average rate of return calculator

What do you know?

Average rate of return

10% each year

On average the investment earns £4,000 a year, 10% of its £40,000 cost.

Average annual profit
£4,000
Total profit
£16,000
Payback period
2 years 10 months

ARR working

  1. Total net return = £13,000 + £14,000 + £15,000 + £14,000 = £56,000.
  2. Total profit = total net return − cost of investment = £56,000 − £40,000 = £16,000.
  3. Average annual profit = total profit ÷ number of years = £16,000 ÷ 4 = £4,000.
  4. ARR = average annual profit ÷ cost of investment × 100 = £4,000 ÷ £40,000 × 100 = 10%.

Payback working

  1. After 2 years the running total is £27,000.
  2. Still to recover: £40,000 − £27,000 = £13,000.
  3. Year 3 brings £15,000, so £13,000 ÷ £15,000 = 0.87 of that year, if its cash arrives evenly.
  4. Payback = 2 + 0.87 = 2.87 years (2 years 10 months).

Your result

10% each year. On average the investment earns £4,000 a year, 10% of its £40,000 cost. Compare that with the interest a loan would cost, or with another project.

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A £40,000 van that returns £56,000 over 4 years has an average rate of return of 10%: average annual profit ÷ cost of investment × 100.

Questions people ask

What is the ARR formula for GCSE Business?

ARR = average annual profit ÷ cost of investment × 100, where average annual profit = (total net return − cost of investment) ÷ number of years. A £40,000 van returning £56,000 over 4 years makes £16,000 of profit, £4,000 a year, an ARR of 10%.

Do you take the cost off before dividing by the years?

Yes. Take the cost of the investment off the total return once to get the total profit, then divide by the number of years. Dividing the total return by the years without taking the cost off is the most common mistake.

How do you calculate the payback period?

Add each year's return until the running total reaches the cost. The van has £27,000 back after two years and needs £13,000 more; year 3 brings £15,000, so 13,000 ÷ 15,000 = 0.87 of a year, a payback of about 2 years 10 months.

Is a higher ARR always better?

A higher ARR means more profit each year for each pound invested, but it ignores when the money arrives and how reliable the forecast is. Compare it with the interest a loan would cost and with other projects.

Keep going

How we work this out

What it does

Enter the cost of an investment and its yearly returns, or the total return, to get the ARR and the payback period with every line of working.

The average rate of return in GCSE Business (Edexcel 1BS0 Appendix 3; AQA 8132 3.6.4), for up to 10 years, with the payback period when the return is given year by year.

Method

  1. Total profit = total net return − cost of investment.
  2. Average annual profit = total profit ÷ number of years.
  3. ARR = average annual profit ÷ cost of investment × 100.
  4. Payback adds each year's return until the running total reaches the cost; the part year is the amount still to recover ÷ that year's return, assuming the money arrives evenly.