Economic and accounting rates of return
The rate of return on invested capital is a central concept in financial analysis. The purpose of calculating the rate of return on investment in general is to measure the financial performance, to assess the desirability of a project and to make decisions on the valuation of firms. Financial statement users make regular use of the accounting rate of return (ARR) rather than the economic rate of return (IRR) to assess the performance of corporations and public-sector enterprises, to evaluate capital investment projects, and to price financial claims such as shares. Since ARR measures are based on published accounting statements, there has been a long and sometimes heated debate as to whether such measures have any economic significance. This paper aims to provide a summary of the economic and accounting rates of return discussions in the literature. We analyze the concepts of ARR and IRR and explore possible relationships between them. We extend the previous studies in this line to provide more specific relations of IRR and ARR.
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- Wright, Frederick Kenneth, 1978. "Accounting Rate of Profit and Internal Rate of Return," Oxford Economic Papers, Oxford University Press, vol. 30(3), pages 464-68, November.
- Salamon, Gerald L., 1988. "On the validity of accounting rates of return in cross-sectional analysis: Theory, evidence, and implications," Journal of Accounting and Public Policy, Elsevier, vol. 7(4), pages 267-292.
- Kay, J A, 1978. "Accounting Rate of Profit and Internal Rate of Return: A Reply," Oxford Economic Papers, Oxford University Press, vol. 30(3), pages 469-70, November.
- Fisher, Franklin M & McGowan, John J, 1983. "On the Misuse of Accounting Rates of Return to Infer Monopoly Profits," American Economic Review, American Economic Association, vol. 73(1), pages 82-97, March.
- Ezra Solomon, 1970. "Alternative Rate of Return Concepts and Their Implications for Utility Regulation," Bell Journal of Economics, The RAND Corporation, vol. 1(1), pages 65-81, Spring.
- Peasnell, Kenneth V., 1996. "Using accounting data to measure the economic performance of firms," Journal of Accounting and Public Policy, Elsevier, vol. 15(4), pages 291-303.
- Whittington, Geoffrey, 1988. "The usefulness of accounting data in measuring the economic performance of firms," Journal of Accounting and Public Policy, Elsevier, vol. 7(4), pages 261-266.
- Stark, A W, 1982. "Estimating the Internal Rate of Return from Accounting Data-A Note," Oxford Economic Papers, Oxford University Press, vol. 34(3), pages 520-25, November.
- Kay, John A, 1976. "Accountants, Too, Could Be Happy in a Golden Age: The Accountant's Rate of Profit and the Internal Rate of Return," Oxford Economic Papers, Oxford University Press, vol. 28(3), pages 447-60, November.
- Kelly, Gary, 1996. "Accounting and economic rates of return: Additional Australian evidence," Journal of Accounting and Public Policy, Elsevier, vol. 15(4), pages 347-372.
- Andrew Stark, 1993. "Problems in measuring the cash recovery rate and measurement error in estimates of the firm IRR," European Accounting Review, Taylor & Francis Journals, vol. 2(2), pages 199-218.
- Salamon, Gerald L, 1985. "Accounting Rates of Return," American Economic Review, American Economic Association, vol. 75(3), pages 495-504, June.
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